1) Exhibit 14-1
Assume that Baps Corporation is considering the establishment of a subsidiary in
Norway. The initial investment required by the parent is $5,000,000. If the project is
undertaken, Baps would terminate the project after four years. Baps’ cost of capital is
13%, and the project is of the same risk as Baps’ existing projects. All cash flows
generated from the project will be remitted to the parent at the end of each year. Listed
below are the estimated cash flows the Norwegian subsidiary will generate over the
project’s lifetime in Norwegian kroner (NOK):
The current exchange rate of the Norwegian kroner is $.135. Baps’ exchange rate
forecast for the Norwegian kroner over the project’s lifetime is listed below:
Refer to Exhibit 14-1. Assume that NOK8,000,000 of the cash flow in year 4 represents
the salvage value. Baps is not completely certain that the salvage value will be this
amount and wishes to determine the break-even salvage value, which is $____.
a. 510,088.04
b. 1,710,088
c. 1,040,000
d. none of the above
2) Increases in relative income in one country vs. another result in an increase in the
first country’s currency value.
a. True
b. False
3) When the real cost of hedging is positive, this implies that hedging was more
favorable than not hedging.
a. True
b. False
4) If the IFE theory holds, that means that covered interest arbitrage is not feasible.
a. True
b. False
5) ____ represent aid, grants, and gifts from one country to another.
a. Transfer payments
b. Factor income
c. The balance of trade
d. The balance of payments
e. The capital account
6) Hedgers should buy puts if they are hedging an expected inflow of foreign currency.
a. True
b. False
7) Dubas Co. is a U.S.-based MNC that has a subsidiary in Germany and another
subsidiary in Greece. Both subsidiaries frequently remit their earnings back to the
parent company. The German subsidiary generated a net outflow of 2,000,000 this year,
while the Greek subsidiary generated a net inflow of 1,500,000. What is the net inflow
or outflow as measured in U.S. dollars this year? The exchange rate for the euro is
$1.05.
a. $3,675,000 outflow
b. $525,000 outflow
c. $525,000 inflow
d. $210,000 outflow
8) In general, when speculating on exchange rate movements, the speculator will
borrow the currency that is expected to appreciate and invest in the country whose
currency is expected to depreciate.
a. True
b. False
9) In general, an MNC’s size, its access to international capital markets, and
international diversification are unfavorable to an MNC’s cost of capital.
a. True
b. False
10) Which of the following are true about the Southeast Asian currency crisis?
a. It was preceded by several years of large capital inflows to Asia
b. It was preceded by a five-year recession in Asia
c. Asian interest rates declined during the crisis
d. Asian exchange rates were pegged to the Japanese yen to resolve the crisis
11) A(n) ____ letter of credit is not a trade-related letter of credit.
a. commercial
b. import/export
c. revocable
d. irrevocable
e. all of the above are trade-related letters of credit
12) An MNC is considering establishing a two-year project in New Zealand with a $30
million initial investment. The firm’s cost of capital is 12%. The required rate of return
on this project is 18%. The project is expected to generate cash flows of NZ$12 million
in Year 1 and NZ$30 million in Year 2, excluding the salvage value. Assume no taxes,
and a stable exchange rate of $.60 per NZ$ over the next two years. All cash flows are
remitted to the parent. What is the break-even salvage value?
a. about NZ$11 million
b. about NZ$15 million
c. about NZ$31 million
d. about NZ$37 million
e. about NZ$25 million
13) Countries that have adopted the euro must agree on a single ____ policy.
a. monetary
b. fiscal
c. worker compensation
d. foreign relations
14) Which of the following would result in a profit of a euro futures contract when the
euro depreciates?
a. buy a euro futures contract; sell a futures contract after the euro has depreciated
b. sell a euro futures contract; buy a futures contract after the euro has depreciated
c. buy a euro futures contract; buy an additional futures contract after the euro has
depreciated
d. none of the above would result in a profit when the euro depreciates
15) If an MNC expects cash inflows of equal amounts in two currencies, and the two
currencies are ____ correlated, the MNC’s transaction exposure is relatively ____.
a. negatively; high
b. negatively; low
c. positively; low
d. none of the above
16) You are a speculator who sells a call option on Swiss francs for a premium of $.06,
with an exercise price of $.64. The option will not be exercised until the expiration date,
if at all. If the spot rate of the Swiss franc is $.69 on the expiration date, your net profit
per unit, assuming that you have to buy Swiss francs in the market to fulfill your
obligation, is:
a. -$.02
b. -$.01
c. $.01
d. $.02
e. none of the above
17) Which of the following factors probably does not directly affect a country’s capital
account and its components?
a. Inflation
b. Interest rates
c. Withholding taxes on foreign income
d. Exchange rate movements
e. All of the above will directly affect a country’s capital account
18) The balance of payments is a measurement of all transactions between domestic and
foreign residents over a specified period of time.
a. True
b. False
19) In the United States, government rescues are not as common as in other countries.
Assuming that this is expected to continue in the future, the risk premium on a given
level of debt would be higher for U.S. firms than for firms of other countries,
everything else being equal.
a. True
b. False
20) If a foreign currency is expected to ____ substantially against the parent’s currency,
the parent may prefer to ____ the remittance of subsidiary earnings.
a. weaken; delay
b. weaken; expedite
c. appreciate; expedite
d. none of the above
21) When a foreign currency is perceived by a firm to be undervalued, the firm may
consider direct foreign investment in that country, as the initial outlay should be
relatively low.
a. True
b. False
22) An MNC considers direct foreign investment in Germany. It is mainly concerned
with the subsidiary’s ability to generate sufficient sales there. The country risk
characteristic that would best address this concern is:
a. the host government’s tax rates charged on remitted earnings
b. the possibility of blocked funds
c. the state of the economy in Germany
d. the possibility of a withholding tax imposed by the German government
23) Assume Costner Corporation, a U.S.-based MNC, invests 2,500,000 Zambian
kwacha (ZMK) for a one-year period at a nominal interest rate of 9%. At the time the
loan is extended, the spot rate of the kwacha is $.00060. If the spot rate of the kwacha
in one year is $.00056, the dollar amount initially invested in Zambia is $____, and
$____ are paid out after one year.
a. 1,500; 1,526
b. 1,526; 1,500
c. 1,500; 1,400
d. 1,400; 1,500
24) Sometimes the overall performance of an MNC may already be insulated by
offsetting effects between subsidiaries and it may not be necessary to hedge the position
of each individual subsidiary.
a. True
b. False
25) Because of errors in cash flow or exchange rate estimates, the estimated net present
value of acquiring a foreign target could be underestimated.
a. True
b. False
26) Consider an MNC that is exposed to the Bulgarian lev (BGL) and the Romanian leu
(ROL). 30% of the MNC’s funds are lev and 70% are leu. The standard deviation of
exchange movements is 10% for lev and 15% for leu. The correlation coefficient
between movements in the value of the lev and the leu is .85. Based on this information,
the standard deviation of this two-currency portfolio is approximately:
a. 17.28%
b. 13.15%
c. 14.50%
d. 12.04%
27) The valuation of a target (from the parent’s perspective) should increase when the
potential acquirer’s cost of capital increases.
a. True
b. False
28) Other things being equal, countries with relatively ____ populations and ____
inflation are more likely to have a low cost of capital.
a. young; high
b. old; high
c. old; low
d. young; low
29) The forward premium is the price specified in a call or put option.
a. True
b. False
30) A straddle is a speculative strategy that represents the purchase of both a call and a
put.
a. True
b. False
31) Which of the following is the most likely strategy for a U.S. firm that will be
receiving Swiss francs in the future and desires to avoid exchange rate risk (assume the
firm has no offsetting position in francs)?
a. purchase a call option on francs
b. sell a futures contract on francs
c. obtain a forward contract to purchase francs forward
d. all of the above are appropriate strategies for the scenario described
32) If interest rate parity holds, and the international Fisher effect (IFE) holds, foreign
currencies with relatively high interest rates should have forward discounts and those
currencies would be expected to depreciate.
a. True
b. False
33) The currency of Country X is pegged to the currency of Country Y. Assume that
Country Y’s currency appreciates against the currency of Country Z. It is likely that
Country X will export ____ to Country Z and import ____ from Country Z.
a. more; more
b. more; less
c. less; less
d. less; more
34) A straddle represents the purchase of either two call or two put options at the same
exercise price.
a. True
b. False