Chapter 17, Problem 18SP

MULTINATIONAL FINANCIAL MANAGEMENT Yohe Telecommunications is a multinational corporation that produces and distributes telecommunications technology. Although its corporate headquarters are located in Maitland, Florida, Yohe usually buys its raw materials in several different foreign countries using several different foreign currencies. The matter is further complicated because Yohe often sells its products in other foreign countries. One product in particular, the SY-20 radio transmitter, draws Component X, Component Y, and Component Z (its principal components) from Switzerland, France, and the United Kingdom, respectively. Specifically, Component X costs 165 Swiss francs Component V costs 20 euros, and Component Z costs 105 British pounds. The largest market for the SY-20 is Japan, where the product sells for 50,000 Japanese yen. Naturally. Yohe is intimately concerned with economic conditions that could adversely affect dollar exchange rates. You will find Tables 17.1, 17.2, and 17.3 useful for completing this problem.

1. a. How much in dollars docs it cost Yohe to produce the SY-20? What is the dollar sale price of the SY-20?
2. b. What is the dollar profit that Yohe makes on the sale of the SY-20? What is the percentage profit?
3. c. If the U.S. dollar was to weaken by 10% against all foreign currencies, what would be the dollar profit for the SY-20?
4. d. If the U.S. dollar was to weaken by 10% only against the Japanese yen and remained constant relative to all other foreign currencies, what would be the dollar and percentage profits for the SY-20?
5. e. Using the 180-day forward exchange information from Table 173, calculate the return on 1-year securities in Switzerland assuming the rate of return on 1-year securities in the United States is 4.9%.
6. f. Assuming that purchasing power parity (PPP) holds, what would be the sale price of the SY-20 if it was sold in the United Kingdom rather than Japan?

Summary Introduction

To determine: The cost and sale price of SY-20 in dollars.

Introduction:

Exchange Rate:

The exchange rate is therate, which indicates the conversion rate for currency of a country which can be get in exchange of currency of another country.

Explanation of Solution

Refer table number 17.1 for exchange rates of given currencies in term of the US dollars.

Product cost:

Currencies	Units of Foreign currency	US dollars required to buy one unit of given currency	US dollars required to buy components $\left(\text{Exchange rate}\times \text{Foreign currency}\right)$
Swiss francs	165	$1.0636	$175.494
Euros	20	$1.0993	$21.986
British pounds	105	$1.5290	$160.545
Product cost			$358.025

Sale price:

Formula to calculate sale price in dollars:

$\text{Sale price}\left(\$\right)=\text{Sale price}\left(\text{yen}\right)\times \text{Exchange rate}$

Substitute 50,000 yen for sale price in yen (given), and $0.00806 for exchange rate (refer table 17.1) in the above formula,

$\begin{array}{c}\text{Sale price}\left(\$\right)=50,000\text{ yen}\times 0.00806\\ =\$403\end{array}$

The selling price of the product in dollars is $403.

Conclusion

Hence, the product cost and sale price in terms of dollars are $358.025 and $403 respectively.

Summary Introduction

To determine: The profit earned by sale of SY-20 in dollars and its percentage.

Introduction:

Currency Depreciation:

It indicates the negative (decrease) change in the currency’s value in reference of any other currency due to some factors such as change in government policies, and fluctuation in interest rates.

Explanation of Solution

Refer part a,

The product cost is $358.025.

The sale price of product is $403.

Profit:

Formula to calculate profit:

$\text{Profit}=\text{Sale price}-\text{Product cost}$

Substitute $403 for sale price, and $358.025 for product cost in the above formula.

$\begin{array}{c}\text{Profit}=\$403-\$358.025\\ =\$44.975\end{array}$

Profit percentage:

Formula to calculate profit percentage:

$\text{Profit}\left(\%\right)=\frac{\text{Profit}}{\text{Product cost}}\times 100$

Substitute $44.975 for profit, and $358.025 for product cost in the above formula.

$\begin{array}{c}\text{Profit}\left(\%\right)=\frac{\$44.975}{\$358.025}\times 100\\ =12.562\%\end{array}$

Conclusion

The amount of profit earned is $44.975, and profit percentage is 12.562%.

Summary Introduction

To determine: The amount of profit after dollar depreciate by 10%.

Introduction:

Currency Depreciation:

It indicates the negative (decrease) change in the currency’s value in reference of any other currency due to some factors such as change in government policies, and fluctuation in interest rates.

Explanation of Solution

Currencies	Units of foreign currency	US dollars required to buy one unit of given currency $\left(\text{Exchange rate}\times 1.10\right)$	US dollars required to components $\left(\text{Exchange rate}\times \text{Foreign currency}\right)$
Swiss francs	165	$\left(\begin{array}{l}\$1.0636\times 1.10\\ =\$1.16996\end{array}\right)$	$\left(\begin{array}{l}\$1.16996\times 165\\ =193.0434\end{array}\right)$
Euros	20	$\left(\begin{array}{l}\$1.0993\times 1.10\\ =\$1.20923\end{array}\right)$	$\left(\begin{array}{l}\$1.20923\times 20\\ =\$24.1846\end{array}\right)$
British pounds	105	$\left(\begin{array}{l}\$1.5290\times 1.10\\ =\$1.6819\end{array}\right)$	$\left(\begin{array}{l}\$1.6819\times 105\\ =\$176.5995\end{array}\right)$
Product cost			$393.8275

Sale price:

Formula to calculate sale price in dollars:

$\text{Sale price}\left(\$\right)=\text{Sale price}\left(\text{yen}\right)\times \text{Exchange rate}$

Substitute 50,000 yen for sale price in yen (given), and $0.008866 for exchange rate (working note) in the above formula.

$\begin{array}{c}\text{Sale price}\left(\$\right)=50,000\text{ yen}\times \$0.008866\\ =\$443.3\end{array}$

The selling price of the product in dollars is $393.498.

Profit:

Formula to calculate profit:

$\text{Profit}=\text{Sale price}-\text{Product cost}$

Substitute $443 for sale price, and $393.83 for product cost in the above formula.

$\begin{array}{c}\text{Profit}=\$443.3-\$393.83\\ =\$49.47\end{array}$

Working note:

Formula to calculate new exchange rate of yen,

$\begin{array}{c}\text{Depreciated exchange rate of yen}=\text{Old exchange rate of yen}\times 1.10\\ =\$0.00806\times 1.10\\ =\$0.008866\end{array}$

Conclusion

Hence, the amount of profit after dollar depreciates by 10% is $49.47.

Summary Introduction

To determine: The amount of profit earned in terms of dollars and its percentage (when dollar weaken by 10% for yen only).

Explanation of Solution

Refer table number 17.1 for exchange rates of given currencies in term of the US dollars.

Product cost:

Currencies	Units of Foreign currency	US dollars required to buy one unit of given currency	US dollars required to buy components $\left(\text{Exchange rate}\times \text{Foreign currency}\right)$
Swiss francs	165	$1.0636	$175.494
Euros	20	$1.0993	$21.986
British pounds	105	$1.5290	$160.545
Product cost			$358.025

The sale price of product in dollar (after weaken by 10%) is $443.3 (refer part c).

Profit:

Formula to calculate profit:

$\text{Profit}=\text{Sale price}-\text{Product cost}$

Substitute $443.3 for sale price, and $358.025 for product cost in the above formula.

$\begin{array}{c}\text{Profit}=\$443.3-\$358.025\\ =\$85.275\end{array}$

Profit percentage:

Formula to calculate profit percentage:

$\text{Profit}\left(\%\right)=\frac{\text{Profit}}{\text{Product cost}}\times 100$

Substitute $85.275 for profit, and $358.025 for product cost in the above formula.

$\begin{array}{c}\text{Profit}\left(\%\right)=\frac{\$85.275}{\$358.025}\times 100\\ =23.82\%\end{array}$

Conclusion

The amount of profit earned is $85.275, and profit percentage is 23.82%.

Summary Introduction

To determine: the rate of return of securities in S country.

Introduction:

Interest Rate Parity:

It refers to that theory which indicates the difference of interest rates provided by two different countries is to be same as the difference of two types of exchange rate which are: the forward exchange rate and the spot exchange rate.

Explanation of Solution

Given information:

The interest rate of securities in U is 4.9% or 0.049.

The spot exchange rate is 0.9247.

The 180-forward exchange rate is 0.9228.

Equation of interest rate parity,

$\frac{\text{Forwad exchange rate}}{\text{Spot exchange rate}}=\frac{\left(1+{\text{r}}_{\text{h}}\right)}{\left(1+{\text{r}}_{\text{f}}\right)}$

Where,

• ${\text{r}}_{\text{h}}$ is interest rate of securities in U.
• ${\text{r}}_{\text{f}}$ is interest rate of securities in S.

Substitute 0.9247 for spot exchange rate, 0.9228 for forward exchange rate, and 0.049 for ${\text{r}}_{\text{h}}$ in the above formula.

$\begin{array}{l}\frac{0.9328}{0.9402}=\frac{\left(1+0.049\right)}{\left(1+{\text{r}}_{\text{f}}\right)}\\ 0.992123=\frac{\left(1.049\right)}{\left(1+{\text{r}}_{\text{f}}\right)}\\ {\text{r}}_{\text{f}}=1-\frac{\left(1.049\right)}{0.992123}\\ \text{r}=0.0573\text{ or }5.73\%\end{array}$

Conclusion

Hence, rate of return of securities in S country is 5.73%.

Summary Introduction

To determine: The price of product in U country (British pounds).

Introduction:

Purchasing Power Parity (PPP):

It refers to that relationship which indicates the same cost of s same kinds of products in the market of various countries after adjustment of exchange rates of currencies. This relationship of common price can be termed as the law of one price.

Explanation of Solution

Given information:

The cost of product in the J country is 50,000 yen.

The spot exchange rate of the one British pound in yen is 189.8101.

Equation for purchasing power parity,

$\left({\text{P}}_{\text{h}}\right)=\left({\text{P}}_{\text{f}}\right)\times \text{Spot rate}$

Where,

• ${\text{P}}_{\text{h}}$ is price of product in home country.
• ${\text{P}}_{\text{f}}$ is price of product in foreign country.

Assume the home country in the given situation is the U Country.

Substitute 50,000 yen for ${\text{P}}_{\text{h}}$, 189.8101 for spot rate in the above formula.

$\begin{array}{c}50,000\text{ yen}=\left({\text{P}}_{\text{f}}\right)\times 189.8101\\ {\text{P}}_{\text{f}}=\frac{50,000\text{ yen}}{150.2243}\\ =332.836\text{ British pounds }\end{array}$

Conclusion

Hence, the price of product in the U country is 332.836 British pounds.