Intl Chapter 9 Mgt of Economic Exposure

Consider a U.S. MNC with operations in Great Britain. Which of the following are potential risks following a strengthening of the dollar?

A pound sterling depreciation may affect operating cash flow in pounds by altering the firm's competitive position in the marketplace, and a given operating cash flow in pounds will be converted into a lower dollar amount after the pound depreciation

What is the objective of managing operating exposure?

Stabilize cash flows in the face of fluctuating exchange rates

Consider a U.S.-based MNC with a wholly-owned Italian subsidiary. Following a depreciation of the dollar against the euro, which of the following conclusions are correct?

The cash flow in euro could be altered due to alteration in the firm's competitive position in the marketplace, and a given operating cash flow in euro will be converted into a higher US dollar cash flow

Consider a U.S.-based MNC with a wholly-owned Italian subsidiary. Following a depreciation of the dollar against the euro, which of the following describes the competitive effect of the depreciation?

The cash flow in euro could be altered due to an alteration in the firm's competitive position in the marketplace

In recent years, the U.S. dollar has depreciated substantially against most major currencies of the world, especially against the euro.

The stronger euro has made many European products more expensive in dollar terms, hurting sales of these products in the U.S. Additionally, the stronger euro has made many American products less expensive in euro terms, boosting sales of US products in Europe

When the Mexican peso collapsed in 1994, declining by 37 percent,

U.S. firms that exported to Mexico and priced in peso were adversely affected, and U.S. firms that exported to Mexico and priced in dollars were adversely affected

When exchange rates change

U.S. firms that produce domestically and sell only to domestic customers can be affected if they compete against imports

If the domestic currency is strong or expected to become strong,

a firm can choose to locate production facilities in a foreign country where costs are low due to either the undervalued currency or underpriced factors of production

While maintaining multiple production sites does not provide a firm valuable options,

a firm may miss out on economies of scale

While maintaining multiple production sites does provide a firm valuable options,

a firm may miss out on economies of scale

Which of the following are identified by your text as a strategy for managing operating exposure? (i) Selecting low-cost production sites (ii) Flexible sourcing policy (iii) Diversification of the market (iv) Product differentiation and R&D efforts (v) Financial Hedging

all of the options

Developing multiple production sites in a variety of countries,

all of the options(can lead to domestic job losses; can lead to underutilization of domestic plants; can create an excess capacity problem)

A firm's operating exposure is

all of the options(determined by the firm's ability to mitigate the effect of exchange rate changes by adjusting its markets, product mix, and sourcing; defined as the extent to which the firm's operating cash flows would be affected by the random changes in exchange rates; determined by the structure of the markets in which the firm sources its inputs, such as labor and materials, and sells its products)

Investment in R&D activities can allow the firm to maintain and strengthen its competitive position in the face of adverse exchange rate movements. The mechanism for this includes

all of the options(successful R&D efforts allowing the firm to cut costs and enhance productivity; R&D efforts leading to the introduction of new and unique products for which competitors offer no close substitutes-since the demand for unique products tends to be highly inelastic the firm would be less exposed to exchange risk; successful R&D efforts creating a perception among consumers that its product is indeed different from those offered by competitors. Once the firm's product acquires a unique identity, its demand is less likely to be price sensitive)

Which of the following is a true statement?

all of the options(the firm should not get into new lines of business solely to diversify exchange risk because coglomerate expansion can bring about inefficiency and losses; as long as exchange rates do not always move in the same direction, the firm can stabilize its operating cash flows by diversifying its export market)

When exchange rates change,

all of the options(this can alter the operating cash flow of a domestic firm; this can alter the home currency values of a multinational firm's assets and liabilities; this can alter the competitive position of a domestic firm)

From the perspective of the U.S. firm that owns an asset in Britain, the exposure that can be measured by the coefficient b in regressing the dollar value P of the British asset on the dollar-pound exchange rate S using regression equation P = a + b × S + e is

asset exposure

The link between the home currency value of a firm's assets and liabilities and exchange rate fluctuations is

asset exposure

A foreign country could provide low cost production sites

because the factors of production are underpriced and because the currency is undervalued

Investments in R&D

can allow the firm to maintain and strengthen its competitive position, as well as cut costs and enhance productivity

Suppose the U.S. dollar substantially depreciates against the Japanese yen. The change in exchange rate

can have significant economic consequences for both U.S. and Japanese firms

It is conventional to classify foreign currency exposures into the following types:

economic exposure, transaction exposure, and translation exposure

Generally speaking, a firm is subject to high degrees of operating exposure when

either its cost or its price is sensitive to exchange rate changes

A purely domestic firm that sources and sells only domestically,

faces exchange rate risk to the extent that it has international competitors in the domestic market

The price elasticity of demand for commodity products tends to be

highly elastic

The elasticity of demand for unique products tends to be

highly inelastic

The firm may not be able to pass through changes in the exchange rate

in markets with low product differentiation or in markets with high price elasticities

The firm may not be able to pass through changes in the exchange rate

in markets with mainly domestic(foreign to firm) competitors

Managing operating exposure

is a long term issue, like selecting a site for a factory

It can be argued that, while financial hedging can be used to stabilize a firm's cash flows,

it is not a substitute for long term operational hedging

A flexible sourcing policy

need not be confined just to materials and part

What is the objective of managing operating exposure?

none of the options

The extent to which the firm's operating cash flows would be affected by random changes in exchange rates is called

operating exposure

The link between a firm's future operating cash flows and exchange rate fluctuations is

operating exposure

With regard to operational hedging versus financial hedgin

operational hedging provides a more stable long term approach than does financial hedging

Which of the following can a company use to manage operating exposure?

selecting low cost production sites, diversifying the market, as well as pursuing a flexible sourcing policy, product differentiation, R&D efforts

Consider a U.S. MNC who owns a foreign asset. If the foreign currency value of the asset is inversely related to changes in the dollar-foreign currency exchange rate,

the company has a built in hedge and the dollar value variability that is independent of exchange rate movements

Operating exposure measures

the extent to which the firm's operating cash flows will be affected by unexpected changes in exchange rates

Operating exposure can be defined as

the extent to which the firm's operating cash flows would be affected by random changes in exchange rates

Economic exposure refers to

the extent to which the value of the firm would be affected by unanticipated changes in exchange rate

Generally speaking, when both a firm's costs and its price are sensitive to exchange rate changes,

the firm is not subject to high degrees of operating exposure

Exposure to currency risk can be measured by the sensitivities of

the future home currency values of the firm's assets and liabilities, as well as the firm's operating cash flows to random changes in exchange rates

The variability of the dollar value of an asset(invested overseas) depends on

the variability of the dollar value of the asset that is related to random changes in the exchange rate, as well as the dollar value variability that is independent of exchange rate movements

When the domestic currency is strong or expected to become strong,

this could erode the competitive position of the firm's exports and the firm should consider locating production facilities in a foreign country where costs are low

Two studies found a link between exchange rates and the stock prices of U.S. firms;

this suggests that exchange rate changes can systematically affect the value of the firm by influencing its operating cash flows, as well as influencing the domestic currency value of its assets and liabilities

In the figures below, label curves A and B are, respecitvely,

unhedged and hedged(A is shorter and more to the left of B)

Generally speaking, a firm is subject to high degrees of operating exposure

when either its cost or its price is sensitive to exchange rate changes

Suppose a U.S.-based MNC maintains a vacation home for employees in the British countryside and the local price of this property is always moving together with the pound price of the U.S. dollar. As a result,

whenever the pound depreciates against the dollar, the local currency price of this property goes up by the same proportion. Additionally, the firm is not exposed to currency risk even if the pound dollar exchange rate fluctuates randomly

Suppose the U.S. dollar substantially depreciates against the Japanese yen. The change in exchange rate

will tend to strengthen the competitive position of import competing U.S. car makers