Managing Operating Exposure: A Case Study of the Automobile Industry

By Kim, Yong-Cheol; McElreath, Robert | Multinational Business Review, Spring 2001 | Go to article overview

Managing Operating Exposure: A Case Study of the Automobile Industry


Kim, Yong-Cheol, McElreath, Robert, Multinational Business Review


The dynamic interaction of currency exposure and management of exposure makes the measurement and management of operating exposure less transparent. This article presents a case study of various measures of foreign investment, such as plant location taken by automobile firms including BMW to demonstrate the complex nature of dealing with currency exposure.

INTRODUCTION

Measuring and managing operating currency exposure is difficult at best. Prior research finds that this exposure depended on the characteristics of the industry (Bodnar and Gentry 1993), firmspecific operating activities (Jorion 1990; Choi and Prasad 1995), and the relative strength of the dollar vis-a-vis the relevant foreign currency (Choi and Prasad 1995). The valuation effects on a firm from corporate foreign investment decisions depend on accounting versus economic effects, and home versus foreign market effects (Choi 1986). It has also been shown (Kim 1997) that the effects on firm value from foreign expansion or retraction is different by industry, by changes in exchange rates, and by the degree of foreign involvement before events.

Unlike transaction and accounting exposure, managing operating exposure involves all the aspects of a corporation, including financial, marketing, management, production, and others (Shapiro 1996). Choi (1989) pointed out that international investment is one of major instruments of managing operating exposure. Kim (1997), by analyzing stock price reaction of corporate expansion and retraction from foreign operation, showed empirically that managing real exchange risk and gains from diversification are major motivations of corporate international investment.

The dynamic interaction of currency exposure and management of exposure makes it difficult to understand the full nature of operating exposure. A case study would demonstrate the intricate nature of operating exposure by listing various measures of managing currency operating exposure in detail. The purpose of this article is to present the complex nature of operating exposure by focusing on the management of operating exposure of the automotive industry in general, and in particular, German Bayerische Motoren Werke (BMW) along with Mercedes, Ford Motor Co., General Motors, and Japanese Honda.

We first show the competitive nature of the passenger car industry by showing the production distribution between home and foreign countries. Various decisions taken to manage operating exposure are discussed in the subsequent sections. Those measures are plant location, joint ventures, mergers and acquisitions, product sourcing and input mix, productivity improvements, pricing strategy, product strategy and market segmentation, and the incentive package given by the state of South Carolina to BMW.

WORLD PRODUCTION OF THE PASSENGER CAR

Table 1 shows the world car production by country and company in 1994 and 1998. It shows the production for each company in its home country and the extent of their overseas production. In 1994, with the exception of Volkswagen, most of the European automobile manufacturers were producing a majority of their cars in their home country. This may show that Mercedes and BMW thought that the luxury cars they produced were less competitive and less vulnerable to exchange rate changes. All three United States (US) automakers produce half or less than half of their production from their domestic operations. In contrast, Japanese automakers show different production locations. Honda produces 55 percent of its cars at home while Isuzu produce 95 percent of its cars at home. Emerging Korean automakers are producing most of their cars a home.

PLANT LOCATION

In 1992, BMW announced it would build an assembly plant in the US, only the second European carmaker ever to do so. (Volkswagen AG closed its US factory in 1988.) The Greer, S.C., plant, which opened in 1994, will eventually produce 90,000 vehicles annually, with more than half of them to be exported to more than 100 countries, including Germany. …

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