International Financial Management Homework: Risk Hedging

This homework assignment analyzes a foreign exchange transaction faced by Shrewsbury Herbal, focusing on the currency exposure related to a sale invoiced in British Pounds Sterling to a customer in France. The student calculates the cross exchange rate between GBP/EUR, determines the foreign exchange exposure, and evaluates the risk associated with fluctuations in the currency values. The assignment explores the use of hedging strategies, specifically a three-month forward contract, to mitigate the risk of pound appreciation and its impact on the receivable value. The analysis compares the outcomes of the spot rate versus the forward rate to determine the optimal hedging strategy for the company. The assignment references several academic articles to support the analysis.

Running head: INTERNATIONAL FINANCE
International Finance
Name of the Student:
Name of the University:
Author’s Note:

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Question 2
a) In order to well calculate the GBP Equivalent exposure of the company we need to well
calculate the cross exchange rate for the currency EUR/GBP. The currency for the EUR/GBP
can be well calculated with the help of the cross currency exchange rate that has been well
calculated with the help of the GBP/USD and USD/EUR Exchange rate in order to well
determine the exchange rate for the currency pair of GBP/EUR. The spot exchange rate for the
GBP/USD Exchange rate is 1.8789 and on the other hand, side the USD/EUR Exchange spot rate
is 0.7587 (Mello 2017). Now in order to well find out the cross rate for the GBP/EUR we will be
well multiplying the both the currency sport rate in order to determine the cross rate as shown
below:
Cross Exchange Rate (Spot) Particulars Amount
GBP 1.8979 USD 0.7587 Payment Amount in EUR 320,000
USD EUR (GBP/EUR) Exchange Rate 1.440
Payment Amount in GBP 460,780
GBP/EUR 1.4399
The amount that is outstanding in Euro Terms is around 460,780 and the same needs to be well
hedged by the company so that the risk of reduction in the value can be well mitigated so that the
value of the currency in Euro remains the same. Now the above set of exchange rate or the spot
rate has been well determined with the help of the value that would be received by Peters, now in
order to well decide the value of the payment that would be actually received the forward rate
would be well taken into consideration for the purpose of analysis (Sudacevschi 2017).

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b) The foreign exchange exposure to this transaction is in the form of GBP and EUR Currency
which goes to well show that changes in the value of these currencies can well affect the value
receivable by Peters Firm. Thus, it becomes important to well determine the foreign exchange
rate risk exposure that would be well associated with this transaction. In the given case, the
Shrewsbury Herbal has invoiced in the British Pound Sterling whenever it is selling its goods
and services to its foreign customers, the action has been in particularly taken by the company in
order to well guard against its adverse actions in response to exchange rates (Álvarez-Díez,
Alfaro-Cid and Fernández-Blanco 2016). Nevertheless it is important to note that the company
has just received an order from a large customer that is located in the Central France for a sum of
£320,000 for the products it is selling. Now the payment for the sum of goods would be well
received after a sum of three months. Now the 3 Month Forward exchange rate that is well in
compliance with the transaction will be well taken into account. It is crucial to note that the main
concern that the Shrewsbury’s Controller, Peter is most likely concerned with is the appreciation
of the pound over the Euro currency which in turn can affect the value that is receivable. Now if
the Pound well appreciates then it would be actually reducing the value that the company would
be reducing and this will be well accounted in the form of forex exchange loss. Thus it becomes
important for Mr Peter to take important steps and actions for the purpose of mitigating and
removing the risk that is associated with the forex receivable (Kočenda and Moravcová 2019).
c) Hedging is a key risk management practice that is well followed by various companies and
organisation for the purpose of well managing and mitigating the risk that they are well exposed
with. In the given case for Shrewsbury the company is well exposed with the forex risk that is
the company is well afraid that a rise or appreciation of pound and depreciation of foreign
currency that is Euro can well effect the overall value that they would receive. In order to well

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determine whether the company should hedge or not it is important to look at the three month
forward contract which well shows an estimation of the currency exchange rate that can well
occur with the current situation if interest rate (Iqbal 2017). In this case the three month forward
rate for the currency pair of GBP/EUR was well determined to be 1.444 which is greater than the
spot rate of 1.44. Now in this case it is well that the GBP is expected to well depreciate which is
a good news but in order to well capture the profit that can well arrive from the forex exchange
and in order to well lockdown a currency exchange rate the company should well enter into a
three month forward contract that is three months from now so that the foreign exchange risk can
be well mitigated and the value that would be received by changing the Euro is ascertained
(Shank and Vianna 2016). In the above strategy determined now on an initial basis the company
was expecting to receive 460,780 however if the company well enters into a forward contract and
locks down the forward rate it is well expected to receive a sum of 461,958.
Cross Exchange Rate (Spot) Particulars
Amoun
t
GBP
1.897
9
US
D
0.758
7 Payment Amount in EUR
320,00
0
USD
EU
R
(GBP/EUR) Exchange
Rate 1.440
Payment Amount in
GBP
460,78
0
GBP/EUR 1.4399
Cross Exchange Rate (3 Month Forward)
GBP 1.899
US
D
0.760
2 Particulars
Amoun
t
USD
EU
R Payment Amount in EUR
320,00
0
(GBP/EUR) Exchange
Rate 1.444
GBP/EUR 1.444
Payment Amount in
GBP
461,95
8

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References
Álvarez-Díez, S., Alfaro-Cid, E. and Fernández-Blanco, M.O., 2016. Hedging foreign exchange
rate risk: Multi-currency diversification. European journal of management and business
economics, 25(1), pp.2-7.
Chansa, C., Sundewall, J. and Östlund, N., 2018. Effect of currency exchange rate fluctuations
on Aid Effectiveness in the Health Sector in Zambia. Health policy and planning, 33(7), pp.811-
820.
Iqbal, J., 2017. Does gold hedge stock market, inflation and exchange rate risks? An econometric
investigation. International Review of Economics & Finance, 48, pp.1-17.
Kočenda, E. and Moravcová, M., 2019. Exchange rate comovements, hedging and volatility
spillovers on new EU forex markets. Journal of International Financial Markets, Institutions and
Money, 58, pp.42-64.
Mello, M., 2017. Derivatives and exchange rate hedging strategies in uruguayan firms (No.
2017005).
Shank, C.A. and Vianna, A.C., 2016. Are US-Dollar-Hedged-ETF investors aggressive on
exchange rates? A panel VAR approach. Research in International Business and Finance, 38,
pp.430-438.
Sudacevschi, M., 2017. Foreign currency risk hedging. Challenges of the Knowledge Society,
pp.742-746.

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