Chapter 12
Operating Exposure
◼ Learning Objectives
1. Examine how operating exposure arises in a multinational firm through unexpected
changes in corporate cash flows
2. Analyze how to measure operating exposure’s impact on a business unit through the
sequence of volume, price, cost, and other key variable changes
3. Evaluate strategic alternatives to managing operating exposure
4. Detail the proactive policies firms use in managing operating exposure
◼ Chapter Outline
I. A Multinational’s Operating Exposure
A. Static versus Dynamic Operating Exposure
Ganado China
Ganado Germany
Ganado U.S.
B. Operating and Financing Cash Flows
C. Expected versus Unexpected Changes in Cash Flow
D. Measuring Operating Exposure
Short Run
Medium Run: Equilibrium
Medium Run: Disequilibrium
Long Run
II. Measuring Operating Exposure: Ganado Germany
A. The Base Case
B. Case 1: Depreciation—All Variables Remain Constant
C. Case 2: Volume Increases—Other Variables Remain Constant
D. Case 3: Sales Price Increases—Other Variables Remain Constant
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3. Unexpected Exchange Rate Changes. Why do unexpected exchange rate changes
contribute to operating exposure, but expected exchange rate changes do not?
4. Time Horizon. Explain the time horizons used to analyze and measure unexpected
changes in exchange rates.
5. Static versus Dynamic. What are examples of static exposures versus dynamic exposures?
6. Operating versus Financing Cash Flows. According to financial theory, which is more
important to the value of the firm, financing or operating cash flows?
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7. Macroeconomic Uncertainty. Explain how the concept of macroeconomic uncertainty
expands the scope of analyzing operating exposure.
8. Strategic Response. The objective of both operating and transaction exposure management
is to anticipate and influence the effect of unexpected changes in exchange rates on a firm’s
future cash flows. What strategic alternative policies exist to enable management to
manage these exposures?
9. Managing Operating Exposure. The key to managing operating exposure at the strategic
level is for management to recognize a disequilibrium in parity conditions when it occurs
and to be pre-positioned to react appropriately. How can this task best be accomplished?
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10. Diversification. How can a multinational firm diversify operations? How can it diversify
its financing? Do you believe these are effective ways of managing operating exposure?
11. Proactive Management. Operating exposures can be partially managed by adopting
operating or financing policies that offset anticipated foreign exchange exposures. What
are four of the most commonly employed proactive policies?
12. Matching Currency Exposure. Explain how matching currency cash flows can offset
operating exposure.
13. Risk Sharing. An alternative arrangement for managing operating exposure between firms
with a continuing buyer-supplier relationship is risk sharing. Explain how risk sharing
works.
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14. Back-to-Back Loans. Explain how back-to-back loans can hedge foreign exchange
operating exposure. Would firms have any specific worries about their partner in a back–
to-back loan arrangement?
15. Currency Swaps. Explain how currency swaps can hedge foreign exchange operating
exposure. What are the accounting advantages of currency swaps?
16. Hedging the Unhedgeable. How do some firms attempt to hedge their long-term
operation exposure with contractual hedges? What assumptions do they make in order to
justify contractual hedging of their operating exposure? How effective is such contractual
hedging in your opinion?
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