General Motors Global Finance

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can simply justify hedging its transaction exposure to yen, as well as its assets and liabilities. However, taking into consideration that to manage currency risks from competitive exposure is complicated because of several reasons:

• Difficulty in exactly measuring exposure, which may lead to high estimation cost.

• Mitigating any measures as non-speculative.

• Conducting transactions that take GM away from its core business.

• Focusing a lot on importance to short-term trend over long-term strategy.

At the same time, if GM can see some quantifiable loss from the trend of yen depreciation, it will find it hard to justify doing nothing.

The following analysis, we made it clear why the yen reduction matters to GM and try to estimate a range of potential loss in market share for the company. We also considered at exposures arising out of GM’s direct exposure to yen activities. We then tried to propose different methods for the difficult problem of assessing GM’s competitive exposure. Finally, we looked at the consequences of the various actions that GM can take to hedge its competitive exposure to yen. Then the decision of the ultimate course of action will depend on the firm’s risk desire and a more detailed cost-benefit analysis.

Answer 2: There are three broad approaches that GM can take in this regard.

1. Do nothing.

GM can ignore currency effects to the extent that they tend to have a lesser impact on stock price in the long run. Also, it can argue that competitive exposure does not directly reflect in their financials and therefore it is not part of their obligation to hedge for competitive exposure. In addition, taking 20% of Yen depreciation in perpetuity is an extreme assumption, having in mind that if Yen appreciates below 120 ¥/$, Japanese carmakers profitability is at stake.

The benefits of this action are:

• Cost savings in terms of managerial time and effort

• No reason to make simplifying assumptions and extrapolations that might be flawed

The costs of this action are:

• It goes against GM’s expectations of a devaluing yen and their ability to hedge for this eventuality

• A devaluing yen affects GM’s top and bottom lines as discussed earlier

2. Align business models with Japanese

If GM fears that the currency trend could be sustained, it could also look to outsource some of its parts to other countries to the extent that they have weaker currencies. The ideal solution in this regard would be if they could outsource part of their production in Japan. However, this will increase their existing business risk profile because it would directly affect their business model.

3. Financial management

GM can undertake a variety of financial measures to strategically cover their perceived weakening competitive situation.

• Invest more in Japanese automakers thus indirectly benefitting from yen depreciation. This would pose a difficulty if the exchange rate is still weak when GM wants to exit such investments.

• Estimate their competitive exposure to yen by suitable methodology and use from a variety of hedging options (forwards, futures, money market, options) to manage this exposure. This will be probably viewed as speculative action because competitive exposure is not directly reflected in the balance sheet.

• Issue more yen-denominated bonds – use their capital structure and transfer some of their dollar debt to yen. This could also be an interesting way to cover their exposure while at the same time aligning their business model with the Japanese to some extent. If they are correct, their cost of capital will decrease and this will have an offsetting effect on revenue losses. Accurately determining the magnitude of this ‘hedge’ would be a potentially costly exercise, however.

a. How would you go from the information given in the case about competitive interactions with Japanese manufacturer to a value exposure for GM? Hint: need to calculate the impact of a 20% depreciation of the US dollar/yen on the present value of GM.

b. Are there less information-intensive methods that might allow you to assess the competitive exposures of GM, specifically, or other firms generally? How would you implement such a method?

c. What other methods might allow you to assess the competitive exposures of GM, specifically, or other firms generally? How would you implement such a method?

4. Recommendations

Due to the various simplifications in the estimates, we refrain from making a numerical conclusion. However, if GM views that competitive exposure is a serious enough long-term strategic issue, it will seriously need to consider establishing a division or subsidiary with a mandate to ‘neutralize’ this imbalance