Operating Exposure – Market Share & Competitiveness Risk
This is the "Silent Killer". Unlike Transaction exposure (which is one deal), Operating Exposure kills the entire business model.
1. Meaning (Economic Exposure)
It measures the change in the Present Value of Future Operating Cash Flows due to exchange rate changes.
- Focus: Long Term.
- Mechanism: Price Elasticity of Demand.
2. Case Study: The iPhone Effect
📋 Case Study: Apple vs Currency
❗ Scenario:
Context: Apple manufactures iPhones in China (Cost in Yuan) and sells globally.
Event: The US Dollar becomes very Strong.
Impact:
1. In Europe: iPhone becomes very expensive for Europeans (in Euro terms).
2. Sales: Europeans stop buying iPhones and buy Samsung (Korean Won did not rise).
💡 Analysis:
The Loss:
* Apple didn't lose money on a "transaction".
* It lost Market Share.
* It lost Future Sales Volume.
This is Operating Exposure.
✅ Outcome:
A strong home currency is bad for Exporters because it makes their goods uncompetitive.
3. How to Manage It? (Strategic Hedging)
You cannot manage this with Forward Contracts (can't hedge 5 years of sales). You need Strategic Moves.
1. Diversify Markets"Don't depend only on US. Sell in Asia, Europe, Africa."
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2. Diversify Sourcing"Buy raw materials from multiple countries. If one currency rises, switch to another."
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3. Locate Plant Abroad"Production in the same country where you sell (Natural Hedge)."
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4. R&D / Innovation"Make product so good that customers buy it regardless of price (Inelastic Demand)."
4. Exam Notes: Writing the Answer
Question: "Explain Economic/Operating Exposure. How is it managed?" (10 Marks)
Answering Strategy:
- Define: "Change in PV of future cash flows...".
- Distinguish: Explicitly say it is distinct from Transaction Exposure using the "Time Horizon" argument.
- Strategies:
- Natural Hedge: Explain "Matching Currency of Cost and Revenue" (Producing locally).
- Differentiation: Reduce price sensitivity by Brand building.
Summary
- Strategic: This is a CEO-level problem, not a Treasurer-level problem.
- Impact: It affects the "Real" value of the firm, not just the "Book" value.
Quiz Time! 🎯
Test Your Knowledge
Question 1 of 5
1. Operating Exposure is also known as: