Foreign Exchange Effect
Foreign exchange effect is the effect that fluctuations in relative currency prices have on the value of a company's assets held overseas
Foreign exchange effects are also called foreign currency effects.
Many companies have assets held overseas - these assets can be anything from cash to factories to stocks and bonds. These overseas assets are usually denominated in the local currency; for example, a U.S. company might have £1 Million in bank accounts in Britain. The company must report the value of this £1 Million in U.S. dollars when reporting its assets in the U.S.. To do this, the company will use the current exchange rate between U.S. Dollars and British Pounds. However, the exchange rate between dollars and pounds can fluctuate dramatically - the same £1 Million would have been worth $2 Million in January 2008, but only $1.5 Million in January of 2009, because of the slide in the value of the British pound relative to the U.S. dollar in that time period. This difference - a "loss" of $500,000 in value - is captured under foreign exchange effects on the company's income statement.