An American manufacturer with its corporate headquarters in New York City is purchasing goods from a French supplier. Which of the following statements is true regarding the exchange rate risk for this contract?

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BlackTom AI · Accepted Answer

Let's evaluate each statement in the context of an American company in New York purchasing from a French supplier, with FX risk depending on the contract currency.
Option a: 'The American company will bear all of the exchange rate risk if the contract is denominated in dollars.' This is unlikely. If the contract is denominated in U.S. dollars, the American buyer already uses USD as its functional currency, so there is little or no FX exposure on the payment itself for the payer. The French supplier, however, would have to convert the received USD into euros (or their local currency) and thus bears FX risk related to USD/EUR movements. Therefore, saying the American company bears all FX risk is incorrect because the supplier bears at least part of the risk when converting proceeds.
Option b: 'The French company will bear all of the exchange rate risk if the contract is denominated in dollars.' While the French supplier does face FX risk when converting USD to euros, claiming they bear all of the FX risk is too absolute. In practice, there can be hedging strategies or embedded risks borne by both sides depending on terms (e.g., payment timing, currency receipts, or netting). However, this statement emphasizes the supplier as the sole bearer, which overstates the case and is not strictly accurate in every scenario. Hence, this option is not fully correct.
Option c: 'Both companies could bear exchange rate risk if the contract is denominated in British pounds.' If the contract currency is British pounds, both counterparties face FX exposure: the American company would convert dollars to pounds to pay, and the French supplier would need pounds to receive payment and then convert to euros or other currencies as needed. This makes sense as a true statement about potential FX risk exposure for both sides when the contract uses a currency neither party predominantly uses. Therefore, this option is plausible and aligns with standard FX risk considerations.
Option d: 'Both b and c are correct.' This asserts that both the reasoning in option b and option c are correct. Since option b is not strictly correct in asserting that the French company bears all FX risk with a dollar-denominated contract (and overlooks potential hedges or shared risk depending on contract terms), this composite statement is inaccurate. The combined claim overstates certainty about option b, making option d unreliable.
In summary, option a misstates who bears most of the FX exposure for a dollar-denominated contract, option b overstates the exclusivity of the French supplier's burden, option c accurately describes a scenario where both parties face FX risk under a pound-denominated contract, and option d is not correct because it relies on an incorrect premise from option b.

An American manufacturer with its corporate headquarters in New York City is purchasing goods from a French supplier. Which of the following statements is true regarding the exchange rate risk for this contract?

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