Question

For the following transactions, indicate the amount of foreign currency exposure created by the transaction, whether the exposure is long or short the time period of the exposure, and the impact of an increase and a decrease in the value of the foreign currency on the US company’s profit in the transaction: a. Sale of products to a Japanese customer at a price of 1 billion yen, with payment due one year from today. b. Purchase from a French supplier of at a price of 500 million Euros, with payment due in 6 months from today.

Answer 1

a. Sale of products to a Japanese customer at a price of 1 billion yen, with payment due one year from today:

Amount of foreign currency exposure is 1 billion yen and the exposure is for short time - 1 year from today. If the Japanese yen depreciates, that is, increase in its value with respect to US dollars, the corresponding receivable in USD reduces resulting in lower cash-flow and loss to the company. Conversely, If the Japanese yen appreciates, that is, decrease in its value with respect to US dollars, the corresponding receivable in USD increases resulting in higher cash-flow and profit to the company.

For example, if the spot rate is 110 JPY per USD, the corresponding USD for 1 billion yen is USD 9.09 Million (1 billion / 110) . If in one year, JPY depreciates to 115 JPY to USD, then the corresponding USD reduces to USD 8.69 Million (1 billion / 115) resulting in $0.395 Million loss. However, if in one year, JPY appreciates to 105 JPY to USD, then the corresponding USD increases to USD 9.52 Million (1 billion / 105 ) resulting in $0.433 Million profit.

b. Purchase from a French supplier of at a price of 500 million Euros, with payment due in 6 months from today.

Amount of foreign currency exposure is 500 million Euros and the exposure is for short time - 6 months from today. If the Euro depreciates, that is, increase in its value with respect to US dollars, the corresponding payable in USD decreases resulting in lower cash-flow and profit to the company. Conversely, If the Euro appreciates, that is, decrease in its value with respect to US dollars, the corresponding payable in USD increases resulting in higher cash-flow and loss to the company.

For example, if the spot rate is 0.90 Euro per USD, the corresponding USD for 500 million Euros is USD 555.55 Million (500 Million / 0.90) . If in one year, Euro depreciates to 0.95 Euro to USD, then the corresponding USD reduces to USD 526.32 Million (500 Million / 0.95) resulting in $29.3 Million profit. However, if in one year, Euro appreciates to 0.85 Euro to USD, then the corresponding USD increases to USD 588.24 Million (1 billion / 0.85) resulting in $32.68 Million loss.