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strayer university finc535 Week Homework




Question;Week 6 Homework;Strayer University;2013;19. Comparing Transaction and Economic Exposure.;Erie Co. has most of its;business in the U.S.,except that it exports to Belgium. Its exports were invoiced;inEuros (Belgium?s;currency) last year. It has no other economic exposure to exchange rate risk.;Its main;competition when selling;to Belgium?s customers is a company in Belgium that sells similar products;denominated inEuros. Starting today;Erie Co. plans to adjust its pricing strategy to invoice its exports in;U.S. dollars instead ofEuros. Based on the;new strategy, will Erie Co. be subject to economic exposure to;exchange rate risk in the;future? Briefly explain.;25. Potential;Effects if the United;Kingdom Adopted the Euro.;The U.K. still has its own currency, the pound. The;pound?s interest rate has historically been higher than;theEuros interest rate. The U.K. has considered adopting the;euro as its currency. There have been many;arguments about whether it should do so.;Use your knowledge and intuition to discuss;the likely effects if the United Kingdom adopts the euro. For;each of the 10 statements below, insert;eitherincrease or decrease and complete the;statement by;adding a clear short explanation (perhaps;one to three sentences) of why the U.K.?s adoption of the euro;would have that effect.;To help you narrow your focus, follow these;guidelines. Assume that the pound is more volatile than the;euro. Do not base your answer on whether;the pound would have been stronger than the euro in the;future. Also, do not base your answer on an;unusual change in economic growth in the U.K. or in the euro;zone if the euro is adopted.;32. Comparison;of Techniques for Hedging Receivables.;A. Assume that Carbondale;Co. expects to receive S$500,000 in one year. The existing spot rate of;the Singapore dollar is;$.60. The one?year forward rate of the Singapore dollar is $.62.;Carbondale created a;probability distribution for the future spot rate in one year as follows;Future Spot Rate Probability;$.61 20%;.63 50;.67 30;Assume that one?year put options on Singapore dollars are available;with an exercise price of $.63 and a;premium of $.04 per unit. One?year call options on Singapore dollars are available;with an exercise price;of $.60 and a premium of $.03 per unit. Assume;the following money market rates;U.S. Singapore;Deposit rate 8% 5%;Borrowing rate 9 6;Given this information;determine whether a forward hedge, money market hedge, or a currency options;hedge would be most;appropriate. Then compare the most appropriate hedge to an unhedged;strategy;and decide whether;Carbondale should hedge its receivables position.;b. Assume;that Baton Rouge, Inc. expects to need S$1 million in one year. Using any;relevant;information in part (a) of this question, determine;whether a forward hedge, a money market hedge, or a;currency options hedge would be most;appropriate. Then, compare the most appropriate hedge to an;unhedged strategy, and decide whether Baton Rouge;should hedge its payables position.;34. Exposure to September 11.;If you were a U.S. importer of products from;Europe, explain whether the September 11, 2001;terrorist attack on the U.S. would have caused;you to hedge your payables (denominated in;Euros) due a few months later. Keep in mind that the attack was followed by;a reduction in U.S.;interest rates.;40. Hedging Decision.;Chicago Company expects to receive 5;millionEuros in one year from exports.;It can use any one;of the following strategies to deal with the exchange rate risk. Estimate the;dollar cash;flows received as a;result of using the following strategies;a. unhedged;strategy;b. money;market hedge;c. option;hedge;The spot rate of the euro as of today is;$1.10. Interest rate parity exists. Chicago;uses the forward rate;as a;predictor of the future spot rate. The annual interest rate in the U.S. is 8%;versus an annual;interest rate of 5% in theeuro zone. Put options onEuros are available with an exercise price of;$1.11, an expiration date of one year from;today, and a premium of $.06 per unit. Estimate the dollar;cash flows it will receive as a result of;using each strategy. Which hedge is optimal?;11. Managing;Economic Exposure.St. Paul Co. does;business in the United States;and New Zealand.;In attempting to;assess its economic exposure, it compiled the following information.;a. St. Paul?s U.S. sales are somewhat affected by the value of;the New Zealand dollar;(NZ$);because it faces competition from New;Zealand exporters. It forecasts the U.S. sales based on the;following three exchange rate scenarios;Revenue from U.S. Business;Exchange Rate of NZ$ (in millions);NZ$ = $.48 $100;NZ$ =.50 105;NZ$ =.54 110;b. Its New Zealand dollar revenues on sales to New Zealand invoiced in New Zealand dollars are;expected to be;NZ$600 million.;c. Its;anticipated cost of materials is estimated at $200 million from the purchase of;U.S. materials;and NZ$100 million;from the purchase of New Zealand materials.;d. Fixed operating expenses are estimated at $30;million.;e.;Variable operating;expenses are estimated at 20 percent of total sales (after including New;Zealand sales, translated to a dollar;amount).;f. Interest;expense is estimated at $20 million on existing U.S.;loans, and the company has no;existing New Zealand loans.;Forecast net cash flows for St. Paul Co.;under each of the three exchange rate scenarios. Explain how;St. Paul's projected;net cash flows are affected by possible exchange rate movements. Explain;how it can;restruc?ture its;operations to reduce the sensitivity of its net cash flows to exchange rate;movements;without reducing its;volume of business in New Zealand.;12. Assessing Economic;Exposure.;Alaska Inc. plans to;create and finance a subsidiary in Mexico that produces computer components at;a low cost and;exports them to other countries. It has no other international business. The;subsidiary;will produce;computers and export them to Caribbean islands and will invoice the products in;U.S.;dollars. The values;of the currencies in the islands are expected to remain very stable against the;dollar. The;subsidiary will pay wages, rent, and other operating costs in Mexican;pesos. The;subsidiary will;remit earnings monthly to the parent.;a.;Would Alaska?s cash flows be;favorably or unfavorably affected if the Mexican peso depreciates;over time?;b.;Assume that Alaska;considers partial financing of this subsidiary with peso loans from Mexican;banks instead of;providing all the financing with its own funds. Would this alternative form of;financing increase;decrease, or have no effect on the degree to which Alaska is exposed to;exchange rate;movements of the peso?;13. Hedging;Continual Exposure.;Consider this common real-world dilemma;by many firms that rely on exporting.;Clearlake Inc. produces;its products in its factory in Texas, and;exports most of the products to Mexico each month. The exports;are denominated in pesos. Clearlake Inc.;recognizes that hedging on a monthly basis does not really;protect against long-term movements in;exchange rates. It also recognizes that it could eliminate its;transaction exposure by denominating the;exports in pesos, but that it still would have economic exposure;(because Mexican consumers would reduce;demand if the peso weakened). Clearlake Inc. does not know;how many pesos it will receive in the;future, so it would have difficulty even if a long-term hedging;method were available. How can Clearlake;realistically deal with this dilemma and reduce its exposure;over the long-term? [There is no perfect;solution, but in the real world, there rarely are perfect solutions.]


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