Absalome PLC is a Barcelona based distributor which imports products from the USA and sells them within the Eurozone. The company is presently in the process of ordering 2050 items costing $US 800 per item. At the time of this order 1 Euro buys $US 1.4500 (Spot price) Distribution, insurance, advertising and selling costs relating to this consignment are payable by Absalome PLC in Euros and these costs will amount to €250,000 in total. Absalome PLC intends to re-sell its products, priced in Euros, within the Eurozone for €1,000 per item. The delivery of 1,050 units from USA is scheduled to occur three months from the date of the order. Payment must be made to the supplier, in $US, at the time the goods are despatched. Absalome PLC has approached its bank for a 3 month forward rate contract and has been quoted a rate of €1 = 1.4870 $US
Required
a) Calculate the total profit or loss that will be earned by Absalome PLC on this shipment if the 2050 items of the product are all sold for €1000 each and if Absalome PLC were to buy the $US 1,640,000 required to pay the invoice for the delivery:
i) at the current spot price of €1 = $1.4500;
ii) under the forward rate contract of €1 = 1.4870 $US;
iii) 3 months from the order date assuming that the spot price is then €1 = $1.3500, or
iv) 3 months from the order date assuming that the spot price is then €1 = $1.5000.
b) Absalome PLC is exploring the use of flexible fixed interest loans in currencies other than its native Euro, due to the relative strength of the Renmimbi (RMB), the company is thinking of buying a flexible interest bond in this currency. Identify, in a short briefing note, the type of risks the company would be exposed to in using this kind of instrument.
c) Identify and explain TWO potential strategies that Absalome PLC might use to protect itself against each of the key financial risks you identify in b), above