FIN 456 Case2
(1) Please summarize the case and report the major issues.
The Pixonix case provides us with a scenario where a Canadian Company, Pixonix, has to pay a U.S. Company $7.5million for licensed proprietary tools and software in 2 months and 29 days and the decision Mikayla Cain has to face regarding the currency risk of the companies future obligation. Thus, the major issue with this transaction is the currency risk faced by Pixonix. Currently one Canadian dollar is worth $1.0717 U.S. dollars, however there is considerable amount of uncertainty about whether or not the Canadian dollar will depreciate against the dollar in 2 months and 29 days.
(2) Why is Cain so concerned by the current exchange rate fluctuation?
The reason why Cain is so concerned by the current exchange rate fluctuation is because, if the Canadian dollar does depreciate, then the $7.5million U.S. obligation will become more costly for the firm. Cain would have to convert more Canadian dollars in order to meet the $7.5million U.S. obligation if the Canadian dollar is no longer worth $1.0717 U.S.
(3) Please make a detailed recommendation to Cain in regard to hedging her position. Should she hedge? Why or why not? If she should hedge, which approach should she use? If you decide to use options, specify and justify the strike price.
First and foremost, neither of the strategies will provide a perfect hedge. The currencies are correct, but the date to expiration is not. This will result in some currency risk. Although these strategies will not provide a perfect hedge, it is still recommended that Cain uses one of these hedging strategies because she will be able to buffer the currency risk. Strategy 1 suggests buying a forward contract, and thus locks in the costs of the January $7.5million U.S. purchase. I see two main problems with this strategy. First, a forward contract is an obligation to buy the U.S. currency at a future date. In the case, the largest international trader of Canadian
The Pixonix case provides us with a scenario where a Canadian Company, Pixonix, has to pay a U.S. Company $7.5million for licensed proprietary tools and software in 2 months and 29 days and the decision Mikayla Cain has to face regarding the currency risk of the companies future obligation. Thus, the major issue with this transaction is the currency risk faced by Pixonix. Currently one Canadian dollar is worth $1.0717 U.S. dollars, however there is considerable amount of uncertainty about whether or not the Canadian dollar will depreciate against the dollar in 2 months and 29 days.
(2) Why is Cain so concerned by the current exchange rate fluctuation?
The reason why Cain is so concerned by the current exchange rate fluctuation is because, if the Canadian dollar does depreciate, then the $7.5million U.S. obligation will become more costly for the firm. Cain would have to convert more Canadian dollars in order to meet the $7.5million U.S. obligation if the Canadian dollar is no longer worth $1.0717 U.S.
(3) Please make a detailed recommendation to Cain in regard to hedging her position. Should she hedge? Why or why not? If she should hedge, which approach should she use? If you decide to use options, specify and justify the strike price.
First and foremost, neither of the strategies will provide a perfect hedge. The currencies are correct, but the date to expiration is not. This will result in some currency risk. Although these strategies will not provide a perfect hedge, it is still recommended that Cain uses one of these hedging strategies because she will be able to buffer the currency risk. Strategy 1 suggests buying a forward contract, and thus locks in the costs of the January $7.5million U.S. purchase. I see two main problems with this strategy. First, a forward contract is an obligation to buy the U.S. currency at a future date. In the case, the largest international trader of Canadian