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Management of Transaction Exposure Blades, Inc., has recently decided to expand its interna- Entertainment Products, respectively, in each quarter. tional trade relationship by exporting its roller blades Payment for these sales is made on the first of January, to the United Kingdom. Jogs, Ltd., a British retailer, April, July, and October. The annual amounts are spread has committed itself to the annual purchase of 200,000 over quarters to avoid excessive inventories for the British pairs of Speedos, Blades' primary product, for a price of and Thai retailers. Similarly, to avoid excessive invento80 per pair. The agreement is to last for two years, at ries, Blades usually imports materials sufficient to manuwhich time it may be renewed by Blades and Jogs._ facture 18,000 pairs of Speedos quarterly from Thailand. In addition to this new international trade relationship, Although the payment terms of its arrangements with the Blades continues its roller blades to export to Thailand. Its Thai suppliers call for payment within 60 days of delivery, primary customer there, a retailer called Entertainment Blades generally pays for its Thai imports upon delivery Products, is committed to the purchase of 180,000 pairs of on the first day of each quarter so as to maintain its trade Speedos annually for arother three years at a fixed price relationships with the Thai suppliers. Blades believes of 4,594 Thai baht per pair. When that agreement ends, it that early payment is beneficial, as other customers of may be renewed by Blades and Entertainment Products. the Thai suppliers pay for their purchases only when it Blades also incurs costs of goods sold denominated is required. in Thai baht. It imports materials sufficient to manu- Because Blades is relatively new to international facture 72,000 pairs of Speedos annually from Thailand. trade, Ben Holt, Blades' chief financial officer, is conThese imports are denominated in baht, and the price cerned about the potential impact of exchange rate depends on current market prices for the rubber and fluctuations on Blades' financial performance. Holt plastic components imported. is vaguely familiar with various techniques available Under the two export arrangements, Blades to hedge transaction exposure, but he is not certain sells 50,000 and 45,000 pairs of Speedos to Jogs and whether one technique is superior to the others. Holt would like to know more about forward, money_ Blades' next sales to and purchases from Thailand market, and option hedges and has asked you, a finan-_ will occur one quarter from now. If Blades decides to cial analyst at Blades, to help him identify the hedging hedge, Holt will want to hedge the entire amount subtechnique most appropriate for Blades. Unfortunately, ject to exchange rate fluctuations, even if it requires no options are available for Thailand, but British call overhedging (that is, hedging more than the needed and put options are available for 31,250 per option. amount). Currently, Holt expects the imported compoHolt has provided you with the following information nents from Thailand to cost approximately 3,000 baht for Thailand and the United Kingdom: per pair of Speedos. Holt has asked you to answer the following questions for him: 1. Using a spreadsheet, compare the hedging alternatives for the Thai baht with a scenario under which Blades remains unhedged. Do you think Blades should hedge or remain unhedged? If Blades should hedge, which hedge is most appropriate? 2. Using a spreadsheet, compare the hedging alternatives for the British pound receivables with a scenario under which Blades remains unhedged. Do you think Blades should hedge or remain unhedged? Which hedge is the most appropriate for Blades? 3. In general, do you think it is easier for Blades to hedge its inflows or its outflows denominated in for- In addition, Holt has informed you that the 90-day eign currencies? Why? borrowing and lending rates in the United States are 2.3 percent and 2.1 percent, respectively, on a non4. Would any of the hedges you compared in quesannualized basis. He has also identified the following tion 2 for the British pounds to be received in 90 days probability distributions for the exchange rates of the require Blades to overhedge? Given Blades' exporting British pound and the Thai baht in 90 days: arrangements, do you think it is subject to overhedging with a money market hedge? 5. Could Blades modify the timing of the Thai imports to reduce its transaction exposure? What is the trade-off of such a modification? 5. Could Blades modify the timing of the Thai imports to reduce its transaction exposure? What is the trade-off of such a modification? 6. Could Blades modify its payment practices for the Thai imports to reduce its transaction exposure? What is the trade-off of such a modification? 7. Given Blades' exporting agreements, are there any long-term hedging techniques from which Blades could benefit? For this question only, assume that Blades incurs all of its costs in the United States