Foreign Risk

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Forex Risk Management in International Banking – Case study # 2

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Sleeper Pty Ltd manufacture bedroom furniture. On 30th March you call to see their financial director to discuss renewal of their banking facilities and you are given to understand that the Company has signed a contract with German suppliers to purchase sufficient materials to cover the next 6 months requirement. The Company has agreed to buy 10,000 loads of timber at $ 100 a load and payment will be effected in two equal amounts on the 30th June and on 30th September. The rates of exchange for AD/DEM on the day of your visit are as follows:

Buy Sell

30th March 1.4410 1.4108

Forward Margins (Assume a discount)

1 month .0108 .0133

3 months .0320 .0345

6 months .0606 .0634

The financial director tells you of his pleasure at having obtained an AUD contract as opposed to one where the payment would have to have been in Deutschemarks. The Director feels that the company has benefited because the cost of timber was originally quoted as DEM 1,450,000 (AUD 1 = DEM 1.45) where as the Company will only be paying AUD 1,000,000. You discuss the matter fully with your customer and explain that you would have been able to have arranged forward cover for the Company within its existing facilities without a strain on its resources. During the meeting you discuss whether or not there would have been an advantage to the Company in arranging to pay DEM as opposed to AUD in respect of the contract.

Required

a. Your calculations, based on the rates quoted showing arithmetically:

1. The advantage or disadvantage in annual percentage terms to the Company if it had arranged to pay the two equal amounts on the 30.6 and the 30.9 in DEM as opposed to AUD.

2. The AUD amount which the Company would have paid if it had agreed to pay DEM on 30.6 and 30.9...