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Homework answers / question archive / Kanab Co
Kanab Co. and Zion Co. are U.S. companies that engage in much business within the U.S. and are about the same size. They both conduct some international business as well.
Kanab Co. has a subsidiary in Canada that will generate earnings of about C$20 million in each of the next 5 years. Kanab Co. also has a U.S. business that will also receive about C$1 million (after costs) in each of the next 5 years as a result of exporting products to Canada that are denominated in Canadian dollars.
Zion Company has a subsidiary in Mexico that will generate earnings of about 1 million pesos in each of the next 5 years. Zion Co. also has a business in the U.S. that will receive about 300 million pesos (after costs) in each of the next 5 years as a result of exporting products to Mexico that are denominated in Mexican pesos.
The salvage value of Kanab's Canadian subsidiary and Zion's Mexican subsidiary will be zero in 5 years. The spot rate of the Canadian dollar is $.60 while the spot rate of the Mexican peso is $.10. Assume the Canadian dollar could appreciate or depreciate against the U.S. dollar by about 8% in any given year, while the Mexican peso could appreciate or depreciate against the U.S. dollar by about 12% in any given year.
Which company is subject to a higher degree of translation exposure? Explain.
Spot rate of Canadian Dollar = $0.60
Spot rate of Peso = $0.10.
In 1st year
Earning of Kanab Co. in C$= 20+1 = C$21 million
Change in spot rate at the end of year = 0.60*0.08
= C$0.048
Total change in value of earning = 21*0.048
= $ 1.008 million
For Zion's,
Total change in value of Earning = (1+300) * 0.10*0.12
= $3.612 million
Similarly for 5 years year.
