w6705-6
The recommendation of the finance literature is not to worry about this type of exposure as it is not a cash flow effect and more specifically not to hedge it. From Table 3, we learn that the vast majority of US and German firms follows this recommendation. However, a considerable number of US companies do care as they declare to hedge translation exposure frequently (15.3%) or sometimes (14.1%). One might be surprised that German firms hedge this type of exposure less frequently. This result is not inconsistent with the particular emphasis placed by German companies on accounting earnings as discussed above in section III.B. It should be noted that in Germany corporate income taxes and dividend distributions are in principle not based on the consolidated group financial statements but on the individual financial statements of the parent company and its subsidiaries.
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From a theoretical point of view, economic exposure should be the relevant exposure concept. Economic exposure may be characterized as the value change of all future cash flows due to changes in exchange rates or in frequently (50.6%) or sometimes (43.5%). short as the change in the market value of the firm. Future cash flows may be based on contractual commitments or just cash flows from anticipated future transactions. In this view, transaction exposure is the part of economic exposure comprising the future foreign currency denominated cash flows resulting from contractual commitments. These commitments may either be reflected “on balance sheet” as receivables or payables or “off balance sheet” as pending commitments from executory contracts.
The German questionnaire introduced the above distinction between “on balance sheet” and “off balance sheet” transaction exposures whereas the US questionnaire only asked for the extent to which contractual commitments are hedged. From Table 3 it becomes evident that the vast majority of German firms hedge the “on balance sheet” transaction exposure frequently. German firms less frequently hedge future cash flows from pending foreign currency commitments. Several companies added comments that they always hedge all “on balance sheet” foreign currency receivables and payables.