Baker

Finance 526: Enterprise Risk Management

Yang Gao

Jiamo Tian

Zhi Cheng Low

Kaili Yun

Ran Jing

Baker Adhesives Case

Baker Adhesives is a small domestic company specializes in manufacturing specialty adhesives. The company has created its own competitive advantage in this niche market; it has steady sales and revenue, and has attracted talented chemists and maintained good relationship with its local bank. Recently, Baker managed to foray into the international market and has completed its first international deal with Novo, a Brazilian toy manufacturing company. Nonetheless, Baker is still a relatively new firm expanding into foreign markets, so it has neither prior experience nor expertise in international business and management. Operating as an international firm has inevitably expose Baker to foreign movements as its offshore revenue are denominated in different currencies, i.e. Brazilian real. Hence, it is a critical moment for Baker to devise a plan on how to tackle its exchange rate risk if it decided to accept new orders from Novo in the future.

According to Exhibit 1, the actual revenue received from the original Novo order and the profitability of that order are calculated, as shown in Appendix. The realized total revenue and profit have dropped by 5.78% and 48.16%, respectively due to unfavorable movements in USD/BRL exchange rates. The sale of adhesives to Novo is not as profitable as they originally anticipated and is believed to deteriorate. Since Baker has an agreement with Novo about a per-gallon price, the change of exchange rate would hurt the profit margin, which decreases from 12% to 6.60%, that Baker is expected to receive from the original order.

Unfortunately, Novo was unwilling to negotiate about per-gallon price for the next order, so it is difficult for Baker to increase its product’s price. Hence, Baker turns to the financial markets to figure out some efficient financial strategies to manage its exchange rate risk...