Question

St. Paul Co. does business in the United States and New Zealand. In attempting to assess its economic exposure, it compiled the following information. a. t. Paul's U.S. sales are somewhat affected by the value of the New Zealand dollar (NZS), because it faces competition from New Zealand exporters. It forecasts the U.S. sales based on the following three exchange rate scenarios: 1) when exchange rate of NZS S0.40, revenue from US is S100 million, 2) exchange rate of NZS-S0.50, revenue from US is $120 million, 3) exchange rate of NZS-S0.55, revenue from US is $130 million b. Its New Zealand dollar revenues on sales to New Zealand invoiced in New Zealand dollars are expected to be NZS100 million. c. Its anticipated cost of materials is estimated at $200 million from the purchase of U.S. materials and NZS300 million from the purchase of New Zealand materials. d.Fixed operating expenses are estimated at S30 million. c.Variable operating expenses are estimated at 20 percent of total sales (after including New Zealand sales, translated to a dollar amount) Interest expense is estimated at $10 million on existing U.S. loans, and the company has NZS100 existing New Zealand loans Part A: Forecast net cash flows for St. Paul Co. under each of the three exchange rate scenarios. Do your calculation on the paper Part B: Explain 3 methods how it can restructure its operations to reduce the sensitivity of its net cash flows to exchange rate movements. Method 1: Method 2: Method 3:

Answer 1

Part A.

1. When exchange rate of NZ$ is $0.40 and Revenue from US is $100M

(In $ Millions )

Revenue from US	$ 100.00
Revenue from New Zealand (in US $ = NZ $100* $0.40)	$ 40.00
Total Revenue (A)	$ 140.00
(-) Cost of Materials Purchased in
US	($ 200.00)
New Zealand (NZ $ 300* $0.40)	($ 120.00)
(-) Fixed Operating Expenses	($ 30.00)
(-) Variable Operating Expenses 20% of Total sales = $ 140.00*20%	($ 28.00)
(-) Interest Expenses in
US	($ 10.00)
New Zealand (NZ $ 100 * $ 0.40)	($ 40.00)
Total Expenses (B)	( $ 428.00)
Total Profit/ (Loss)   (A-B)	($ 288.00)

2.   When exchange rate of NZ$ is $0.50 and Revenue from US is $120M

(In $ Millions )

Revenue from US	$ 120.00
Revenue from New Zealand (in US $ = NZ $100* $0.50)	$ 50.00
Total Revenue (A)	$ 170.00
(-) Cost of Materials Purchased in
US	($ 200.00)
New Zealand (NZ $ 300* $0.50)	($ 150.00)
(-) Fixed Operating Expenses	($ 30.00)
(-) Variable Operating Expenses 20% of Total sales = $ 170.00*20%	($ 34.00)
(-) Interest Expenses in
US	($ 10.00)
New Zealand (NZ $ 100 * $ 0.50)	($ 50.00)
Total Expenses (B)	( $ 474.00)
Total Profit/ (Loss) (A-B)	($ 304.00)

3. When exchange rate of NZ$ is $0.55 and Revenue from US is $130M

(In $ Millions )

Revenue from US	$ 130.00
Revenue from New Zealand (in US $ = NZ $100* $0.55)	$ 55.00
Total Revenue (A)	$ 185.00
(-) Cost of Materials Purchased in
US	($ 200.00)
New Zealand (NZ $ 300* $0.55)	($ 165.00)
(-) Fixed Operating Expenses	($ 30.00)
(-) Variable Operating Expenses 20% of Total sales = $ 185.00*20%	($ 37.00)
(-) Interest Expenses in
US	($ 10.00)
New Zealand (NZ $ 100 * $ 0.55)	($ 55.00)
Total Expenses (B)	( $ 497.00)
Total Profit/ (Loss) (A-B)	($ 312.00)

Part B.

To reduce its sensitivity of Net Cash flows to Exchange Rate movements, there are 3 methods to restructure its operations and they are as follows.

• Decisions to be made in " Sales in Foreign Currency Units":- St. Paul Co, should increase its foreign sales which increases our Foreign Cash inflows.
• Dependency on Foreign Supplies:- The company should reduce its foreign supply orders
• Proportion of Foreign Debt Structure:- The Company should restructure its debts to reduce its debt payments in foreign currency.