Deck 10: Operating Exposure

Question 1

Under conditions of equilibrium, management would use ________ exchange rate as an unbiased predictor of future spot rates when preparing operating budgets.

A) the current spot
B) the forward rate
C) the black market
D) none of the above

Answer 1

the forward rate

Question 2

Operating cash flows may occur in different currencies and at different times, but financing cash flows may occur only in a single currency.

Answer 2

False

Question 3

Which of the following is probably NOT an advantage of foreign exchange risk management?

A) the reduction of the variability of cash flows due to domestic business cycles
B) increased availability of capital
C) reduced cost of capital
D) All of the above are potential advantages of foreign exchange risk management.

Answer 3

All of the above are potential advantages of foreign exchange risk management.

Question 4

The goal of operating exposure analysis is to identify strategic operating techniques the firm might adopt to enhance value in the face of unanticipated exchange rate changes.

Question 5

Expected changes in foreign exchange rates should already be factored into anticipated operating results by management and investors.

Question 6

From an investor's perspective, if the foreign exchange market is efficient, information about expected changes in exchange rates should be widely known and thus reflected in a firm's market value. Only ________ in exchange rates or an ________ foreign exchange market, should cause market value to change.

A) expected changes; efficient
B) unexpected changes; efficient
C) expected changes; inefficient
D) unexpected changes; inefficient

Question 7

Which of the following is NOT an example of a form of political risk that might be avoided or reduced by foreign exchange risk management?

A) expropriation of assets
B) destruction of raw materials through natural disaster
C) war
D) unfavorable legal changes

Question 8

In equilibrium, expected cash flow to amortize international debt obligations should reflect the ________.

A) current spot rate
B) the spot rate when the loan was contracted
C) the international Fisher effect
D) none of the above

Question 9

Which of the following is NOT an example of a financial cash flow?

A) parent invested equity capital
B) interest on intrafirm lending
C) payment for goods and services
D) intrafirm principal payments

Question 10

________ exposure is far more important for the long-run health of a business than changes caused by ________ or ________ exposure.

A) Operating; translation; transaction
B) Transaction; operating; translation
C) Accounting; translation; transaction
D) Translation; operating; transaction

Question 11

Simpson Sign Company based in Frostbite Falls, Minnesota has a 6-month C$100,000 contract to complete sign work in Winnipeg , Manitoba, Canada. The current spot rate is $1.02/C$ and the forward rate is $1.01/C$. Under conditions of equilibrium, management would use today ________ when preparing operating budgets.

A) $102,000
B) $101,000
C) $100,000
D) None of the above

Question 12

Another name for operating exposure is ________ exposure.

A) economic
B) competitive
C) strategic
D) all of the above

Question 13

Purely domestic firms will be at a disadvantage to MNEs in the event of market disequilibria because

A) domestic firms lack comparative data from its own sources.
B) international firms are already so large.
C) all of the domestic firm's raw materials are imported.
D) None of the above. Domestic firms are not at a disadvantage.

Question 14

________ cash flows arise from intracompany and intercompany receivables and payments while ________ cash flows are payments for the use of loans and equity.

A) Financing; operating
B) Operating; financing
C) Operating; accounting
D) Accounting; financing

Question 15

When disequilibria in international markets occur, management can take advantage by

A) doing nothing if they are already diversified and able to realize beneficial portfolio effects.
B) recognizing disequilibria faster than purely domestic competitors.
C) shifting operational of financing activities to take advantage of the disequilibria.
D) all of the above.

Question 16

Management must be able to predict disequilibria in international markets to take advantage of diversification strategies.

Question 17

Which of the following is NOT an example of diversifying operations?

A) diversifying sales
B) diversifying location of operations
C) raising funds in more than one country
D) sourcing raw materials in more than one country

Question 18

What type of international risk exposure measures the change in present value of a firm resulting from changes in future operating cash flows caused by any unexpected change in exchange rates?

A) transaction exposure
B) accounting exposure
C) operating exposure
D) translation exposure

Question 19

Which of the following is NOT an example of an operating cash flow?

A) management fees and distributed overhead
B) royalties and license fees
C) rent and lease payments
D) dividend paid to parent company

Question 20

Which of the following is NOT an example of diversification in financing?

A) raising funds in more than one market
B) raising funds in more than one country
C) diversifying sales
D) All of the above qualify.

Question 21

An MNE has a contract for a relatively predictable long-term inflow of Japanese yen that the firm chooses to hedge by paying for imports from Canada in Japanese yen. This hedging strategy is known as ________.

A) a natural hedge
B) currency-switching
C) matching
D) diversification

Question 22

Most swap dealers arrange swaps so that each firm that is a party to the transaction knows who the counterparty is.

Question 23

An MNE has a contract for a relatively predictable long-term inflow of Japanese yen that the firm chooses to hedge by seeking out potential suppliers in Japan. This hedging strategy is referred to as ________.

A) a natural hedge
B) currency-switching
C) matching
D) diversification

Question 24

A ________ occurs when two business firms in separate countries arrange to borrow each other's currency for a specified period of time.

A) natural hedge loan
B) forward loan
C) currency switch loan
D) back-to-back loan

Question 25

Most swap dealers arrange swaps so that each firm that is a party to the transaction does not know who the counterparty is.

Question 26

The particular strategy of trying to offset stable inflows of cash from one country with outflows of cash in the same currency is known as ________.

A) hedging
B) diversification
C) matching
D) balancing

Question 27

Swap agreements are treated as off-balance sheet transactions via U.S. accounting methods.

Question 28

Which of the following is NOT identified by your authors as a proactive management technique to reduce exposure to foreign exchange risk?

A) matching currency cash flows
B) currency swaps
C) remaining a purely domestic firm
D) parallel loans

Question 29

A U.S. timber products firm has a long-term contract to import unprocessed logs from Canada. To avoid occasional and unpredictable changes in the exchange rate between the U.S. dollar and the Canadian dollar, the firms agree to split between the two firms the impact of any exchange rate movement. This type of agreement is referred to as ________.

A) risk-sharing
B) currency-switching
C) matching
D) a natural hedge

Question 30

Currency swaps are exclusively for periods of time under one year.

Question 31

A ________ resembles a back-to-back loan except that it does not appear on a firm's balance sheet.

A) forward loan
B) currency hedge
C) counterparty
D) currency swap

Question 32

Which one of the following management techniques is likely to best offset the risk of long-run exposure to payables denominated in a particular foreign currency?

A) borrow money in the foreign currency in question
B) lend money in the foreign currency in question
C) rely on the Federal Reserve Board to enact monetary policy favorable to your exposure risk
D) none of the above

Question 33

A Canadian firm with a U.S. subsidiary and a U.S. firm with a Canadian subsidiary agree to a parallel loan agreement. In such an agreement, the Canadian firm is making a/an ________ loan to the ________ subsidiary while effectively financing the ________ subsidiary.

A) indirect; U.S.; Canadian
B) indirect; Canadian; U.S.
C) direct; U.S.; Canadian
D) direct; Canadian; U.S.

Question 34

A British firm and a U.S. Corporation each wish to enter into a currency swap hedging agreement. The British firm is receiving U.S. dollars from sales in the U.S. but wants pounds. The U.S. firm is receiving pounds from sales in Britain but wants dollars. Which of the following choices would best satisfy the desires of the firms?

A) The British firm pays dollars to a swap dealer and receives pounds from the dealer. The U.S. firm pays pounds to the swap dealer and receives dollars.
B) The U.S. firm pays dollars to a swap dealer and receives pounds from the dealer. The British firm pays pounds to the swap dealer and receives dollars.
C) The British firm pays pounds to a swap dealer and receives pounds from the dealer. The U.S. firm pays dollars to the swap dealer and receives dollars.
D) The British firm pays dollars to a swap dealer and receives dollars from the dealer. The U.S. firm pays pounds to the swap dealer and receives pounds.

Question 35

A ________ is the term used to describe a foreign currency agreement between two parties to exchange a given amount of one currency for another, and after a period of time, to give back the original amounts.

A) matched flow
B) currency swap
C) back-to-back loan
D) none of the above

Question 36

After being introduced in the 1980s, currency swaps have remained a relatively insignificant financial derivative instrument.

Question 37

Which of the following is NOT an important impediment to widespread use of parallel loans?

A) difficulty in finding an appropriate counterparty
B) the risk that one of the parties will fail to return the borrowed funds when agreed
C) the process does not avoid exchange rate risk
D) All of the above are significant impediments.

Question 38

Which of the following is NOT an acceptable hedging technique to reduce risk caused by a relatively predictable long-term foreign currency inflow of Japanese yen?

A) Import raw materials from Japan denominated in yen to substitute for domestic suppliers.
B) Pay suppliers from other countries in yen.
C) Import raw materials from Japan denominated in dollars.
D) Acquire debt denominated in yen.

Question 39

Which one of the following management techniques is likely to best offset the risk of long-run exposure to receivables denominated in a particular foreign currency?

A) borrow money in the foreign currency in question
B) lend money in the foreign currency in question
C) increase sales to that country
D) increase sales in this country

Question 40

Swap agreements are treated as line items on the balance sheet via U.S. accounting methods.

Question 41

An unexpected change in exchange rates impacts a firm's cash flows at what level(s)?

A) short run
B) medium run (equilibrium case)
C) long run
D) all of the above

Question 42

An advantage of international diversification is the

A) reduction in the variability of future cash flows due to domestic business cycles.
B) increase in the availability of capital.
C) diversification of political risk.
D) all of the above.

Question 43

Intracompany leads and lags are generally more feasible than comparable intercompany activities because the favorable impact of the lead or lag for one company is the reverse for the other firm.

Question 44

Which of the following is NOT one of the commonly employed financial policies used to manage operating and transaction exposure?

A) use of natural hedges by matching currency cash flows
B) back-to-back or parallel loans
C) currency swaps
D) All of the above are commonly used financial policies for managing operating exposure.

Question 45

Contractual approaches (i.e., options and forwards) have occasionally been used to hedge operating exposure, but are costly and possibly ineffectual.

Question 46

When an enterprise has a receivable or payable denominated in a foreign currency and settlement of the obligation has not yet taken place, that firm is said to have ________ exposure.

A) accounting
B) operating
C) tax
D) transaction

Question 47

The Land's Beginning Company Inc. (LBC), imports extreme condition outdoor wear and equipment from The Hudson Bay Company (HBC) located in Canada. With the steady decline of the U.S dollar against the Canadian dollar LBC is finding a continued relationship with HBC to be an increasingly difficult proposition. In response to LBC's request, HBC has proposed the following risk-sharing arrangement. First, set the current spot rate as the base rate. As long as spot rates stay within 5% (up or down) LBC will pay at the base rate. Any rate outside of the 5% range, HBC will share equally with LBC the difference between the spot rate and the base rate. If LBC has a payable of C$100,000 due today and the current spot rate is C$1.17/$, how much does LBC owe in U.S. dollars?

A) $83,333
B) $85,470
C) $85,837
D) $117,000

Question 48

Historically, there has been a strong link between the volume of automobile exports from Japan to the US and the yen/dollar exchange rate.

Question 49

Which of the following is NOT a proactive policy for managing operating exposure?

A) matching currency of cash flow
B) back-to-back loans
C) cross currency swap agreements
D) All of the above are proactive management policies for operating exposure.

Question 50

After being introduced in the 1980s, currency swaps have gained increasing importance as financial derivative instruments.

Question 51

Reinvoicing centers provide the following benefits:

A) Aid in the management of foreign exchange exposure.
B) Effectively guarantee the exchange rate for future orders.
C) Help manage intra-subsidiary cash flows.
D) All of the above.

Question 52

Some firms use "leads" or "lags" to re-time the transfer of funds in international transactions. To benefit from changing exchange rates, firms holding a ________ currency will ________ their payments before the currency drops in value.

A) hard; lead
B) soft; lag
C) soft; lead
D) hard; lag

Question 53

The Land's Beginning Company Inc. (LBC), imports extreme condition outdoor wear and equipment from The Hudson Bay Company (HBC) located in Canada. With the steady decline of the U.S dollar against the Canadian dollar LBC is finding a continued relationship with HBC to be an increasingly difficult proposition. In response to LBC's request, HBC has proposed the following risk-sharing arrangement. First, set the current spot rate as the base rate. As long as spot rates stay within 5% (up or down) LBC will pay at the base rate. Any rate outside of the 5% range, HBC will share equally with LBC the difference between the spot rate and the base rate. If the current spot rate is C$1.20/$, what are the upper and lower limits for trading to take place at C$1.20?

A) C$1.205/$ - C$1.195/$
B) C$1.15/$ - C$1.25/$
C) C$1.14/$ - C$1.26/$
D) None of the above

Question 54

The primary method by which a firm may protect itself against operating exposure impacts is

A) money market hedges.
B) diversification.
C) forward contract hedges.
D) balance sheet hedging.

Question 55

The three main types of foreign exchange risk are

A) operating, transaction, and translation.
B) translation, accounting, and operating.
C) transaction, accounting, and translation.
D) operating, currency, and market.

Question 56

Operating exposure

A) creates foreign exchange accounting gains and losses.
B) causes exchange rates to fluctuate.
C) is the possibility that future cash flows will change due to an unexpected change in foreign exchange rates.
D) measures a country's propensity to import and export.

Question 57

Which of the following is NOT seen as a potential disadvantage to the formation of an intra-company reinvoicing center?

A) Reinvoicing center personnel may develop expertise in the selection and implementation of foreign exchange hedging techniques.
B) The company must create an additional corporate unit.
C) Initial setup costs may be high.
D) A separate set of books must be kept for this new corporate division.

Question 58

Which of the following is not an operating cash flow?

A) intra-firm payable
B) account receivable from an unrelated party
C) interest payment by a subsidiary to a parent company
D) account payable to a foreign subsidiary

Question 59

________ risk measures the change in value of the firm that results from changes in future operating cash flows caused by unexpected changes in exchange rates.

A) Transaction
B) Accounting
C) Operating
D) Translation

Question 60

Some firms use "leads" or "lags" to re-time the transfer of funds in international transactions. To benefit from changing exchange rates, firms holding a ________ currency will ________ their payments in an effort to maintain ownership of the strengthening currency as long as possible.

A) hard; lead
B) soft; lag
C) soft; lead
D) hard; lag

Question 61

A British firm has a subsidiary in the U.S., and a U.S. firm, known to the British firm, has a subsidiary in Britain. Define and then provide an example for each of the following management techniques for reducing the firm's operating cash flows. The following are techniques to consider:
(a) matching currency cash flows
(b) risk-sharing agreements
(c) back-to-back or parallel loans

Question 62

Diversification is possibly the best technique for reducing the problems associated with international transactions. Provide one example each of international financial diversification and international operational diversification and explain how the action reduces risk.