Question

In: Finance

YOU are the financial officer at an Austrian company that wants to BUY USD 1.000.000 of...

YOU are the financial officer at an Austrian company that wants to BUY USD 1.000.000 of solar equipment from a U.S. producer. You need to pay for the equipment in 90 days.

You have the following information available:

Spot rate $1.125 / €  90-Day forward rate $1.09 (actual spot rate expected based on historical distribution: $1.05 - $1.12)

Interest rates: US $ 4% EUR 2%

FX options available:

Contract size $125.000

CALLS : June (3 months ahead), strike price $1.10/€, Premium € 2000 per contract

PUTS : June (3 months ahead), strike price $1.00/€

Premium €1000 per contract

Futures contracts available:

Contract size $250.000

June contract, FX rate $1.11

Margin to maintain 10%

Describe your foreign exchange exposure

Describe how you would use the following instruments to hedge, i.e. how would each instrument work? (more important to describe than to calculate): Forward Contract , Options Contract

Would you recommend that the company hedge this transaction? Which instrument (any of the instruments, not just the two above) would you recommend?

Expert Solution

The Austrian company has to buy US Dollars forward to pay for the equipment. The risk to the company is if the Euro depreciates against the US Dollar.

The company can hedge its FX exposure either by Selling Euro forward or by Buying a put on EUR/USD

The 90 day forward price for EUR/USD is quoting at 1.11

The company can enter into a forward contract to sell EUR/USD forward at 1.11. Since each futures contract is for a USD 250000 notional, the company would need 4 contracts to hedge the exposure

Alternatively, it can buy a put option on the EUR/USD. Since the available put option is of a very low strike i.e. 1, the company would lose if Euro depreciates to parity against the US Dollar. Hedging through forward is therefore a better option under this scenario. The company would crystallize a loss of 1100 pips straight away. Since the Euro has shown a propensity to depreciate in the past, this option is not advisable.

*The question is not very clear if the put is on EUR/USD or USD/EUR. If we are talking with respect to EUR/USD, the company would have to buy a put, If we are talking with respect to USD/EUR, the company would have to buy a call.

If it is a call on the USD that is being referred to then after including the EUR 2000 premium cost, the company is protecting itself at a rate of 1.0809. Even in this case hedging through futures is a better option.

jeff jeffy answered 2 hours ago

Assume that you are a Loan Officer at the local bank. Company A wants to get...

Assume that you are a Loan Officer at the local bank. Company A wants to get a long-term loan from your bank. Company B wants to get a long-term loan from your bank. Company C also wants to get a long-term loan from your bank. The TOTAL DEBT RATIO for Company A is .70 and the TIMES INTEREST EARNED RATIO for Company A is .70 for the year. The TOTAL DEBT RATIO for Company B is .75 and the TIMES...

Suppose you are the Chief Financial Officer of a tech company and that you want to...

Suppose you are the Chief Financial Officer of a tech company and that you want to obtain a good estimate for the cost of capital of a new investment project. Your project is an investment in a new production line for semi-conductors and has an expected lifetime of 20 years. That is, you expect to receive cash flows from the project for 20 years. Explain how you would obtain a good cost of capital estimate for your project using two...

You are the chief financial officer of Superior Paint Company, a company that manufactures paint and...

You are the chief financial officer of Superior Paint Company, a company that manufactures paint and paint products in a large township. Chemicals used in the production process are disposed off in compliance with environmental regulations but some of the components of the products such as solvents, monomers and softening agents still present serious ecological risks. The company provides regional employment. The chief executive officer has asked you to prepare a report on whether the company should engage in social...

You are the lending officer for Bank 6/3. A company wants to borrow money and has...

You are the lending officer for Bank 6/3. A company wants to borrow money and has the following assets: building, inventory and fixtures. A. Discuss how to fully protect the loan. B. Discuss what the bank would do if the debtor fails to pay the loan.

As the chief financial officer for ABC Company, you have to deal with unpredictable and large...

As the chief financial officer for ABC Company, you have to deal with unpredictable and large receipts and disbursements. Your company has adopted the use of the Miller-Orr model for management of checking balances. The variance of daily net cash flows is $14,392,000. The cost of making a purchase or sale of marketable securities is $170, and the rate you earn on marketable securities is 8%. Your company wishes to maintain a minimum balance in the checking account of $11,000....

Scenario analysis You are leading a role of Chief Financial Officer of a Cement Company in...

Scenario analysis You are leading a role of Chief Financial Officer of a Cement Company in Oman. Your company has huge current profit of RO 10 million and presently having a plan to capital investment of RO 8 million in the next financial year. The company is willing to continue capital structure of debt 25% and Equity 75% in the future. How much of the RO 10 million should your company pay out as dividends? And what would be the...

a)Imagine that you are the Chief Financial Officer (CFO) of a startup airline company. The executive...

a)Imagine that you are the Chief Financial Officer (CFO) of a startup airline company. The executive management team has tasked you with making a recommendation about whether the company should buy or lease airplanes. Analyze the major pros and cons for leasing and buying assets. Based on your analysis, provide a recommendation to the executive team. b)Compare and contrast the three (3) methods for depreciating plant assets. Recommend the method that maximizes profits for both a shorter period of time...

Imagine that you are the Chief Financial Officer (CFO) of a startup airline company. The executive...

Imagine that you are the Chief Financial Officer (CFO) of a startup airline company. The executive management team has tasked you with making a recommendation about whether the company should buy or lease airplanes. Analyze the major pros and cons for leasing and buying assets. Based on your analysis, provide a recommendation to the executive team. Please cite

The Chief Executive Officer of your company Hoota Limited wants you to explain the accounting treatment...

The Chief Executive Officer of your company Hoota Limited wants you to explain the accounting treatment of the following transactions following your return from an IFRS workshop on various accounting standards. You are the finance manager of your company. Transaction One Hoota Limited introduced two pension schemes, ‘CON’ and ‘BEN’ on 1 April 2019 for the benefit of its employees. The following information relates to the two schemes as at 1 April 2020: CON Scheme Under this scheme the company’s...

The company would like to buy a machine for 20 mil. USD. Machine would be depreciated...

The company would like to buy a machine for 20 mil. USD. Machine would be depreciated for 3 years using 3-years MACRS method. Company has following options: Loan: maturity 3 years, monthly payment, interest 6 % p.a., equal annuity payment Leasing: leasing coefficient 1.3; advanced payment 30 %; maturity 3 years; monthly payment Corporate tax rate is 19 %. Which type of financing is better for us? PS: please use Excel to calculate it and share the formula please.