How to Avoid Translation, Transaction and Economic Exposures in the Economic Cycle

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Part 1

Question a

Provide examples of how real world multinational corporations (MNC) reduce their translation, transaction and economic exposures. Translation exposure is the effect of changes in exchange rates on the accounting values of financial statements (Shapiro, 2010, p.356). The translation exposure arises from the conversion the financial statements denominated in foreign currency from denominated in home currency. The MNCs could reduce their translation by using funds adjustment. For an example, if the devaluation of USD is expected for a Chinese company. The company could use direct funds adjustment such as pricing the exports in RMB and pricing the imports in USD, investing in RMB securities and replacing loans in RMB with the loans in USD. The company also could use indirect funds adjustment as paying out dividens, fees and other expends in advance, and speeding up the payment of accounting payable and delaying the collection of accounting receivable in USD. Transaction exposure measures the exchange gains and losses in cash flows in the value of domestic currency, which is denominated in foreign currency (Shapiro, 2010, p.357). Multinational corporations often lower transaction exposure by making the contract with bank to lock in a forward exchange rate. For an example, an Australian import company expected to pay to an American supplier 10000 USD for the goods half year later. The company could sign a forward foreign exchange which is fixed at 0.9 AUD per USD, and it allows carrying on the transaction in contract provision deadline any time, take at that time exchange rate as. So if there would be depreciation of home currency, and the Spot exchange rate is at 1.0 AUD per USD, the company had the right to convert their AUD into USD at previous exchange rate which is at 0.9 from bank, so the amount of balance was the financial savings in cash flows. Economic exposure measures the impact of exchange rate fluctuations on the operating cash flows thorough the sales price, sales volume, and production cost (Shapiro, 2010, p.359). So the multinational corporations could reduce their economic exposures by marketing and production strategies. For an example, in the export business, if the currency is soft in home country, the company should more revenue and profit from product pricing, and they should consider lower price by reducing cost of product, such as expanding their scope of operation for reducing the cost of production, shifting production to home for reducing cost of currency exchange. Conversely, if the home country supplies with hard currency, they could shift production to local with soft currency for reducing cost of production.

Question b

Define the international debt, equity and trade financing options available to MNCs. Explain why MNCs use these financing source. International debt financing refers to the fund demanders’ credit behaviours of raising funds directly from the public by issuing various debt or stocks in the international bond market (Shapiro, 2010, p.464). There are two kinds of foreign bond. The first kind is the bonds denominated in the local currency that are issued in the national bond market, and the second kind is the bonds denominated in the home currency that are issued in the local bond market. The important foreign bonds in the world include Yankee bonds of the US and Swiss franc bonds of Swiss, Samurai bonds of Japan and Bulldog Bond from the London market. International debt financing can have multiple sources of capital from different foreign markets. The international debt can be issued in a great number with low cost, and MNCs only need to pay the interest as required and return the principal on the due date. The company’s business condition has nothing to do with creditors and creditors cannot intervene with the company’s management and operation. The management and decision-making are both subject to the discretion of the company itself. International...
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