Question

Fujaira Co. has small IT equipment assembled in Australia and transports the final assembled products to the parent, where they are sold by the parent in the UAE. The assembled products are invoiced in AED. It uses Australian currency (the Australian dollar) to produce equipment and assembles them in Australia. The Australian subsidiary pays the employees in the local currency (the Australian dollar). Fujaira Co. finances its subsidiary operations with loans from an Australian bank (in Australian dollar). The parent of Fujaira will send sufficient monthly payments (in AED) to the subsidiary in order to repay the loan and other expenses incurred by the subsidiary. If the Australian dollar depreciates against the AED over time, will that have a favorable, unfavorable, or neutral effect on the value of Fujaira Co.? Please elaborate the impact of cash inflows and outflows.

Answer 1

Solution : Fujaira co. value does not have any effect due to depreciation of Australlian dollar.i.e neutral effect.

This can be elaborated with an example below

For suppose, fujaira co. has following borrowings, employee expenses, operating expenses on 1st of october on which exhange rate of AED against AUD, 1 AED = 0.38 AUD.

A. Borrowings 100,000 AUD  

B. Employee expenses 25,000 AUD

C. Other operating expenses 20,000 AUD

1. Total borrowings and expenses to be paid by Fujaira co. in AUD (A+B+C) = 145,000 AUD

Parent co. reimburses on 31st october on which exchange rate is 1AED = 0.40 AUD , as condition in question is Australlian dollar depreciates.

Parent co. reimbursements in AED on 31st october

A. Borrowings = 250,000 AED (100,000/0.4)

B. Employee expenses = 62,500 AED (25,000/0.4)

C. Other operating expenses = 50,000 AED (20,000/0.4)

Total Reimbursements (A+B+C) = 362,500 AED

2. Reimbursements in AUD by parent co. = 145,000 AUD (362,500*0.4)

Conclusion : From 1 and 2 there is no difference in cashflows of Fujaira co., as it is just a reimbursement by the parent co.