27 Exposure of an MNC’s subsidiary. Le Rozier SA is a French firm with a Chinese subsidiary that produces cell phones in China and sells them in Japan.

This subsidiary pays its wages and its rent in Chinese yuan, which is presently tied to a basket of major currencies.

The cell phones sold to Japan are denominated in Japanese yen. Assume that Le Rozier SA expects that the Chinese yuan will continue to stay fixed against the dollar. The subsidiary’s main goal is to generate profits for itself and it reinvests the profits.

It does not plan to remit any funds to the French parent.

a Assume that the Japanese yen strengthens against the euro over time. How would this be expected to affect the profits earned by the Chinese subsidiary?

b If Le Rozier SA had established its subsidiary in Tokyo, Japan instead of China, would its subsidiary’s profits be more exposed or less exposed to exchange rate risk?

c Why do you think that Le Rozier SA established the subsidiary in China instead of Japan?

Assume no major country risk barriers.

d If the Chinese subsidiary needs to borrow money to finance its expansion and wants to reduce its exchange rate risk, should it borrow euros, Chinese yuan, or Japanese yen?