FINA3326 APPLIED FINANCIAL MANAGEMENT

GROUP PROJECT (2024)

Derivatives in Risk Management

Stulz (2004) concluded “that even though some serious dangers are associated with derivatives, they have made us better off and will keep doing so” (p. 174).

Since then, we have had, among other notable events, a great recession, a sovereign debt crisis, and a COVID-19 recession. Stulz (2023) recently wrote that “Taking financial positions to protect a firm against financial distress costs arising from crises would be expensive if it were at all feasible. Not all firms could enter such positions since in equilibrium we cannot all hedge with financial instruments against crisis risk” (p. 1396).

Given the turbulent nature of our world today, we will examine the role of derivative use by multinationals.

Question: Can value be added to a multinational corporation by using derivatives in their risk management AND how is it that corporations can control risk in a world of crises?

At a minimum, consider these sources:

Bachiller, P., Boubaker, S., & Mefteh-Wali, S. (2021). Financial derivatives and firm value: What have we learned? Finance Research Letters, 39, 101573.

Bae, S. C., & Kwon, T. H. (2021). Hedging operating and financing risk with financial derivatives during the global financial crisis. The Journal of Futures Markets, 41(3), 384–405.

Bartram, S. M. (2019). Corporate hedging and speculation with derivatives. Journal of Corporate Finance (Amsterdam, Netherlands), 57, 9–34.

Geyer-Klingeberg, J., Hang, M., & Rathgeber, A. (2021). Corporate financial hedging and firm value: a meta-analysis. The European Journal of Finance, 27(6), 461–485.

Stulz, R. M. (2004). Should We Fear Derivatives? The Journal of Economic Perspectives, 18(3), 173–192.

Stulz, R. M. (2023). Crisis risk and risk management. European Financial Management, 29, 1377–1400.

Written Report

Due date and Submission: 11:59pm, Oct 10, 2024, via Turnitin on LMS

NOTE: Only the student who submits the project will be able to view feedback on LMS. Please share the feedback file with the rest of your group. The marks will be manually allocated to all group members on LMS after SPARK adjustments.

Please submit your work as a PDF.

Format: A4-pages. Font size: 12, double spacing, Normal margins (about 2.5cm top, bottom, left and right)

Maximum Length: 2,500 words (Appendices of tables & graphs can be added and are not in the word count – their use is recommended!). No limit on the use of appendices. Your references pages need not be included in the word count.

Structure

You have two choices here. (1) You may approach it as answering the question with the use of an example, basically combine everything. (2) You may split the report into two sections: (a) Literature review – answer the question (b) A separate analysis of a multinational – but if you take this approach, you must discuss if your example is consistent with your overall hypothesis and why.

Reference – Reference your work! Use APA 7 referencing style.

https://guides.library.uwa.edu.au/apa

SPARK

SPARK will be used to provide peer feedback and mediate group marking.

Please familiarise yourself with the SPARK documentation contained in the Assignment/SPARK-Information folder on LMS. In addition, a short summary is included on the final page of this pdf.

Groups

Must be formed within tutorials. Maximum members 4.

NOTES:

There are two parts to this project. First, you are making an argument that needs to be supported with reference to the literature. You may choose to argue for or against the proposition that value is added. If arguing for, then explain how. If arguing against value being added, then explain why. You need to consider this question in the light of recent crises.

The second part of this project is an analysis of a multinational corporation. Your report must include a current / recent example of a multinational corporation which has significant foreign operations and uses derivative securities in their exposure management.

PART 1

Review the literature in the area to support your argument.

• Significant emphasis here (see marking guide).

• Include only relevant literature.

• You must include recent literature in your explanation (note that Stulz was writing pre-financial crisis – consider, did this event validate his approach or change it?). A sample (just a small sample) of relevant papers is listed above.

• Explain any weaknesses in the argument for adding (or not adding) value.

PART 2

Discuss an example of one (one only) multinational corporation.

• As you only have one company this is anecdotal evidence and should not be taken as proof. Instead, you should discuss whether this anecdotal example is consistent or inconsistent with your overall thesis.

a. Describe the foreign exchange risk exposures that this company faces. What types of exposures are they and what are their magnitudes?

i. You should try to be as specific as you can here.

1. What are their assets? Where are they held?

2. How are their cash flows being generated? In what currencies?

3. How significant to the overall business are these exposures?

4. In summary, can you explain the business model of the company and the exposures to which this business is faced?

b. Describe how the company manages their exposures.

c. Decide whether this has been successful.

i. In deciding this you should include your own quantitative analysis

1. This section is open to your imagination, however reading the assigned textbook readings and reading Stulz (2004) may provide you with some ideas…

ii. In deciding whether it has been successful you may also include sources, whether external to the company, or from the company’s own reporting – however these must all be properly referenced!

Remember the primary overall question above. Structure your report as an answer to this question. The corporation is just an example. You will not necessarily be helped or hindered by finding a corporation that matches the argument that you are trying to make.

If your empirical example does not support the argument that you are making, then you have found something to discuss - similarly you should discuss if your example turned out to be consistent with your argument. You will not be judged by whether your company matches your thesis. You will be judged by the strength of your discussion and the consistency of your interpretations and conclusions.

• The choice of company is important, spend time here early on to make sure you have chosen a company where you are able to source sufficient information.

• Full marks may be achieved regardless of whether your anecdotal evidence is consistent with your overall thesis.

***Required Groupwork Planning Document***

Due date and Submission (This component only): Due 11:59pm, September 10, 2024, via LMS (as PDF)

Maximum Length: 1 page

Format: A4-page. Font size: 12 Times New Roman, double spacing, Normal margins (about 2.5cm top, bottom, left and right)

To be included:

• Company to be analysed

• Group members

• Team organisation / Member roles

• Member expectations

• Expected outcomes / Group member performance dates

Marks Breakdown

• Clarity of Report (Writing / General Presentation / Graphs / Tables / Use of Appendices) (4 marks)

• Literature Review (Coherence, relevance, comprehensiveness, primarily peer-reviewed) (5 marks)

• Company Qualitative Analysis (Company research, business model, exposure measurement) (3 marks)

• Company Quantitative Analysis (3 marks)

o Explanation of whether the business has been successful in their foreign exchange risk management

o This must include an analysis appendix (not in the word count) clearly detailing:

▪ Your data sources

▪ Any modifications to your data before use

▪ Methodology – how were your outputs generated?

• Overall cohesion, structure, and persuasiveness of your report (e.g. does it read as one submission, or as 4 reports stuck together the day before submission?) (2 marks)

• Referencing (this will be strictly marked – reference correctly) (1.5 marks)

• Groupwork Planning Document (Due earlier) (1.5 marks)