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Alliance design

concepts:
Foreign exchange
risk

Case facts

Alliance Design Concepts, Inc. (Alliance) offered two


types of services:

Design and installation of AV systems

Live production services

Alliance operated in Canadian market

Equipment were sourced from US suppliers, to be


paid in USD

Problem statement

To identify a strategy for mitigating exchange rate risk in


equipment procurement process

Alternatives Available

Involve the customers

Charge customers as per exchange rate on completion date

Pad the margin

Shorten the acceptance period

Internal process changes

Foreign exchange services

Purchase forward foreign currency exchange contracts

Decision analysis
Involve the customers

PROS:

Fluctuation in exchange rates are passed on to the customers

Shortening the acceptance period would reduce the risk of


fluctuation in exchange rate

CONS:

This strategy might reduce sales because of following


reasons:

Price might rise as a result of padding of margins

Reduced acceptance period might be too short for the customers


to make a decision

Uncertainty about final cost in the minds of customers

Decision analysis
Internal process changes

PROS:

This would help not only in risk management, but


also improve internal processes and operations
reducing the existing inefficiencies

CONS:

Limited scope for improvement

Decision analysis
Foreign exchange services

PROS:
Risk management, plus reduction of service charges
on frequent currency conversions

CONS:

Alliance wont be able to take the benefits of high


account payables

Decision analysis
Purchase forward foreign currency exchange contracts

PROS:

This would allow Alliance at the at the time of proposal


acceptance to lock in a known exchange rate for a future
date

CONS:

Foreign exchange contract would involve purchasing cost

Forward contracts are not standardized and are subject


to counter party risks

Alliance would not be able to reap the benefits of an


appreciation in the Canadian Dollars due to fixed forward
currency exchange rates

conclusion

The first three alternatives may impact the


operations of the businesses that Alliance is
involved in

Purchasing forward currency exchange contract


would provide sufficient hedging against currency
risks, and at the same time it wont impact the
operations of the business

However a futures contract is free from counter


party risk and is standardized

Hence, the best alternative for Alliance Design


Concepts, Inc. for mitigating currency risk would
be to purchase futures currency exchange contract

Thank You