Question

Assume you are the CFO of AIFS. Your analyst reports the following information (Use the following information for the remainder of the assignment):

• Current exchange rate is $1.16/€.

• Forward rate is $1.185/€.

• Expected final sales volume is 30,000. Worst case scenario is volume of 10,000. Best

  case scenario is volume of 36,000.

• Cost per student is €2500.

• Option premium is 2% of USD strike price.

• Option strike price is $1.165/€.

6. As the CFO, you decided to hedge using forward contracts. Assume that the expected final sales volume is 30,000. What are your total benefit/cost and the percentage benefit/cost from hedging (compared to no hedging)

a) if the exchange rate remains at $1.16/€? b) if the exchange rate will be $1.25/€?
c) if the exchange rate will be $1.08/€?

7. As the CFO, you decided to hedge using option contracts. Assuming expected final sales volume is 30,000, what are your total benefit/cost and the percentage benefit/cost from hedging (compared to no hedging)

a) if the exchange rate remains at $1.16/€?

b) if the exchange rate will be $1.25/€?

c) if the exchange rate will be $1.08/€?

8. What is the most profitable strategy for the case in which the expected final sales volume is 30,000 (no hedge, forward contract, or option contract)

a) if the exchange rate remains at $1.16/€? b) if the exchange rate will be $1.25/€?
c) if the exchange rate will be $1.08/€?
d) Is there a best strategy? Why?

Answer 1

Use spreadsheet for the ease in computations. Enter values and formulas in the spreadsheet as shown in the image below.

The obtained result is provided below.