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ABC Inc, a US-based firm, is in the process of internationalizing its operations. As a result of such internationalization, the company’s net income will increase on average but will become exposed to FX risk. Specifically, the company net income will tend to decrease if the US dollar appreciates relative to other currencies. There is an internal debate within the company. The CEO does not want to hedge FX exposure using derivatives because he believes the dollar will depreciate substantially over the next few years. On the other hand, the CFO wants to hedge FX exposure using derivatives because he believes investors will dislike a potential increase in the volatility of the firm’s net income resulting from FX fluctuations.
ABC Inc. contacted you, a consultant known to be straight-shooter, to help resolve their internal debate. He briefed you on the information on the paragraph above. The CEO has scheduled an emergency meeting on the same day he first contacted you, so there is no time for you to do your homework and learn as much as you can about their business. “Please come by our headquarters today at 5 pm. We desperately need guidance on how to think about a hedging policy, as the CFO and I have opposite stances. Feel free to ask us anything you want to know about our business during the meeting, I know you won’t have time to look at our financials and etc., and of course you don’t know anything about the ongoing internationalization”.
1) What would you, a straight-shooter, tell the CFO and CEO about their views on the hedging policy using FX derivatives?
2) Prepare at least four questions to ask them during the meeting. The questions must be directly relevant about the decision whether or not to hedge FX exposure resulting to the ABC’s internationalization using derivatives. Separatly explain why the anwer to each question is relevant for the hedging decision.