FNCE 4103 Week 11 International Finance Case Paper Example

Lakeland Process Equipment's Currency and Country Exposures in One Case: A €2 Million Payable, a Hamburg Subsidiary, a Euro-Dependent Cost Base and a Querétaro Plant, Each Measured and Matched to a Response

Student Name

Walden University

FNCE 4103: International Finance

Instructor Name

Month Day, Year

Lakeland Process Equipment's Currency and Country Exposures in One Case: A €2 Million Payable, a Hamburg Subsidiary, a Euro-Dependent Cost Base and a Querétaro Plant, Each Measured and Matched to a Response

What Crosses the Border

Lakeland Process Equipment, the course's composite processing-line manufacturer in Minneapolis, earns about $290 million a year, 72 percent of it in U.S. dollars. Four things cross its borders. It buys about $45 million a year of components from German suppliers invoiced in euros, including a current payable of €2,000,000 due in 90 days. It owns a Hamburg subsidiary that sells and services lines in Europe in euros. It competes in the United States against a German-owned rival whose costs are in euros. And it is weighing a $12 million Mexican assembly plant. This paper measures each resulting exposure on Lakeland's own figures, assesses the Mexican country risk and matches each exposure to a response, drawing on the analyses developed over the term.

Transaction Exposure

The €2,000,000 payable is fixed in amount and date. At the illustrative spot rate of $1.0850 it costs $2,170,000; a 5 percent swing either way before payment changes its dollar cost by about $108,500. Because Lakeland earns dollars and cannot pass sudden cost increases to customers already under contract, this exposure should be hedged. Buying euros forward at $1.0890 fixes the cost at $2,178,000; a money market hedge gives almost the same result through covered interest parity; a call option at a $1.09 strike costs $30,000 but keeps the benefit if the euro falls (Madura, 2021).

Translation Exposure

The Hamburg subsidiary's functional currency is the euro, so its statements are translated by the current rate method. Its net assets of €6.0 million expose Lakeland's reported equity: a euro drop of 5 percent would take about $325,000 off reported equity through the cumulative translation adjustment. This is an accounting exposure. No cash moves because of it, and hedging it would risk creating real cash losses to offset paper ones. It should be reported clearly but not hedged unless a loan covenant depends on reported equity. If Lakeland later decided to sell the subsidiary or bring its capital home, the exposure would become a cash exposure and the answer would change.

Operating Exposure

Lakeland has euro costs of roughly $85 million a year against euro revenue of about $60 million, a net short position of $25 million. Taken alone, a lasting euro rise of 10 percent would cost about $2.5 million a year. But the German-owned competitor's costs are in euros too. If it raised its U.S. prices in response, Lakeland could raise its own modestly and win some orders, turning the net effect into a gain of about $2.5 million. If the competitor held its prices, the loss would stand. Operating exposure therefore depends on a rival's behavior and cannot be hedged precisely with financial contracts (Shapiro & Hanouna, 2019).

The Mexican Project and Its Country Risk

The Querétaro plant has a net present value to the parent of about $2.8 million at a 12 percent dollar rate, once remittances, treaty withholding and a gradually weakening peso are applied. More than half of that value comes from the terminal value. The country risk brief ranked slower and less predictable legal remedy, following the 2024 judicial reform, as the most important risk, ahead of tax changes; blocked funds and expropriation were judged unlikely. Adding a two-point political risk premium lowers the value to about $1.7 million. The project still creates value under that premium, but the margin is thin enough that the terminal value assumption deserves close review before approval.

Responses Matched to Exposures

The responses differ because the exposures differ, and treating them alike would waste money on hedges that protect nothing real or leave real risks untouched. Contracts handle the payable, which is certain in amount and date. Operating choices handle the competitive exposure, which is not. Structure handles the Mexican project, where the risk lies in policy and law as much as in the exchange rate.

Table 1

Exposures, Their Size and the Matched Response

Composite company; figures from the term's analyses.

What the Treasurer Should Report Each Quarter

A single analysis is not enough, because exposures change as contracts are signed, the subsidiary grows and the Mexican project moves ahead. The treasurer should report four figures to the board each quarter. First, the total of open euro payables and the share hedged, with the rates locked in. Second, the Hamburg subsidiary's net assets in euros and the translation adjustment for the quarter, labeled clearly as an accounting effect. Third, the share of euro-denominated costs in total costs, which shows whether the work on a second supplier is reducing the structural exposure. Fourth, for the Mexican plant once built, remittances received against plan and any change in Mexico's ratings, tax rules or court practice. These four figures turn the term's separate analyses into a standing view of how currency and country risk affect the company, and they give the board early warning when one exposure starts to grow faster than the others.

Conclusion

Lakeland's largest financial risk from currencies is not the payable that draws a treasurer's attention but the euro-dependent cost base, which a single financial hedge cannot reach. Its largest new risk is legal rather than monetary, in Mexico. Bartram et al. (2010) found that firms with large currency exposures often show small measured exposure in their share prices, because they combine financial hedging with operational choices and pricing. That combination is the right model for Lakeland: hedge what is contractual, diversify what is structural and price for what is political.

References

Bartram, S. M., Brown, G. W., & Minton, B. A. (2010). Resolving the exposure puzzle: The many facets of exchange rate exposure. Journal of Financial Economics, 95(2), 148-173. https://doi.org/10.1016/j.jfineco.2009.09.002

Madura, J. (2021). International financial management (14th ed.). Cengage Learning.

Shapiro, A. C., & Hanouna, P. (2019). Multinational financial management (11th ed.). Wiley.