Download esm09_operating exposure

Operating Exposure
Long-term risk affecting firm value
Managing operating exposure
May 23, 2017
Operating Exposure
1
Operating exposure
 exposure to changes in the PV of the
firm
t

 NCFt 
P0  


t 1
1  k wacc 
 Net Cashflows come from the Income
Statement
May 23, 2017
Operating Exposure
2
Income Statement
Revenues
(Cost of goods sold)
(Operating costs)
(Capital cost allowances)
Incidental income
Incidental expenses
(Taxes)
Net Income
May 23, 2017
Operating Exposure
3
Profit variables
R

Pusd  ecd ,usd  Q
Labour Costs
COGS
Input prices
Overhead
Operating Costs
Administrative costs
May 23, 2017
Operating Exposure
4
Equilibrium case
 exchange rates accommodate
changes in relative inflation
 relatively low inflation countries
 exchange rate appreciates
 to accommodate relative inflation
 transaction exposure can be hedged
 volatility
May 23, 2017
Operating Exposure
5
Disequilibrium case
 potential changes in real exchange rates
 assume real exchange rate appreciates
 Canadian dollar buys more in real terms
 transactions exposure is hedged
 typically 90 days forward
 Continuing exposure beyond 90 days
cannot be hedged
 revenues will decrease (Canadian exports)
 (and) costs will decrease (Canadian imports)
May 23, 2017
Operating Exposure
6
Causes of disequilibrium
 governmental intrusion in normal
goods market activity
 tariffs
 quotas
 subsidies
 governmental capital restrictions
 movement of capital out of the country
 exchange market restrictions
May 23, 2017
Operating Exposure
7
Tariffs
Pe
Qe
May 23, 2017
Operating Exposure
8
Tariffs
 marginal cost curve the supply curve
 equilibrium where marginal cost equals
marginal revenue
 marginal costs curve shifts outward
 new equilibrium
 higher import prices renders them noncompetitive
May 23, 2017
Operating Exposure
9
Quotas
Pe
Qe
May 23, 2017
Operating Exposure
10
Quotas
 government mandates limit to supply
 creates a vertical supply curve
 well short expected market equilibrium
 higher prices for imported products
 new equilibrium
 higher import prices renders them noncompetitive
May 23, 2017
Operating Exposure
11
Subsidies
Pe
Qe
May 23, 2017
Operating Exposure
12
Subsidies
 Government gives cost advantage
 direct subsidy
 grants
 seed money
 indirect subsidy
 tax breaks/incentives
 lowers marginal costs to domestic
firm
 more competitive relative to foreign
competition
May 23, 2017
Operating Exposure
13
Regulatory intrusion
 restrict products for non-compliance
 labour laws
 environmental laws
 safety laws
 create bureaucratic barriers
 licensing
 customs declarations
 official delays
May 23, 2017
Operating Exposure
14
Monetary policy affects
 monetary policy, high relative inflation
 exchange rate depreciation
 high volatility
 higher costs of hedging
 exchange rate policy, high relative inflation
 frequent exchange market intervention
 attempts to peg
 frequent devaluations
 capital controls
May 23, 2017
Operating Exposure
15
Fiscal policy affects
 high deficits
 financing costs increase country risk
 higher interest rates
 exchange rate depreciation
 increased exchange rate volatility
 adds to normally high debt load
 higher taxes
 higher political risk
May 23, 2017
Operating Exposure
16
Managing Operating exposure diversification
 diversifying operations
 multicountry sales
 multicountry production
 outsourcing
 diversifying financing
 reduce WACC
May 23, 2017
Operating Exposure
17
Managing operating exposure changing operating procedures
 leads/lags
 risk sharing
 Re-invoicing centers
 this is really transaction exposure
 matching currency flows
 loan in foreign currency
 seek inputs invoiced in foreign currency
 swaps
May 23, 2017
Operating Exposure
18
Operating exposure
real exchange rate changes
 domestic firms with domestic market
 international competition
 real exchange rate changes affect
competitiveness
 Canadian firms used to undervalued
dollars
 exporters don’t have to compete hard
 assume cd appreciates in real terms
 Canadian exports become more expensive
 foreign imports become less expensive
May 23, 2017
Operating Exposure
19