Please can someone explain to me how you know if theres a Net Asset B/S exposure vs Net Liability exposure and how this is different under the temporal method vs current rate method?
Quite simply, when you look at the balance sheet the value of the assets is greater than the value of the liabilities (net asset) or vice versa (net liability). With respect to the current vs temporal methods, you are looking to interpret where the exchange rate risk lies.
For the current method it is as described above; the exchange rate risk will be applicable to the overall net asset/liability position of the company’s balance sheet. Given A = L + E, it would be very unusual for a company to have a net liability position, and a company in such a situation would likely not survive for very long in any case as they would be unable to service their liabilities and would go out of business.
For the temporal method, exchange rate risk is applicable to the net monetary asset/liability position - remember that only the monetary assets and liabilities are translated at current FX rates under the temporal method and consequently are (generally) the only components of the balance sheet that are subject to exchange rate risk. Given the scope of monetary assets is quite limited - usually just cash and receivables - it is quite common for a company to have a net monetary liability position, once again not a common occurrence where the local currency is the functional currency (ie current rate method).
The simple rule of thumb: if the foreign subsidiary has a net asset position and the foreign currency appreciates, there will be a positive adjustment to the accounts relating to exchange rate moves.
Hope that helps.
Thank you so much! Makes sense!