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1. Company background Brief VSC financial analysis Introduction of Bench Mark Company- Trend Micro Explain the bid Explore Matrix & Fish Bone State Hedging.

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Presentation on theme: "1. Company background Brief VSC financial analysis Introduction of Bench Mark Company- Trend Micro Explain the bid Explore Matrix & Fish Bone State Hedging."— Presentation transcript:

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2 Company background Brief VSC financial analysis Introduction of Bench Mark Company- Trend Micro Explain the bid Explore Matrix & Fish Bone State Hedging Options Identify Our Decision Criteria Explain Options Recommendation (chosen based on the criteria) 2

3 Source: Thunderbird School of Global Management Vanguard Security Corporations Financial security provider for companies founded in early 1990’s Headquarters in Portugal Main clients include major European banks 3

4 Source: Thunderbird School of Global Management Vanguard Security Corporations Experienced rapid expansion in revenues and profit during early growth stages Increased competition from Asian has reduced market share Competition eroding profit margin 4

5 VSC projects Net Income loss of €8.7 million for 2008 Balance sheet shows cash assets only €2.1 million - Cash/Total current assets= 1.4% Cash on hand very limited 5

6 Provides security solutions Headquarted in Japan Operations in More than 50 countries & 9 Global R&D centers Customers being Enterprises & Small to Medium size Businesses 2007 Revenue US $848 Million Source: Trend Micro’s Annual Report for Fiscal Year 2008 6

7 Translation exposure Translation of major foreign currency assets and liabilities into “Japanese Yen” Exchange loss $1,411 million (Yen) in 2008 in their financial statement Source: Trend Micro’s Annual Report for Fiscal Year 2008 7

8 Forced to cut prices to retain customers Acquired long-term debt to fund research Fear of takeover as many private equity companies show interest in VSC U.S. viewed as potentional new market to develop a new customer base as well as generate revenue 8

9 Contract Tendered on April 1 st Awarded on May 15 th May 16 th, Received 10% down payment; US$16.103M Remainder 90% (US$127,277M) to be paid at the time of system installment – 6 months from the receipt of down payment; November 17 th Between April 1 st -May 16 th Euro increases in value 0.74% 9

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11 Global Business Expansion Product Quality Hedging StrategyProfitability Basic 11

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13 Hedging Costs Economic Conditions Currency Exchange Rates Hedging Method & Risks Bank Relationship Management Oversight 13

14 Source: Board of Governors of the Federal Reserve System 14

15 Purchasing Power Parity Analysis (PPP) Given: May 16 th e₀ = 0.67499€/US$ t = 6 months PPP   Rate on November 17 th 15

16 Purchasing Power Parity Analysis (PPP) PPP  e₀ = 0.67499€/US$ e t = 0.67399€/US$ Euro appreciates by ~ 0.15% 16

17 The International Fisher Effect (IFE) Given: May 16 th e₀ = 0.67499€/US$ t = 6 months IFE  17

18 The International Fisher Effect (IFE) IFE   e t = e 0 = 0.67499€/US $ No change in interest rate  IFE is not in effect Costs are same everywhere in terms of Short-term Financing 18

19 Additional Factors Affecting Exchange Rates Economic Condition Unemployment Rates in Europe U.S. Money Supply  All factors Favor in the Euro Appreciating – Hence, increasing its Economic Exposure 19

20 Forward Currency ContractForward Currency Futures ContractForeign Currency OptionTunnel ForwardForeign Currency LoanPre-sale of Foreign Contract 20

21 Attaining up-front cash flow to fund project 21

22 VSC is receiving a payment of $127,277,000 in 6 months The valuation of this payment at April 1 st exchange rates is €86,547,668 The same payment valuation with May 16 th exchange rates is €85,910,901 – a loss of €636,767 from the Euro appreciating PPP analysis projects a further appreciation of the Euro 22

23 No Hedging Strategy Graph 23

24 Details: Purchased through VSC’s bank at the May 16 th quoted 6- month forward exchange rate of 1€ = US$1.4650, or €0.6826 = US$1. VSC is only obligated to the contract if they complete the work for the American company. This hedge risk is medium risk since they are still obligated to the contract if they complete the work. 24

25 Results: At an exchange rate of €0.6826 = US$1, VSC would receive €86,878,498 for its $127,277,000 Nov. 17 th payment. – Retained Value: €330,830 gain over the Apr. 1 st valuation of the payment results from this hedging strategy. – Timeline: 6 month wait to get the Euros. – Risk: Medium 25

26 Graph Option 1 Graph 26

27 Details: VSC would purchase Euro futures contracts through the Chicago Mercantile Exchange in blocks of $125,000. The contracts would require delivery of US Dollars at the end of December. VSC would purchase 1,018 contracts at a cost of $50,900 in broker’s fees, with a remainder of $27,000 that is not hedged. ($127,277,000) / ($125,000) = 1,018.216 ($125,000) * 0.216 = $27,000 27

28 Details: The December Euro futures exchange rate is 1€=US$1.4655, or €0.6824=$1. The unprotected remainder of $27,000 would be hedged by purchasing a 6-month forward contract at the exchange rate of €0.6826 = US$1 28

29 Results: VSC would net €86,814,131 from its $127,277,000 Nov. 17 th payment. – Retained Value: €266,464 gain over the Apr. 1 st valuation of the payment results from this hedging strategy. Overall, a less favorable exchange rate than Option 1 at higher cost. – Timeline: 7.5 month wait to get the Euros. – Risk: High due to the fact that once the contract is purchased, VSC is obligated to the contract’s terms. 29

30 Option 2 Graph 30

31 Details: VSC can simultaneously buy a put option and write a call option at the same strike price. Both options would be European, exercisable in 6 months, and the option premiums would be paid at the time of issue. The 180-day currency option premium on a strike price of 1€ = US$1.4699, or €0.6803 = US$1, is: US$0.03256/euro for a call premium, and US$0.0215/euro for a put premium. 31

32 Details: The put option allows VSC to sell US dollars for Euros at the strike exchange rate. VSC is protected from a appreciation of the Euro. The call option allows the buyer of the option to buy US dollars with Euros at the strike exchange rate. VSC would benefit by collecting the option’s premium. A “Covered Call” The call premium exceeds the put premium, so VSC would have an immediate net inflow from entering into these options. 32

33 Results: Regardless of whether the €/$ increases, decreases, or remains constant, under this hedging strategy VSC will receive a net of €87,234,997 – Retained Value: €687,330 gain over the Apr. 1 st valuation of the payment results from this hedging strategy. – Timeline: 6 month wait to get the Euros. – Risk: Low  The risk was initially assessed at medium since there is a risk that the deal could break-down shortly after writing the call, and if the dollar appreciates, VSC would suffer a loss from the call being exercised. The PPP calculation, however, indicates that a dollar appreciation is highly unlikely. 33

34 Option 3 Graph 34

35 Details: Also known as Currency Collar A contract that provides protection against currency moves outside an agree-upon range (€0.6429 - €0.7105) Agree to convert at the future spot rate if: – The rate falls within the range – At the boundary rates when future spot rate falls beyond the range 35

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37 Results: Vanguard takes some but not all the exchange rate risk associated with its receivable – Retained Value: Gain or loss depends on November 17 th Spot Rate – Timeline: 6 month wait to get the Euros – Risk: Medium 37

38 Details: Bid Preparation (Euro) Design€3,700,000 Materials€68,900,000 Labor & Installation€6,900,000 Shipping€1,200,000 Direct Overhead€3,400,000 Allocation of Indirect Overhead€1,700,000 Total Required Funding€85,800,000 Less Initial Down Payment€10,869,389 Amount Necessary To Borrow€74,930,611 38

39 Results: U.S LoanEuro Loan 4% APR Fee of 0.125% Receive €74,836,948 on May 16 th Repay €77,927,835 on November 17 th 3.68% APR No Fees Receive €74,930,611 on May 16 th Repay € 77,684,311 on November 17 th 39

40 Results: Borrow a 180-day loan on May 16 th and then repay the principal plus interest on November 17 th – Cost: Interest plus agreement fee – Timeline: Receive funds on May 16 th – Risk: Low 40

41 Details: Allows Vanguard to presale its receivable of $127 million at a LIBOR rate Provide protection against a possible change in the value of the euro relative to the U.S. dollar 41

42 LIBOR stands for “London Inter-Bank Offered Rate” An interest rate at which banks can borrow money from other banks in the London wholesale money market An index that is used to set the cost of various variable-rate loans Credit spread is usually charged Sources: Bankrate.com 42

43 Sources: Bankrate.com 6 Month LIBOR Rate Updated 7/1/2009 Last WeekMonth AgoYear Ago Rate1.11%1.23%3.12% 43

44 Results: U.S. LIBOR offers (6 month term): – An interest rate 4.15% plus a credit risk spread of 1.8% – Flat upfront fee of 0.5% apply – Amount receive on May 16 th is €80,369,648 – Retained Value is -€6,178,020 (Difference between April 1 st €86,547,668 & May 16 th €80,369,648) 44

45 Result: Euro LIBOR offers (6 month term): – An interest rate 4.35% – Amount to receive on May 16 th is €82,173,777 – Retained Value: -€4,373,891 (Difference between April 1 st €86,547,668 & May 16 th €82,173,777) – Euro LIBOR option retains more value 45

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48 Foreign Currency Loan – Borrow fund required to complete the project Cheaper than Presale of Foreign Contract – 4.37 million (Euro) vs 2.75 million (Euro) 48

49 Receive 127.277 million USD on Nov 17 th Foreign Currency Option – Amount retained from hedging: €687,330 1. Forward Contract: € 330,830 2. Futures Contract: € 266,464 49

50 Combination of Foreign Currency Loan and Foreign Currency Option – Save more on interest expense – Retain more on hedging amount – Low risk 50

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52 Appendix A.1 52

53 Appendix A.2 *** Source: Trend Micro’s Annual Report for Fiscal Year 2008 53

54 Appendix A.3 *** Source: Trend Micro’s Annual Report for Fiscal Year 2008 54

55 Appendix A.4 55

56 Appendix A.5 56

57 Appendix A.6 57

58 Appendix A.7 58

59 Appendix A.8 Option 3 59

60 Appendix A.9 60

61 Appendix A.10 61

62 Appendix A.11 62


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