Case #37 Baker Adhesives Case Study Teacher's Notes

4807 Words May 14th, 2011 20 Pages

Teaching Note

Synopsis and Objectives

Baker Adhesives (Baker) has just made its first foray into international sales and must come to grips with the impact of exchange-rate changes on the profitability of a past order. The company must also formulate a strategy for dealing with exchange-rate risks for future orders. The case is intended as an introduction to exchange-rate risk and the management of that risk. Upon receipt of payment from a past order, the firm realizes that exchange-rate movements have reduced the value of the sale. A follow-on order provides the context for exploring possible mechanisms for managing that risk. In particular, sufficient direction and information is provided to examine both a
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With the money-market hedge, Baker receives a cash flow immediately.

3. Are the money markets and forward markets in parity?

4. How profitable will the follow-on order be? Would you make this new sale?

Supporting Spreadsheet Files

For students: Case_37.xls

For instructors: TN_37.xls

Please do not share the instructors’ file with students. Note that the student and instructor spreadsheets include source data for the figure in case Exhibit 2, which shows the bid on the Brazilian real (BRL) over time.

Hypothetical Teaching Plan

A class session can be easily orchestrated through a series of questions. Below is one such sequence.

1. What was the revenue actually received from the original order, and how does it affect the profitability of that order?

The purpose is to have students understand the effects of exchange rates on cash flows. Both the magnitude and likelihood of changes are explored.

2. How might exchange-rate risk be managed?

Here the students should explore all the mechanisms for hedging. The idea is not to focus on numbers, but to bring out and explore the possibilities, including shifting the risk to the purchaser.

3. Assume Baker decides to take the follow-on order, how might the forward-contract and money-market rates be used to hedge the future expected inflow?

The class should carefully and clearly outline

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