What should salem do

Assignment Help Financial Management
Reference no: EM13201164

Hedging using Foreign Currency Derivatives Scout Finch is the Chief Financial Officer [CFO] of SALEM Manufacturing, a U.S. based manufacturer of gas turbine equipment. She has just concluded negotiations for the sale of a turbine generator to Crown, a British firm for One million pounds.

This single sale is quite large in relation to SALEM's present business. SALEM has no other current foreign customers, so the currency risk of this sale is of particular concern. The sale is made in March with payment due three months later in June.

Scout Finch has collected the following financial market information for the analysis of her currency exposure problem:

• Spot Exchange rate: $1.5640 per British pound.

• Three month forward rate: $1.5549 per pound

• SALEM's cost of capital: 16%

• U.K. three month borrowing interest rate: 12.0% (or 3.0% per quarter)

• U.K. three month investment interest rate: 10.0% (or 2.5% per quarter)

• U.S. three month borrowing interest rate: 12.0% ( or 3.0% per quarter)

• U.S. three month investment interest rate: 8.0% (or 2.0% per quarter)

• June put option in the over-the-counter (bank) market for 1,000,000 British pounds; Strike price $1.55 (nearly at-the money) 1.5% premium

• June put option in the over-the counter (bank) market for 1,000,000 British pounds: Strike price $1.51 (out-of-the money) 1.0% premium

• SALEM's foreign exchange advisory service forecasts that the spot rate in there months will be $1.56 per British pound.

Like many manufacturing firms, SALEM operates on relatively narrow margins. Although Ms. Finch and SALEM would be very happy if the pound appreciated versus the dollars, concerns center on the possibility that the pound will fall. When Ms. Finch budgeted this specific contract, she determined that the minimum acceptable margin was at a sale price of $1,500,000. The budget rate, the lowest acceptable dollar per pound exchange rate, was therefore established at $1.5 per British pound. Any exchange rate below would result in Dayton actually losing money on the transaction.

Workspace Four alternatives are available to Salem to manage the exposure:

1. Remain un-hedged.

2. Hedge in the forward market.

3. Hedge in the money market.

4. Hedge in the options market. What should Salem do?

Reference no: EM13201164

Questions Cloud

Characterize each variable by scale of measurement : The major variables in this data are age of employee, wages earned by that employee before resigning, sex of employee, and series of variables indicating "membership" in a specific class, such as over 40, under 40, internal applicant, external app..
Which investment is more attractive at an oil price : An oil and gas investor is considering the acquisition of two fields. Both fields have the same production profiles:production starts in 2013 and averages 250 barrels of oil per day (bopd) during that year.
Calculate the probability in a random selection : In a class of 40 student,18 pass maths, 19 pass account,16 pass economics 5 pass maths and account only, 6 pass maths only, if each student pass at least one of the subject.Calculate the probability that a student selected at random fail in account.
What is the economic life of each device : two years ago East Beach Products (EBP) designed and built in-house an R&D device to measure a critical parameter in evaluating new designs. Based on lessons learned, the testing engineers have found a generic device which can be modified to measu..
What should salem do : The budget rate, the lowest acceptable dollar per pound exchange rate, was therefore established at $1.5 per British pound. Any exchange rate below would result in Dayton actually losing money on the transaction.
Explain the supply-side economics : Supply-side economics, during President Reagan’s administration, involved  the supply component of the supply-demand equation.  stressing the importance of tax cuts for businesses.or else.
How do you decide to invest in the project : Based on the existing data of the field you believe there is a 15% chance that if you drilled immediately you would find a commercial discovery. You also have the option of investing in more information, which would include more sample wells and d..
State with one method called acceptance sampling : With one method called acceptance sampling, a sample of items is randomly selected without replacement and the entire batch is acepted if everyitem in the sample is okay
Find when the fed decreases the money supply : Treasury and Commerce departments. c. Board of Governors. Federal Open Market Committee. d. House and Senate.Fed buys a T-bill from a commercial bank, how will it pay for the T-bill? It will give the bank new reserves.

Reviews

Write a Review

 

Financial Management Questions & Answers

  Financial index and commodity index

What do you mean by Financial index and commodity index?

  Individual rehabilitation services (irs)

Individual Rehabilitation Services (IRS), Determine the minimum federal income tax liability and the taxes owed at the time of filing based on the following data:

  Determine the firms free cash flow

Determine the firm's free cash flow and calculate the liquidity, activity, debt, profitability, and market ratios for Jaedan industries.

  How do market values affect the goal of financial managers

How do book values and market values affect the goal of financial managers? How will a firm determine if its level of liquidity is appropriate?

  Justify and criticize the usual assumption made

Justify and criticize the usual assumption made in financial management literature that the objective of a company is to maximize the wealth of its shareholders.

  Financial decision-making techniques

Complete a project that helps you apply theoretical knowledge of financial planning to practical applications. It is a proven fact that learning by doing is more effective than reading theory.

  Ratio analysis - calculate the current ratio

Ratio Analysis - Calculate the current ratio, quick ratio, cash to current liabilities ratio, over a two-year period. Discuss and interpret the ratios that you calculated

  Analyse the current financial state of anthony''s orchard

Analyse the current financial state of Anthony's Orchard and evaluate the impact of a major customer cancelling their expected order.

  What is the initial investment outlay

What are the two projects net present values assuming the cost of capital is 5%?  What is the initial investment outlay?

  Evaluate the depreciation on the building

Evaluate the depreciation and what was Happe's Interest Expense on the bond during fiscal year 2012? What was Andersen Telecom's depreciation expense for tax purposes in fiscal year 2012?

  Calculate the price per share required in a new public issue

Earnings have been running at about the same level as dividends - Calculate the price per share required in a new public issue

  Evaluate the company''s weights of capital

Evaluate the company's weights of capital (debt, preferred stock and common stock) and estimate the company's before-tax and after-tax component cost of debt.

Free Assignment Quote

Assured A++ Grade

Get guaranteed satisfaction & time on delivery in every assignment order you paid with us! We ensure premium quality solution document along with free turntin report!

All rights reserved! Copyrights ©2019-2020 ExpertsMind IT Educational Pvt Ltd