Question

Procter and Gamble’s affiliate in India, P&G India, obtains much of its product line from a Vietnamese company. Because of the shortage of short-term capital in India, payment terms by Indian importers are typically 180 days or longer. Thus, P&G India wishes to hedge a 10 Million Vietnamese Dong payable in 180 days. Although options are not available on the Indian Rupee, forward rates are available against the Vietnamese Dong. Additionally, a common practice in India is for companies like P&G India to work with a currency agent who will, fix the current spot rate in exchange for a 4% fee of total transaction value.

Using the exchange rate and interest rate data given in the table below, recommend a hedging strategy by calculating and comparing the cost of each hedging strategy.

Spot Rate	350 Dong/Rupee
180-day forward rate	320 Dong/Rupee
Expected spot rate in 180 days	320 Dong/Rupee
180-day Rupee investing rate	6.00%
180-day Dong investing rate	2.00%
Currency agent’s exchange rate fee	4%
P&G India’s cost of borrowing	10.00%

Answer 1

Sr.No.	Particular	Amount	Amount
1	Hedge via Forward
	Payable	VND         10,000,000
	Forward Rate	320 Dong / 1 Rupee
	Rupees require	INR              31,250.00
	Agent Fee @ 4%	INR                1,250.00
	Payable in Forward Contract		INR   32,500.00
2	Hedge via Money Market Hedge
	Payable	VND   10,000,000.00
	(A) Today Borrow Money in India equivelent to VND 10,000,000 after 180 Year including interest (Invest in vietnamese) so VND require including interest.	VND      9,803,921.57
	(VND 10,000,000 /1.02)
	Exchange rate (Spot)	350 Dong / 1 Rupee
	Indian Money require	INR              28,011.20
	Add: Agent fee @ 4%	INR                1,120.45
	Total Money Borrow	INR              29,131.65
	Add: Interest cost @ 10% p.a so 5% for 180 Days	INR                1,456.58
	Payable in Money Market Hedge		INR 30,588.24
3	Unhedge position
	Payable	VND         10,000,000
	Spot rate after 180 days	320 Dong / 1 Rupee
	Rupees require	INR              31,250.00
	Agent Fee @ 4%	INR                1,250.00
	Payble in case of Unhedge		INR 32,500.00

Here recomment that P&G India to hedge the payable via money market hedge as it have lowest outflow i.e. INR30,588.24

Assumption for calculation :

(1) Agent fee payable in all transaction will be paid at the time of transaction execution date and not at the time of contract.

(2) Borrowing cost of P&G India 10% is annual.

(3) P&G India can not pay at spot due to shortage of fund.