MULTINATIONAL FINANCIAL MANAGEMENT
SUGGESTED ANSWERS TO CHAPTER 10 QUESTIONS
What is translation exposure? Transaction exposure?
equals the difference between exposed assets and exposed liabilities. A foreign
currency asset or liability is exposed if it must be translated at the current exchange rate.
equals the net amount of foreign-currency denominated transactions already entered into. Upon settlement, these
transactions may give rise to currency gains or losses.
What are the basic translation methods? How do they differ?
The basic translation methods are the current/noncurrent method, monetary/nonmonetary method,
temporal method, and current-rate method. The current/noncurrent method treats only current assets and liabilities
as being exposed. The monetary/nonmonetary method treats only monetary assets and liabilities as being exposed.
The temporal method translates assets and liabilities valued at current cost as exposed and historical cost assets and
liabilities as unexposed. The current rate method treats all assets and liabilities as exposed.
What factors affect a company's translation exposure? What can the company do to affect its degree of
The factors affecting a company's translation exposure under FASB-52 include the currency of the
primary economic environment in which the company (or its affiliate) does business, the currency in which it
invoices its sales, the currency in which it negotiates to buy, the currency denomination of its borrowings, the
currency denomination of the securities in which it invests surplus cash, and the location of its customers. This list
suggests the actions that a company can take to affect its degree of translation exposure: borrow, invest, and
invoice both sales and purchases in the local currency. It also has some degree of control over which customers to
serve--foreign or domestic--but this decision should be based on economic profitability rather than its impact on
What alternative hedging transactions are available to a company seeking to hedge the translation exposure of
its German subsidiary? How would the appropriate hedge change if the German affiliate's functional currency
is the U.S. dollar?
As mentioned in the text, the parent has three available methods for managing its translation exposure:
(1) adjusting fund flows, (2) entering into forward contracts, and (3) exposure netting. Direct funds-adjustment
methods include pricing exports in hard currencies and imports in a soft currency, investing in hard-currency
securities, and replacing hard-currency borrowings with local currency loans. The indirect methods (see Chapter
20), include adjusting transfer prices on the sale of goods between affiliates; speeding up or slowing down the
payment of dividends, fees, and royalties; and adjusting the leads and lags of intersubsidiary accounts. The standard
techniques for responding to anticipated currency changes are summarized in Exhibit 10.1.