The management of translation exchange rate risk in multinational companies: A note

Abstract

According to academics, the translation form of exchange rate risk does not affect the market value of a firm and as a result should not be managed by corporate managers. Research to date, however, suggests that many multinational companies (MNCs) actively monitor and manage their translation exchange risk. Thus, either corporate management fail to understand the irrelevant nature of this risk or there are other factors that need to be considered. This paper extends the current literature by examining these issues; in particular, it examines whether MNCs continue to manage their translation exchange rate risk and if so what their reasons are for the specific practices. Results suggest that the gearing ratio, itself a measure of risk, is largely responsible for the management of the translation process. Further, some companies seek to manage their ‘profit and loss translation exchange risk,’ a ‘risk’ resulting from the impact of the translation process on the profit and loss account. Preferred management strategies include the currency denomination of debt and use of financial instruments such as forward contracts. Capital market imperfections reflected in binding loan covenants, agency theory problems and the assumption of inefficient market behaviour explain the observed corporate management behaviour.

Citation

Dhanani, A. (2001), "The management of translation exchange rate risk in multinational companies: A note", Journal of Applied Accounting Research, Vol. 6 No. 2, pp. 30-54. https://doi.org/10.1108/96754260180001027