3209AFE INTERNATIONAL FINANCE
Tutorial 5 Answers
Chapter 10
10. Translation Exposure. Consider a period in which the U.S. dollar weakens against the euro. How will this affect the reported earnings of a U.S.-based MNC with European subsidiaries? Consider a period in which the U.S. dollar strengthens against most foreign currencies. How will this affect the reported earnings of a U.S.-based MNC with subsidiaries all over the world?
ANSWER: The consolidated earnings will be increased due to the strength of the subsidiaries’ local currency (the euro).
The consolidated earnings will be reduced due to the weakness of the subsidiaries’ local currencies.
12. Economic Exposure. Longhorn Co. produces hospital equipment.
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Its New Zealand dollar revenues on sales to New Zealand invoiced in New Zealand dollars are expected to be NZ$600 million.
c. Its anticipated cost of materials is estimated at $200 million from the purchase of U.S. materials and NZ$100 million from the purchase of New Zealand materials.
d. Fixed operating expenses are estimated at $30 million.
e. Variable operating expenses are estimated at 20 percent of total sales (after including New Zealand sales, translated to a dollar amount).
f. Interest expense is estimated at $20 million on existing U.S. loans, and the company has no existing New Zealand loans.
Forecast net cash flows for St. Paul Co. under each of the three exchange rate scenarios. Explain how St. Paul’s projected net cash flows are affected by possible exchange rate movements. Explain how it can restructure its operations to reduce the sensitivity of its net cash flows to exchange rate movements without reducing its volume of business in New Zealand.
ANSWER:
Forecasted Net Cash Flows for St. Paul Company
(Figures are in millions)
NZ$ = $.48 NZ$ = $.50 NZ$ = $.54
Sales
U.S. $100 $105 $110 New Zealand NZ$600 = 288 NZ$600 = 300 NZ$600 = 324 Total $388 $405 $434
Cost of materials U.S. $200 $200 $200 New Zealand NZ$100 = 48 NZ$100 = 50 NZ$100 = 54 Total $248 $250 $254
Operating expenses U.S.: Fixed $
Expected wait time in the system for an application in Region 1 is approximately 37 days, with actual processing time of 14.10 hours. This is where the bottleneck occurs as it takes the evaluation team over 16 days out of the 37 to perform the review of 78 applications.
Comparing the performance of divisions operating in different countries is difficult due to legal, political, social, economic and currency differences. Additionally companies in different countries may adopt different accounting standards, which makes the financial statement not comparable. Calculation on ROI, RI and EVA for subunits that operate in different countries needs to be adjusted for differences in inflation and changes in the exchange rates.
b. Explain what impact the change in the value of the dollar between 2008 and 2009 will have on the United States current account.
Through the Abbreviated Operational Organization Chart, Exhibit 8, Universal Circuit’s Operations are divided in two: the United States and Ireland. Due to the fact that the Irish operations are directly linked to the US parent company, it would make sense that the Irish subsidiary has the US dollar as their functional currency. Furthermore, if we suppose that all expenses were indeed in punts, the Irish subsidiary would then be exposed to a higher degree of both economic and translation risk. This being said, the Irish subsidiary’s profits would be
On the other hand, the peso devaluation will not have that much of a positive effect on Farmington (Antilles) N.V. as the peso depreciates relative to the USD. The result is the subsidiary being negatively impacted as the USD/peso exchange rate is rising, as they convert revenue earned in pesos to USD to deposit into U.S. bank accounts. This facility had almost 4 million MXN receivables at the end of the year. The 1994 average exchange rate is 3.5 MXN/USD, where these 4 million MXNs would equate to approximately 1.14 million USD. When the exchange rate values the devalued peso at 5.0 MXN/USD, these 4 million MXNs are only equal to 0.80 million USDs, showing a loss of more than 300,000 USDs. When the exchange rate changes from 4.0 to 5.0 MXN/USD, we can see the loss the company would experience, and thus the negative impact on this facility.
Life insurance is meant to provide funds to replace a breadwinner's to protect and support dependents. Chad and Haley are dependents, not income providers. Therefore, the purchase of life insurance is unnecessary and not recommended. The Dumonts should use the money they would spend on policies for the children to increase their own coverage.
7. Whether the cash flows of foreign operation directly affect the cash flows of the reporting entity.
We present percent change year over year of period average in exchange rate of local currency to US$. We believe this indicator is important as Cott corporation 's revenue and operation are in other countries apart from United States. The exchange rate will affect the financial performance of the company and directly affect the consolidated financial statement because the result has to convert to US. dollar. As shown in the figure , Both Canada and United Kingdom currencies will continually appreciate against US. dollar.
Which is cost difference determines the patterns of international trade. Absolute advantage is trade benefits when each country is at least cost producer of one of the goods being traded. In the 1800s, David Ricardo developed the theory of comparative advantage to measure gains from trades. This theory is based on comparative advantage and it states each nation should specialize in production of those goods for which its relatively more efficient with a lower opportunity cost.
Due to the geographic diversity of countries where BHP Billiton has extended to, the variation of foreign exchange rate obviously plays a crucial role on its financial performance. According to the annual report of BHP Billiton (2015), US dollar is not only the functional currency utilized in majority of sales and transaction, but also the presentation
Economic exposure is the change in expected cash flows arising because of an unexpected change in exchange rates. Aside from existing obligations of the firm which will be settled in foreign currencies at
Fluctuations of interest rates, foreign exchange rates, equity prices, debt securities and other financial contracts may materially adverse effect on the ANZ. Especially they are conduct business in several currencies, fluctuation of exchange rate may affected to ANZ (ANZ Bank, 2015).
Aspen faces foreign currency risks due to sales and expenses in those foreign currencies. Expenses include R&D costs (20% of overall R&D are in UK), headquarters, sell force etc. and represent 52% of Aspen expenses.
Based on your answer to question 2, how would Mesa’s cash flows be affected by the expected exchange rate movements? Explain.