1. Suppose that the value of the firm, expressed in terms of the owners currency, is a nonlinear function of the exchange rate up to random noise. Suppose that you fit a linear regression through this relationship, and you hedge with a forward sale with size equal to the regression coefficient. Which of the statements below is true?

a. All risk will be eliminated. b. There is remaining risk, but it is uncorrelated to the realised value of the exchange

rate. c. There is no way to further reduce the variance of the firms hedged value. d. Hedging with contracts on any two different currencies will always lead to a lower risk than hedging with a single currency contract. e. None of the above.

2.Which of the statements below regarding the cost of capital in the international context is false?

a.If you discount expected cash flows that are already expressed in home currency, the cost of capital should include a risk premium for exposure to the host-currency exchange rate.

b.A particularly risk-averse investor will always select a low-return portfolio. This is because low return means low risk, and because the investor does not want to bear a lot of risk.

c.The entire NPV analysis can be conducted in terms of the host currency if money markets, stock markets, and exchange markets are fully integrated with the home market.

d.If you discount expected cash flows that are already expressed in home currency, the cost of capital should include a risk premium for exposure to all relevant exchange rates.

e.A risk-averse investor will select a low-return portfolio only if the variance is sufficiently low.

3.Which of the statements below regarding international capital budgeting is true? a. Since borrowing reduces corporate taxes, one should always compute the tax savings (borrowing capacity interest rate tax rate), and add their present value

in the first-stage NPV.

b.A sound rule of thumb is that the company should borrow in a weak currency for two reasons. First, the firm can expect a capital gain when the loan is paid back. Second, the high interest payments mean that there is a large interest tax shield.

c. Leading and lagging are ways to speculate on changes in transfer prices.

d. The best way to account for transfer risk is to add a risk premium to the discount rate. The next best way is to subtract the expected losses on blocked funds from the operating cash flows.

e. Any royalty payments to the parent company should be considered only in the second stage (unbundling stage) of the NPV analysis.