Problem 10.9 Pupule Travel

Pupule Travel, a Honolulu, Hawaii based 100% privately owned travel company has signed an agreement to acquire a 50% ownership share of Taichung Travel, a Taiwan based privately owned travel agency specializing in servicing inbound customers from the United States and Canada. The acquisition price is 7 million Taiwan dollars (T$ 7,000,000) payable in cash in 3 months.

Thomas Carson, Pupule Travels owner, believes the Taiwan dollar will either remain stable or decline a little over the next 3 months. At the present spot rate of T$35/$, the amount of cash required is only $200,000 but even this relatively modest amount will need to be borrowed personally by Thomas Carson. Taiwanese interest-bearing deposits by non-residents are regulated by the government, and are currently set at 1.5% per year. He has a credit line with Bank of Hawaii for $200,000 with a current borrowing interest rate of 8% per year. He does not believe that he can calculate a credible weighted average cost of capital since he has no stock outstanding and his competitors are all also privately-owned without disclosure of their financial results. Since the acquisition would use up all his available credit, he wonders if he should hedge this transaction exposure. He has quotes from Bank of Hawaii shown in the table below.

Spot rate (T$/$)		33.40
3-month forward rate (T$/$)		32.40
3-month Taiwan dollar deposit rate		1.500%
3-month dollar borrowing rate		6.500%
3-month call option on T$		not available

Analyze the costs and risks of each alternative, and then make a recommendation as to which alternative Thomas Carson should choose.