Baker Adhesives

Company Summary

In speciality market for adhesive industry

Just made first international sale to Brazilian toy manufacturer Novo

International Sales are the key to success in the future

Changes to exchange rate lowered the value of both orders.

Problem

Baker wants to protect itself from price fluctuations in the exchange rate

Five options for risk management:

1. Do nothing

2. Hedge in the forward market

3. Hedge in the money markets

4. Trade in the futures market

5. Hedge with options

How to mitigate the risk? Currency Hedging

Currency hedging is the act of entering into a financial contract in order to protect

Against unexpected, expected or anticipated changes in currency exchange rates

when conducting business internationally.

Advantages

* Lower risk

* Provides protection against possible loss

* Locks in the profit

* Can save time

Currency Hedging

The foreign exchange hedging process

1. Identify Exposures

2. Formulate currency risk management policy

3. Determine budget rates and goals

4. Formulate hedging strategy

5. Execute hedging strategy

6. Evaluate results and adjust

The hope is that by minimizing the exposure of the investor to unfavorble shifts

In the money market, a reasonable return on the investment will be achieved even if the currency involved

Takes a fall

Exchange Rates

Brazil is one of the world’s most open nations in terms of international trade

Increasing exchange rate risk exposure.

The depreciation of BRL Brazilian Reias against the dollar, results in Baker receiving less money in transaction

Circumstances

Novo was able to secure the following agreements with Baker:

Forward Option: Baker adhesives’ bank had agreed to offer a forward contract for Sept. 5, 2006

At an exchange rate of 0.4227 USD/BRL.

Money market option: Affiliate of the bank located in Brazil was willing to provide Baker with a short term real loan,

Secured by the...