Analyse the following case study and answer the questions given below :-
Mr. Lamb, the President of Easts India Company in Britain and Mr. Reto, Chief of IMF
have been working together since their early career. As a friend Reto had suggested Lamb to
setup operations in East Timor. East Timor is the latest new member of IMF. It was
separated from Indonesia and became an Independent country in 2003. Being a less
developed country it has many challenges- poverty, unemployment, very few private
enterprises, poor health standards, low level of education etc.
Mr. Lamb started exploring the idea of setting up a unit in East Timor. However, his
bankers are not too keen to fund the project as they perceive a very high risk there . Mr.
Lamb himself is concerned about political risk in the project. He discussed the matter with
AIG Insurance and also with Lombard. But both the companies were apprehensive to cover
political risk in East Timor.
East India Company as such has no presence in any developing country except India where
it has an outlet. The East India Company has been regularly borrowing and lending in
European markets. Presently the interest rates in Europe is 2.15% per annum and in
Britain it is 4.9% per annum. Chase Bank has indicated spot rate of 0.6883 Pounds per
Euro. The 3 month forward rate is 0.6879.
P.T.O.
2 K-578
He is expecting $ 1 million payment in the next 180 days and $ 2 million more in 270 days.
Mr. Lamb is confident about receiving the first lot of $1 million on time, while the chances of
receiving the next $2 million is 50-50. Mr. Lamb started analysing his income statement in
Britain and also in India. The Accounts department will consolidate the two and present it
in pounds. The statement for India and UK are given below :
India
(Rs.)
UK
(£)
Sales 27,200 500
Cost of goods sold and Operating Expenses 13,600 350
PBIT 13,600 150
Interest 6,800 232
Profit before Tax 6,800 -82
The Rupee Pound rate is volatile and fluctuates between Rs. 80 and Rs. 85 per Pound.
1. Work out interest rate arbitrage if East India Company borrows 1 million Euros and
coverts them to Pound to invest in Britain.
2. Which hedging tools do you suggest for each of the expected dollar payments.
3. Consolidate India and Britain income statements if exchange rate is Rs. 80 per Pound.
4. Consolidate the two income statements if the exchange rate is Rs. 85 per Pound.
5. State the type of exposure in above case.
Answers
Explanation:
Analyse the following case study and answer the questions given below :-
Mr. Lamb, the President of Easts India Company in Britain and Mr. Reto, Chief of IMF
have been working together since their early career. As a friend Reto had suggested Lamb to
setup operations in East Timor. East Timor is the latest new member of IMF. It was
separated from Indonesia and became an Independent country in 2003. Being a less
developed country it has many challenges- poverty, unemployment, very few private
enterprises, poor health standards, low level of education etc.
Mr. Lamb started exploring the idea of setting up a unit in East Timor. However, his
bankers are not too keen to fund the project as they perceive a very high risk there . Mr.
Lamb himself is concerned about political risk in the project. He discussed the matter with
AIG Insurance and also with Lombard. But both the companies were apprehensive to cover
political risk in East Timor.
East India Company as such has no presence in any developing country except India where
it has an outlet. The East India Company has been regularly borrowing and lending in
European markets. Presently the interest rates in Europe is 2.15% per annum and in
Britain it is 4.9% per annum. Chase Bank has indicated spot rate of 0.6883 Pounds per
Euro. The 3 month forward rate is 0.6879.
P.T.O.
2 K-578
He is expecting $ 1 million payment in the next 180 days and $ 2 million more in 270 days.
Mr. Lamb is confident about receiving the first lot of $1 million on time, while the chances of
receiving the next $2 million is 50-50. Mr. Lamb started analysing his income statement in
Britain and also in India. The Accounts department will consolidate the two and present it
in pounds. The statement for India and UK are given below :
India
(Rs.)
UK
(£)
Sales 27,200 500
Cost of goods sold and Operating Expenses 13,600 350
PBIT 13,600 150
Interest 6,800 232
Profit before Tax 6,800 -82
The Rupee Pound rate is volatile and fluctuates between Rs. 80 and Rs. 85 per Pound.
1. Work out interest rate arbitrage if East India Company borrows 1 million Euros and
coverts them to Pound to invest in Britain.
2. Which hedging tools do you suggest for each of the expected dollar payments.
3. Consolidate India and Britain income statements if exchange rate is Rs. 80 per Pound.
4. Consolidate the two income statements if the exchange rate is Rs. 85 per Pound.
5. State the type of exposure in above case.