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FOREIGN EXCHANGE FLUCTUATIONS AND PROFITABILITY OF EXPORT
COMPANIES, A CASE OF MAIYRE ESTATE LIMITED
TUMWEBAZE DOROTHY MBABAZI
07/U/5338/EXT
SUPERVISOR
MR TIBAINGANA ANTHONY
A RESEARCH REPORT SUBMMITED IN PARTIAL FULFILMENT OF THE
REQUIREMENTS FOR THE AWARD OF THE DEGREE OF BACHELOR OF
COMMERCE, MAKERERE UNIVERSITY
JULY, 2011
DECLARATION
I , Tumwebaze Dorothy Mbabazi, do hereby declare that Foreign exchange fluctuations and
profitability of export companies is entirely my own original work, except where
acknowledged, and that it has not been submitted before to any other University or institution
of higher learning for the award of a degree.
Sign...................................................... Date..........................................................
Tumwebaze Dorothy Mbabazi
07/U/5338/EXT
i
APPROVAL
This research report has been submitted for examination with my approval as the candidate’s
University Supervisor .
Signed.................................................
Mr Tibaingana Anthony Date........................................................
Supervisor
ii
ACKNOWLEDGEMENTS
An undertaking of this nature is virtually impossible to accomplish without external support. It
is under this note that I extend my sincere gratitude to the following
I thank God for the wisdom and strength to write this report without which I would not have
managed.
I am grateful to my supervisor Mr Tibaingana Anthony whose guidence kept me on track
without which this report would not have been possible.
Special thanks to my discussion group (Gods grace group) members especially Tusiime Judith,
Nakaye Sarah, Besigwa Alex, Rwanyaga Godwin and Sebwami Deo who have been a great
help.
I am grateful to the staff of Mairye Estate Limited for their active participation in the survey
I acknowledge the support by my husband Alex Mugabe and my siblings, especially Mwesige
Benjamin and my children who had to bare my absence.
MAY THE ALMIGHTY GOD BLESS YOU ABUNDANTLY
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TABLE OF CONTENTS
DECLARATION...............................................................................................................................i
APPROVAL....................................................................................................................................ii
ACKNOWLEDGEMENT................................................................................................................iii
TABLE OF CONTENTS..................................................................................................................iv
LIST OF TABLES..........................................................................................................................viii
LIST OF FIGURES..........................................................................................................................ix
ABSTRACT.....................................................................................................................................x
CHAPTER ONE..............................................................................................................................1
1.1 Background to the study........................................................................................................1
1.2 Problem statement................................................................................................................2
1.3 Purpose of the study..............................................................................................................3
1.4 Objectives...............................................................................................................................3
1.5 Research questions................................................................................................................3
1. 6 Scope of the study.................................................................................................................3
1.7 Significance of the study........................................................................................................4
CHAPTER TWO.............................................................................................................................5
LITERATURE REVIEW....................................................................................................................5
2.1 Introduction...........................................................................................................................5
2.1.1 Foreign exchange fluctuations............................................................................................5
2.1.2 Brief history of foreign exchange........................................................................................5
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2.1.3 Participants of a foreign exchange market.........................................................................6
2.2 Causes of exchange rate fluctuations....................................................................................7
2.2.1 Economic Fundamentals.....................................................................................................8
2.2.2 Flight to Safety....................................................................................................................8
2.2.3 Balance of Payments (BOP)................................................................................................9
2.2.4 Political developments........................................................................................................9
2.2.5 Government policy...........................................................................................................10
2.2.6 Speculation.......................................................................................................................10
2.2.7 Market sentiment.............................................................................................................11
2.2.8 Relative Inflation Rates.....................................................................................................11
2.2.9 Exchange rate policy and intervention.............................................................................11
2.3 Profitability.........................................................................................................................12
2.3.1 Profitability indicators.......................................................................................................12
2.3.2 Gross profit margin percentage........................................................................................13
2.3.3 Net profit margin percentage...........................................................................................13
2.3.4 Return on capital employed (ROCE).................................................................................13
2.3.5 Gross profit margin ratio...................................................................................................13
2.4 Factors affecting profitability of business organizations.....................................................14
2.4.1 Degree of competition of a firm.......................................................................................15
2.4.2 Strength of demand..........................................................................................................15
2.4.3 State of the company........................................................................................................16
2.4.4 Availability of substitutes..................................................................................................16
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2.4.5 Degree of costs.................................................................................................................16
2.4.6 Price discrimination..........................................................................................................17
2.5 The relationship between foreign exchange fluctuations and profitability........................17
2.6 Conclusions..........................................................................................................................18
CHAPTER THREE.........................................................................................................................20
METHODOLGY............................................................................................................................20
Introduction...............................................................................................................................20
3.1 Research design.................................................................................................................20
3.2 Population of study............................................................................................................20
3.3 Sampling designs..................................................................................................................20
3.4 Sample size...........................................................................................................................21
3.5 Data sources.........................................................................................................................21
3.5.1 Primary sources................................................................................................................21
3.5.2 Secondary sources............................................................................................................21
3.6 Data collection methods......................................................................................................21
3.6.1 Observation.......................................................................................................................22
3.6.2 Survey...............................................................................................................................22
3.7 Instruments of data collection.............................................................................................22
3.7.1 Questionnaire...................................................................................................................22
3.7.2 Documentary review.........................................................................................................22
3.8 Data processing, analysis and presentation.......................................................................22
3.8.1 Data processing.................................................................................................................22
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3.8.2 Data analysis.....................................................................................................................23
3.8.3 Data presentation.............................................................................................................23
CHAPTER FOUR..........................................................................................................................24
PRESENTATION, ANALYSIS AND DISCUSSION OF FINDINGS......................................................24
4.1 Introduction.........................................................................................................................24
4.2 Demographic characteristics of respondents......................................................................24
4.3 Foreign exchange rate fluctuations.....................................................................................27
4.4 Level of profitability of Mairye Estate Limited....................................................................30
4.5 Relationship between exchange rate fluctuations and the profitability of Mairye Estate
limited........................................................................................................................................33
CHAPTER FIVE............................................................................................................................40
SUMMARY OF FINDINGS, CONCLUSION, RECOMMENDATIONS AND AREAS FOR FURTHER
STUDY.........................................................................................................................................40
Introduction...............................................................................................................................40
5.1 Summary of study findings..................................................................................................40
5.1.1 Findings on causes of foreign exchange rate fluctuations...............................................40
5.1.2 Findings on determinants of profitability in Mairye Estate Limited.................................41
5.2.3 Findings on the Relationship between foreign exchange fluctuations and profitability of
Mairye Estate Limited................................................................................................................41
5.3 Conclusion............................................................................................................................43
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5.4 Recommendations...............................................................................................................43
5.5 Areas for further research...................................................................................................44
References.................................................................................................................................44
LIST OF TABLES
Table 1: Sex of respondents..............................................................................................24
Table 2: Age of respondents..............................................................................................24
Table 3: Religion of respondents.......................................................................................25
Table 4: Marital status.......................................................................................................25
Table 5: Period of stay with Mairye Estate limited...........................................................26
Table 6: Predictability of Uganda shilling against dollar...................................................27
Table 7: Reasons for unpredictability of Uganda shilling against dollar...........................27
Table 8: Reasons for the shilling fluctuation against a dollar............................................29
Table 9: Causes of exchange rate fluctuations..................................................................29
Table 10: Measuring profitability in Mairye Estate Limited..............................................30
Table 11: Factors that affect the profitability of Mairye Estate Limited...........................31
Table 12: Consistency of profitability in Mairye Estate Limited........................................32
Table 13: Reasons for the inconsistency of profitability in Mairye Estate Limited...........32
Table 14: Currencies accepted during sales in Mairye Estate Limited..............................33
Table 15: Statements showing the relationship between exchange fluctuations and the
profitability of Mairye Estate limited................................................................................36
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Table 16: Effect of Exchange fluctuations and profitability of Mairye Estate Limited......37
Table 17: How Exchange fluctuations affect profitability of Mairye Estate Limited.........37
Table 18: Other Factors that affect the profitability of Mairye Estate Limited.................38
LIST OF FIGURES
Figure 1: Fluctuation of Uganda shilling against the dollar...............................................28
Figure 2: Exchange rate of a dollar since 2000..................................................................34
Figure 3: Relationship between exchange fluctuations and the profitability of Mairye Estate
limited................................................................................................................................35
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ABSTRACT
The purpose of the study was to establish the effect of foreign exchange fluctuations on
profitability of export companies a case study of a flower firm (Mairye Estate Limited) and the
main objectives were to find out the causes of foreign exchange rate fluctuations, establish the
determinants of profitability and establish the relationship between foreign exchange
fluctuations and profitability of Mairye Estate Limited.
The research design that was used in carrying out this research was a cross sectional research
design which involved a descriptive research design. The population of the study included the
employees of Mairye Estate limited. 63 respondents were selected using purposive sampling
design. Data was collected using primary and secondary source.
The findings revealed that differentials in interest rates, terms of trade and high level of
inflation cause exchange rate fluctuations, sales volume determine the profitability levels of
the company and that profitability of the export company is dependent on foreign exchange
fluctuations which implies that unfavorable fluctuations affect profits negatively whereas
favorable fluctuations affect profits positively.
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It is concluded that, exchange fluctuations are related to the profitability of the company and
unfavorable fluctuations affect profits negatively whereas favorable fluctuations affect profits
positively
I recommend that investors should have some understanding of how currency values and
exchange rates play an important role in the rate of return on their investments. More so,
export companies need to adopt and start using a 'Forward Contract' to reduce the effect of
fluctuations on their businesses.
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CHAPTER ONE
1.1 Background to the study
Foreign exchange fluctuation refers to the change in the exchange rates between two or more
currencies by specifying how much one currency is worth in terms of the other. An exchange
rate is simply the price of one currency in terms of another (Eleftherioss, 2007). It is the
value of a foreign nation’s currency in terms of the home nation’s currency (O'Sullivan,
2003). Foreign exchange movement has been a big concern for Mairye Estate managers,
investors and shareholders since the abolition of the fixed exchange rate system in 1971
(Massy, 2007). This system was replaced by the floating rate system in which the price of
currencies is determined by the forces of demand and supply of money. This new system is
responsible for foreign exchange fluctuations (Abor, 2005). These fluctuations expose Mairye
Estate to foreign exchange risk.
Profitability of a company refers to the positive gain from an investment or business
operation after subtracting for all expenses (Black, 2003). It is also a situation where
revenue exceeds the operational costs. It is clear that every business operate in order to earn
profit. In most cases the main goal of a business is making profit. Every business can improve
its profitability and sometimes a single factor can significantly increase the profitability of a
business but, for most businesses increasing profitability is a matter of creating a framework
for implementing a number of small improvements gradually, ideally built into day-to-day
processes and operations (Hirshleifer, 2005).
Increased fluctuation for a currency is due to either an increased transaction demand for
money, or an increased speculative demand for money. This fluctuation is highly correlated to
the country's level of business activity, gross domestic product (GDP), profitability of
1
businesses and employment levels (Sheffrin, 2003). On the importer or exporter side,
companies easily expose themselves to identifiable form of foreign exchange risk known as
'Transactional' exposure. This arises from company’s need to either buy or sell currency
relating to a trade transaction. Movements in exchange rates can work in the company’s favor
and enhance profitability but, equally, they can have the opposite effect and seriously erode
profit margins or lead to making a loss. Therefore, the researcher intends to establish the
effect of foreign exchange fluctuations on the profitability of export companies a case study
of a flower firm (Mairye Estates).
1.2 Problem statement
Despite the fact that Mairye Estate Limited has operated in the export business for over 10
years now, and during the period it has increased its sales volume, controlled its costs and
implemented efficient cash management policies, the company’s profitability levels are still
low. In today's global economy, any company trading in international markets is impacted by
foreign exchange rate fluctuations. The impact of exchange rate fluctuations directly affects
the profitability of the firm (O'Sullivan, 2003). Exchange risk is the effect that unanticipated
exchange rate changes have on the value of the assets, liabilities and operating income of the
firm. This exchange risk determines the foreign exchange exposure of a firm and profitability.
The company faces exposure to foreign-exchange risk and unfavourable foreign exchange
rates. Unfavourable foreign exchange fluctuations eat into a company’s profit margins while
favourable foreign exchange fluctuations boost a company’s profits. It’s against this
background therefore that the researcher intends to find out how the foreign exchange
fluctuations are affecting the profitability levels of Mairye Estate Limited.
2
1.3 Purpose of the study
The purpose of the study was to establish the effect of foreign exchange fluctuations on
profitability of export companies a case study of a flower firm (Mairye Estate Limited).
1.4 Objectives
i. To find out the causes of foreign exchange rate fluctuations.
ii. To establish the determinants of profitability in Mairye Estate Limited.
iii. To establish the relationship between foreign exchange fluctuations and profitability of
Mairye Estate Limited.
1.5 Research questions
i. What are the causes of foreign exchange fluctuation?
ii. What are the determinants of profitability in Mairye Estate Limited?
iii. What is the relationship between foreign exchange fluctuations and profitability of
Mairye Estate Limited?
1. 6 Scope of the study
1.6.1 Subject scope, The study focused on foreign exchange fluctuations as the independent
variable and the level of profitability as the dependent variable.
1.6.2 Geographical scope, The study was carried out in Mairye Estate Limited. Mairye
Estate is located in Wakiso district, Busukuma Sub County off Gayaza Zilobwe road. The
company grows and exports flowers to Europe. Mairye Estates Ltd is a company that has
been growing and exporting cut flowers to Europe specifically the Netherlands and the United
Kingdom since 1994. It has a workforce of over 400 employees.
3
1.6.3 Time scope, The study used literature of the period of 2000 to 2010. This period gave
reference to the situation regarding the fluctuations in foreign exchange and how it affects the
profitability levels of companies.
1.7 Significance of the study
i. The study may help the management of Mairye Estate Limited on the ways of ensuring
that they find a way of reducing or mitigating the effects of foreign price fluctuations in
order to safeguard their profits.
ii. The study may act as a stepping stone for other scholars who intend to do research on
foreign exchange fluctuations and how they affect profitability for it will act as a source
of literature for the subsequent scholars who intend to use it.
iii. The study may also help the researcher to acquire skills and knowledge.
4
CHAPTER TWO
LITERATURE REVIEW
2.1 Introduction
This chapter presents a review of literature related to the study variable. It entails definitions
of foreign exchange, causes of foreign exchange rate fluctuation, profitability and the
relationship between foreign exchange fluctuations and profitability of business
Organizations.
2.1.1 Foreign exchange fluctuations
Foreign exchange is the process of trading the currency of one country for the currency of
another. This process is necessary for international trade to take place in a world of different
currencies. The value of one currency versus another is determined by the international
exchange rate (Subramania, 2007).
An exchange rate refers to the ratio at which the unit of currency of one country may be, or is,
exchanged for the unit of currency of another country. It is the price of one country’s
currency expressed in terms of another country’s currency (Eleftherioss, 2007). Eiteman
(2008) however defines foreign exchange fluctuation as the upward and downward
interaction of one currency against the other in a foreign exchange market.
2.1.2 Brief history of foreign exchange
For as long as trade between countries with different currencies has taken place, foreign
exchange has been in existence. According to (Julian Walmsley), author of The Foreign
Exchange and Money Markets Guide, although foreign exchange has existed since before
biblical times, a formal global market for foreign exchange did not develop until the 1800s
with cable transfers taking place between London and New York.
5
Historically, governments attempted to set exchange rates themselves to improve a country's
trade position. If a country set its exchange rate low relative to others, it could improve the
country's trade position by making its exports more affordable and imports from other
countries less affordable. Such policies led to trade wars as countries struggled to improve
their trade positions. Since the early 1970s, however, most major currencies have been
allowed to "float," which means allowing exchange rates to be determined by supply and
demand on the currency markets. This system is responsible for foreign exchange fluctuations
(Abor, 2005). Most countries still fine tune exchange rates by keeping a reserve of gold or
foreign currencies, known as foreign exchange reserves, which they buy and sell to stabilize
their own currency when necessary.
2.1.3 Participants of a foreign exchange market
Commercial banks are the main participants in the forex market, but their "market share" is
slowly shrinking. Currently, 43% of all transactions pass through the interbank market, as
opposed to 63% in 1998 and 53% in 2004. In terms of forex trading activity, the main role of
banks is to serve as middlemen for the other market participants. Their objective is to make
profits through "market making", which means that they offer their clients a "buy" price and a
"sell" price.
Institutional investors are the second biggest players. They include investment and insurance
companies, pension funds and hedge funds. They participate in forex trading in order to cover
their stock, bond and currency portfolios and they represent 30% of all foreign exchange
transactions.
6
Central banks participate as they intervene to manage their stocks of currency and state
money. Their transactions represent 5% to 10% of all forex trading volume. They may also
intervene in order to defend their currency and to adjust economic or financial imbalances.
Brokers allow private individuals to access the forex market by transmitting their clients'
orders to commercial banks. They get paid from the spread or by charging a commission on
each transaction. Also, there are many brokers that operate as market makers; like
commercial banks, they also provide their clients with a buy/sell (bid/ask) price to earn the
spread if they are able to find a buyer and seller at the same time. If the market maker doesn't
find a buyer and a seller, it will try to profit by covering its client's position on the interbank
market.
Multinational companies participate in forex trading in order to convert their money during
import or export activities. Their transactions represent approximately 5% of all global forex
transactions. Some companies even have their own trading floors, with traders speculating in
order to make profits and to reduce the risks related to exchange rate fluctuations.
Private investors/individuals have recently been trading the forex market as well, thanks to
the internet, which allows them to have real-time access to currency exchange rates. Today,
their transaction volume adds up to over 5% of all forex transactions. Currency trading is now
suitable for various investor types, who can now profit, just like the bigger players, by
properly applying leverage and money management principles. (Encyclopedia of Business,
2nd ed)
2.2 Causes of exchange rate fluctuations
Exchange rate as earlier defined as the price of one country's currency in terms of another's is
not static but changes depending on several factors. Majorly exchange rates are determined by
7
the supply of and the demand for currencies. The later being dependent factors on several
others as listed below
2.2.1 Economic Fundamentals
Investors choose to buy one currency, because they believe it is going to appreciate in value
against other currencies. For example, if you thought the Euro (EUR) was going to appreciate
against the U.S. dollar (USD), because the European economy will experience significant
growth in the future, you would buy Euros in exchange for your dollars. If many investors
share your sentiment, these purchases would cause the Euro to appreciate and the dollar to
depreciate. When an economy is expected to retract, its currency tends to depreciate. In the
European debt crisis of 2010, as certain countries in the European Union were at risk to
default on their debt, the growth of the European economy was in question. This caused the
Euro to drop to new lows, as investors sought to acquire other currencies (Steve Johnson,
2010).
Dwivedi, (2002) blames the foreign exchange fluctuations on high level of technology among
industrialized nations. He says they produce more than what the nations can consume. As a
result these nations increase their volume of exports, which leads to increase in supply of
foreign currency in the domestic thus currency depreciation; accordingly the situation would
result into expensive exports and a fall in value.
2.2.2 Flight to Safety
Certain currencies are considered riskier than others, especially currencies of developing
countries. When the fundamentals of the global economy are in question, a flight to safety
occurs. A flight to safety is when investors choose not to own riskier investments and only
wish to hold safe investments, or "safe havens." The three major safe havens are: the U.S.
8
dollar, Treasury bills and gold. These investments are considered to be the least risky of all
investments available. Therefore, if uncertainty increases, a flight to safety usually occurs,
and the dollar will appreciate against other currencies. Certain currencies, like the British
Pound sterling (GBP) and the Euro also will take favor with investors over currencies of
developing countries. Uncertainty in various economies can cause the foreign exchange
market to fluctuate (Steve Johnson, 2010)
2.2.3 Balance of Payments (BOP)
This is the systematic recording of all economic transactions, that is, goods and services
including insurance, shipping and earnings from overseas investment (Hsing, 2004). It is
drawn up and published in a similar form to a company’s income and expenditure statements.
With a BOP surplus (that is more goods and services being exported than imported), a
country’s currency will tend to strengthen and with a BOP deficit (that is more goods and
services being imported than exported), the currency will tend to weaken. This is because in
the case of the BOP deficit, there is an outflow of currency to pay for the imports, foreign
currency has to be bought in exchange for the local currency to transact payment, therefore,
there will be more sellers of the domestic currency than buyers and the exchange rate will
tend to drop ( Dwivedi, 2002).
2.2.4 Political developments
In choosing what type of asset to hold, people are also concerned whether the asset will
retain its value in the future. Most people will not be interested in a currency if they think it
will devalue. A currency will tend to lose value, relative to other currencies, if the country’s
level of inflation is relatively higher, if the country’s level of output is expected to decline, or
if a country is troubled by political uncertainty (Dwivedi, 2002).
9
2.2.5 Government policy
Exchange rates can be affected by Central Bank intervention, in line with government policy.
Central Banks can increase or decrease (buys and sell) the supply of their currency in order to
smooth out unfavourable or unrealistic fluctuations in currencies either by flooding the
market with their domestic currency in an attempt to lower the price, or conversely buying in
order to raise the price.. They can also intervene in the domestic market to influence the
exchange rate (Dwivedi, 2002).
2.2.6 Speculation
is the buying, holding and selling of currencies to profit from fluctuations in its price as
opposed to buying it for use or for income. Speculative buying can cause particular currency
fluctuations, as prices rise above their ‘true worth’ simply because the speculative purchasing
is artificially increasing the demand. Speculative selling can also cause prices to fall below
‘true value’ in a similar fashion (Dwivedi, 2002).
Speculation or the anticipation of the market participants many a times is the prime reason for
exchange rate movements. The total foreign exchange turnover worldwide is many times the
actual goods and services related turnover indicating the grip of speculators over the market.
Those speculators anticipate the events even before the actual data is out and position
themselves accordingly in order to take advantage when the actual data confirms the
anticipations. The initial positioning and final profit taking make exchange rates volatile.
These speculators many a times concentrate only on one factor affecting the exchange rate
and as a result the market psychology tends to concentrate only on that factor neglecting all
other factors that have equal bearing on the exchange rate movement. Under these
circumstances even when all other factors may indicate negative impact on the exchange rate
10
of the currency if the one factor that the market is concentrating comes out positive the
currency strengthens (Emmanuel T M, 2001)
2.2.7 Market sentiment
The foreign exchange market is not predictable, nor does it follow a logical pattern. Factors
such as market sentiment consisting of individual and industry views and perceptions,
industry reports, analysis of economic data and events etc, all have a role in influencing
exchange rates (Dwivedi, 2002).
2.2.8 Relative Inflation Rates
Inflation rate is another fundamental factor that affects currency fluctuation. If a nation has
over issued its currency which exceeds the demand in product purchasing, there will be
inflation. Inflation decreases the purchasing power of the people and therefore leads to
currency depreciation. In general sense, the local currency depreciates means the foreign
currencies appreciate. The change in inflation rate changes the demand and supply in
currencies, bonds, and currency value expectation. Inflation leads to higher product price
internally. Under the same currency rate, the nation loses on exports and gain in imports. In
the currency market, the demand of foreign currencies increases, therefore causing the
appreciation of foreign currencies.
Investors will generally move their money where they can earn a higher return (that is the
interest rate). The higher a countries interest rates, the greater the demand for that currency
(Dwivedi, 2002)
2.2.9 Exchange rate policy and intervention
Exchange rates are also influenced in no small measure by expectation of changes in
regulation relating to exchange markets and official intervention. Official intervention can
11
smoothen an otherwise disorderly market but it is also the experience that if the authorities
attempt half-heartedly to counter the market sentiments through intervention in the market,
ultimately more steep and sudden exchange rate swings can occur. In the second quarter of
1985 the movement of exchange rates of major currencies reflected the change in the US
policy in favour of co-ordinated exchange market intervention as a measure to bring down the
value of dollar (Dwivedi, 2002)
Subramaniam, (2007) asserts that currency pegging miracle, foreign investment risk, foreign
loan magic, export import parity and war involvement are the causes of foreign exchange
fluctuations. To him many developing countries like Uganda have their nation curries pegged
to US. So irrespective of the internal production, borrowing, balance of payments among
others their currency rate go up and down in proportion to the dollar has been dipping and as
a “pegged” by product, exchange value of all national curriers tied to it have gone down.
2.3 Profitability
Profitability of a company refers to the positive gain from an investment or business
operation after subtracting for all expenses (Black, 2003). It is also a situation where
revenue exceeds the operational costs.
2.3.1 Profitability indicators
These are ratios which indicate the degree at which various areas of an organization for
example assets profit, liabilities are performing. Ratios therefore are indicators of
performance which are important in showing relationship with and between the various
financial statements (Jennings, 2000).
To be able to know the performance of various areas in an organization there is need to carry
out performance indicators measures as noted bellow.
12
2.3.2 Gross profit margin percentage
Most businesses (with the exception of several service firms), the ratio shows the profit
earning capacity of the business including its ability to pay salaries, interest and dividends.
2.3.3 Net profit margin percentage
This shows what can be paid as dividends and what can be reinvested for business growth.
2.3.4 Return on capital employed (ROCE)
According to (Nkundabanyanga, 2009) return on capital employed measures the percentage
of profits being earned on the total capital employed and related profits to capital invested in
the business. Shareholders require either immediate payment of dividends or the expectation
of higher dividends in the future. It is measured as a ratio of profit on ordinary activities
before interest and tax to the capital employed.
2.3.5 Gross profit margin ratio
According to (Arora 2002), gross profit margin ratio measures the relationship between gross
profit and the sales revenues. If gross profit has not increased with sales revenue, this shows
that there has been increased purchase cost, there are inventory write offs and there are other
increased costs allocated to cost of sales.
The gross profit margin is used to analyze how efficiently a company is using its raw
materials, labor and manufacturing-related fixed assets to generate profits. A higher margin
percentage is a favorable profit indicator (O’Sullivan, 2003).
In the income statement, there are four levels of profit - gross profit, operating profit, pretax
profit and net profit. The term "margin" can apply to the absolute number for a given profit
level and/or the number as a percentage of net sales/revenues. Profit margin analysis uses the
percentage calculation to provide a comprehensive measure of a company's profitability on a
13
historical basis (3-5 years) and in comparison to peer companies and industry benchmarks
(Flyvbjerg, 2008).
Basically, it is the amount of profit (at the gross, operating, pretax or net income level)
generated by the company as a percent of the sales generated. The objective of margin
analysis is to detect consistency or positive/negative trends in a company's earnings. Positive
profit margin analysis translates into positive investment quality. To a large degree, it is the
quality, and growth, of a company's earnings that drive its stock price (Buhl, 2002).
2.4 Factors affecting profitability of business organizations
Profitability is the primary goal of all business ventures. Without profitability the business
will not survive in the long run. Profitability is broadly defined as the rate at which profits are
generated from an investment. Most businesses tend to us the rate of return on assets (ROA)
to measure profitability. Therefore, businesses usually define the rate of return on assets as
the net business income from operations (NFI) plus interest on debt, minus a specific charge
for unpaid management, divided by average total assets. This is a useful measure because,
when uniformly calculated, it is directly comparable between businesses because it is adjusted
for differences in size. In fact any business using this method of profit evaluation can directly
compare their profitability to any others that use the same financial benchmarks. When
national product increases, the output of most firms and the inflationary pressures in the
economy, virtually everyone in the economy has to make the necessary adjustments because
of the lower buying power of money. In actual fact, if the various features of the macro
environment are studied and analyzed thoroughly, it is possible to diagnose and understand
the situations going on within a business and the levels of its profitability (Manasseh, 2000).
14
According to Don Hosfstrand (2006) profitability can be defined in two different ways that is
accounting profitability and economic profitability. Accounting profitability is where positive
results are obtained as a result of deducting business expenses from total income or revenue
(Don Hofstrand 2006) and Economic profitability is where positive results are obtained as a
result of deducting both business expenses and opportunity costs from total revenue or
income. In this case Don (2006) defines opportunity cost as investment returns given up as a
result of not investing your money elsewhere and using it to pay the other related expenses
such as labour.
According to Ariokot (2002); profitability of a firm is affected by the following factors:
2.4.1 Degree of competition of a firm
If a firm has monopoly power then it has little competition, therefore demand will be more
inelastic. This enables the firm to increase profits by increasing the price. If the market is very
competitive then profits will be low. This is because consumers would only buy from the
cheapest firms. Also important is the idea of contestability. Market contestability is how easy
it is for new firms to enter the market. if entry is easy then firms will always face threat of
competition, even if it is just “hit and run competition” this will reduce profits (Sharpp, 1998)
2.4.2 Strength of demand
Turner, (2001) gave an example that demand will be high if the product is fashionable like
mobile phone companies have been very profitable. However in recent months profits for
mobile phone companies have fallen because of the high profit which encouraged over
supply. Products which have falling demand like tinned meat will lead to low profit for the
company (Turner, 2001)
15
2.4.3 State of the company
If there is economic growth then there will be increased demand for most products especially
luxury products which are highly elastic. For example manufactures of luxury sports cars will
benefit from economic growth but will suffer in times of recession.
A successful advertising campaign can increase demand and make the product more inelastic;
however the increased revenue will need to cover the costs of the advertising. Sometimes the
best methods are word of mouth (Yoon, 1998)
2.4.4 Availability of substitutes
If there are many substitutes or the substitutes are expensive the demand for the product will
be higher. Simply complementary goods will be important for the profits of a company
(Yoon, 1998).
2.4.5 Degree of costs
An increase in costs will decrease profits; this could include labour costs, raw material costs
of rent. For example a devaluation of the exchange rate would increase cost of imports
therefore companies who imported raw materials would face an increase in costs (Pacter,
2000). Alternatively if the firm is able to increase productivity by improving technology then
profits should increase. If a firm imports raw materials the exchange rate will be important,
depreciation of a shilling making important more expensive. However depreciation of the
exchange rate is good for exports that will become more competitive.
A firm with high fixed costs will need to produce a lot to benefit from economies of scale and
produce on the minimum efficient scale, otherwise average costs will be too high. For
example in the steel industry we have seen a lot of rationalization where medium sized firms
have lost their competitiveness and had to merger with others (Gorbatova, 2001). If a firm is
16
not dynamically efficient then over time costs will increase. For example state monopolies
often have little incentives to cut costs, like in getting rid of surplus labour. Therefore before
privatization they made little profit, however with the workings of the market they become
more efficient (Millichamp, 2001).
2.4.6 Price discrimination
This involves charging different prices for the same good so the firm can charge higher prices
to those with inelastic demand. This is important for airline firms (Gorbatova, 2001).
2.5 The relationship between foreign exchange fluctuations and profitability
According to Minshkin, (2001) the value of a company’s profitability increases as the stock
prices rises. But (Ajayi and Mougove, 1996) in their investigation found out that stock prices
and exchange rate are positively related. Frequent appreciation of a foreign currency against
local currency makes it difficult to retain local customers because of high prices of imported
input that tend to affect prices of their final products sold locally (Katarikwe and Sebudde,
1999). This therefore implies that a company’s profitability fluctuates because of fluctuations
in currency being translated into fluctuating prices.
Information about financial position and past profitability is frequently used as the basis for
predicting future financial position and profitability among other matters in which users are
directly interested such as dividends and wage payment, security price movements and the
ability of the enterprise to its commitments as they fall due (Nzibonera, 2001). As a result of
the limitations of the traditional profitability performance measures, many researchers have
suggested that a new set of operational profitability measures should be used. The measures
should provide managers, supervisors and operators with on the time information that is
necessary for daily decision-making. These measures should be flexible, primarily non-
17
financial and able to be changed as needed. In response to the new profitability measurement
approaches, many researchers have agreed that time is the new strategic profitability measure
that should be used to drive improvement. Yet, systems based on time-based profitability
measurement have the limitation of over emphasizing the role of time and not considering the
impact of how operational profitability performance measures should be measured, controlled
and improved.
The gain or loss on foreign investments due to changes in the relative value of assets
denominated in a currency other than the principal currency with which a company normally
conducts business. A rising domestic currency means foreign investments will result in lower
returns when converted back to the domestic currency. The opposite is true for a declining
domestic currency.
Investopedia explains that foreign investments are complicated by currency fluctuation and
conversion between countries. A high-quality investment in another country may prove
worthless because of a weak domestic currency. Foreign-denominated debt used to purchase
domestic assets has led to bankruptcy in several cases due to a fast decline in a domestic
currency or a rapid rise in the currency of the foreign-denominated debt.
2.6 Conclusions
From the literature review above it is concluded that foreign exchange which is the process of
trading the currency of one country for the currency of another is very dynamic and will
fluctuate all the time. This is affected by many factors such as economic fundamentals, flight
to safety, balance of payments, political developments, speculation, market sentiment, relative
inflation rates and exchange rate policy. This makes it very unpredictable and one will not
predict which directions the fluctuations will take and with what magnitude.
18
On the other hand Profitability of a company refers to a situation where revenue exceeds the
operational costs. It is also affected by several factors inclusive of the degree of competition
of a firm, the state of the company, availability of substitutes, the degree of costs and price
discrimination.
It can also be concluded that a company’s profitability will fluctuate as the fluctuating foreign
currency is exchanged into the domestic currency. And therefore raising domestic currency
will lead to low profitability when the foreign currency is converted into domestic currency
and the opposite is true for a declining domestic currency.
19
CHAPTER THREE
METHODOLGY
3.0 Introduction
This chapter describes the methods that were followed in conducting the study. It gives
details regarding research design, population of the area of study, sample and sampling
techniques, a description of data collection instruments to be used, as well as the techniques
that were used to analyze data.
3.1 Research design
The research designs that was used in carrying out this research are Cross sectional research
design which takes a snapshot of a population at a certain time, allowing conclusions about
phenomena across a wide population to be drawn, Descriptive research design whose main
goal is to describe the data and characteristics about what is being studied, and studies
frequencies, averages, and other statistical calculations and the Causal approach of research
design which analyzed the problem through cause and effect' line of reasoning.
3.2 Population of study
The population of the study included the employees and management or administrators of
Mairye Estate limited. The company has 75 employees who are administrators.
3.3 Sampling designs
The sampling designs to be used by the researcher to select the sample are, Purposive
sampling design is where the researcher targeted administrators believed to be more
knowledgeable about the effect of foreign exchange fluctuations on the profitability of Mairye
Estate limited as an export company together with Convenience sampling design where
20
researcher considered the administrators of Mairye Estate limited that can be accessed and
available.
3.4 Sample size
The study selected 63 respondents using the above designs who participated in the study.
These represented the rest of the employees in the company to establish the effect of foreign
exchange fluctuations on the profitability of Mairye Estate limited as an export company.
3.5 Data sources
These were the areas where information was acquired for research purposes. This included
Primary sources and secondary sources.
3.5 Primary sources
Primary data is the data which is collected by the researcher directly from his own
observations and experiences or those data which are collected for the first time, Methods of
collecting data here include; Observation, Interview, Questionnaire.
3.5.2 Secondary sources
Secondary data is information gathered for purposes other than the completion of the research
project. In other words those data, which are already published. It may be useful for many
other persons than the researcher who has published it. This data is got from secondary
sources which are categorised into internal sources including; profitability reports,
Accounting and financial records or external sources like Trade associations, Magazine and
newspaper articles, Library sources and the Internet.
3.6 Data collection methods
The following Data collection methods were used in collecting data
21
3.6.1 Observation
Observation was used to carry out documentary review. The documents under observation
were News papers and financial reports of Mairye Estate limited.
3.6.2 Survey
The researcher used the Survey to get to the respondents to complete the questionnaires.
3.7 Instruments of data collection
The following instruments were used by researcher in collecting data
3.7 Questionnaire
A questionnaire is a research instrument consisting of a series of questions and other prompts
for the purpose of gathering information from respondents. Questionnaires have advantages
over some other types of surveys in that they are cheap, free from bias and do not require as
much effort from the questioner as verbal or telephone surveys, and often have standardized
answers that make it simple to compile data. Some questions were open ended while others
close ended.
3.7.2 Documentary review
The following documents were reviewed in the collection of data. News papers were looked
at to get the exchange rates of the period 2000 to 2010. And financial reports of Mairye Estate
limited were used to get the profitability trend of the same period.
3.8 Data processing, analysis and presentation
3.8.1Data processing
It involves transformation of data into information through classifying, sorting, merging,
recording, retrieving, transmitting, or reporting. Data processing can be manual or computer
based. Data from this research was coded, entered, edited for consistency and easiness
22
3.8.2Data analysis
Data was analyzed using Statistical Package for Social Scientists (SPSS) where correlation
was used to establish the relationship between cost management and profitability.
3.8.3 Data presentation
Data got was presented in form of frequency tables, pie charts and bar graphs to give
meaningful interpretation of the study.
23
CHAPTER FOUR
PRESENTATION, ANALYSIS AND DISCUSSION OF FINDINGS
4.1 Introduction
This chapter presents analysis and discussion of findings and it is arranged according to the
study objectives which include establishing the causes of causes of foreign exchange rate
fluctuations, determinants of profitability in Mairye Estate Limited and the relationship
between foreign exchange fluctuations and profitability of Mairye Estate Limited.
4.2 Demographic characteristics of respondents
Table 1: Sex of respondents
Sex Frequency Percentage
Male 37 58.7
Female 26 41.3
Total 63 100
Source: Primary data
From Table 1 above, 58.7% of respondents were males whereas 41.3% were females and the
findings implied that Mairye Estate employees more males than the females.
Table 2: Age of respondents
Age Frequency Percentage
Below 18 - -
19-25 11 17.5
26-40 32 50.8
Above 40 years 20 31.7
Total 63 100
Source: Primary data
24
From Table 2 above, 50.8% of the participants in the study were aged between 26-40 years,
followed by 31.7% who were aged above 40 years and only 17.5% were aged between 19-25
years. The above findings however implied that the target group of participants in the study
reached was deemed to be mature and provide reliable information about the exchange
fluctuations and how they affect their company’s profit levels.
Table 3: Religion of respondents
Religion Frequency Percentage
Christian 54 85.7
Muslim 9 14.2
Others - -
Total 63 100
Source: Primary data
Table 3 above shows that 85.7% were Christians whereas 14.2% were Muslims and there was
no other religious denomination apart from these two mentioned. The findings therefore
implied that all the religious denominations participated in the study.
Table 4: Marital status
Status Frequency Percentage
Married 41 65.1
Single 22 34.9
Total 63 100
Source: Primary data
From Table1.4 above, 65.1% of the respondents were married whereas 34.9% not married
which means that many married people participated in the study which gave reliable
information about the study.
25
Table 5: Period of stay with Mairye Estate limited
Period Frequency Percentage
Less than 1 year 3 4.8
1-5 years 19 30.2
6-10 years 31 49.2
Above 10 years 10 15.8
Total 63 100
Source: Primary data
From Table 5 above, 49.2% of the respondents revealed that they had worked with the
company for a period between 6-10 years and 30.2% said that they had worked for the
company for a period between 1-5 years. More so, 15.8% noted that they had spent more than
10 years working with Mairye Estate and only 4.8% had only spent less than a year with the
company. The results above therefore imply that respondents who had stayed for long in the
company were the majority to participate in this study. Therefore, they were believed to have
the required information regarding foreign exchange fluctuations than employees who had
worked in the company for few years.
4.3 Foreign exchange rate fluctuations
Table 6: Predictability of Uganda shilling against dollar
Response Frequency Percentage
Yes 11 17.5
26
No 52 82.5
Total 63 100
Source: Primary data
Results from Table 6 show that 82.5% of the respondents revealed that it is not easy to predict
the Uganda shilling against a dollar whereas only 17.5% noted that the dollar can be
predictable. The findings above show that Uganda shillings cannot be predicted against a
dollar an implication that the dollar is always valuable as against the Uganda shillings since
the shilling cannot be predictable against a dollar.
Table 7: Reasons for unpredictability of Uganda shilling against dollar
Reasons Frequency Percentage
Forces of demand and supply for the
dollar in the currency markets
33 52.4
Speculative demand and supply for the
dollar
29 46
Interest rates 1 1.6
Total 63 100
Source: Primary data
From Table 7 above, 52.4% revealed that it was because of the forces of demand and supply
for the dollar in the currency markets whereas 46% said it was because speculative demand
for the dollar and only 1.6% noted that it was because of the interest rates. Regarding the
findings in the table above, the forces of demand and supply for the dollar makes the Uganda
shilling unpredictable against a dollar. Respondents argued that when currency markets
speculate an increase in demand for the dollar, they reduce the dollars on markets such that its
27
selling price increases due to its increased demand which s not the case for the Uganda
shillings
Figure 1: Fluctuation of Uganda shilling against the dollar
Yes; Percentage; 68.3; 68%
No; Percentage; 31.7; 32%
Percentage
YesNo
Source: Primary data
Results in Figure 1 above show that 68.3% revealed that Uganda shillings actually fluctuates
against a dollar but 31.7% disagreed with this view and said that it was instead the dollar
which fluctuates against a shilling. The above findings therefore implied that Uganda shilling
fluctuates against the dollar meaning that as a dollar gains value, Uganda shilling
continuously loses value in monetary terms which in turn affects profitability.
Table 8: Reasons for the shilling fluctuation against a dollar
Reasons Frequency Percentage
Terms of Trade 11 17.5
Level of Inflation 27 42.9
28
Speculation 21 33.3
Differentials in Interest Rates 4 6.3
Total 63 100
Source: Primary data
From Table 8 above, 42.9% and 33.3% revealed that the level of inflation and speculation
were the main reasons why the shilling was fluctuating against a dollar. More so, 17.5% said
that the unfavorable terms of trade with other countries makes the shilling fluctuate against a
dollar but 6.3% noted that it was because of interest rate differentials that the shilling
fluctuates against a dollar. The above findings therefore implied that the main reasons why
the shilling was fluctuating against a dollar was because inflation and speculation
Table 9: Causes of exchange rate fluctuations
Causes Frequency Percentage
Terms of Trade 11 17.5
Differentials in Inflation 21 33.3
Speculation 22 34.9
Differentials in Interest Rates 3 4.8
Political Stability and
Economic Performance
6 9.5
Total 63 100
Source: Primary data
Results in Table 9 above show that 33.3% revealed that it was because of differentials in
inflation because a country with a consistently lower inflation rate exhibits a rising currency
value, as its purchasing power increases relative to other currencies while those countries with
higher inflation typically see depreciation in their currency in relation to the currencies of
29
their trading partners which affects the businesses. More so, differentials in interest rates
cause exchange rate fluctuations. Speculation and Terms of Trade cause exchange rate
fluctuations as shown by 34.9% and 17.5% responses because who noted that if the price of a
country's exports rises by a greater rate than that of its imports, its terms of trade have
favorably improved.
Majority of the respondents (4.8%) noted that interest rates, inflation and exchange rates are
all highly correlated. Political Stability and Economic Performance was also shown to cause
exchange rate fluctuations where 9.5% noted that a country with such positive attributes will
draw investment funds away from other countries perceived to have more political and
economic risk. Political turmoil, for example, can cause a loss of confidence in a currency and
a movement of capital to the currencies of more stable countries. The above findings
therefore implied that speculation and inflationary tendencies are the main causes of exchange
rate fluctuations.
4.4 Level of profitability of Mairye Estate Limited.
Table 10: Measuring profitability in Mairye Estate Limited
Measure Frequency Percentage
Sales volume 34 54
Return on capital employed 13 20.6
Gross profit margin ratio 16 25.4
Total 63 100
Source: Primary data
From Table 10 above, 54% of the respondents revealed that the sales volume gained by the
company determines the profitability levels in the company whereas 20.6% said that it is the
return on capital employed measures the profit levels in the company but 25.4% said that
30
gross profit margin ratio was one of the determinants of profitability in Mairye Estate. The
above findings however implied that the profit margin was the main determinant of
profitability in the company however much there are other moderating determinants of profit
levels in the company.
Table 11: Factors that affect the profitability of Mairye Estate Limited
Factors Frequency Percentage
Costs incurred by the firm 13 20.6
Demand for the product 7 11.1
Competition 9 14.3
Price and exchange rate
fluctuations
31 49.2
Availability of substitutes 3 4.8
Total 63 100
Source: Primary data
Results in Table 11 above show that 49.2% revealed that the prices and exchange rate
fluctuations affect the profitability of the company whereas 20.6% noted that the costs
incurred by the firm determines how much profits the company gets after sale of the products.
Furthermore, 11.1% and 14.3% of the respondents noted that the demand for the product and
competition affect the profit levels of the company but 4.8% also revealed that the availability
of substitutes has an effect on the profitability of Miarye Estate Company. The findings
implied however implied that price and exchange rate fluctuations were the main factors that
affect the profitability of Mairye Estate limited an indication that once the fluctuations are
unfavorable, the profits will go down.
Table 12: Consistency of profitability in Mairye Estate Limited
31
Response Frequency Percentage
Yes 24 38.1
No 39 61.9
Total 63 100
Source: Primary data
Table 12 above shows that 61.9% of the respondents revealed that the level of profitability
was not consistent in the company whereas 38.1% said that the profitability level was
consistent in Mairye estate limited. The findings implied however that the level of profits was
not consistent as revealed by majority of the participants in the study. Several reasons were
however given for the inconsistency of profits in Mairye Estate Limited as discussed in table
below.
Table 13: Reasons for the inconsistency of profitability in Mairye Estate Limited
Reasons Frequency Percentage
Increasing competition 11 17.5
Increased inflationary tendencies 10 15.9
High interest rates 6 9.5
Increased speculation in business 7 11.1
Unfavorable exchange rate
fluctuations
29 46
Total 63 100
Source: Primary data
From Table 13 above, 46% noted that unfavorable exchange rate fluctuations have the
biggest impact on profit level of Mairye Estate whereas 17.5% and 15.9% revealed that
increased competition from similar exporters of flowers and inflation lead to the
32
inconsistency of profitability in the company respectively. Higher interest rates attract foreign
capital and cause the exchange rate to rise and the fact that the company sells its products in
foreign currency, the rise in interest rates reduces their profits as shown by only 9.5%
response. The above findings however still bring out unfavorable exchange fluctuations as the
main cause of inconsistency of profitability in Mairye Estate Limited.
4.5 Relationship between exchange rate fluctuations and the profitability of Mairye
Estate limited
Table 14: Currencies accepted during sales in Mairye Estate Limited
Response Frequency Percentage
Dollar 63 63
Total 63 100
Source: Primary data
Table 14 shows that all the respondents revealed that the dollar is the only currency accepted
during the sale of their flowers and other products for the company. This implied therefore
that the dollar being the only currency accepted, its exchange rate has a direct impact on how
much the company earns, which eventually determines the profit level in the long run.
Figure 2: Exchange rate of a dollar since 2000
33
Rate in Ug Shs
Rate in Ug Shs
Source: Bank of Uganda Estimates as per December 2010
According the estimates given by Bank of Uganda, the US dollar has been increasing steadily
over the previous years and its increase in value implies that the local Ugandan currency loses
value over a dollar. The statistics show that in 2010, one dollar was worth 2308/= Uganda
shillings which is a very high value. This implies that the dollar is valued highly and any
transaction using a dollar affects that transaction negatively.
Figure 3: Relationship between exchange fluctuations and the profitability of Mairye
Estate limited
34
Yes; Percentage; 74.6; 75%
No; Percentage; 25.4; 25%
YesNo
Source: Primary data
From Figure 3 above, 74.6% of the respondents revealed that there is a relationship between
exchange fluctuations and the profitability of Mairye Estate limited but only 25.4% disagreed
saying that exchange fluctuations are not related to the profitability of Mairye Estate limited.
It should be noted however that since the majority are in support of the idea, exchange
fluctuations are related to the profitability of Mairye Estate limited. Furthermore, emphasis
should also be put on whether it is a negative relationship or a positive relationship. The fact
that the relationship exists can be explained to be a negative relationship because it implies
that the increasing unfavorable exchange fluctuations reduce the profits of the company
because if the fluctuations are high, profits have to be low and viceversa
Table 15: Statements showing the relationship between exchange fluctuations and the
profitability of Mairye Estate limited
Statement Frequency Percentage
35
Stock prices and exchange rate are positively
related
3 4.8
Company’s profitability fluctuates because of
fluctuations in currency
6 9.5
Increase in fluctuations reduces profitability of
Mairye estate
28 44.4
There is a relationship between exchange
fluctuations and profitability
18 28.6
Fluctuation affect the capital stock of the
company
8 12.7
Total 63 100
Source: Primary data
From Table 15 above, majority of the respondents (44.4%) revealed that Increase in
fluctuations reduces profitability of Mairye estate whereas 28.6% also noted that there is a
relationship between exchange fluctuations and profitability. More so, 12.7% said that
fluctuation affect the capital stock of the company but 9.5% and 4.8% also noted that stock
prices and exchange rate are positively related and Company’s profitability fluctuates because
of fluctuations in currency respectively. The above findings on the statement however can
prove that respondents were convinced that exchange fluctuations were related to the
profitability of Mairye Estate limited.
Table 16: Effect of Exchange fluctuations and profitability of Mairye Estate Limited
Response Frequency Percentage
Yes 47 74.6
No 16 25.4
36
Total 63 100
Source: Primary data
From Table 1.16 above, 74.6% of the respondents revealed that exchange fluctuations affect
the profitability of Mairye Estate Limited but only 25.4% disagreed with the idea saying that
exchange fluctuations don’t have an effect on profitability of Mairye Estate Limited. This
also implied that exchange fluctuations have an effect on the profitability of Mairye Estate
limited. Therefore, a negative effect affects the company’s profits negatively and positive
effect also affects the profits positively.
Table 17: How Exchange fluctuations affect profitability of Mairye Estate Limited
Reasons Frequency Percentage
Fluctuations reduce operating
income of the firm.
6 9.6
Fluctuations expose the company to
foreign-exchange risk
20 31.7
Lead to reduction in company’s
profit margins
37 58.7
Total 63 100
Source: Primary data
From Table 17 above, there were three main dimensions given by the respondents on how
exchange fluctuations affected the profitability of Mairye Estate Limited. Majority of the
respondents (58.7%) revealed that fluctuations lead to reduction in company’s profit margins
whereas 31.7% noted that fluctuations expose the company to foreign-exchange risk and
9.6% finally revealed that fluctuations reduce operating income of the firm. The above
findings therefore implied that exchange fluctuations affect profitability of Mairye Estate
37
Limited but the majority identified the effect to be on the company’s profit margin which
therefore justifies that exchange fluctuations affect a company’s profitability.
Table 18: Other Factors that affect the profitability of Mairye Estate Limited
Other factors Frequency Percentage
Competition with other
companies
13 20.6
Availability of substitutes 17 27
Low demand for the products 27 42.9
Political instability 6 9.5
Total 63 100
Source: Primary data
Results in Table 18 above shows that apart from exchange fluctuations, the respondents noted
several other factors that affect the profitability of Mairye Estate Limited with 42.9%
revealing that reduction in demand for the products affects profitability whereas 27% said that
availability of substitutes has an effect on profits and 20.6% noted that stiff competition with
other companies has an effect on profits but only 9.5% revealed that political instability also
affects the profitability of the company because the buyers divert their demand to other stable
companies where the products can be exported without risk. The findings above therefore
implied that the demand for the products and competition from the rival companies affects the
profitability due to the reduction in sales of the company.
38
CHAPTER FIVE
SUMMARY OF FINDINGS, CONCLUSION, RECOMMENDATIONS AND AREAS
FOR FURTHER STUDY
Introduction
This chapter presents the summary of findings, conclusion and recommendations about the
study findings and it is also arranged according to the study objectives which include
establishing the causes of causes of foreign exchange rate fluctuations, determinants of
39
profitability in Mairye Estate Limited and the relationship between foreign exchange
fluctuations and profitability of Mairye Estate Limited.
5.1 Summary of study findings
5.1.1 Findings on causes of foreign exchange rate fluctuations.
The study findings revealed that differentials in exchange rates and high levels of inflation
cause foreign exchange fluctuations. The terms of trade between the two trading partners also
cause exchange fluctuations. Most of the respondents also revealed that it is not easy to
predict the Uganda shilling against a dollar an implication that the dollar is always valuable as
against the Uganda shillings. Regarding the reasons for unpredictability of Uganda shilling
against a dollar, findings revealed that it was because of the forces of demand and supply for
the dollar in the currency markets and speculative demand for the dollar. This is in line with
Dwivedi, (2002) who notes that under the same currency rate, the nation loses on exports and
gain in imports. In the currency market, the demand of foreign currencies increases, therefore
causing the appreciation of foreign currencies.
Findings also revealed that the Uganda shilling fluctuates against the dollar which implied
that as the dollar gains value, the Uganda shilling continuously loses value in monetary terms.
The level of inflation and speculation were the main reasons why the shilling was fluctuating
against a dollar. The above findings are in line with Dwivedi, (2002) who also noted that
speculation or the anticipation of the market participants many a times is the prime reason for
exchange rate movements.
The findings are also supported by Steve Johnson, (2010) who revealed that if a nation has
over issued its currency which exceeds the demand in product purchasing, there will be
inflation. Inflation decreases the purchasing power of the people and therefore leads to
40
currency depreciation. He also noted that the change in inflation rate changes the demand and
supply in currencies, bonds, and currency value expectation. Inflation leads to higher product
price internally.
5.1.2 Findings on determinants of profitability in Mairye Estate Limited.
Findings revealed that exchange rate fluctuations had the most response regarding how they
affect the profitability of the company which implied exchange rate fluctuations were the
main factors that affect the profitability of Mairye Estate limited an indication that once the
fluctuations are unfavorable, the profits will go down.
Findings also revealed that sales volume by the company determines the profitability levels in
the company which implied sales volume was among the main determinant of profitability in
the company however, there are other moderating determinants of profit levels in the
company. This is line with (Buhl, 2002) who notes that the amount of sales determines
profitability in an organization.
On the consistency of profitability in Mairye Estate Limited, findings revealed that the level
of profitability was not consistent in the company. Several reasons were however given for
the inconsistency of profits in Mairye Estate Limited and these were said to be, unfavorable
exchange rate fluctuations and increased competition from similar exporters of flowers plus
inflation which however still brings out unfavorable exchange fluctuations as the main cause
of inconsistency of profitability in Mairye Estate Limited. This is line with Ariokot (2002)
who noted that profitability of a firm is affected by the following factors like competition,
costs of production and interest rates among others.
5.2.3 Findings on the Relationship between foreign exchange fluctuations and
profitability of Mairye Estate Limited.
41
Findings revealed that foreign exchange fluctuations affect the profitability of Mairye Estate
Limited which implied that there is a relationship between exchange fluctuations and the
profitability of Mairye Estate limited. It should be noted however that since the majority are
in support of the idea, exchange fluctuations are related to the profitability of Mairye Estate
limited. The fact that the profits are low, it implies that the exchange fluctuations are
unfavorable. The study findings also showed that exchange fluctuations have an effect on
profitability of Mairye Estate Limited. The findings showed that majority of the respondents
revealed that fluctuations lead to reduction in company’s profit margins and reduce operating
income of the firm. The above findings therefore implied that exchange fluctuations affect
profitability of Mairye Estate Limited but others identified the effect to be on the company’s
Sales volume which therefore justifies that exchange fluctuations affect a company’s
profitability. The study findings are in line with (Ajayi and Mougove, 1996) who found out
that stock prices and exchange rate are positively related.
The study findings are further supported by Katarikwe and Sebudde, (1999) who revealed
that frequent appreciation of a foreign currency against local currency makes it difficult to
retain local customers because of high prices of imported input that tend to affect prices of
their final products sold locally. This therefore implies that a company’s profitability
fluctuates because of fluctuations in currency being translated into fluctuating prices.
5.3 Conclusion
In a nut shell therefore, exchange fluctuations are related to the profitability of the company
and unfavorable fluctuations affect profits negatively whereas favorable fluctuations affect
profits positively. It should also be noted that the exchange rate of the currency in which a
portfolio holds the bulk of its investments determines that portfolio's real return. A declining
42
exchange rate obviously decreases the purchasing power of income and capital gains derived
from any returns. Moreover, the exchange rate influences other income factors such as
interest rates, inflation and even capital gains from domestic securities. Furthermore,
exchange is not the only determinant of profitability of a company and that is why factors like
competition, costs of production and substitutes among others are shown to also have an
effect of profits of a firm.
5.4 Recommendations
Regarding the study findings, the researcher recommended the following;
On the cause of exchange rate fluctuations, there is need for investors to have some
understanding of how currency values and exchange rates play an important role in the rate of
return on their investments since exchange rates are determined by numerous complex factors
that often leave even the most experienced economists sleepless. Export companies need to
adopt and start using a 'Forward Contract' to reduce the effect of fluctuations on their
businesses.
For Mairye Estate to increase profits, the company needs to increase sales volume for a better
profit margin since these are the main determinants of profitability in the company.
Increasing sales volume may appear to be an easy way of increasing profitability, but this is
not necessarily the case. If you increase your sales volume, you must at the same time
rigorously control costs, prices, capital employed, and your product/service mix. Be sure that
none of these four other components of profitability increases disproportionately; if they do,
increased sales reduce instead of increase profits.
Regarding the relationship between foreign exchange fluctuation and profitability, the
company needs to ensure that it struggles to have improved terms of trade since they
43
determine the rate of fluctuations in foreign exchange. The company also needs to ensure that
the government supports them by ensuring that it controls the rate of inflation which
fluctuates exchange rate and it also affects their levels of profitability in the long run.
5.5 Areas for further research
i. Foreign exchange risk and performance of multinationals
ii. Foreign exchange risk management and profitability of export companies
iii. Exchange policies and foreign exchange fluctuations
References
Abor, Joshua (2005). Managing foreign exchange risk among Ghanaian firms, Journal of
Risk Finance, United Kingdom.
Arora (2002), Long-Run Real Exchange Rates, in Handbook of International
Economics, ed. By Gene Grossman and Kenneth Rogoff, Vol. 3
(Amsterdam: North-Holland).
Black, John (2003). Oxford Dictionary of Economics. New York: Oxford University Press.
44
Buhl G, (2002). Exchange Rate Assessment: Extensions of the
Macroeconomic Balance Approach, Occasional Paper No. 167
(Washington, International Monetary Fund).
David Black (2003), Exchange Rate Fluctuations and Profitability of Organisations, New
York, Prentice Hall.
Don Hosfstrand (2006). Foreign Exchange Rates and Their Impact on Trade,
Investment and Profitability in the APEC Region, Occasional Paper No. 145.
Dwivedi, M, (2002) “Exchange Rate Economics: What’s Wrong with the Conventional
Macro Approach?” in The Microstructure of Foreign Exchange Markets, ed. By Jeffrey A.
Frankel, (Chicago: University of Chicago Press).
Eiteman P, (2008) "Real Exchange Rate Levels and Economic Development: Theoretical
Analysis and Empirical Evidence," Sao Paulo Business Administration School, Getulio
Vargas Foundation, 2007.
Eleftherioss, R, (2007). The price of one country's currency expressed in another country's
currency, Published by Houghton Mifflin Company.
Emmanuel T M, 2001). Speculation in the banking sector and exchange rates, Central
Banking-Uganda, 30 Jan 2001.
Flybjerg, B. (2008). An International Comparison of National Products and the
Purchasing Power of Currencies: A Study of the United States, the United
Kingdom, France, Germany, and Italy (Paris: Organization for European
Economic Cooperation).
Hsing, Y., (2004). Impacts of Fiscal Policy, Monetary Policy, and Exchange Rate Policy on
Real GDP in Brazil: A VAR Model, Brazilian Electronic Journal of Economics.
45
Jack Hirshleifer & David Hirshleifer (2005). Price theory and applications: decisions,
markets, and information. Cambridge University Press. ISBN 9780521818643.
http://books.google.com/books?id=VbrKgDK-rioC. Retrieved 20 December 2010.
Jennings, P, (2000). A Survey of Empirical Research on Nominal Exchange Rates,” in
Handbook of International Economics, ed. by Gene Grossman and Kenneth Rogoff, Vol. 3
(Amsterdam: North-Holland).
Massey, K. (2007). Interest Rate impact on Debt and company performance [Online].
Available: http://www.finweek.com.
O'Sullivan, A, Steven M. & Sheffrin (2003). Economics: Principles in action. Upper Saddle
River, New Jersey 07458: Pearson Prentice Hall. pp. 458. ISBN 0-13-063085-3.
Sheffrin M, (2003). Economics: Principles in action. Upper Saddle River, New Jersey 07458:
Pearson Prentice Hall. pp. 458. ISBN 0-13-063085-3.
Steve Johnson (2010), New world currency index launch, Published: October 24 2010 12:07 |
Last updated: October 24 2010 12:07, United Kingdom.
Subramaniam V, (2007), Economics/Currency fluctuations, University of Madras, India.
Questionnaire to employees
Introduction
46
I am Tumwebaze Dorothy Mbabazi a student of Makerere University and carrying out a study on a
topic Foreign exchange fluctuations on the Profitability of Mairye Estate limited as an export
company. I am requesting you kindly to spare me some of your valuable time and respond to my
questionnaire. All the information provided will be used for academic purposes only and treated with
utmost confidentiality.
Thank you
SECTION A
Demographic characteristics of respondents
1. What is your sex?
Male Female
2. How old are you?
Below 18 years 19-25 26-40 Above 40 years
3. What is your religion?
Christian Moslem None
4. Are you married? Yes No
47
5. How long have you worked with Mairye Estate limited?
Less than 1 year 1-5 years 6-10 years Above 10 years
SECTION B
Questions on foreign exchange rate fluctuations.
6. How do you define foreign exchange?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
7. What is exchange rate fluctuation?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
8. Is the rate of the Uganda shilling against dollar predictable?
Yes No
Give reasons for your answer above
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
9. In your view does the Uganda shilling fluctuate a lot against the dollar?
Yes No
Give reasons for your answer above
48
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
10. What are the causes of exchange rate fluctuations?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………..
……………………………………………………………………………………………………………………………………………………………
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………
SECTION C
Questions on profitability of Mairye Estate Limited.
11. How do you define profitability?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
12. How does Mairye Estate Limited measure profitability?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
13. What Factors affect the profitability of Mairye Estate Limited?
49
……………………………………………………………………………………………………………………………………………………………
……………………………………………………………………………………………………………………………………………………………
……………………………………………………………………………………………………………………………………………………………
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………
14 Is Mairye Estate Limited’s profitability consistent?
Yes
No
Give reasons for your answer above?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
15. Do exchange fluctuations affect the profitability of Mairye Estate Limited?
Yes
No
Give reasons for your answer above
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
SECTION D
Questions on Relationship between exchange rate fluctuations and the profitability of Mairye
Estate limited
50
16. In what currencies are your sales?
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
17. Is there a relationship between exchange fluctuations and the profitability of Mairye Estate
limited?
Yes No
Give reasons for your answer above
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
18. Do exchange fluctuations have any diverse effect on the profitability of Mairye Estate limited?
Yes No
Give reasons for your answer above
……………………………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………………………
19. How do foreign exchange fluctuations affect the profitability of Mairye Estate limited?
……………………………………………………………………………………………………………………………………………………………
………………………………………………………………………………………………………………………………………………………..
20. What other Factors affect the profitability of Mairye Estate Limited?
51