FX Risk Hedging at EADS
Problem Diagnosis
The management of the Space and European Aeronautic Defense Company which owned the Airbus was faced with one of the foreign exchange exposure in the year 2008. The exposure had been faced by the management of the company in the year 2006 and finally the management had decided to take an action in order to mitigate this risk. The issues were basically due to the exchange rate fluctuations which was causing a mismatch between the manufacturing payments and the revenues of the company.
fx risk hedging at eads case solution
The company received its revenues in dollars whereas the company paid for the manufacturing costs in Euro. Foreign exchange risk had also been faced by the company by entering into forward contracts as the exposure was low however, as the number of the transactions started to increase therefore, the management of the company thought to change the policy followed by the company in the past and also consider other alternative hedging instruments such as the options as the exchange rates were highly unfavorable for the company.
However, before making a final decision all the factors need to be considered as the change in the policy would have significant impacts upon the profitability, long term investments and the cash flows of EAD. The Airbus owned by EADS Company is competing with Boeing in the duopoly market and in order to remain competitive against the rivals measuring the foreign exchange exposure and analyzing the rationale for EAD for hedging FX risk is crucial at this point.
Analysis
The impact of the new policy changes will have to be evaluated qualitatively and quantitatively however, before that an analysis of the current situation faced by the company has been performed.
Current Policies, aims & FX Risk Management System of EAD
The goal of EADS Company is basically to become the market leader in the field of system, air platforms and aeronautics. The management of the company has also planned that by the end of the year 2020 the company will have to achieve revenues of about 80 billion euro. Along with this the management also expects to acquire certain companies for the security and defense division of the company, achieve 10% in EBIT margins by the year 2015 and also justifying United States as the best market for the production of the goods.
There had been some rapid fluctuations in the sterling exchange rates which had also impacted upon the dollar exchange rate which in turn impacted the euro exchange rate. Transactional risk was also faced by EADS which had resulted in different time lags between the payment commitment dates and the cash settlement dates.
Therefore, a double pronged approach had been taken by the management of the company in order to deal with these currency exposures. On the one had the management of EADS had started to use the derivative products and on the other hand all such risks were mitigated by the management through their operating decisions. The company had also realized the advantages associated with natural hedges such as the restructuring initiatives for converting euro cost base into US dollars and off-shoring.
Furthermore, the financial products used by the management were mainly the forward contracts and lock in their revenues and costs by determining the most feasible forward exchange rate so that the operating income does not declines for EADS...................
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