Foreign exchange risk occurs when a company deals with currencies other than its own, leading to uncertainty about future exchange rates. This risk affects the value of assets, liabilities, and cash flows. It arises from unexpected changes in exchange rates, as anticipated changes are already factored in. To manage this risk, firms can use strategies like hedging to protect themselves from potential losses due to currency fluctuations. Hedging involves taking actions to offset the impact of exchange rate changes on the firm's finances. By understanding and managing foreign exchange risk, companies can safeguard their international operations and financial stability.