Microsoft Word - N1548 A2 TAP XXXXXXXXXXdocx
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N1548 International Financial Management
Assessment Period: May/June 2020 (A2)
Duration: 24 hour Take-Away Paper
Candidates should attempt ALL questions in Section A and Section B
Instructions:
1) The paper will available from: Wednesday 27 May at 10am (UK time)
2) The deadline for submitting the exam is: Thursday 28 May at 10am (UK time)
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ied out upholding the values of academic integrity.
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Section A [60 marks]
Case study: British Powerful Material
It is Friday evening, April 1st 2017. Ramon Sanchez, assistant treasurer at the
British Powerful Material (BPM), sits in his office in Liverpool Street, London. It’s the
weekend, Ramon and his partner have a dinner reservation with another couple at the
Shard at 8pm. “I must get this hedging note done as soon as possible”, thinks Ramon.
Foreign exchange options? I had better get the story right before the CFO starts asking
questions. Let’s see, I am facing crucial decisions related to two situations: one is to
hedge a dividend receivable due on October 1st, from the subsidiary BPM Germany.
The other is to hedge our upcoming payment to the Korean Company Matsukwon for
their spring wireless rooters’ statement (July 1st). With the Korean Won at
1420KRW/GBP and appreciating, I’m glad we haven’t covered the payment so far, but
now I’m getting nervous and I would like to protect ourselves. A decision to buy Won
on July 1st might be just the thing, but it’s a very critical decision”.
Before we discuss the financial situation, let us learn a bit about BPM. British
Powerful Material is a £10 billion sales company engaged in, among other things, the
development, production, selling and marketing of technology equipment. Although 30
percent of the firm’s sales are cu
ently a
oad, the firm has full-fledged manufacturing
facilities in four foreign countries: Germany, Australia, Argentina and South Africa. An
assembly plant in India exists primarily to solder Korean Rooter boards onto circuit
oards and to screw these into Argentinian-made boxes for shipment to South Africa,
Australia, and Germany.
The German subsidiary has developed half of its sales to France, the
Netherlands, and Italy, billing in euros. BPM Germany has accumulated a cash
eserve of EUR1,080,000, worth GBP900,000 at today’s exchange rate. BPM has an
automatic permission from BPM Germany to repatriate EUR2,000,000 by October 1st.
BPM has an agreement to buy 30,000 Wireless Rooter boards at KRW90,000
each semi-annually, and it is this payment that will fall due on July 1st.
The classic means of hedging foreign exchange are forward and future contracts.
These however, are fixed obligations and inviolable. In many cases, there is a good
chance that cash inflows or outflows won’t materialise for different reasons.In such
cases, what is needed is somehow the right, not the obligation, to buy or sell a specific
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cu
ency at a specific price, and this is what an option precisely provides. There are
surely other means to hedge including using the money market or swap markets, but
each has its own features and could be suitable depending on the scenario a hedger
is facing.
Returning to Ramon, we find that he has printed a lot of financial information from
the markets through the Bloomberg Terminals, and could be summarised as follow:
Table 1: Cu
ency Spot rates:
GBP/EUR 1.20
GBP/USD 1.34
EUR/USD 1.11
GBP/AUD 1.96
GBP/ARS 6.61
GBP/ZAR 23.40
GBP/KRW 1420
GBP/INR 95.33
Table 2: Forward rates
1month
GBP/EUR 1.24
GBP/USD 1.33
EUR/USD 1.14
GBP/KRW1400
2months
GBP/EUR 1.26
GBP/USD 1.32
EUR/USD 1.13
GBP/KRW1380
3months
GBP/EUR 1.28
GBP/USD 1.30
EUR/USD 1.13
GBP/KRW1360
6months
GBP/EUR 1.30
GBP/USD 1.28
EUR/USD 1.12
GBP/KRW1340
7months
GBP/EUR 1.32
GBP/USD 1.28
EUR/USD 1.13
GBP/KRW1320
Table 3. PUT option: premium is 1.5%
Note: The option is always applicable on the unit cu
ency and premium is paid
with the unit cu
ency. For example, for a put or call option with GBP/USD1.28
the option premium is paid in GBP for selling or buying the GBP.
1month
GBP/EUR 1.22
GBP/USD 1.34
EUR/USD 1.15
GBP/KRW1410
2months
GBP/EUR 1.24
GBP/USD 1.33
EUR/USD 1.14
GBP/KRW1400
3months
GBP/EUR 1.26
GBP/USD 1.32
EUR/USD 1.13
GBP/KRW 1380
6months
GBP/EUR 1.38
GBP/USD 1.30
EUR/USD 1.13
GBP/KRW1360
7months
GBP/EUR 1.30
GBP/USD 1.28
EUR/USD 1.12
GBP/KRW1340
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Table 4. Call options: premium is 2%
Note: The option is always applicable on the unit cu
ency and premium is paid
with the unit cu
ency. For example, for a put or call option with GBP/USD1.28
the option premium is paid in GBP for selling or buying the GBP.
CALL options
1month
GBP/EUR 1.28
GBP/USD 1.33
EUR/USD 1.15
GBP/KRW1410
2months
GBP/EUR 1.30
GBP/USD 1.32
EUR/USD 1.14
GBP/KRW1410
3months
GBP/EUR 1.32
GBP/USD 1.31
EUR/USD 1.13
GBP/KRW 1390
6months
GBP/EUR 1.34
GBP/USD 1.31
EUR/USD 1.13
GBP/KRW1370
7months
GBP/EUR 1.36
GBP/USD 1.28
EUR/USD 1.12
GBP/KRW1360
Table 5: Money Market rates of each country:
UK
1month
3.4%
2months
3.7%
3months
4%
6months
4.3%
7months
5%
US
1month
3.1%
2months
3.3%
3months
3.5%
6months
3.7%
7months
3.9%
EU
1month
4.1%
2months
4.3%
3months
4.5%
6months
4.8%
7months
5.1%
India
1month
5.1%
2months
5.4%
3months
5.7%
6months
6.1%
7months
6.3%
South Korea
1month
4.2%
2months
4.25%
3months
4.40%
6months
4.63%
7months
4.99%
Table 6: Yearly Inflation rates of each country (applicable for the next 5 years)
• UK: 2.4%
• US: 1.8%
• Germany: 2%
• South Korea: 1.4%
• India: 3.8%
• South Africa: 3.4%
• Argentina: 2.6%
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Table 7: BPM’s financial information:
- Revenue of the year 2017: £10 billion
- Total value: £20 billion
- Equity value: £7 billion
- Required return on equity: 13%
- Cost of debt: 8%
- Corporate tax: 17%
- Average Income tax in the UK: 21%
Questions
Please answer the following questions to assist Mr. Ramon in his analysis of cu
ency
hedging for his report to the Finance department of the company:
1. Analyse and compare the different hedging strategies to hedge the exposures
from the expected transactions of Germany and South Korea. You must provide
detailed calculations for ALL HEDGING TECHNIQUES that you may think are
elevant. (Cu
ency Swap calculation is not required in this question).
[20 marks]
2. Identify which hedging technique is most suitable for Ramon’s cases. You must
provide precise interpretation to defend the chosen tools. While doing so,
explain why the other technique(s) are not suitable. [10 marks]
3. Ramon is now considering a cu
ency swap a
angement to manage the
exposure from the