Introduction
Companies have adopted globalisation as a strategy to expand their customer base, but this provides both opportunities and challenges. The global economy has become interconnected, and companies can explore the opportunities by venturing into the markets. However, such companies face several risks that need to be addressed to ensure success and avoid failure. According to Çavuşgil et al. (2020), companies establishing business ventures in an international market face several transaction exchange risks that impede their exploration of opportunities in the global market. For instance, ShopGood Limited has tapped into the opportunity of exploiting an international market of over 200 million customers through its supermarket chain business. The strategy is critical for its increased growth, but it faces several challenges and complexities because of the need to manage transaction exchange rate risks encountered as it established a presence in the West African Market in NLand.
The complexity of transaction exchange risks affecting companies exploring the globalisation strategy is experienced because of its unpredictability. Companies are not able to determine the rate of fluctuations of the exchange rate and adjust prices accordingly, and this results in a negative bottom line to the company’s financial performance (Bae et al., 2018). It is, therefore, fundamental for companies engaged in globalisation to focus on analysing the intricacies of the financial exchange rate risks to develop better methods and approaches to managing the impact. This paper seeks to discuss spot and forward exchange rates in managing the transaction exchange rates impacts. The focus of the paper will recommend mitigation measures for ShopGood to address the impending impacts of exchange rate risks to strengthen its financial stability and explore the potential of globalisation.
Transaction Exchange Risk
The international market has become an important competitive advantage for multinational companies because of its potential to support growth. Companies engaged in globalisation and the international market face transaction exchange risks, and if it is not properly managed, then it will lead to financial loss (Bae et al., 2018). ShopGood Limited faced this situation because they established operations in NLand, where they were selling their products and earning revenue in the local currency, which was the Naira, but they were buying their products using the USD. This is a typical situation of internationalisation where companies earn revenue in a local currency and spend in a different currency. The situation became a major risk because of the volatile nature of the exchange rate between the USD and Naira, which meant that the company was paying more to acquire the goods for sale. In particular, fluctuations increased the possibility of the company getting profits from its establishment in the Nigerian market.
The concept of transaction exchange rate requires business managers to establish an existing correlation between currency fluctuations and their corporate financial performance. Understanding this concept will enable the company to establish mitigation measures that can be used to address the sharp fluctuations (Hossin & Mondol, 2020). Depreciation of the dollar against the Naira in 2020 was the main source of the transaction exchange rate that negatively affected the bottom line of ShopGood Limited. As such, the company feels susceptible to currency fluctuations that were not adequately addressed, leading to eventual closure.
Companies can survive the currency volatility in the international markets through implementing proactive measures. This is critical because it acts as a buffer for the company to address the challenges in cases of financial turmoil. In the globalisation context, companies must consider these measures as critical because they are involved in transactions that utilise different currencies. The sustainability of the business is a major issue that is affected by the failure to implement strong transaction exchange rate risk strategies. Companies must implement a holistic approach to addressing this problem through a focus on market output, analysis and proper planning (Ito et al., 2016). The spot and forward exchange provide an opportunity for companies to analyse business risks and strategies for their financial resilience amid currency fluctuations.
Spot and Forward Exchange Rates
The case of ShopGood Limited has provided a need for companies in the international market to adopt strategies to mitigate their currency fluctuations. Studies have shown that spot and forward exchange rates are major approaches that can be used to properly manage currency volatility in the international market because of the use of multiple currencies in their transactions (Dominguez & Tesar, 2006). The spot exchange rate is the value of the currency change that can be done in less than two days of the transaction. This is an important strategy because in less than two days, very limited fluctuation can be experienced between two currencies, and this cushions the company against great fluctuations. It is critical in addressing this challenge because it provides the current market conditions and value of the currency at the time the transaction was undertaken. However, the suitability of using a spot exchange rate in mitigating currency exchange risks is affected by the forces of supply, demand, inflation in the market, interest rates and geopolitical stability (Butt et al., 2023).
The second approach of forward exchange rate is an established agreement between two parties in a transaction that is agreed upon on the day the transaction is undertaken. It is crucial in mitigating the negative impacts because it allows the company to settle the transaction using the agreed exchange rate at a future date (Basanna & Vittala, 2019). This is an important strategy that can be used in the case of ShopGood Limited because it safeguards the forward contracts without being affected by the current fluctuations. The main advantage of this strategy is to lock the exchange rate in a predetermined exchange rate between the two currencies for future transactions. Thus, it is a crucial risk management approach that will mitigate the negative effects of currency volatility in the international market.
The ideal strategy for ShopGood Limited is to implement a forward exchange rate because it will minimise the possibility of unfavourable currency fluctuations that were common in 2020 (Álvarez-Díez et al., 2016). It is critical in this situation because it allows ShopGood to determine its demand for the USD for its future transactions and use the figure to negotiate a suitable forward transaction exchange rate. The importance of this strategy is that it will act as a buffer against currency fluctuations, particularly the impending depreciation of the Naira against the dollar (Álvarez-Díez et al., 2016). The significance of this strategy is that it minimises the level of uncertainty created by the future exchange rate and ensures the company is stable in the exchange of its currency through proper financial planning.
The implementation of a forward transaction exchange rate must be done properly to ensure that it does not result in unintended results. For instance, it must be done with a certain level of commitment so that it does not limit the potential of a forward-integrated currency. However, the main challenge of his strategy is to properly determine an accurate exchange rate (Naguib, 2023). As such, the forward transaction exchange rates may fail to provide a suitable exchange rate for businesses in an international market.
Mitigating Transaction Exchange Risk
The currency fluctuations of the Naira against the USD can be mitigated through a forward contract. This is an important strategy that companies in the international market can use because it hedges the volatility of the transaction exchange rates by locking their future transactions using a predetermined exchange rate (Basanna & Vittala, 2019). In the case of ShopGood Limited, this strategy will help to mitigate the fluctuation risks created by the currency devaluation and maintain a fixed rate for the company. As such, the company will be able to protect itself from the adverse effects of exchange rate fluctuations and support financial sustainability (Butt et al., 2023). Secondly, ShopGood limited can utilise the currency diversification approach so that it is able to diversify its procurement. It is an ideal method for the supermarket because it reduces overreliance on a single currency, and this mitigates the negative effects of the fluctuations (Chang & Wang, 2007). For example, the supermarket can use the strategy to suppliers to invoice them using the Naira currency and reduce the currency risks. The basis of this strategy is that changes experienced in a single currency will have a minor impact on the procurement cost incurred in the international market.
Thirdly, ShopGood can use natural hedging as a strategy to align its revenue and expenditure using the same currency. Using a single currency in the natural hedge plays an integral role in minimising the impacts of the fluctuations, which can be achieved by negotiating contracts using the Naira currency (Butt et al., 2023). As a strategy, the supermarket can only focus on expanding its presence in international markets where transactions are undertaken in USD. The overall impact of this strategy is to neutralise the negative impacts of exchange rate movements and minimise vulnerability. Fourthly, the company can use derivative instruments using the currency options that mitigate currency losses (Basanna & Vittala, 2019). It is critical in providing a high level of flexibility in the management of currency risks because it permits the selling and purchase of currencies using predetermined rates and eliminates the problems of currency fluctuations.
Lastly, the company can utilise continuous monitoring to analyse the possibility of risk management trends in the market. Monitoring and analysis are important activities in this strategy that allows the company to predict currency trends, geopolitical factors and any possible market changes in the market so that it can align its transactions (Chang & Wang, 2007). This is important in the case of ShopGood Limited because it will be able to identify any potential risks and make proper adjustments and mitigation measures. It is important that the company employs a combination of these mitigation measures so that it is effective in managing its negative impacts (Basanna & Vittala, 2019). The operational context of the company will determine the most suitable method or combination of methods that the company can use.
Conclusion
Exploring the benefits of a globalisation strategy has continued to be a major competitive advantage, and business organisations must focus on minimising exchange rate risks to achieve optimum benefits. This can be achieved by understanding the impact of transaction exchange rates and implementing proper mitigation approaches. ShopGood Limited has entered the NLand market, but it was forced to close because of the impacts of exchange rate fluctuations. This paper has shown that this could be averted by using sports and forward transaction exchange rates strategies. Whereas this provides challenges for effective management; it is imperative that in future, they should focus on diversifying their procurement and continuously analysing the currency situation in the international market to determine the most suitable method that will minimise the negative effects.
References
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