l’o’IELBURNE Pr’llanufactnriug Shiela Forbes is the Chief Financial foicer [CFGI] ofleELBDURNE Manufacturing, a U5. based manufacturer ofgas turbine…

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l’o’IELBflURNE Pr’llanufactnriugShiela Forbes is the Chief Financial foicer [CFGI] ofleELBDURNE Manufacturing, a U5. based manufacturer ofgas turbine equipment. She hasjust concluded negotiations for the sale ofa turbine generator to Crown, a British firm for Flve million pounds. This single sale is quitelarge in relation to MELBDURNE’s present businas. MElBDURNE has no other currentforeigncustomers, sothecurrencyriskofthissaleisofparticulsrconoern. Ihesaleismade inFEBRUARY with payment due six months later in AUGUST. Shiela Forbes has collected thefollowing financial market information for the analysis ofber currency exposure problem I Spot Exchange rate: 51-3644] per British potutd. l 3thme forward rate: $1.354? per potmd 1′ MELEDURNE’s enlist of capital: 12% 1′ UK- annual borrowing interest rate: Elli-E [or 4% interest for six months] 1′ UK- annual invesnhent interest rate: TUE-E [or 3.6% interest for sin: months] II US. annml borrowing interest rate: dill-l: {or ans-s interest for sin: montst 1′ U.S. one-year investment interest rate: 3.0% [or LEE-i: interest for sir. months] 1′ August put option in the over-the-counter [bank] market for 1,EHI|ID,DDD British pounds; Strike price $1.35 [nearly at-the money} 10% premiumi MELBOURNE‘s advisory service forecastthe spot rate in Six months will be $l .36i’potutd. Like many manufacturing firne, leELBDURNE operates on relatively narrow margins. AlthoughMs. Forbes and MELBOURNE. would be very bappy ifthe pound appreciated versus the dollars,concerns center on the possibility that the pound will fall. 1when Ms. Forbes budgetedtbisspecific contract, sbe detemtined that the minimum acceptable marginwas at a sale price ofSE,5Dtl,ElflIll The budget rate, the lowest acceptable dollar per pound exchange rate, was Thereforeestablished at $1.31} per British potutd. Any exchange rate below would result in MELBOURNEactually losing money on thetransaction.Four alternatives are available to MELBOURNE to: manage the exposure;. Remain un-bedged.. Hedge in the forward market.. Hedge in the money nutrltet. Hedge in the options nurlret. 1tull’hat should MELBDURNE do’? ones

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