LOS m: Discuss the likely exchange rate exposure of a company based on a description of the company's activities, and explain the impact of both real and nominal exchange rate changes on the valuation of the company.

Q1. Suppose the value of the euro depreciates by 5 percent in real terms. Of the following firms, which will most likely be hurt by the change in the euro? (The euro is used as the official currency in France and the pound is used in the U.K.) A:

A)   U.K. firm that imports food from French suppliers.

B)   French firm that imports and resells computers in France.

C)   French firm that exports food to U.K. distributors.

Q2. Suppose an analyst is assessing the currency exposure of a French firm that imports bicycles from the U.K. If the value of the British pound appreciates, will the French firm’s cost structure improve or deteriorate? Why?

A)   Deteriorate, because the French cost of imported bicycles will go up.

B)   Deteriorate, because the French cost of imported bicycles will go down.

C)   Improve, because the French cost of imported bicycles will go down.

Q3. Consider a Canadian firm that exports hockey sticks to the U.S. Prices are set and collected in U.S. dollars. The inflation differential between Canada and the U.S. is 2% (Canadian inflation minus U.S. inflation). What is the valuation impact on the Canadian exporter if the value of the Canadian dollar falls by 2% during the next year?

A)   All currency changes are nominal, so the change has no real impact.

B)   The firm is helped by the falling value of the Canadian dollar.

C)   The firm is hurt by the falling value of the Canadian dollar.

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Q1. Suppose the value of the euro depreciates by 5 percent in real terms. Of the following firms, which will most likely be hurt by the change in the euro? (The euro is used as the official currency in ffice:smarttags" />France and the pound is used in the U.K.) A:

A)   U.K. firm that imports food from French suppliers.

B)   French firm that imports and resells computers in France.

C)   French firm that exports food to U.K. distributors.

Correct answer is B)        

The firm that imports and resells goods in France, which uses the euro, will be the firm most hurt by the depreciation of the euro.

Q2. Suppose an analyst is assessing the currency exposure of a French firm that imports bicycles from the U.K. If the value of the British pound appreciates, will the French firm’s cost structure improve or deteriorate? Why?

A)   Deteriorate, because the French cost of imported bicycles will go up.

B)   Deteriorate, because the French cost of imported bicycles will go down.

C)   Improve, because the French cost of imported bicycles will go down.

Correct answer is A)

If the pound appreciates, then bicycles imported from the U.K will be more expensive in France. Hence, the cost structure of the French bicycle importer will deteriorate.

Q3. Consider a Canadian firm that exports hockey sticks to the U.S. Prices are set and collected in U.S. dollars. The inflation differential between Canada and the U.S. is 2% (Canadian inflation minus U.S. inflation). What is the valuation impact on the Canadian exporter if the value of the Canadian dollar falls by 2% during the next year?

A)   All currency changes are nominal, so the change has no real impact.

B)   The firm is helped by the falling value of the Canadian dollar.

C)   The firm is hurt by the falling value of the Canadian dollar.

Correct answer is A)

The change in the valuation of the currency is fully explained by the inflation differential. Hence, there should be no impact on the valuation of the firm in real terms.