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Multinational Business Finance, 13e (Eiteman/Stonehill/Moffett) Chapter 10
Transaction Exposure 10.1 Types of Foreign Exchange Exposure Multiple Choice
Question: ________ exposure deals with cash flows that result from existing contractual
obligations. A) Operating B) Transaction C) Translation D) Economic Answer:
Question: ________ exposure measures the change in the present value of the firm
resulting from unexpected changes in exchange rates. A) Operating B) Transaction C)
Translation D) Accounting Answer:
Question: Each of the following is another name for operating exposure EXCEPT: A)
economic exposure. B) strategic exposure. C) accounting exposure. D) competitive
exposure. Answer:
Question: Transaction exposure and operating exposure exist because of unexpected
changes in future cash flows. The difference between the two is that ________ exposure
deals with cash flows already contracted for, while ________ exposure deals with future
cash flows that might change because of changes in exchange rates. A) transaction;
operating B) operating; transaction C) operating; accounting D) none of the above Answer:
Question: ________ exposure is the potential for accounting-derived changes in owners
equity to occur because of the need to translate foreign currency financial statements into a
single reporting currency. A) Transaction B) Operating C) Economic D) Accounting (aka
translation) Answer:
Question: Losses from ________ exposure generally reduce taxable income in the year
they are realized. ________ exposure losses may reduce taxes over a series of years. A)
accounting; Operating B) operating; Transaction C) transaction; Operating D) transaction;
Accounting Answer:
Question: Losses from ________ exposure generally reduce taxable income in the year
they are realized. ________ exposure losses are not cash losses and therefore, are not tax
deductible. A) transaction; Operating B) accounting; Operating C) accounting; Transaction
D) transaction; Translation Answer:
Question: MNE cash flows may be sensitive to changes in which of the following? A)
exchange rates B) interest rates C) commodity prices D) all of the above Answer:
Question: Assuming no transaction costs (i.e., hedging is "free"), hedging currency
exposures should ________ the variability of expected cash flows to a firm and at the
same time, the expected value of the cash flows should ________. A) increase; not change
B) decrease; not change C) not change; increase D) not change; not change Answer:
Question: Which of the following is NOT cited as a good reason for hedging currency
exposures? A) Reduced risk of future cash flows is a good planning tool. B) Reduced risk
of future cash flows reduces the probability that the firm may not meet required cash
flows. C) Currency risk management increases the expected cash flows to the firm. D)
Management is in a better position to assess firm currency risk than individual investors.
Answer:
Question: Which of the following is cited as a good reason for NOT hedging currency
exposures? A) Shareholders are more capable of diversifying risk than management. B)
Currency risk management through hedging does not increase expected cash flows. C)
Hedging activities are often of greater benefit to management than to shareholders. D) All
of the above are cited as reasons NOT to hedge. Answer:
Question: The stages in the life of a transaction exposure can be broken into three distinct
time periods. The first time period is the time between quoting a price and reaching an
actual sale agreement or contract. The next time period is the time lag between taking an
order and actually filling or delivering it. Finally, the time it takes to get paid after
delivering the product. In order, these stages of transaction exposure may be identified as:
A) backlog, quotation, and billing exposure. B) billing, backlog, and quotation exposure.
C) quotation, backlog, and billing exposure. D) quotation, billing, and backlog exposure.
Answer:
Question: A U.S. firm sells merchandise today to a British company for 150,000. The
current exchange rate is $1.55/ , the account is payable in three months, and the firm
chooses to avoid any hedging techniques designed to reduce or eliminate the risk of
changes in the exchange rate. The U.S. firm is at risk today of a loss if: A) the exchange
rate changes to $1.52/. B) the exchange rate changes to $1.58/. C) the exchange rate doesnt
change. D) all of the above Answer:
Question: A U.S. firm sells merchandise today to a British company for 150,000. The
current exchange rate is $1.55/ , the account is payable in three months, and the firm
chooses to avoid any hedging techniques designed to reduce or eliminate the risk of
changes in the exchange rate. If the exchange rate changes to $1.58/ the U.S. firm will
realize a ________ of ________. A) loss; $4,500 B) gain; $4,500 C) loss; 4,500 D) gain;
4,500 Answer:
Question: A U.S. firm sells merchandise today to a British company for 150,000. The
current exchange rate is $1.55/ , the account is payable in three months, and the firm
chooses to avoid any hedging techniques designed to reduce or eliminate the risk of
changes in the exchange rate. If the exchange rate changes to $1.52/ the U.S. firm will
realize a ________ of ________. A) loss; $4,500 B) gain; $4,500 C) loss; 4,500 D) gain;
4,500 Answer:
Question: ________ is NOT a commonly used contractual hedge against foreign exchange
transaction exposure. A) Forward market hedge B) Money market hedge C) Options
market hedge D) All of the above are contractual hedges. Answer:
Question: A ________ hedge refers to an offsetting operating cash flow such as a payable
arising from the conduct of business. A) financial B) natural C) contractual D) futures
Answer:
Question: As a generalized rule, only realized foreign exchange losses are deductible for
tax purposes. Answer:
Question: Many MNE s manage foreign exchange exposure centrally, thus gains or losses
are always matched with the country of origin. Answer:
Question: Hedging, or reducing risk, is the same as adding value or return to the firm.
Answer:
Question: There is considerable question among investors and managers about whether
hedging is a good and necessary tool. Answer:
Question: The key arguments in opposition to currency hedging such as market efficiency,
agency theory, and diversification do not have financial theory at their core. Answer:
Question: The structure of a money market hedge is similar to a forward hedge. The
difference is the cost of the money market hedge is determined by the differential interest
rates, while the forward hedge is a function of the forward rates quotation. Answer:
Question: In efficient markets, interest rate parity should assure that the costs of a forward
hedge and money market hedge should be approximately the same. Answer:
Question: Management often conducts hedging activities that benefit management at the
expense of the shareholders. The field of finance called agency theory frequently argues
that management is generally LESS risk averse than are shareholders. Answer:
Question: Managers CAN outguess the market. If and when markets are in equilibrium
with respect to parity conditions, the expected net present value of hedging should be
POSITIVE. Answer:
Question: Shareholders are LESS capable of diversifying currency risk than is the
management of the firm. Answer:
Question: Hedging can be advantageous to shareholders because management is in a better
position than shareholders to recognize disequilibrium conditions and to take advantage of
single opportunities to enhance firm value through selective hedging. Answer:
Question: TRANSACTION exposure measures gains or losses that arise from the
settlement of existing financial obligations whose terms are stated in a foreign currency.
Answer:
Question: Transaction exposure could arise when borrowing or lending funds when
repayment is to be made in the firms domestic currency. Answer:
Question: Does foreign currency exchange hedging both reduce risk and increase expected
value? Explain, and list several arguments in favor of currency risk management and
several against. Answer:
Question: Currency risk management techniques include forward hedges, money market
hedges, and option hedges. Draw a diagram showing the possible outcomes of these
hedging alternatives for a foreign currency receivable contract. In your diagram, be sure to
label the X and Y-axis, the put option strike price, and show the possible results for a
money market hedge, a forward hedge, a put option hedge, and an uncovered position.
(Note: Assume the forward currency receivable is British pounds and the put option strike
price is $1.50/, the price of the option is $0.04 the forward rate is $1.52/ and the current
spot rate is $1.48/.) Answer:
Question: Refer to Instruction 10.2. If CVT chooses NOT to hedge their euro payable, the
amount they pay in six months will be: A) $3,500,000. B) $3,900,000. C) €3,000,000. D)
unknown today Answer:
Question: Refer to Instruction 10.2. If CVT chooses to hedge its transaction exposure in
the forward market, it will ________ euro 3,000,000 forward at a rate of ________. A)
buy; $1.22 B) buy; $1.25 C) sell; $1.22 D) sell; €1.25 Answer:
Question: Refer to Instruction 10.2. CVT chooses to hedge its transaction exposure in the
forward market at the available forward rate. The required amount in dollars to pay off the
accounts payable in 6 months will be: A) $3,000,000. B) $3,660,000. C) $3,750,000. D)
$3,810,000. Answer:
Question: Refer to Instruction 10.2. If CVT locks in the forward hedge at $1.22/euro, and
the spot rate when the transaction was recorded on the books was $1.25/euro, this will
result in a "foreign exchange accounting transaction ________ of ________. A) loss;
$90,000. B) loss; €90,000. C) gain; $90,000. D) gain; €90,000. Answer:
Question: Refer to Instruction 10.2. CVT would be ________ by an amount equal to
________ with a forward hedge than if they had NOT hedged and their predicted exchange
rate for 6 months had been correct. A) better off; $150,000 B) better off; €150,000 C)
worse off; $150,000 D) worse off; €150,000 Answer:
Question: Refer to Instruction 10.2. What is the cost of a call option hedge for CVTs euro
receivable contract? (Note: Calculate the cost in future value dollars and assume the firms
cost of capital as the appropriate interest rate for calculating future values.) A) $57,600 B)
$59,904 C) $62,208 D) $63,936 Answer:
Question: Refer to Instruction 10.2. The cost of a put option to CVT would be: A) $52,500.
B) $55,388. C) $58,275. D) There is not enough information to answer this question.
Answer:
Question: ________ are transactions for which there are, at present, no contracts or
agreements between parties. A) Backlog exposure B) Quotation exposure C) Anticipated
exposure D) none of the above Answer:
Question: According to a survey by Bank of America, the type of foreign exchange risk
most often hedged by firms is: A) translation exposure. B) transaction exposure. C)
contingent exposure. D) economic exposure. Answer:
Question: When attempting to manage an account payable denominated in a foreign
currency, the firms only choice is to remain unhedged. Answer:
Question: The treasury function of most firms, the group typically responsible for
transaction exposure management, is NOT usually considered a profit center. Answer:
Question: According to the authors, firms that employ proportional hedges increase the
percentage of forward-cover as the maturity of the exposure lengthens. Answer:
Question: Remaining unhedged is NOT an option when dealing with foreign exchange
transaction exposure. Answer:
Question: A forward hedge involves a put or call option contract and a source of funds to
fulfill that contract. Answer:
Question: Like a forward market hedge, a money market hedge also involves a contract
and a source of funds to fulfill that contract. In this instance, the contract is a loan
agreement. Answer:
Question: Hedging transaction exposure with option contracts allows the firm to benefit if
exchange rates are favorable but protects the firm if exchange rates turn unfavorable.
Answer:
Question: A firms risk tolerance is a combination of managements philosophy toward
transaction exposure and the specific goals of treasury activities. Answer:
Question: Although rarely acknowledged by the firms themselves, selective hedging is
essentially speculation. Answer:
