To maximize shareholder wealth, managers should only hedge translation exposure if it ______.
A) affects the total risk of the firm
B) involves accounting profits
C) involves cash flows
D) is convenient
E) None of the above

Question

Quizplus · Accepted Answer

Translation exposure is related to the impact of exchange rate fluctuations on the financial statements of the firm. If the exposure affects the firm's cash flows, then it may be justified to hedge it. This is because cash flows are directly related to the value of the firm and shareholder wealth. On the other hand, if the exposure only affects accounting profits, then it may not be necessary to hedge it as accounting profits do not directly impact shareholder wealth. Hence, managers should only hedge translation exposure if it affects cash flows.

To Maximize Shareholder Wealth, Managers Should Only Hedge Translation Exposure