Hedging Strategies

FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management

Evaluate foreign exchange hedging options for Alpha Plc’s expected receipt of Kudi and discuss non-financial risk reduction methods.

Question

Alpha Plc. is a Nigerian manufacturer of plastic containers, selling across West African and other African countries. In three months, Alpha Plc. is due to receive 70 million Kudi from a Central African country. At today’s board meeting, the directors will discuss the need to hedge the foreign exchange exposure associated with this transaction and potential methods.

Three alternatives will be considered:

(i) Not to hedge this transaction;
(ii) Use a forward contract, with current exchange rates quoted by Alpha Plc.’s bank as follows:

Spot: 1.1548 – 1.1608 Kudi/N
3 months forward: 1.1438 – 1.1508 Kudi/N
(iii) Use an over-the-counter currency option on Kudi, available through Alpha Plc.’s bank. Current premiums at an exercise price of 1.1650 Kudi/N are N1.10 per 100 Kudi for a call option and N1.25 per 100 Kudi for a put option.

Required:

a. State four reasons why a firm might reasonably choose not to hedge its exposure to exchange rate risk. (4 Marks)

b. Show the effect of each of the three alternatives being considered, assuming that the spot exchange rate in three months’ time is:
i. 1.1850 – 1.1880 Kudi/N
ii. 1.1295 – 1.1320 Kudi/N (7 Marks)

c. State four methods available to firms to reduce their exposure to foreign exchange risks that do not involve the use of financial contracts. (4 Marks)

Answer

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Tags: Currency options, Exchange rate risk, Foreign exchange exposure, Forward Contracts, Hedging Strategies, Non-Financial Hedging Methods
Level: Level 3

Topic: Foreign Exchange Risk Management

AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques

Recommendations on how to minimize the loss on foreign currency transactions for a multinational company involved in export trade.

Question

In the last couple of years, the Cedi has depreciated substantially against the US Dollar. It is also noticed that the Cedi has had volatile movements against the Pounds Sterling since the beginning of year 2017.

Required: As a Finance Director of your organization, a multinational company which is involved in the export trade, recommend THREE actions to be taken to minimize the loss on foreign currency transactions.

Answer

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Tags: Currency risk, Export trade, Foreign Exchange, Hedging Strategies
Level: Level 3

Topic: Hedging against financial risk: Non-derivative techniques
Series: NOV 2017

FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management

Calculation of the effective cost of various financing options and explanation of internal strategies to manage foreign currency risk.

Question

a) Markwei Pharmaceuticals Ltd plans to import active ingredients to produce vitamin syrup. The company’s managers are considering three financing options for the cedi equivalent of an invoice value of GH¢2.5 million. The options are detailed below:

Option 1: Use supplier’s credit. The credit term is 1.5/10 net 45.

Option 2: Issue a commercial paper to raise the money from the Ghanaian money market. The commercial paper will pay interest at the rate of 18% per annum. Issue costs totaling GH¢15,000 will be incurred.

Option 3: Obtain a 3-month bank loan. The interest rate on the loan is 22% per annum. Loan arrangement and processing fees are expected to be GH¢5,000.

Required:
i) Compute the effective annual cost of each financing option and recommend the most cost-effective option. (10 marks)
ii) Explain TWO (2) advantages of financing the invoice through the issue of a commercial paper instead of a bank loan. (5 marks)

b) Abongo Shoes Ltd (Abongo) imports leather from Italy. Abongo’s demand for euros to settle its import bills exposes its cash flow to foreign exchange risk. Abongo’s Management is looking for internal strategies they can deploy to hedge the company’s currency risk exposure as external hedging strategies might be too expensive for the company.

Required:
Explain TWO (2) internal strategies for managing foreign currency risk exposures that Abongo’s Management can use. (5 marks)

Answer

Find Related Questions by Tags, levels, etc.

Tags: Bank Loan, Commercial Paper, Cost of Finance, Currency risk, Hedging Strategies, Trade Credit
Level: Level 2

Topic: Cost of capital, Foreign exchange risk and currency risk management
Series: DEC 2022

FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management

Evaluate foreign exchange hedging options for Alpha Plc’s expected receipt of Kudi and discuss non-financial risk reduction methods.

Question

Three alternatives will be considered:

(i) Not to hedge this transaction;
(ii) Use a forward contract, with current exchange rates quoted by Alpha Plc.’s bank as follows:

Spot: 1.1548 – 1.1608 Kudi/N
3 months forward: 1.1438 – 1.1508 Kudi/N
(iii) Use an over-the-counter currency option on Kudi, available through Alpha Plc.’s bank. Current premiums at an exercise price of 1.1650 Kudi/N are N1.10 per 100 Kudi for a call option and N1.25 per 100 Kudi for a put option.

Required:

a. State four reasons why a firm might reasonably choose not to hedge its exposure to exchange rate risk. (4 Marks)

c. State four methods available to firms to reduce their exposure to foreign exchange risks that do not involve the use of financial contracts. (4 Marks)

Answer

Find Related Questions by Tags, levels, etc.

Tags: Currency options, Exchange rate risk, Foreign exchange exposure, Forward Contracts, Hedging Strategies, Non-Financial Hedging Methods
Level: Level 3

Topic: Foreign Exchange Risk Management

AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques

Recommendations on how to minimize the loss on foreign currency transactions for a multinational company involved in export trade.

Question

Answer

Find Related Questions by Tags, levels, etc.

Tags: Currency risk, Export trade, Foreign Exchange, Hedging Strategies
Level: Level 3

Topic: Hedging against financial risk: Non-derivative techniques
Series: NOV 2017

FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management

Calculation of the effective cost of various financing options and explanation of internal strategies to manage foreign currency risk.

Question

Option 1: Use supplier’s credit. The credit term is 1.5/10 net 45.

Option 3: Obtain a 3-month bank loan. The interest rate on the loan is 22% per annum. Loan arrangement and processing fees are expected to be GH¢5,000.

Required:
Explain TWO (2) internal strategies for managing foreign currency risk exposures that Abongo’s Management can use. (5 marks)

Answer

Find Related Questions by Tags, levels, etc.

Tags: Bank Loan, Commercial Paper, Cost of Finance, Currency risk, Hedging Strategies, Trade Credit
Level: Level 2

Topic: Cost of capital, Foreign exchange risk and currency risk management
Series: DEC 2022

Question Tag: Hedging Strategies

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FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management

Evaluate foreign exchange hedging options for Alpha Plc’s expected receipt of Kudi and discuss non-financial risk reduction methods.

AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques

Recommendations on how to minimize the loss on foreign currency transactions for a multinational company involved in export trade.

FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management

Calculation of the effective cost of various financing options and explanation of internal strategies to manage foreign currency risk.

FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management

Evaluate foreign exchange hedging options for Alpha Plc’s expected receipt of Kudi and discuss non-financial risk reduction methods.

AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques

Recommendations on how to minimize the loss on foreign currency transactions for a multinational company involved in export trade.

FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management

Calculation of the effective cost of various financing options and explanation of internal strategies to manage foreign currency risk.

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FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management

Evaluate foreign exchange hedging options for Alpha Plc’s expected receipt of Kudi and discuss non-financial risk reduction methods.

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AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques

Recommendations on how to minimize the loss on foreign currency transactions for a multinational company involved in export trade.

You're reporting an error for "AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques"

FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management

Calculation of the effective cost of various financing options and explanation of internal strategies to manage foreign currency risk.

You're reporting an error for "FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management"

FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management

Evaluate foreign exchange hedging options for Alpha Plc’s expected receipt of Kudi and discuss non-financial risk reduction methods.

You're reporting an error for "FM – Nov 2018 – L3 – Q6 – Foreign Exchange Risk Management"

AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques

Recommendations on how to minimize the loss on foreign currency transactions for a multinational company involved in export trade.

You're reporting an error for "AFM – Nov 2017 – L3 – Q1d – Hedging against financial risk: Non-derivative techniques"

FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management

Calculation of the effective cost of various financing options and explanation of internal strategies to manage foreign currency risk.

You're reporting an error for "FM – DEC 2023 – L2 – Q5 – Cost of capital | Foreign exchange risk and currency risk management"

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