Dozier: Foreign Exchange Market and Forward Contract

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Dozier Industries has three options to choose from when deciding on the best way to handle their first non-US dollar denominated receivable:
1. Entering into a forward contract in which Dozier would sell forward British Pounds.
2. Execute a spot market transaction to create a synthetic forward hedge.
3. Do not hedge against any fluctuations between the Pound and the Dollar.
For the purpose of the analysis, there are several assumptions made which are pertinent to the analysis that follows (see appendix).

Forward Contract Hedge
The first option available to Dozier Management to hedge the risk of the Great British Pound (GBP) depreciating against the United States Dollar (USD) is to enter into a contract to sell forward £1,057,500
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Conclusion
Dozier can capture a profit through both of the hedging strategies albeit it being smaller than the target six percent originally built into the bid. An un-hedged position is unacceptable due to the firm’s recent financial difficulties - it is critical that Dozier profits from this initial venture into this new market. While leaving the receivable un-hedged alternative does offer the greatest potential profit at the current prevailing FX rates, these profits are not guaranteed (see appendix for profit/loss possibilities given GBP/USD FX fluctuations). Given the importance of locking in a profit and the uncertainty of the GBP/USD future exchange rates, we recommend Dozier hedges the £1,057,500 receivable by exchange rate in

Appendix

Assumptions:
• All transactions are executed immediately.
• All transaction costs surrounding the forward contract are negligible.
• All rates given in Exhibit 4 will not fluctuate over the 90 day time span.
• Deposits over $1 million are eligible for the three month deposit rate.

Calculation of Profits:

Spot Market Hedge
Deposit Amount $ 168,847.50
Interest Received $ 28,507.45
Principal Amount $ 1,467,447.88
Total $ 1,664,802.82
Cost of Project $ 1,642,783.00
Interest on

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