Reference no: EM131708097

Question: Lucky 13. Lucky 13 Jeans of San Antonio, Texas, is completing a new assembly plant near Guatemala City. A final construction payment of Q8,400,000 is due in six months. ("Q" is the symbol for Guatemalan quetzals.) Lucky 13 uses 20% per annum as its weighted average cost of capital. Today's foreign exchange and interest rate quotations are as follows:

Construction payment due in 6-months (A/P, quetzals)                8,400,000

Present spot rate (quetzals/$)                                                     7,0000

6-month forward rate (quetzals/$)                                                7,1000

Guatemalan 6-month interest rate (per annum)                               14,000%

U.S. dollar 6-month interest rate (per annum)                                  6,000%

Lucky 13's weighted average cost of capital (WACC)                       20,000%

Lucky 13's treasury manager, concerned about the Guatemalan economy, wonders if Lucky 13 should be hedging its foreign exchange risk. The manager's own forecast is as follows:

Expected spot rate in 6 month (quetzals/$):

Highest expected rate (reflecting a significant devaluation)                     8,0000

Expected rate                                                                                 7,3000

Lowest expected rate (reflecting a strengthening of the quetzal)             6,4000

What realistic alternatives are available to Lucky 13 for making payments? Which method would you select and why?