Influence of financial distress on exchange rate exposure: Evidence from India

This paper investigates the relationship between exchange rate exposure and level of financial distress. We argue that the exchange rate movements have a higher effect on the value of the firms with higher level of financial distress. The effect of other firm level variables such as profitability, size of the firm, foreign sales and expenses and liquidity on exchange rate exposure were also studied. We use Merton's (1974) structural default model to estimate firms' distance to default as a proxy for their probability of financial distress. A sample 387 firms listed in National Stock Exchange (NSE) is studied for a period of 2012-2016. We find that the level of firms' exchange rate exposure is significantly positively related to distance to default, indicating that firms that have a greater probability of financial distress are more affected by exchange rate movements.