Question

Zestlar Inc is a USA manufacturer of electric vehicles and is seeking to expand by way of new markets and new production sites. It is also entered into negotiations about a possible joint venture with another manufacturer in Singapore. Zestlar will not know for months whether the joint venture will succeed but if it does, Zestlar will require to fund the joint venture by subscribing for shares amounting to 20 million Singapore dollars within a year from now. Zestlar is also currently exporting cars to Spain and Portugal but the strong dollar against the euro hurts sales of Zestlar cars in Spain and Portugal. In the Spanish and Portuguese markets, Zestlar faces competition from Swedish and Japanese car makers, such as Volvo and Mitsubishi, whose currencies remain stable relative to the euro.

1. What kind of measures would you recommend so that Zestlar can enter into the joint venture successfully in the event that the Singapore dollar appreciates against the US dollar?

2. What strategies would you recommend so that Zestlar could maintain its market share in Spain and Portugal.

3. Outline how Zestlar could assess the country risk, prior to any investment in Singapore.

Answer 1

1. In the event Joint Venture succeeds and Zestlar has to invest in Singapore Dollars, there will be an exposure to Zestlar that Singapore Dollars might appreciate against US Dollars and Zestlar will have to pay more US dollars for the same amount of investment in Singapore Dollars. Zestlar can use following instruments to hedge this exposure :

a. Forward Contract to buy Singapore Dollars
b. Futures contract to buy Singapore Dollars
c. Buying a Call option on Singapore Dollars

2. Since Zestlar is currently makes its sales in Spain and Portugal in US dollars, any appreciation of US dollar against Euro makes its vehicles costlier in these countries. In order to maintain its market share, Zestlar can fix the prices of vehicles in Euros and make sales in Euros. This will ensure prices of its vehicles are not affected by changes in value of US dollar against Euro.

This will expose Zestlar to foreign currency fluctuations. Zestlar can use hedging instruments mentioned below to hedge this exposure :

a. Forward Contract to sell Euros
b. Futures contract to sell Euros
c. Buying a put option on Euros

3. Zestlar should look at following factors to assess country risk for any investment decision :
  
a. Economic Factors : Zestlar should evaluate the economic strength of the country, sustainability of its growth, strength of capital markets, unemployment rate, GDP growth etc. It should assess the country's ability to pay back its debts.
b. Political Factors : Zestlar should evaluate the political environment in the country, stability of the government, certainty of policies etc.
c. Legal Factors : Zestlar should assess how conducive the legal framework of the country is for business. It should evaluate how simple and transparent labour, taxation and other laws are. It should assess the strenght of Intellectual property protection laws. It should also look into the robustness of dispute resolution framework
d. Demographic factors : Zestlar should also evaluate demographic factors, whether it provides the right conditions for growth or not