On June 1, a US firm contracts to sell equipment (with an asking price of 2,000,000 krona) in Sweden. The firm will take delivery and will pay for the equipment on August 1.

Spot rates were as follows (dollars per krona):

June 1 $0.107

August 1 $0.102

On August 1, the equipment was sold for 2,000,000 krona. The cost of the equipment was $100,000

Suppose that on June 1, the firm believes, based on recent changes in the economy that there is high probability of exchange rate losses from the transaction. If the firm acquires an option to hedge the transaction, answer the following questions

Required:

1. Does the firm believe that the krona is strengthening or weakening relative to the US dollar? (1 point)

2. What kind of option should the firm use: a put or a call option? (1 point)

3. Suppose the following options are available. Each option can only be exercised on August 1. Choose the option that should be used to hedge the transaction and record the journal entries needed by the company to record the hedge and the transaction to sell the equipment. Round all entries to the nearest whole dollar (10 points)

Option Type Amount Exercise Rate Cost to Acquire

Call Option 2,000,000 Krona $0.1035 $8,000

Put Option 2,000,000 Krona $0.1035 $15,000

4. Answer the following questions:

a. What is the accumulated net impact on the companys Stockholder equity related to this transaction at August 1? (1 point)

b. What would have been the accumulated net impact on the companys Stockholder equity related to this transaction at August 1 if the company had not entered the Option Contract? (1 point)

c. Was the company better- or worst off with the derivative contract? (1 point)