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Why are foreign exchange rates important?

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Foreign exchange refers to money denominated in the currency of another country. The exchange rate is a price-the number of units of one nation's currency that must be surrendered in order to acquire one unit of another nation's currency. In the spot market, there is an exchange rate for every other national currency The forex market is essentially governed by the law of supply and demand and is generally not regulated by any government or coalition of governments. This is true in the U.S., where participation in the forex market is not regulated. The prices set for each country's money is determined by the desire of those trading to acquire more of it or to hold less of it. Each individual acts on the belief that he or she will benefit from the transaction.
According to the law of supply, as prices rise for a given item (in this case money), the quantity of the item that is supplied will increase; conversely, as the price falls, the quantity provided will fall. The law of demand states that as the price for an item rises, the quantity demanded will fall. As the price for an item falls, the quantity demanded will rise. It is the interaction of these ...

Solution Summary

The value of foreign exchange rates is emphasized.

Similar Posting

International accounting: which foreign exchange rates to use; MBI acquisition?

1. Foreign exchange rates are used to establish budgets and track actual performance. Of the various exchange rate combinations which do you favor? Why? Is your view the same when you add local inflation to the budgeting process?

2. You are the CFO of Marisa corporation a major electronics manufacture head quartered in Shelton, Connecticut. To date your company's operations have been confined to the US and you are interested in diversifying your operations overseas. On option would be to begin establishing wholly owned subsidiaries in Europe and South America and Asia. Another option is to acquire a multinational company that already has a major international presence you are leaning toward the latter course of action as you are interested in diversifying your company's operation risk and enhancing its bottom line as soon as possible. You also have significant stock option package and will benefit greatly if the price of Marissa Corporation's common stock were to rise over the next year.

You are particularly interest in MBI International, as US based multinational with operations in a significant number of countries. You estimate that approximately 60% of the company' earnings are from abroad. Foreign operations performance statistics, provided in MBI corporation's consolidated financial statements are included in Exhibit 10-13 for the years 2004-2003 and 2002. Relevant notes are also appended.

Unfortunately MBI does not disclose data explaining the movement of the major currencies in which it conducts its business. You do a Google search and uncover a trade weighted index supplied by the US government. Given MBI's large scale operations you decide to use the trade weighted index as a proxy for MBI's currency experience (see exhibit 10-14). (In using such a proxy you are assuming that the currency mix of MBI's activities parallel the currency mix in the trade weighted index)

Required On the basis of the information provided does MBI represent an attractive acquisition candidate?

(See attached file for charts)

Notes non US subsidiaries that operate in a local currency environment account for about 90% of the company's non US revenue. The remaining 10% of the company's non US revenue is from subsidiaries and branches that operate in the US dollar area or whose economic environments are highly inflationary.

AS the value of the dollar weakens net assets recorded in local currencies translate into more US dollars than they would have at the previous year's rates. Conversely as the dollar becomes stronger net assets recorded in local currencies translate in fewer US dollars than they would have at the previous year's rates. The translation adjustments resulting from the translation of net assets amounted to $3,277 million at December 31, 2004, $1,698 million at December 31, 2003 and $1,917 million at December 31, 2002. The changes in translation adjustments since the end of 2002 are a reflection of the strengthening of the dollar in 2003 and the weakening of the dollar in 2004

Exhibit 10-14 Dollars trade weighted exchange index 2002-2004
2002-2004 (1990=100)

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