Tess Duale, Jacob Entel, Matt Hammer, Blake Korman, Ryan Levine, Drew Miller

Agenda1. Background2. Hedging Policy3. Transactional/Translational Exposure4. Calculations for Canadian Dollar Exposure5. Situation GM faces in Argentina

Background● Founded in 1908● 200 Countries● World’s Largest Automaker● Unit Sales = 8.5 million vehicles in 2001● 15.1 Percent worldwide market share

Treasurer’s Office● For Foreign Exchange, all of GM’s hedging activities were

concentrated in two centers● The Domestic Finance Group, located in New York● The European Regional Treasury Center (ERTC)● North America and Europe are largest markets

GM Corporate Hedging Policy Goals

1. Reduce cash flow and earnings volatilityo Hedging cash flows and ignoring balance sheet exposures

2. Minimize the management time and cost dedicated to global FX management

3. Align FX Management in a manner consistent with how GM operates it automotive businesso Financial management should map to the geographic

operational footprint of GM

Passive Policy: Hedge 50% of Commercial Exposures

● Hedge 50% of all significant foreign exchange operational exposures

● Commercial (Operational) Exposureo Cash flows that deal with ongoing business

Accounts Receivable/Payable

● 4 Regional Centers● Each Regional center collects monthly forecasts of total exposure● Riskiness is then taken into consideration

o Implied Risk = Regional Notional Exposure (AR-AP) x Annual Volatility of relevant currency pair

● Benchmark hedge ratio of 50%

Commercial Exposures Hedging Example

Derivative Instruments● Exposure divided evenly over 12 months● Months 1-6 (Hedge 50% in Forward Contracts)● Months 6-12 (Hedge 50% in Option Contracts)

o Flexibility● At least 25% of combined hedges on particular currency has to be

held in options

Rolling Over● Started when exposures were not evenly spread out● Balance of Forwards and Options were constantly changing● Options had to make up 25% of the hedge position● Since forecasts received by Treasury Group had been changing

from month to month, these changing expectations caused for over- or under-hedged opportunities

Delta Basis● Delta: How effectively the instrument would be exercised● Forward Contracts: 100%, Option Contracts: 50%● Average Delta = (50% x 100%) + (50% x 50%) = 37.5%

2● Tolerance of +/-5% was allowed when matching actual port to

benchmark

Commercial and Financial Exposures

● Commercial exposures include cash flows associated with the ongoing business such as receivable and payables

● Financial exposures include debt repayments and dividends

Commercial Exposures (capital expenditures)

● Planned investments that met either of the two following requirements:○ amount in excess of $10 million○ implied risk equivalent to at least 10% of the unit’s net worth

● Treated separated from ordinary exposures

Financial Exposures● Cash flows, including loan repayment schedules and equity

injections into affiliates○ hedged on a case-by-case basis○ structures to create as little FX risk as possible○ 100% hedged using forward contracts

● Dividend payments○ only deemed hedgeable once declared○ hedged like ordinary commercial exposures (50% hedge

ratio)

Why Not An Active Policy?

● GM had initially employed an active hedging policy “to minimize the management time and costs dedicated to global FX management”

● A passive policy was employed because it was determined that investment of resources in active FX management had not resulted in significant outperformance of passive benchmarks

Transaction Exposure● Transaction Exposure is the risk faced by companies in

international trade that currency exchange rates will change after the companies have already entered into financial obligations

● Hard to predict foreign and domestic cash flows

Translation Exposure● The exposure of a multinational corporation’s consolidated

financial statements to exchange rate fluctuations● If MNC’s subsidiary has earnings denominated in foreign

currency, earnings must be converted to dollars at exchange rate as of the date of the statements

Translation Exhibit

Transaction v. Translation● Translation adjustment gains or losses that arise from

consolidating foreign operations do not change the parent’s cash flows

● One of GM’s main hedging policy concerns is reducing cash flow

GM-Canada● GM-Canada is a vital part of GM’s worldwide production process

○ Sold Cars to Canadian Markets○ Served as a core supplier GM operations in North America

● Accounting standards require subsidiaries of a multinational firm to choose a currency to be the functional currency○ U.S. Dollar chosen as functional currency○ GM-Canada has a large asset base in CAD○ GM is short roughly 1.7 billion CAD

GM Canadian Exposure● GM’s transactional exposure to the CAD is 1.682 Billion CAD

○ Calculated by finding the difference between GM’s CAD inflows and outflows

● GM’s translational exposure is currently 2.143 Billion CAD ○ Determined by finding GM’s net asset/liability position

GM’s Pre Tax EPS Effect

Argentinian Peso● Argentina’s economy was in trouble● Downgraded six grades below investment level● Short-term default probability of 40 percent and medium term

probability of 50 percent● Default would lead to devaluation● Could go from 1:1 to 2:1

ARS Consequences● Devalue GM’s Argentina’s assets● Export price of vehicles and equipment from Argentina would be

reduced● Reduction of cost of materials and labor which would lead to

lower operating costs

ARS Devaluation Effects

● Net Exposure: 129.1 Million ARS● Currently ARS is trading 1:1 with USD● If 2:1, SH’s Equity drops to 64.55 million

ARS● Shareholder Equity will decrease

shareholder equityby 50%● $300m in liabilities increases to $600m

Hedging ARS Risk with Forward Contracts

● One-Month Forward Contract costs $6.4 million - Not Cheap● Fast moving rates - not easy to lock in contract● Forward contracts are rapidly rising due to economic instability in

Argentina● Suggest that GM purchase options instead of entering into

forward contracts

Questions?