Question

Vixor Co. is a U.S. firm conducting a financial plan for the next year. It has no foreign subsidiaries, but more than half of its sales are from exports. Its foreign cash inflows to be received from exporting and cash outflows to be paid for imported supplies over the next year are shown in the following table:

Currency	Total Inflow	Total Outflow
Candian Dollar (C$	C$40,000,000	C$10,000,000
New Zealand Dollar (NZ$)	NZ$5,000,000	NZ$1,000,000
Mexican Peso (MXP)	MXP11,000,000	MXP5,000,000
Singapore Dollar (S$)	S$4,000,000	S$8,000,000

The spot rates and one-year forward rates as of today are shown below:

Currency	Spot Rate	One-Year Forward Rate
C$	$.70	$.73
NZ$	$ .60	$.59
MXP	$.04	$.03
S$	$.69	$.68

1. Vixor Co. recognizes that its year-to-year hedging strategy hedges the risk only over a given year but does not insulate it from long-term trends in the Canadian dollar’s value. It has considered establishing a subsidiary in Canada. The goods would be sent from the United States to the Canadian subsidiary and distributed by the subsidiary in Canada. In this way, Vixor Co. would not have to convert Canadian dollars to U.S. dollars each year. Has Vixor eliminated its exposure to exchange rate risk by using this strategy? Explain.

Answer 1

Let's calculate net flows:

Currency	Total Inflow	Total Outflow	NET
Candian Dollar (C$	C$40,000,000	C$10,000,000	C$ 30,000,000 inflow
New Zealand Dollar (NZ$)	NZ$5,000,000	NZ$1,000,000	NZ$ 4,000,000 inflow
Mexican Peso (MXP)	MXP11,000,000	MXP5,000,000	MXP6,000,000 inflow
Singapore Dollar (S$)	S$4,000,000	S$8,000,000	S$4,000,000 outflow

As it can be seen from table above, the company receives inflows from 3 countries, Canada, NZ, and Mexico. (and not just from Canada)

Even if the company establishes a subsidiary in Canada, it will not insulate itself completely from exchange rate fluctuations of NZ$, MXP and S$ against C$.

However, since majority of cash inflows are in C$, the company will definitely reduce its excahnge rate risk of fluctuating USDv/s C$ rate using this strategy.