Question

1. Either the translation gain (or loss) or the gain (or loss) resulting from a hedge strategy is a real gain (or loss).

a. True

b. False

2. If a firm does not have foreign subsidiaries, it is not subject to ______.

a. transaction exposure

b. economic exposure

c. translation exposure

d. A and B

e. A and C

3. A U.S. company with sales to Canada amounting to C$6 million. Its cost of materials attributable to the purchase of Canadian goods is C$8 million. Its interest expense on Canadian loans is C$2 million. Given these exact figures above, the dollar value of its "earnings before interest and taxes" would ____ if the Canadian dollar appreciates; the dollar value of its cash flows would ____ if the Canadian dollar appreciates.

a. increase; increase

b. decrease; increase

c. decrease; decrease

d. increase; decrease

4. Appreciation of the euro relative to the U.S. dollar will cause this firm's reported earnings (from the consolidated income statement) to ____. If a firm desired to protect against this possibility, it could stabilize its reported earnings by ____ euros forward in the foreign exchange market.

a. be reduced; purchasing

b. be reduced; selling

c. increase; selling

d. increase; purchasing

5. Which of the following statements is incorrect?

a. Transaction exposure represents only the exchange rate risk when converting net foreign cash inflows to U.S. dollars or when purchasing foreign currencies to send payments.

b. Economic exposure represents any impact of exchange rate fluctuations on a firm's future cash flows.

c. Firms can simply focus on hedging their foreign currency payables and/or receivables to hedge economic exposure.

d. The management of economic exposure tends to serve as a long-term solution rather than just a short-term solution.

Answer 1

1). Translational gain is not a real gain as it is just the gain orloss due to conversion of balance sheet from one unit of currency to another.

Gain/loss from a hedge is a real gain or loss.

Since one is a real gain or loss, the statement is true

2). If a firm does not have foreign subsidiaries, it is not subject to translation exposure

3) Increase; Decrease

Appreciation in currency means the increase in the value of one currecny against other. Here, canadian dollar has appreciates against U.S. dollar. It means value of canadian dollar increase for U.S. dollar. Therefore EBIT would increase. Cash flow is the change between the cash inflow and cash outflow. If the currency appreciates then both inflow and outflow would decline. So, net cash flow would decrease

4)

Answer: a. be reduced; purchasing

Explanation:

Appreciation of the euro relative tothe U.S. dollar will cause a U.S.-based MNC\'s reported earnings(from the consolidated income statement) to bereduced . If a firm desired to reduce theexposure of its consolidated earnings to exchange rate movements,it could stabilize its reported earnings by Purchasingeuros forward in the foreign exchange market.

5). Firms can simply focus on hedging their foreign currency payables and/or receivables to hedge economic exposure.