Unit 2 Module 8

Question 1

What is a multinational corporation (MNC)?

Answer 1

A large corporation with economic activities in several countries

MNCs operate in both home and host countries.

Question 2

What are home countries in the context of multinational corporations?

Answer 2

Countries where the corporate, administrative, and/or head offices are based

Home countries lead global operations.

Question 3

What are host countries?

Answer 3

Countries where additional functions or lines of business of a multinational corporation operate

Host countries are extensions of the home country.

Question 4

What taxes must multinational corporations typically pay?

Answer 4

Income and other applicable taxes in each country where they operate

Home countries may impose additional taxes on foreign-derived income.

Question 5

How can home countries offset additional taxes on foreign-derived income?

Answer 5

By using a credit based on the amount of foreign taxes paid

This reduces the tax burden on MNCs.

Question 6

What is Foreign Direct Investment (FDI)?

Answer 6

The primary manner by which multinational corporations create activities in foreign countries.
Occurs when a company or individual residing in one country invests in business interests located in another country
Generally, FDI takes place when an investor either establishes foreign business operations or acquires foreign business
assets in a foreign company

Question 7

What are the benefits of FDI to the host country?

Answer 7

1. Increased employment and economic growth
2. development of human capital
3. enhanced efficiency and effectiveness of the industry
4. Increased Exports
5. Improved Stability of Exchange Rates
6. Improved Physical and Financial Infrastructure of a Country
7. Improved Inflows of Financial Capital

These benefits contribute to overall economic improvement.

Question 8

How does increased employment benefit the host country?

Answer 8

Employed individuals generate income, pay taxes, and increase consumer spending

This leads to economic expansion and growth.

Question 9

What is the multiplier effect in human capital development?

Answer 9

The enhanced access to training and new job opportunities leads to broader economic benefits

It positively impacts the local workforce and economy.

Question 10

How can FDI enhance the efficiency of industries in the host country?

Answer 10

By transferring knowledge, advanced technologies, and improving industrial practices

This results in better productivity and trade networks.

Question 11

What impact does increased exports from a host country have?

Answer 11

It may improve the host country’s balance of trade

A favorable balance of trade indicates a strong economy.

Question 12

How does FDI improve the stability of exchange rates?

Answer 12

By increasing foreign currency reserves through exports

Stable exchange rates are crucial for economic stability.

Question 13

What role does FDI play in improving a host country’s infrastructure?

Answer 13

It leads to increased tax revenues that can be reinvested in development projects

Improved infrastructure supports long-term economic growth.

Question 14

How can foreign direct investments provide financial capital to host countries?

Answer 14

They can provide funds to countries lacking access to international financial markets

This is essential for economic development and stability.

Question 15

What is one benefit of a multinational corporation (MNC) accessing new markets?

Answer 15

Increased sales and profits due to more customers for its products or services.

Manufacturing and selling goods in the host country may allow the MNC to avoid host-country trade barriers and trade restrictions.

Question 16

How does investing in foreign affiliated companies help reduce portfolio risk for an MNC?

Answer 16

Allows diversification and better management of total risk.

Question 17

What advantage does an MNC gain by operating in an emerging market?

Answer 17

Ability to operate as a monopoly until competition enters, boosting overall return on investment.

Question 18

What is one way an MNC can access lower costs in foreign countries?

Answer 18

Access to labor and materials at rates lower than those available in the home country.

Question 19

What is a natural hedge in the context of an MNC’s operations?

Answer 19

Mitigation of exchange rate risk by using local currency for transactions.

Question 20

How can payables and receivables matching eliminate exchange rate risks?

Answer 20

By matching the maturity of payables and receivables.

Question 21

What is one risk faced by an MNC when investing in foreign operations?

Answer 21

Potential for political instability.

Question 22

List three risks associated with multinational operations.

Answer 22

• Expropriation of assets
• Cultural unfamiliarity
• Government bureaucracy

Question 23

What do exchange rates express?

Answer 23

The price of one currency in terms of another.

Question 24

What is the direct method of calculating exchange rates?

Answer 24

The domestic price of one unit of another currency.

Question 25

What does the indirect method of exchange rates represent?

Answer 25

The foreign price of one unit of the domestic currency.

Question 26

What drives demand for a currency in the currency market?

Answer 26

Demand for the products and services of the country that issued the currency.

Question 27

What are floating exchange rates established by?

Answer 27

Supply and demand in currency markets.

Question 28

How are fixed exchange rates maintained?

Answer 28

By government or central bank policy through the purchase or sale of the domestic currency.

Question 29

What happens when the market exchange rate falls below the fixed rate?

Answer 29

The government purchases the home currency, increasing demand and exchange rate.

Question 30

What is a managed float in the context of exchange rates?

Answer 30

A system where exchange rates are primarily determined by supply and demand, with government intervention during extreme fluctuations.

Question 31

True or False: Fixed exchange rates mean that the government has no influence over currency value.

Answer 31

False.

Question 32

Fill in the blank: If the currency’s value drops too much, the government ______ to make it stronger.

Answer 32

buys its own money.

Question 33

Fill in the blank: If the currency’s value rises too much, the government ______ to make it weaker.

Answer 33

sells its money.

Question 34

What defines the value of assets, liabilities, and operating transactions within domestic environments?

Answer 34

A single currency.

Question 35

What is exchange rate (FX) risk?

Answer 35

The risk that the relationship between domestic and foreign currencies may be subject to volatility.

Question 36

What are the trade-related factors influencing exchange rates?

Answer 36

* Differences in inflation * Differences in income * Government regulation

Question 37

How does relative inflation affect exchange rates?

Answer 37

When domestic inflation exceeds foreign inflation, demand for foreign currency increases, raising its value.

Question 38

What happens to exchange rates as income increases in one country relative to another?

Answer 38

Exchange rates change due to increased demand for foreign currencies.

Question 39

What are government controls in the context of exchange rates?

Answer 39

Trade and exchange barriers that artificially suppress the natural forces of supply and demand.

Question 40

What financial factors influence exchange rates?

Answer 40

* Differences in interest rates * Restrictions on capital movements

Question 41

What is transaction exposure?

Answer 41

The potential for economic loss or gain upon settlement of individual transactions due to exchange rate changes.

Question 42

How is transaction exposure generally measured?

Answer 42

In two steps: 1. Project foreign currency inflows and outflows. 2. Estimate the variability associated with the foreign currency.

Question 43

What is economic exposure?

Answer 43

The potential that the present value of an organization's cash flows could increase or decrease due to changes in exchange rates.

Question 44

What effect does currency appreciation have on domestic currency value?

Answer 44

It becomes more expensive in terms of a foreign currency, increasing the volume of inflows.

Question 45

What is translation exposure?

Answer 45

The risk that financial results of a consolidated organization with foreign subsidiaries will change due to exchange rate changes.

Question 46

What factors define translation exposure?

Answer 46

* Degree of foreign involvement * Location of foreign subsidiaries * Accounting methods used

Question 47

How can financial instruments mitigate transaction exposure?

Answer 47

They can reduce the effect of exchange rate fluctuations.

Question 48

What is net transaction exposure?

Answer 48

The amount of gain or loss that might result from either a favorable or an unfavorable settlement of a transaction

Question 49

What is selective hedging?

Answer 49

A process of reducing uncertainty of future value by engaging in various derivative investments.

Question 50

What are operational methods to reduce exchange rate risk?

Answer 50

* Aligning cash inflows with outflows * Adjusting payment terms with customers

Question 51

What is a currency future?

Answer 51

A commitment to purchase or sell a specific number of currency units for a negotiated price on a certain date. | used for infrequent or small transactions denominated in a foreign curre

Question 52

What is a currency swap?

Answer 52

A series of currency forwards used to mitigate exchange rate risk in longer-term transactions.

Question 53

What is a currency option hedge?

Answer 53

An option that allows the holder to execute a transaction at a future date without a commitment.

Question 54

What is the purpose of a call option in currency option hedges?

Answer 54

To mitigate transaction exposure for payables by allowing the purchase of foreign currency at a low rate.

Question 55

What is the purpose of a put option in currency option hedges?

Answer 55

To mitigate transaction exposure for receivables by allowing the sale of foreign currency at a higher rate.

Question 56

What is economic exposure defined as?

Answer 56

The degree to which cash flows of a business can be affected by fluctuations in exchange rates.

Question 57

What is one technique to mitigate economic exposure?

Answer 57

Restructuring sources of income and expense. ## Footnote -- Decreases in Sales: A company fearful of a depreciating foreign currency may elect to reduce foreign sales to preserve cash flow. ─ Increases in Expenses: A company anticipating a depreciating foreign currency may elect to increase reliance on those suppliers to take advantage of paying for raw materials or supplies with cheaper currency.

Question 58

What is cross-border factoring?

Answer 58

Selling receivables to a third party (Factor) to ensure cash collections and expedite cash flows. | Commercial banks, commercial finance companies, and specialty finance ho ## Footnote The risk of default is assumed by the factor, which mitigates the risk associated with the creditworthiness of the importers

Question 59

What is the role of letters of credit?

Answer 59

A Letter of Credit (LC) is a promise made by a bank to pay a seller (exporter) on behalf of a buyer (importer), as long as certain conditions are met (like showing proof of shipping goods ## Footnote Issuing Bank – The buyer’s bank that promises to pay the seller. Advising Bank – The seller’s bank that helps process the letter and ensures everything is in order.

Question 60

What is a banker's acceptance?

Answer 60

A negotiable instrument that is similar to a postdated check, except that it is guaranteed by the bank rather than the account holder Can be used as a bank-backed payment for large transactions, and may be either collected at the specified time or sold in the money market at a discount

Question 61

What does forfaiting represent?

Answer 61

A credit facility for importers of higher-priced capital goods that may be financed over several years ## Footnote How does it work? The buyer agrees to pay the seller over time, using a promissory note (a written promise to pay later). The seller doesn’t want to wait for years to get all the money. So, the seller sells the promissory note to a forfaiting bank (kind of like a factoring company). The forfaiting bank gives the seller cash upfront—at a discounted amount (it keeps a small fee for the service). The forfaiting bank now waits and collects the payments from the buyer over the years. Why it’s safe: The forfaiting bank protects itself by requiring guarantees (like a letter of credit) from the buyer’s bank, so it knows it will get the money even if the buyer doesn't pay. Forfaiting is particularly useful for large transactions, often exceeding $500,000.

Question 62

What characteristics do forfaiting transactions share?

Answer 62

They share characteristics of factoring and use the transaction mechanics of letters of credit ## Footnote This allows for secure financing and cash flow management.

Question 63

What is the typical value of capital goods involved in forfaiting?

Answer 63

Generally in excess of $500,000 ## Footnote This threshold indicates the scale of transactions suitable for forfaiting.

Question 64

What does forfaiting mitigate?

Answer 64

The extra risk from the extended payment terms ## Footnote Extended payment terms can pose financial risks to exporters.

Question 65

What does the seller (exporter) do in a forfaiting transaction?

Answer 65

Sells the promissory note to a forfaiting bank for discounted proceeds ## Footnote This ensures immediate cash collection for the exporter.

Question 66

How does the forfaiting bank seek collection from the importer?

Answer 66

Through a prearranged, collateralized agreement using bank guarantees or letters of credit ## Footnote This process secures the bank's position in the transaction.

Question 67

What is countertrade?

Answer 67

The mutual exchange of goods in bartering arrangements or the purchase of goods through clearing houses ## Footnote Countertrade can involve either partial or full compensation arrangements.

Question 68

What does bartering involve?

Answer 68

The exchange of goods without monetary compensation ## Footnote This method of trade can simplify transactions in certain markets.

Question 69

Give an example of a bartering transaction.

Answer 69

Agricultural products from Canada might be exchanged for seafood harvested in Peru ## Footnote This illustrates how different countries can trade goods directly.

Question 70

What do compensation arrangements represent?

Answer 70

The guaranteed purchase of goods paid for with currency ## Footnote These arrangements can help stabilize trade relationships.

Question 71

What is an example of a full compensation transaction?

Answer 71

Agricultural products from Canada purchased by a Peruvian company with the understanding of reciprocal purchases ## Footnote This ensures that both parties benefit from the trade.

Question 72

What is the difference between full and partial compensation?

Answer 72

Full compensation involves equal value exchange, while partial compensation involves different amounts ## Footnote This can affect the negotiation dynamics between trading partners.