Foreign Exchange Hedging Strategies at General Motors (Harvard Business School)

Case summary

The treasury team at General Motors (GM), headed by Eric Feldstein, is responsible for managing the corporation's varied financial transactions and their associated risks.GM has implemented a number of formal policies with respect to foreign exchange risk management and hedging procedures. These policies guided the vast majority of treasury operations, but on occasions situations arose that required special attention and possibly a deviation from the stated policy.Feldstein was currently reviewing three proposals for (1) the Canadian Dollar, (2) the Argentinean peso, and (3) Japanese Yen. Feldstein and his team have to evaluate GM's exposure to each currency, determine the risks, consider other approaches to managing these currency risks, and decide if GM should depart from its formal hedging policy.

The case first talks about some background information, including overview of GM and its Treasury operations (p. 2-3), review of corporate hedging policy (p.3-6), and understanding the choice of a subsidiary's functional currency (p.6-8) . Please read these parts carefully as they will help you understand the problems Feldstein is currently facing with three different problems:

1.Canadian dollar (p.8-11, Exhibit 10): the firm has a large transactional exposure to the Canadian dollar, and a sizable translational exposure. GM must determine how fluctuations in the U.S. Dollar/Canadian Dollar exchange rate would impact GM's income statement, and also consider the longer term implications of the firm's exposure to the Canadian dollar. We will be asked to examine the relevant accounting consequences of the CAD currency exposure.

2.Argentinean peso (p.11-12, Exhibit 11-13): GM has to decide how GM should deal with the widely anticipated devaluation of the peso. Would it be cost effective for GM to hedge more of its exposure, or are there other actions that GM might take to mitigate the effects of a peso devaluation? The ARS exposure illustrates some lessons about risk management in the face of an imminent devaluation. Exhibit 11 illustrates the nature of the exposure to ARS (long peso, short dollar). Exhibit 12 and 13 show the cost of hedging at this time.

3.Japanese yen (p.12-14, Exhibit 14-16): Although GM sells few cars in Japan, GM has a significant competitive exposure to the yen. An anticipated depreciation of the yen against the U.S. dollar would give Japanese automakers a sizable cost advantage relative to GM in the U.S. market, thus allowing them to take market share away from GM and other U.S. car makers. GM's competitive exposure to the yen is a long-standing strategic concern among GM executives. Therefore, Feldstein aims to develop an analytic framework to quantify GM's yen exposure to allow GM to better manage the risks.

Questions

1. What do you think of GM's foreign exchange hedging policies? Would you advise any changes?
2. Present the earnings per share impact of different hedge ratios for the CAD under different exchange rate scenarios in your spreadsheet. Should GM deviate from its policy in hedging its CAD exposure? Why or why not?
3. Why is GM worried about the ARS exposure? What operational decisions could it have made or now make to manage this exposure? (Check exhibit 12 and 13what are the forward rates telling you?
4. Why is GM worried about the level of the yen? How would you go from the information in the case about competitive interactions with Japanese automakers to a value exposure for GM?