Foreign exchange risk also exists when the foreign subsidiary of a firm maintains financial statements in a currency other than the reporting currency of the consolidated entity. To realize the domestic value of its foreign-denominated cash flows, the firm must exchange foreign currency for domestic currency. Many times, companies will participate in a transaction regarding more than one currency. In order to meet the standards of processing these transactions, the companies that are involved have to send any foreign currencies involved back to the countries they came from. As it is implied, businesses have a goal of making all monetary transactions ones that end in high profits. Applying public accounting rules causes firms with transnational risks to be impacted by a process known as “re-measurement”.
The current value of contractual cash flows are remeasured at each balance sheet. Such exchange rate adjustments can severely affect the firm’s market share position with regards to its competitors, the firm’s future cash flows, and ultimately the firm’s value. Economic risk can affect the present value of future cash flows. Some examples of the macroeconomic conditions are exchange rates, government regulations, or political stability.
International investments are associated with significantly higher economic risk levels as compared to domestic investments. In international firms, economic risk heavily affects not only investors but also bondholders and shareholders, especially when dealing with sale and purchase foreign government bonds. Despite of the risky outcomes, economic risk can tremendously elevate the opportunities and profits for investors globally. To develop a comprehensive analysis of an economic forecast, several risk factors should be noted. In a macroeconomic model, a few main risks are GDP levers, exchange rate fluctuations, and commodity prices and stock market fluctuations.