Question 1

Suppose 6 months ago a Swiss investor bought a 6-month U.S.Treasury bill at a price of $9,708.74,with a maturity value of $10,000.The exchange rate at that time was 1.420 Swiss francs per dollar.Today,at maturity,the exchange rate is 1.324 Swiss francs per dollar.What is the annualized rate of return to the Swiss investor?

Accepted Answer

Time line:
 11ea42d0_c0a2_3c92_9abf_b9ee4d6366ed_TB2090_00 
Financial calculator solution:
Calculate the 6-month return to the Swiss investor after she has exchanged US$ for Swiss francs.Inputs: N = 1; PV = -13,786.41; FV = 13,240.Output: I/YR = -3.96%.Annualized nominal rate of return = -3.96(2)= -7.92%.

Question 2

Suppose a carton of hockey pucks sell in Canada for 105 Canadian dollars,and 1 Canadian dollar equals 0.71 U.S.dollars.If purchasing power parity (PPP)holds,what is the price of hockey pucks in the United States?

Accepted Answer

105 Canadian dollars equals 74.55 [(105) (0.71)] U.S.dollars.If PPP holds,the pucks should cost the same in both markets.

Question 3

Suppose 1 U.S.dollar equals 1.60 Canadian dollars in the spot market.6-month Canadian securities have an annualized return of 6% (and thus a 6-month periodic return of 3%).6-month U.S.securities have an annualized return of 6.5% and a periodic return of 3.25%.If interest rate parity holds,what is the U.S.dollar-Canadian dollar exchange rate in the 180-day forward market?

Accepted Answer

From the interest rate parity formula it follows that
 $ f_{t}=\left(e_{0}\right)\left(1+r_{h}\right) /\left(1+r_{f}\right)=(0.6250 $ U.S. dollars/Canadian dollar $ )(1.0325) /(1.03) $
$ \quad $$ \quad $$ =0.6265 $ U.S. dollars/Canadian dollar, or $ 1.5961 $ Canadian dollars per U.S. dollar Another way to think of this is $1 invested today in the United States yields $1.0325 six months from now.Alternatively,investors could put their money in Canadian securities.In this case,the investor would exchange $1 today for 1.6 Canadian dollars.This money could be invested in Canada and after 6 months this investment would be worth 1.6480 Canadian dollars[(1.6) (1.03)].At a forward exchange rate of 1 U.S.dollar equals 1.5961 Canadian dollars,1.6480 Canadian dollars would be worth $1.0325 in the U.S.Since the 2 investments produce the same return,interest rate parity holds.

Question 4

A box of chocolate candy costs 28.80 Swiss francs in Switzerland and $20 in the United States.Assuming that purchasing power parity (PPP)holds,what is the current exchange rate?

Accepted Answer

If PPP holds,the chocolate should cost the same in each country,so that 28.80 Swiss francs equal 20 U.S.dollars.This relationship implies that 1 U.S.dollar equals 1.44 Swiss francs (28.80 SF/20).

Question 5

A product sells for $750 in the United States.The exchange rate is $1 to 1.65 Swiss francs.If purchasing power parity (PPP)holds,what is the price of the product in Switzerland?

Accepted Answer

$750 equals 1,237.50 [(750) (1.65)] Swiss francs.If PPP holds,the product should cost the same in both markets.

Question 6

Tashakori Trucking,a U.S.-based company,is considering expanding its operations into a foreign country.The required investment at Time = 0 is $10 million.The firm forecasts total cash inflows of $4 million per year for 2 years,$6 million for the next 2 years,and then a possible terminal value of $8 million.In addition,due to political risk factors,Tashakori believes that there is a 50% chance that the gross terminal value will be only $2 million and a 50% chance that it will be $8 million.However,the government of the host country will block 20% of all cash flows.Thus,cash flows that can be repatriated are 80% of those projected.Tashakori's cost of capital is 15%,but it adds one percentage point to all foreign projects to account for exchange rate risk.Under these conditions,what is the project's NPV?

Accepted Answer

Time line: (In millions) 11ea42d0_c0a3_c335_9abf_55c5167c9d88_TB2090_00 *Calculate the expected terminal value cash flow: Expected terminal cash flow (CF₅)= 0.5(8)+ 0.5(2)= 4 + 1 = 5.Calculate the unrestricted cash flows that can be repatriated to the parent firm: Unrestricted cash flows = Projected cash inflows F1F1F1S1F1F1F10 0.80.Tabular solution (In millions): 11ea42d0_c0a3_c336_9abf_e77de7ad46eb_TB2090_00 $\begin{aligned} \text { NPV }=& \$ 3.2 / 1.16+\$ 3.2 / 1.16^{2}+\$ 4.8 / 1.16^{3}+\$ 4.8 / 1.16^{4}+\$ 4.0 / 1.16^{5}-\$ 10.0 \ =& \$ 3.2(0.8621)+\$ 3.2(0.7432)+\$ 4.8(0.6407)+\$ 4.8(0.5523)+\ & \$ \$ 4.0(0.4761)-\$ 10.0 \ =& \$ 2.759+\$ 2.378+\$ 3.075+\$ 2.651+\$ 1.904-\$ 10.0 \ =& \$ 2.768 \approx \$ 2.77 \text { million. } \end{aligned}$ Financial calculator solution (In millions): Inputs: CF₀ = F1F1F1S1F1F1F1010.0; CF₁ = 3.2; N_j = 2; CF₂ = 4.8; N_j = 2; CF₃ = 4.0; I/YR = 16.Output: NPV = $2.767 F1F1F1S1F1F1F10 $2.77 million.

Question 7

Suppose Stackpool Inc.had inventory in Britain valued at 240,000 pounds one year ago.The exchange rate for dollars to pounds was 1£ = 2 U.S.dollars.This year the exchange rate is 1£ = 1.82 U.S.dollars.The inventory in Britain is still valued at 240,000 pounds.What is the gain or loss in inventory value in U.S.dollars as a result of the change in exchange rates?

Accepted Answer

$\begin{aligned}
\text { Inventory, this year }=240,000 £ \times \$ 1.82 &=& \$ 436,800 \
\text { Inventory, last year }=240,000 £ \times \$ 2.00 &=&  480,000 \
\text { Loss } &=&(\$ 43,200)
\end{aligned}$

Question 8

Suppose a U.S.firm buys $200,000 worth of stereo speaker wire from a Mexican manufacturer for delivery in 60 days with payment to be made in 90 days (30 days after the goods are received).The rising U.S.deficit has caused the dollar to depreciate against the peso recently.The current exchange rate is 5.50 pesos per U.S.dollar.The 90-day forward rate is 5.45 pesos/dollar.The firm goes into the forward market today and buys enough Mexican pesos at the 90-day forward rate to completely cover its trade obligation.Assume the spot rate in 90 days is 5.30 Mexican pesos per U.S.dollar.How much in U.S.dollars did the firm save by eliminating its foreign exchange currency risk with its forward market hedge?

Accepted Answer

Obligation is for 200,000 F1F1F1S1F1F1F10 5.50 = 1,100,000 pesos.1,100,000/5.45 = cost of forward contract = $201,834.86.Spot rate in 90 days = 5.30 pesos per U.S.dollar.1,100,000/5.30 = cost of spot rate in 90 days = $207,547.17.Spot cost F1F1F1S1F1F1F10 forward cost = $207,547.17 F1F1F1S1F1F1F10 $201,834.86 = $5,712.31.

Question 9

A U.S.-based company,Stewart,Inc.,arranged a 2-year,$1,000,000 loan to fund a project in Mexico.The loan is denominated in Mexican pesos,carries a 10.0% nominal rate,and requires equal semiannual payments.The exchange rate at the time of the loan was 5.75 pesos per dollar,but it dropped to 5.10 pesos per dollar before the first payment came due.The loan was not hedged in the foreign exchange market.Thus,Stewart must convert U.S.funds to Mexican pesos to make its payments.If the exchange rate remains at 5.10 pesos per dollar through the end of the loan period,what effective interest rate will Stewart end up paying on the loan?

Accepted Answer

11ea42d0_c0a3_9c24_9abf_1ddb74879964_TB2090_00 
Financial calculator solution:
Calculate the required payments in Mexican pesos:
Inputs: N = 4; I/YR = 5; PV = F1F1F1S1F1F1F105,750,000; FV = 0.Output: PMT = 1,621,568 MP.1,621,568 Mexican pesos are needed on each payment date.At the initial exchange rate of 5.75 pesos/US$,the payments are approximately US $282,012.Payment in U.S.dollars after conversion = 1,621,568 pesos/(5.75 FF/US$)= $282,011.83.However,at an exchange rate of 5.10 pesos/US$,the cost to the firm in US$ increases to 1,621,568/5.10 = $317,954.51 F1F1F1S1F1F1F10 $317,955.Calculate nominal annual interest rate on loan:
Inputs: N = 4; PV = F1F1F1S1F1F1F101,000,000; PMT = 317,955; FV = 0.Output: I/YR = 10.36% semiannual rate.Annual nominal rate = 10.36(2)= 20.72%.Calculate effective annual rate:
Inputs: P/YR = 2; NOM% = 20.72.Output: EFF% = 21.79%.

Quiz 17: Multinational Financial Management

Suppose a carton of hockey pucks sell in Canada for 105 Canadian dollars,and 1 Canadian dollar equals 0.71 U.S.dollars.If purchasing power parity (PPP) holds,what is the price of hockey pucks in the United States?

A box of chocolate candy costs 28.80 Swiss francs in Switzerland and $20 in the United States.Assuming that purchasing power parity (PPP) holds,what is the current exchange rate?

A product sells for $750 in the United States.The exchange rate is $1 to 1.65 Swiss francs.If purchasing power parity (PPP) holds,what is the price of the product in Switzerland?