Deck 20: Short-Term Financing

Question 1

MNCs may be able to lock in a lower cost by financing in a low-interest rate foreign currency if they have:

A)future cash inflows in that foreign currency.
B)future cash outflows in that foreign currency.
C)offsetting future cash inflows and outflows in that foreign currency.
D)no other cash flows in that foreign currency.

Answer 1

A

Question 2

Which of the following is not a source of external short-term financing for MNCs?

A)Eurobonds
B)Euro-commercial paper
C)Euronotes
D)ADRs
E)A and D

Answer 2

A

Question 3

Assume Jelly Corporation, a U.S.-based MNC, obtains a one-year loan of 1,500,000 Malaysian ringgit (MYR) at a nominal interest rate of 7 percent. At the time the loan is extended, the spot rate of the ringgit is $.25. If the spot rate of the ringgit in one year is $.28, the dollar amount initially obtained from the loan is $____, and the MNC needs $____ to repay the loan.

A)375,000; 449,400
B)449,400; 375,000
C)6,000,000; 5,357,143
D)5,357,143; 6,000,000

Answer 3

A

Question 4

If interest rate parity exists and the forward rate is expected to overestimate the future spot rate, then uncovered foreign financing is expected to result in an effective financing rate that will be:

A)similar to the U.S. financing rate.
B)lower than the U.S. financing rate.
C)higher than the U.S. financing rate.
D)lower than the U.S. interest rate if the forward rate exhibits a discount and higher than the U.S. interest rate if the forward rate exhibits a premium.

Question 5

Assume the U.S. interest rate is 7.5 percent, the New Zealand interest rate is 6.5 percent, the spot rate of the NZ$ is $.52, and the one-year forward rate of the NZ$ is $.50. At the end of the year, the spot rate is $.48. Based on this information, what is the effective financing rate for a U.S. firm that takes out a one-year, uncovered NZ$ loan?

A)about -1.7 percent
B)about 0.0 percent
C)about 14.7 percent
D)about 15.4 percent
E)about 8.3 percent

Question 6

Assume that the Swiss franc has an annual interest rate of 8 percent and is expected to depreciate by 6 percent against the dollar. From a U.S. perspective, the effective financing rate from borrowing francs is:

A)8 percent.
B)14.48 percent.
C)2 percent.
D)1.52 percent.

Question 7

If a U.S. firm needs dollars but borrows a foreign currency portfolio, the uncertainty of the portfolio's effective financing rate will be highest if the correlations between currencies in the portfolio are ____ and the individual volatility of each currency is ____.

A)high; low
B)high; high
C)low; low
D)low; high

Question 8

A firm without any exposure to foreign exchange rates would likely increase this exposure the most by:

A)borrowing domestically.
B)borrowing a portfolio of foreign currencies that are not highly correlated.
C)borrowing a portfolio of foreign currencies that are highly correlated.
D)borrowing two foreign currencies that are negatively correlated.

Question 9

Assume the annual British interest rate is above the annual U.S. interest rate. Also assume the pound's forward rate of $1.75 equals the pound's spot rate. Given this information, interest rate parity ____ exist, and the U.S. firm ____ lock in a lower financing cost by borrowing pounds for one year.

A)does; could
B)does; could not
C)does not; could not
D)does not; could

Question 10

A risk-averse firm would prefer to borrow ____ when the expected financing costs in a foreign country are similar to the costs in the local country.

A)locally
B)in the foreign country
C)either A or B
D)part of the funds locally, and part from the foreign country

Question 11

Assume that interest rates of most industrialized countries are similar to the U.S. interest rate. In the last few months, the currencies of all industrialized countries weakened substantially against the U.S. dollar. If non-U.S. firms based in these foreign countries financed with U.S. dollars during this period (even when they had no receivables in dollars), their effective financing rate would have been:

A)negative
B)zero
C)positive, but lower than the interest rate of their respective countries.
D)higher than the interest rate of their respective countries.

Question 12

Assume that the U.S. interest rate is 11 percent while the interest rate on the euro is 7 percent. If a U.S. firm borrows euros, the euro would have to ____ against the dollar by ____ in order to have the same effective financing rate as borrowing dollars.

A)depreciate; about 3.74 percent
B)appreciate; about 3.74 percent
C)appreciate; about 4.53 percent
D)depreciate; about 4.53 percent

Question 13

A firm forecasts the euro's value as follows for the next year:
The annual interest rate on the euro is 7 percent. The expected value of the effective financing rate from a U.S. firm's perspective is about:

A)8.436 percent.
B)10.959 percent.
C)11.112 percent.
D)11.541 percent.

Question 14

Euronotes are underwritten by:

A)European central banks.
B)commercial banks.
C)the International Monetary Fund.
D)the Federal Reserve System.

Question 15

When a U.S. firm borrows a foreign currency and has no offsetting position in this currency, it will incur an effective financing rate that is always above the ____ if the currency ____.

A)foreign currency's interest rate; appreciates
B)foreign currency's interest rate; depreciates
C)domestic interest rate; depreciates
D)domestic interest rate; appreciates

Question 16

When an MNC borrows in two foreign currencies with lower interest rates than the U.S. rate, the portfolio will have a higher effective financing rate than a loan in U.S. dollars if both currencies depreciate simultaneously against the dollar.

A)True
B)False

Question 17

Assume the U.S. one-year interest rate is 8 percent, and the British one-year interest rate is 6 percent. The one-year forward rate of the pound is $1.97. The spot rate of the pound at the beginning of the year is $1.95. By the end of the year, the pound's spot rate is $2.05. Based on the information, what is the effective financing rate for a U.S. firm that takes out a one-year, uncovered British loan?

A)about 12.4 percent
B)about 7.1 percent
C)about 13.5 percent
D)about 10.3 percent
E)about 11.4 percent

Question 18

The effective financing rate of financing in a foreign currency depends on the ______ over the loan period and the ______ over the loan period.

A)interest rate of the domestic currency; percentage change in the value of the foreign currency
B)interest rate of the foreign currency; percentage change in the value of the foreign currency
C)interest rate of the foreign currency; percentage change in inflation
D)interest rate of the domestic currency; percentage change in inflation

Question 19

Morton Company obtains a one-year loan of 2,000,000 Japanese yen at an interest rate of 6 percent. At the time the loan is extended, the spot rate of the yen is $.005. If the spot rate of the yen at maturity of the loan is $.0035, what is the effective financing rate of borrowing yen?

A)37.8 percent
B)51.43 percent
C)-25.8 percent
D)-6 percent
E)none of the above

Question 20

If interest rate parity does not hold and the forward premium exceeds the interest rate differential, foreign financing with a simultaneous forward purchase of the currency borrowed will result in an effective financing rate that is:

A)lower than the domestic interest rate.
B)higher than the domestic interest rate.
C)similar to the domestic interest rate.
D)highly variable.

Question 21

Countries with a ____ rate of inflation tend to have a ____ interest rate.

A)high; low
B)low; high
C)high; high
D)A and B are correct

Question 22

Euronotes are unsecured debt securities whose interest rate is based on the London Interbank Offer Rate (LIBOR) with typical maturities of one, three, and six months.

Question 23

Exhibit 20-2
Luzar Corporation decides to borrow 50 percent of funds needed in Canadian dollars and the remainder in yen. The U.S. (domestic) financing rate for a one-year loan is 7 percent. The Canadian one-year interest rate is 6 percent, and the Japanese one-year interest rate is 10 percent. Luzar has determined the following possible percentage changes in the two individual currencies as follows:

Refer to Exhibit 20-2 above. What is the expected effective financing rate of the portfolio Luzar is contemplating (assume the two currencies move independently from one another)?

A)9.03 percent
B)7.00 percent
C)10.00 percent
D)7.59 percent
E)none of the above

Question 24

A negative effective financing rate implies that the U.S. firm actually paid less to repay the loan than it borrowed.

Question 25

Kushter Inc. would like to finance in euros. European interest rates are currently 4 percent, and the euro is expected to depreciate by 2 percent over the next year. What is Kushter's effective financing rate next year?

A)1.92 percent
B)2.00 percent
C)6.08 percent
D)none of the above

Question 26

The interest rates on Euronotes are based on:

A)the prime lending rate.
B)the euro's spot rate.
C)the federal funds rate.
D)LIBOR.

Question 27

The interest rate of Euronotes is based on the T-bill rate.

Question 28

Assume that interest rate parity holds between the United States and Japan. The U.S. one-year interest rate is 7 percent, and Japan's one-year interest rate is 6 percent. What is the approximate effective financing rate of a one-year loan denominated in Japanese yen assuming that the MNC covered its exposure by purchasing yen one year forward?

A)6 Percent
B)7 Percent
C)1 Percent
D)cannot answer without more information

Question 29

If all currencies in a financing portfolio are not correlated with each other, financing with such a portfolio would not be very different from financing with a single foreign currency.

Question 30

Exhibit 20-1
Assume a U.S.-based MNC is borrowing Romanian leu at an interest rate of 8 percent for one year. Also assume that the spot rate of the leu is $.00012 and the one-year forward rate of the leu is $.00010. The expected spot rate of the leu one-year from now is $.00011.
Refer to Exhibit 20-1 above. What is the effective financing rate for the MNC assuming that it borrows leu on a covered basis?

A)10 percent
B)-10 percent
C)-1 percent
D)1 percent
E)none of the above

Question 31

Exhibit 20-1
Assume a U.S.-based MNC is borrowing Romanian leu at an interest rate of 8 percent for one year. Also assume that the spot rate of the leu is $.00012 and the one-year forward rate of the leu is $.00010. The expected spot rate of the leu one-year from now is $.00011.
Refer to Exhibit 20-1 above. What is the effective financing rate for the MNC assuming it borrows leu on an uncovered basis?

A)about 10 percent
B)about -10 percent
C)about -1 percent
D)about -2 percent
E)none of the above

Question 32

Exhibit 20-2
Luzar Corporation decides to borrow 50 percent of funds needed in Canadian dollars and the remainder in yen. The U.S. (domestic) financing rate for a one-year loan is 7 percent. The Canadian one-year interest rate is 6 percent, and the Japanese one-year interest rate is 10 percent. Luzar has determined the following possible percentage changes in the two individual currencies as follows:

Refer to Exhibit 20-2 above. What is the probability that the financing rate of the two-currency portfolio is less than the domestic financing rate?

A)12 Percent
B)30 Percent
C)100 Percent
D)0 Percent
E)none of the above

Question 33

Firms that believe the forward rate is an unbiased predictor of the future spot rate will prefer borrowing the foreign currency.

Question 34

One reason an MNC may consider foreign financing is that the proceeds could be used to offset a foreign net payables position.

Question 35

Maston Corporation has forecasted the value of the Russian ruble as follows for the next year: ​
If the Russian interest rate is 30 percent, the expected cost of financing a one-year loan in rubles is:

A)27.14 percent.
B)32.86 percent.
C)26.10 percent.
D)none of the above

Question 36

If interest rate parity exists, financing with a foreign currency may still be feasible, but it would have to be conducted on an uncovered basis (i.e., without use of a forward hedge).

Question 37

If interest rate parity exists, the attempt to finance with a foreign currency while covering the position to avoid exchange rate risk will result in an effective financing rate that is ____ the domestic interest rate.

A)lower than
B)greater than
C)similar to
D)none of the above

Question 38

If interest rate parity does not hold, and the forward ____ is ____ the interest rate differential, then foreign financing with a simultaneous hedge of that position in the forward market results in higher financing costs than those of domestic financing

A)premium; higher than
B)discount; higher than
C)premium; less than
D)A and B

Question 39

Assume the U.S. one-year interest rate is 9 percent, while the Chilean one-year interest rate is 13 percent. If the Chilean peso ____ by ____ percent, a U.S.-based MNC would incur the same financing cost in dollars as in Chilean pesos over a one-year period.

A)depreciates; 3.54
B)appreciates; 3.54
C)depreciates; 3.67
D)appreciates; 3.67

Question 40

A negative effective financing rate indicates that an MNC:

A)paid only a small amount in interestover and above the amount borrowed.
B)has been negatively affected by a large appreciation of the foreign currency.
C)actually paid fewer dollars to repay the loan than it borrowed.
D)would have been better off borrowing in the United States.

Question 41

Assume the U.S. financing rate is 10 percent and that the financing rate in Germany is 9 percent. The expected cost of financing in dollars and financing in euros next year would be the same if the euro is expected to ____.

A)appreciate by 0.92 percent
B)depreciate by 0.92 percent
C)appreciate by 1.00 percent
D)depreciate by 1.00 percent

Question 42

If movements of two currencies with low interest rates are highly negatively correlated, then financing in a portfolio of currencies would not be very beneficial. That is, financing with such a portfolio would not be very different from financing with a single foreign currency.

Question 43

An MNC's parent or subsidiary in need for funds commonly determines whether there are any available internal funds before searching for outside funding.

Question 44

When a U.S. firm borrows a foreign currency that is at a fixed exchange rate and has the same interest rate as the U.S. interest rate, the effective financing rate should be the same as if it borrowed dollars.

Question 45

To avoid exchange rate risk when borrowing a foreign currency, an MNC could hedge its position by using interest rate swaps.

Question 46

Which of the following is a scenario under which a U.S.-based MNC probably would not consider short-term foreign financing?

A)Canadian dollars offer a lower interest rate than is available in the United States and are expected to appreciate over the maturity of the loan.
B)Australian dollars offer a lower interest rate than is available in the United States and are expected to depreciate over the maturity of the loan.
C)The MNC has net receivables in British pounds.
D)A and C
E)None of the above

Question 47

Which of the following statements is false?

A)If interest rate parity holds, foreign financing and a simultaneous hedge of that position in the forward market will result in financing costs similar to those in domestic financing.
B)If interest rate parity holds, and the forward rate is an accurate forecast of the future spot rate, uncovered foreign financing will result in financing costs similar to those in domestic financing.
C)If interest rate parity holds, and the forward rate is expected to overestimate the future spot rate, uncovered foreign financing is expected to result in lower financing costs than those in domestic financing.
D)If interest rate parity holds, and the forward rate is expected to underestimate the future spot rate, uncovered foreign financing is expected to result in lower financing costs than those in domestic financing.

Question 48

A large firm may finance in a foreign currency to offset a net payable position in that foreign country.

Question 49

If interest rate parity exists, and the forward rate is an accurate estimator of the future spot rate, the foreign financing rate will be ____ the home financing rate.

A)lower than
B)greater than
C)similar to
D)none of the above