Mark Sexton and Todd Story, the owners of S&S Air, have been in discussions with a light aircraft dealer in Monaco about selling the company’s planes in Europe. Jarek Jachowicz, the dealer, wants to add S&S Air to his current retail line. Jarek has told Mark and Todd that he feels the retail sales will be approximately €5.7 million per month. All sales will be made in euros, and Jarek will retain 5 percent of retail sales as a commission, which will be paid in euros. Because the planes will be customized to order, the first sales will take place in one month. Jarek will pay S&S Air for the order 90 days after it is filled. This payment schedule will continue for the length of the contract between the two companies.

Mark and Todd are confident the company can handle the extra volume with its existing facilities, but they are unsure about the potential financial risks of selling their planes in Europe. In their discussion with Jarek, they found that the current exchange rate is $1.13/€. At the current exchange rate, the company would spend 80 percent of the sales on production costs. This number does not reflect the sales commission paid to Jarek.

Mark and Todd have decided to ask Chris Guthrie, the company’s financial analyst, to prepare an analysis of the proposed international sales. Specifically, they ask Chris to answer the following questions.

QUESTIONS

1. What are the pros and cons of the international sales? What additional risks will the company face?

2. What happens to the company’s profits if the dollar strengthens? What if the dollar weakens?

3. Ignoring taxes, what are S&S Air’s projected gains or losses from this proposed arrangement at the current exchange rate of $1.13/€? What happens to profits if the exchange rate changes to $1.05/€? At what exchange rate will the company break even?

4. How could the company hedge its exchange rate risk? What are the implications for this approach?

5. Taking all factors into account, should the company pursue the international sales further? Why or why not?