CFM Treasury & Working Capital Management 2 — Questions and Answers
Question 1: What does foreign exchange (FX) transaction exposure refer to?
- The risk that foreign subsidiary financial statements will change value when translated
- The risk that exchange rate movements will affect the value of existing foreign currency-denominated contracts (Correct answer)
- The long-term competitiveness risk from currency movements
- The risk of political interference in cross-border payments
Correct answer: The risk that exchange rate movements will affect the value of existing foreign currency-denominated contracts
Transaction exposure arises from existing contracts denominated in foreign currency — if exchange rates move before settlement, the company's cash flows are affected.
Question 2: What is a forward contract used for in FX risk management?
- Purchasing foreign currency at the spot rate at a future date
- Locking in an exchange rate today for a future currency exchange, eliminating rate uncertainty (Correct answer)
- Speculating on future exchange rate movements
- Netting multicurrency payables and receivables
Correct answer: Locking in an exchange rate today for a future currency exchange, eliminating rate uncertainty
A forward contract obligates both parties to exchange currencies at a predetermined rate on a specified future date, eliminating FX uncertainty on a specific exposure.
Question 3: What is 'natural hedging' in FX risk management?
- Using derivatives to offset all currency exposures
- Matching foreign currency revenues with expenses in the same currency to reduce net exposure (Correct answer)
- Invoicing all international customers in US dollars
- Centralizing all FX transactions through a treasury center
Correct answer: Matching foreign currency revenues with expenses in the same currency to reduce net exposure
Natural hedging reduces FX exposure by structuring operations so that foreign currency inflows and outflows offset each other, reducing the net currency risk.
Question 4: Which metric best measures how efficiently a company manages its inventory?
- Days sales outstanding
- Days inventory outstanding (DIO) (Correct answer)
- Gross margin percentage
- Return on equity
Correct answer: Days inventory outstanding (DIO)
Days Inventory Outstanding (COGS ÷ inventory × days) measures how many days inventory is held before being sold, indicating inventory management efficiency.
Question 5: What is a letter of credit (LC) in international trade finance?
- A guarantee that a bank will pay the seller on behalf of the buyer upon presentation of required documents (Correct answer)
- A foreign currency loan issued by the importing country's central bank
- A government export subsidy for qualifying sellers
- A credit insurance policy covering foreign receivable defaults
Correct answer: A guarantee that a bank will pay the seller on behalf of the buyer upon presentation of required documents
A letter of credit is a bank commitment to pay the seller (exporter) if they present specified shipping and compliance documents, reducing counterparty risk in international transactions.
Question 6: What is the purpose of netting in multinational treasury operations?
- Offsetting intercompany payables and receivables to minimize the number and value of cross-border payments (Correct answer)
- Combining all subsidiary cash pools into one master account
- Converting all foreign currency balances to the functional currency
- Standardizing payment terms across all global subsidiaries
Correct answer: Offsetting intercompany payables and receivables to minimize the number and value of cross-border payments
Netting reduces transaction costs and FX exposure by offsetting intercompany obligations so only net amounts are transferred between entities.
CFM Treasury & Working Capital Management 2
What does foreign exchange (FX) transaction exposure refer to?