International Financial Business Risk
The international business market is very alluring to business today. Not only can it provide some supplies and raw materials less expensively, but they also bring millions of potential buyers within reach. But there are risks to go along with these benefits, including political risk and exchange rate risk, with which one must contend in an international market.
One of the most prominent financial risks involved is exchange rate risk. Unless the currencies of two countries are fixed by the same indicator, they will fluctuate in price depending on the world supply and demand. The risk comes that either currency will make a move that harms the company.
For example, say an U.S. company sells some of its products in Canada. The store in Canada will collect Canadian currency. Because there are costs associated with exchanging currency, the Canadian dollars are exchanged to American dollars once a week. If the price of an American dollar bought with Canadian dollars goes up, fewer American dollars will be reaped.
The opposite problem exists if you are a U.S. company dealing with foreign suppliers. If the value of the U.S. dollar decreases, the company will have to come up with more of them to make their purchase.
There are several ways to get around this particular difficulty. Contracts to purchase items can identify the price in U.S. dollars. This will protect the U.S. company from fluctuations. However, it could also put the supplier out of business or require a premium price for taking on the exchange rate risk.
It is also possible to hedge a transaction with forward contract. If your company will suffer if one currency goes up, a contract is purchased that will gain if that currency increases. The money lost in the business transaction is gained on the forward contract. This is an expensive but highly effective way to reduce or eliminate currency risk.
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