Transaction risk is one of the major risks faced by global business. Assume that you are an exporter of raw materials for the Apple Airpod 2 and you are paid in USD. Discuss approaches that you could take to hedge against currency risk and include the pros and cons of each. What qualitative consideration should you consider? Thoroughly but concisely discuss considerations when hedging this risk.

 It is important to understand that multinational companies do face currency risks; especially any kind of investment is made by them or even when any other routine type of transactions being made. The foreign exchange rate can be a major factor in this regard because the exchange rate may change for different countries making an impact on the profits of the company. There are different approaches used to deal with currency risk. One approach is called the options contract. In this approach, the exchange rate risk is effectively managed by locking the exchange rate for a given predetermined period. One of the biggest pros of the options contract is that there is great potential to earn high returns. The price movement along with volatility is managed in an efficient manner. But there is one major con as well, that options contract can be worthless in a short period of time. So, this strategy cannot be adopted for the long term. The other approach to deal with currency risk is a forward contract. In this approach, the risk is managed by keeping a fixed date and price, while selling or buying an asset. The contract will outline all the essentials of the contract in a specified manner. The best advantage of the forward contract is its element of certainty, which is a great thing to have in investment activity. The disadvantage of the forward contract is the fact that if Dollar value can go down, then your investment is protected, but what if Dollar price increases, then you will lose a lot of potential benefits. So, every qualitative factor along with the quantitative factor should be measured by the investors and exporters to be on the safe side.

Part 2
Discuss how capital budgeting differs between domestic-only and multinational corporations. Briefly describe the two approaches we used for a multinational corporation and how they determine whether or not you would accept or reject a project.

            There are a variety of differences to distinguish the capital budget between the multinational and domestic-only corporations. One of the first differences is its tax & legal regulations. It is an important thing to understand that when a domestic-only corporation is doing its capital budgeting, then they will have fewer rules and regulations to follow. On the other hand, a multinational corporation will have to comply with a variety of tax & legal elements. They will have to fulfill all the requirements, otherwise, they cannot continue with their business activities. The other major difference is in the reporting of financial matters. The Generally Accepted Accounting Principles (GAAP) is followed by a domestic corporation, but when a foreign multinational corporation does the capital budgeting for its business; it will have to show compliance with a variety of accounting rules. So, the interpretation of the financial report will be different for both. One more vital difference is the difference in borrowing costs. When a domestic corporation will try to invest in the local market, then they can get loans from a local bank, but when a multinational corporation has to take the loan from the bank of the foreign country, then there will be various issues to keep in a context such as the exchange rate. The currency risk is also one of the viable differences. The two most commonly used capital budgeting approaches are internal rate of return (IRR), and net present value (NPV), which can help to determine whether a project should be accepted or rejected.

Part 3
Define leverage. Discuss why some firms have higher leverage than other firms. Within a multinational corporation, should subsidiaries have similar or different leverage ratios? Why?

            It is important to understand what leverage is before analyzing the firms with higher or lower leverages. In simple terms, leverage is the ability of a firm to use debt so that additional assets can be acquired. It is a fact that both firms and investors tend to have leverage when they have the purpose of generating great returns in relation to their actual assets. But one should know that success is never guaranteed by using the essence of leverage. It is vital to know that organizations going through the early stages of their business when they are trying to grow big; then this stage asks them to have more financing opportunities. The leverage of such firms is higher because they are arranging funds to acquire more assets. On the other hand, when organizations have reached stable and mature stage of their business and earned great success, then they don’t need debts to acquire more assets, rather they have their own assets. That’s why, leverage of such firms will be considered lower. The firms, which need loans and investments to move forward, will be highly leveraged. As far as multinational corporations are concerned, they can have a variety of subsidiaries, and each subsidiary can be associated with a different industry. So, when leverage ratio will be similar for all subsidiaries, then they will observe an increase in their overall costs. That’s why it is not recommended for subsidiaries to have a similar leverage ratio; rather they should have a different leverage ratio. Every subsidiary will have its own needs to meet, so leverage ratio should comply with those financial needs.

Part 4
We used the figure above to discuss the role of financial management and how it differs for a domestic-only corporation relative to a multinational corporation. Discuss what the four curves represent. How can managerial decisions shift these curves? Please cite specific managerial decisions and which curve they would affect.

            It is vital for every corporation to understand that when a variety of management decisions are made, they can come up with huge positive or negative results. So, every managerial decision made by the management should be well-planned and crafted to avoid any kind of inconvenience. These decisions have some serious financial implications for the organization. Every decision is going to make an impact on the sales, revenues, profitability, liquidity, as well as, financial leverage of the organization. In a curve of financial management, the decisions for domestic corporations are quite different from the multinational corporations, because both have distinguished implications. For instance, if a multinational corporation makes a decision, then it will have to make adjustments in its business being operated in different countries, which will take more time, resources, and planning to do so. On the other hand, if a domestic corporation has to make any decisions, then they will make it and can implement it as quickly as possible, as they don’t have too much to worry about. The broad business categories will have more to think of. If a managerial decision is made that all facilities of the corporations will stop using paper use to reduce paper waste, then these decisions will have financial and operational impact, as well as, costs.