Currency Management and Profitability in Multinational Enterprises
Johnson and Johnson is an American multinational corporation headquartered in New Brunswick, New Jersey. It is a global holding company engaging in research and development, manufacture, and sales of a range of healthcare products. It operates in three segments: consumer, pharmaceuticals, and medical devices. It is rated among the top three pharmaceutical companies in the world.
Companies are exposed to risk when income earned abroad is converted into domestic currency. The potential exchange risk is also present when payables are converted from domestic to foreign currency. Adverse currency changes often affect the returns of companies with foreign-based operations. There are several approaches that companies can employ in hedging exchange risks. Some companies use derivatives as an option, while others resort to currency swaps.
The currency swap market is a standard means to hedge exchange rate risk. Currency swaps not only hedge against risk vulnerability associated with exchange rate variations but also warrant receipt of foreign earnings and realize better lending rates. Johnson and Johnson company applies this means in hedging the foreign exchange risk.
When the dollar is being exchanged with a euro, when the dollar per euro exchange rate increases, it takes more dollars to buy euros, meaning the dollar is depreciating or weakening.
If An American Company operates in Europe and the euro is more robust against the dollar, the Company’s profits from Europe will be denominated in Euros. After the euros are converted to dollars, there will be more and better profit margins.
When the dollar per euro exchange rate decreases, it takes more dollars to buy euros, meaning that the dollar is appreciating or strengthening. If an American company operating in Europe converts its euro-denominated returns to dollars, it will have fewer dollars, meaning low profit margins.
Reference
Johnson & Johnson Our Story. (2020) Retrieved from https://ourstory.jnj.com/johnson-johnson-expands-overseas
Segal, T. (2019). Hedging Risk With Currency Swaps. Investopedia. Retrieved from https://www.investopedia.com/articles/forex/11/hedging-with-currency-swaps.asp
Johnson & Johnson Cost of Goods Sold 2006-2020. (2020). Macrotrends. Retrieved from https://www.macrotrends.net/stocks/charts/JNJ/johnson-johnson/cost-goods-sold
Johnson & Johnson. (2020. Vault Rankings. Retrieved from https://www.vault.com/company-profiles/personal-care/johnson-johnson
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Question
Select a U.S. multinational company and respond to the following questions:
- Please describe how the firm prices its revenues and costs regarding currency denomination.
- For multinational enterprises (MNEs) with multiple foreign operations, consider any 2 of those operations and their contribution to the parent firm’s profits.
- What means do they use to hedge against exchange rate risk?
- Using this information, what would be the effect of increases or decreases in the dollar’s exchange value on the firm’s profitability?
- Be sure to show all applicable work.