Finance Case Study International Finance and Banking

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BUS 631 International Finance and Banking

Case Study

Yankee, Inc., a U.S. based MNC, has recently decided to expand its international trade

relationship by exporting to France. Bonjour Ltd., a French retailer, has committed itself to the

annual purchase of 300,000 pairs of “Speedos,” Yankee’s primary product, for a price of

EUR120 per pair. The agreement is to last for two years, at which time it may be renewed by

Yankee and Bonjour.

In addition to this new international trade relationship, Yankee continues to export to Malaysia.

Its primary customer there, a retailer called Leisure Products, is committed to the purchase of

270,000 pairs of Speedos annually for another two years at a fixed price of MYR450 per pair.

When the agreement terminates, it may be renewed by Yankee and Leisure Products.

Yankee also incurs costs of goods sold denominated in MYR. It imports materials sufficient to

manufacture 108,000 pairs of Speedos annually from Malaysia. These imports are

denominated in MYR, and the price depends on current market prices for the components

imported.

Under the two export arrangements, Yankee sells quarterly amounts of 75,000 and 67,500 pairs

of Speedos to Bonjour and Leisure Products, respectively. Payment for these sales is made on

the first of January, April, July, and October. The annual amounts are spread over quarters in

order to avoid excessive inventories for the French and Malaysian retailers. Similarly, in order

to avoid excessive inventories, Yankee usually imports materials sufficient to manufacture

27,000 pairs of Speedos quarterly from Malaysia. Although payment terms call for payment

within two months of delivery, Yankee generally pays for its Malaysian imports upon delivery

on the first day of each quarter in order to maintain its trade relationships with the Malaysian

suppliers. Yankee feels that early payment is beneficial, as other customers of the Malaysian

supplier pay for their purchases only when it is required.

Since Yankee is relatively new to international trade, Jim Johnson, Yankee’s chief financial

officer (CFO), is concerned with the potential impact of exchange rate fluctuations on

Yankee’s financial performance. Johnson is vaguely familiar with various techniques

available to hedge transaction exposure, but he is not certain whether one technique is superior

to the others. Johnson would like to know more about the forward market, money market, and

options market hedges and has asked you, a financial analyst at Yankee, to help him identify

the hedging technique most appropriate for Yankee. Unfortunately, no options are available

for MYR, but EUR call and put options are available for EUR125,000 per option.

Jim Johnson has gathered and provided you with the following information for Malaysia and

France:

Malaysia France

Current spot rate USD0.3050 USD1.3500

3-month forward rate USD0.3000 USD1.3550

Put option premium N/A USD0.0200

Put option strike price N/A USD1.3500

Call option premium N/A USD0.0150

Call option strike price N/A USD1.3500

3-month borrowing rate 4.0% p.a. 2.0% p.a.

3-month lending rate 3.5% p.a. 1.5% p.a.

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In addition to this information, Jim Johnson has informed you that the 3-month borrowing and

lending rates in the United States are 2.5% p.a. and 2.0% p.a., respectively. He has also

identified the following probability distributions for the exchange rates of the EUR and the

MYR in three months:

Probability Spot Rate for EUR in

3 months

Spot Rate for MYR in

3 months

5% USD1.3000 USD0.3100

20 1.3200 0.3070

30 1.3400 0.3040

25 1.3600 0.3010

15 1.3800 0.2980

5 1.4000 0.2960

Yankee’s next sales to and purchases from Malaysia will occur one quarter from now. If

Yankee decides to hedge, Johnson will want to hedge the entire amount subject to exchange

rate fluctuations, even if it requires overhedging (i.e., hedging more than the needed amount).

Currently, Johnson expects the imported components from Malaysia to cost approximately

MYR300 per pair of Speedos. Johnson has asked you to answer the following questions for

him:

1. Compare the hedging alternatives for the MYR with a scenario under which Yankee

remains unhedged. Do you think Yankee should hedge or remain unhedged? If

Yankee should hedge, which hedge is most appropriate?

2. Compare the hedging alternatives for the EUR receivables with a scenario under which

Yankee remains unhedged. Do you think Yankee should hedge or remain unhedged?

Which hedge is the most appropriate for Yankee?

3. In general, do you think it is easier for Yankee to hedge its inflows or its outflows

denominated in foreign currencies? Why?

4. Would any of the hedges you compared in Question 2 for the EUR to be received in

three months require Yankee to overhedge? Given Yankee’s exporting arrangements,

do you think it is subject to overhedging with a money market hedge?

5. Could Yankee modify the timing of the Malaysian imports in order to reduce its

transaction exposure? What is the tradeoff of such a modification?

6. Could Yankee modify its payment practices for the Malaysian imports in order to

reduce its transaction exposure? What is the tradeoff of such a modification?

7. Given Yankee’s exporting agreements, are there any long-term hedging techniques

Yankee could benefit from? For this question only, assume that Yankee incurs all of its

costs in the U.S.

The deadline for submitting this case study is Saturday, 1 March 2014.

You ARE NOT allowed to communicate with other groups regarding this case study.

The University’s plagiarism policy will be strictly enforced.

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BUS 631 International Finance and Banking

Case Study Grading Rubric

Grading Criteria Marks

Allocated

Marks

Scored

Question 1 15

Question 2 25

Question 3 10

Question 4 10

Question 5 10

Question 6 10

Question 7 10

Organization/structure, grammar/spelling 10

Total 100