HELP!!!
Foreign Exchange Risk Management
Question 3 BRB Construction is an Irish construction company that won a multimillion project to construct a new business school campus for Royal Holloway University in London during 2020. The total value of the project is 25 million. The project was won against very strong competition and the profit margins are relatively low. The business was willing to accept a lower than usual profit margin of 20% in order to secure a prestigious construction project in a new target market. Construction is set to begin in April 2021, with a planned completion in August 2022. The project involves a series of staged payments by the university over the course of 2021 and the first half of 2022. The following are the planned payments, each occurring at the end of the relevant month - April 2021 2 million; July 2021 3 million; September 2021 3 million; December 2021 3 million; June 2022 4 million; August 2022 (subject to completion certification) 10 million. All of these payments will be due on the dates specified even if COVID19 restrictions delay construction. The only exception is the final payment which will not be made until the completion certificate is presented. The Finance Director is concerned at the potential for adverse movements in Sterling that could erode the profit margin on the project. The Finance Director says that the project was priced at a EUR/GBP rate of 0.9200. The following are indicative current forward points. Spot 1 month 2 months 3 months 4 months 5 months 6 months EUR/GBP Spot and Forward Points 0.9037/45 9 months 5/7 12 months 9/13 15 months 16/18 18 months 20/26 24 months 28/31 31/39 48/62 71/79 79/112 110/145 148/173 You have received the following indicative premiums for a Sterling put option at a strike price of 0.9200: July 2021 3%; September 2021 3.4%; December 2021 4%; June 2022 4.5%; August 2022 5.5%. The premium is a percentage of the notional principal. As a rule of thumb you are informed that setting a strike price at each additional penny out of the money will reduce the option premium by 0.2% subject to a minimum premium of 2%. Setting a strike price at each additional penny in the money will increase the option premium by 0.3% with no maximum premium. Based on your view of EUR/GBP exchange rate over the life of the project and the business' commercial position, advise the Finance Director on an appropriate hedging strategy. Question 3 BRB Construction is an Irish construction company that won a multimillion project to construct a new business school campus for Royal Holloway University in London during 2020. The total value of the project is 25 million. The project was won against very strong competition and the profit margins are relatively low. The business was willing to accept a lower than usual profit margin of 20% in order to secure a prestigious construction project in a new target market. Construction is set to begin in April 2021, with a planned completion in August 2022. The project involves a series of staged payments by the university over the course of 2021 and the first half of 2022. The following are the planned payments, each occurring at the end of the relevant month - April 2021 2 million; July 2021 3 million; September 2021 3 million; December 2021 3 million; June 2022 4 million; August 2022 (subject to completion certification) 10 million. All of these payments will be due on the dates specified even if COVID19 restrictions delay construction. The only exception is the final payment which will not be made until the completion certificate is presented. The Finance Director is concerned at the potential for adverse movements in Sterling that could erode the profit margin on the project. The Finance Director says that the project was priced at a EUR/GBP rate of 0.9200. The following are indicative current forward points. Spot 1 month 2 months 3 months 4 months 5 months 6 months EUR/GBP Spot and Forward Points 0.9037/45 9 months 5/7 12 months 9/13 15 months 16/18 18 months 20/26 24 months 28/31 31/39 48/62 71/79 79/112 110/145 148/173 You have received the following indicative premiums for a Sterling put option at a strike price of 0.9200: July 2021 3%; September 2021 3.4%; December 2021 4%; June 2022 4.5%; August 2022 5.5%. The premium is a percentage of the notional principal. As a rule of thumb you are informed that setting a strike price at each additional penny out of the money will reduce the option premium by 0.2% subject to a minimum premium of 2%. Setting a strike price at each additional penny in the money will increase the option premium by 0.3% with no maximum premium. Based on your view of EUR/GBP exchange rate over the life of the project and the business' commercial position, advise the Finance Director on an appropriate hedging strategy
