International Monetary Relations
The paper analyzes one of the multinational corporations of the United States; Wal-Mart. Wal-Mart is a multinational corporation that operates large stores in many countries worldwide. This company pays their suppliers and workers in terms of US dollars, rather than in foreign currency. This is because they want to avoid risks that may arise in cases where the foreign currency appreciates. Further, the dollar is the most common currency used in international trading. In addition, in terms of currency denominations, Wal-Mart Corporation prices its revenues and costs in different ways. Being the largest retailer and grocery chain in terms of sales, it buys products at the lowest prices. It also uses its large size to maintain low cost leadership. With multiple foreign operations, some of them – Walmex, located in Mexico and Asda in the United Kingdom – have greatly contributed to Wal-Mart’s profits. Lastly, the paper analyzes the effect of increases or decreases in the dollar’s exchange value on the firm’s profitability. When the dollar’s exchange values increase or decrease, Wal-Mart can be able to manage their exposure to exchange rate variations.
International Monetary Relations
Wal-Mart Stores is a United States public multinational company that operates stores and warehouses in many countries worldwide. It was founded by Sam Walton in 1962. It employs more than 2.1 million people globally. It has many stores and warehouse stores in different countries operating under different names. Wal-Mart serves many customers daily and under diverse banners in more than 28 countries. The fiscal sales of last year (2010) were approximated at $405 billion. This saw it ranked among the top ten retailers in the world by Fortune Magazine of 2010.
In terms of currency denominations, Wal-Mart Corporation prices its revenues and costs in the following ways. First, being the largest retailer and grocery chain in terms of sales, it buys products at the lowest prices because of its strong bargaining power. Wal-Mart exchanges high purchase volumes of products at a low cost in order to enable their customers save. There products are priced in dollars in relation to the foreign currency. Many suppliers give them pressure because the company depends on the discount retailer for most of their sales. Conversely, their reliance on Chinese-made imports makes the company vulnerable to weakening of the dollar and strengthening the Yuan currency. The company purchases billions worth of merchandise directly from China. Some of the inventories come directly from Chinese companies like Mattel. A stronger Yuan means that Wal-Mart needs to pay more for its merchandise. This threatens Wal-Mart’s revenues since the cost will be high.
In addition, Wal-Mart uses its large size to maintain low cost leadership. Its bargaining power of products from China has helped it maintain low price leadership, enabling their customers to save. Wal-Mart pressures companies from which they import their products to shave costs in order to enable them generate adequate income when selling products to their customers. They pay their suppliers in terms of dollars, which is calculated depending on the foreign currency from where they import their products. They do not pay their suppliers or workers in terms of foreign currencies because there costs and revenues will be affected in case the foreign currency appreciates, thus making losses.
With multiple foreign operations, some of the two operations include Walmex, located in Mexico and Asda in the United Kingdom. These companies have contributed greatly to the parent firm in terms of development. They contain efficient participants who contribute to products and services production. Their operational variables have greatly contributed to development and better performance of the parent firm (Daniels and Krug, 2008). Walmex and Asda participate with the parent firm in market coordination, managerial coordination, operational risks, cash flow, organization skills, incentives and logistics. Indeed, Walmex and Asda have a high degree of strategic interaction with their parent firm, which is Wal-Mart. They follow absolute and comparative advantages strategies. They have foreign production areas and diverse international markets, which have enabled Wal-Mart earn profits from different markets.
The following are means that Wal-Mart Company uses to hedge against the exchange rate risk. First, they use hedging techniques to manage the transactional exchange rate risks. Hedging techniques are vital because they enable the company reduce the risk of adverse price movements of commodities. This is done through selecting and specifying certain hedging instruments that are effective for controlling the risks. One of the management techniques used is use of lagging payments that depend on future expectations of the company. This weakens or strengthens the foreign currency and enables the company to speculate the risks.
Secondly, the company implements the hedging program, which is effective for reducing the risk. Therefore, it establishes policies, metrics and processes that ensure the program is effective (Bowden and Zhu, 2006). Hedging neutralizes the exchange rate risk through use of financial instruments. For instance, Wal-Mart uses exchange rate derivatives as well as operational hedges to be cautious on exchange rate risk of foreign currencies when it is importing products from other countries such as China. Financial derivatives are the common standard tools used by many companies for hedging risks related to exchange rates. Thus, Wal-Mart uses hedging strategies and instruments, which are well documented in order to avoid risks that may arise in the process of transacting their business.
The effect of increases or decreases in the dollar’s exchange value on the firm’s profitability will easily be managed when the dollar’s exchange value is increased or decreased. This is because the firm can be able to manage its exposure to exchange rate variations. In addition, there will be reduced earnings instability of currency fluctuations. The decreased earnings volatility will increase the profitability of the company. Dohring (2008) points out that earnings volatility is the key indicator for the exchange rating factor. Thus, Wal-Mart’s capital resources such as debt and equity become cheaper. For instance, the debt becomes cheaper when the interest rate risk premium of the company over the risk-free rate is reduced making the earnings volatility to drop. This makes the equity financing of the company to become cheaper since investors desire elevated ratios. Indeed, it will be easier for Wal-Mart Company to deploy capital due to reduce cost of capital. This will make it easier for the company to invest in new strategic business enterprises due to predictable cash flows. The study indicates that a standard decrease in earnings volatility is associated with the increase in the value of a firm’s profitability.
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Daniels, J. D., & Krug, J. A. (2008). The multinational enterprise. Los Angeles, CA: