Vogl Co. is a U.S. firm conducting a financial plan for the next year. It has no foreign subsidiaries, but more than half of its sales are form exports. Its foreign cash inflows to be received from exporting and cash outflows to be paid for imported supplies over the next year are shown the following table:

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Vogl Co. is a U.S. firm conducting a financial plan for the next year. It has no foreign subsidiaries, but more than half of its sales are form exports. Its foreign cash inflows to be received from exporting and cash outflows to be paid for imported supplies over the next year are shown the following table:

CurrencyTotal InflowTotal Outflow
Canadian dollar (C$)C$32,000,000C$2,000,000
New Zealand dollar (NZ$)NZ$5,000,000NZ$1,000,000
Mexican peso (MXP)MXP11,000,000MXP10,000,000
Singapore dollar (S$)S$4,000,000S$8,000,000


The spot rates and one-year forward rates as of today are shown below:

CurrencySpot RateOne-Year Forward Rate
C$$.90$.93
NZ$.60.59
MXP.18.15
S$.65.64


Question 1. Based on the information provided, determine Vogl’s net exposure to each foreign currency in dollars.

Question 2. Assume that today’s spot rate is used as a forecast of the future spot rate one year from now. The New Zealand dollar, Mexican peso, and Singapore dollar are expected to move in tandem against the U.S. dollar over the next year. The Canadian dollar’s movements are expected to be unrelated to movements of the other currencies. Since exchange rates are difficult to predict, the forecasted net dollar cash flows per currency may be inaccurate. Do you anticipate any offsetting exchange rate effects from whatever exchange movements do occur? Explain.

Question 3. Given the forecast of the Canadian dollar along with the forward rate of the Canadian dollar, what is the expected increase or decrease in dollar cash flows that would result from hedging the net cash flows in Canadian dollars? Would you hedge the Canadian dollar position?

Question 4. Assume that the Canadian dollar net inflows may range from C$20 to C$40 million over the next year. Explain the risk of hedging C$30 million in net inflows. How can Vogl Co. avoid such a risk? Is there any tradeoff resulting from your strategy to avoid that risk?

Question 5. Vogl Co. recognizes that its year to year hedging strategy hedges the risk only over a given year and does not insulate it from long-term trends in the Canadian dollar’s value. It has considered establishing a subsidiary in Canada. The goods would be sent from the United States to the Canadian subsidiary and distributed by the subsidiary. The proceeds received would be reinvested by the Canadian subsidiary in Canada. In this way, Vogl Co. would not have to covert Canadian dollars to U.S. dollars each year. Has Vogl Co. eliminated its exposure to exchange rate risk by using this strategy? Explain.

EXPERT ANSWER

Solution 1
CurrencyNet FlowSpot RateNet inflow
Canadian dollars30000000.92700000
New Zealand dollars40000000.62400000
Mexican pesos10000000.18180000
Singapore dollars40000000.652600000

Solution 2

According to the PPP Purchase price parity when there is a fluctuation In the exchange rates even then the changes in the value between two currencies are fixed in the long run because of the purchasing power only.Here all the currencies are exchanged or tied in the dollar thus the movement will create an offsetting effect on related currencies.

Solution 3
CurrencyNet FlowForward RateNet inflow
(inflow – Outflow
Canadian dollars30000000.932790000

here there is a gain of 900000 with the help of hegding . This is a positive or favourable financial motivation of hedging and making profit