Hedging currency risk at TT Textile Case Solution And Analysis, HBR Case Study Solution & Analysis of Harvard Case Studies

Hedging currency risk at TT Textile Case Study Solution

Currency exposures which TT Textile faces:

TT Textile is facing significant currency exposures, all the companies that operate in more than one country face these kinds of similar currency exposures. If the company have to receive amount in the foreign currency, these types of currency exposures arise, similarly if the company have to pay amount in foreign currencies currency exposures arise as well. 75% of the revenues of TT Textile have come from exports in more than 30 countries and the company exposed to $25 million at any time in any period just because of the sales made outside India.

It can be argued that this currency exposure is very critical and crucial for the TT Textile as they have to receive a significant amount in the USD. Furthermore, the company have to pay roughly all of the expenses in INR, which makes the currency exposure even more significant, if they have to pay some amounts in the same foreign currency, which they will receive, the management could offset these inflows and outflows. In addition to this, profit margins of the textile industry of India squeezed, as compared to the previous twenty years; the profit margins have reduced by almost fifty percent.

These types of currency exposures have less adverse consequences on the profitability of TT Textile because of the higher profits. However, in the present economic environment, the currency exposure that TT Textile is facing could be very dangerous for the company as they can substantially affect the profit margin. In addition to this, the currency exposures have not been intense in the past twenty years, the use of risky financial instruments was minimal and the financial systems are less sensitive to these currency exposures.However, in the recent times, the use of risky financial instrument has increased and the amount of general exports has increased drastically which have led to rapid increase in currency exposures.

Apart from the INR currency exposure, the TT Textile is also facing currency exposure regarding decrease in the value of CHF, the management of TT Textile hedges their receipt of USD by using a specialized hedging instrument. The hedging arrangement based on two currencies USD and CHF, which increase the currency exposure of TT Textile to not only USD but it also expose the TT Textile to the CHF.

Financial instrument and nature of pay-outs:

The swap will be effective from 19 October 2006 and it will end on 15 October 2009. The currency swaps are used by TT Textile in order to reduce the currency exposure, the currency swaps are very different from the traditional currency swaps. Under this specialized swap arrangement, the total notional principle was INR 225million while that is equivalent to $4,965,791.22 and the notional principle in CIF is6,306,554.84.

No exchange of principle happens at the beginning of the swap arrangement nor would the principle be paid or received by any party in the middle period. On the other hand, the TT Textile is entitled to receive interest payments semi-annually of around 1.77% and the interest would be based on the notional principle in INR. The interest payment in the INR would be almost INR four million per year and INR twelve million for the full life of the swap arrangement.

Hedging currency risk at TT Textile Harvard Case Solution & Analysis

It can be said, that the hedging instrument could give profit and loss to both the parties, if the CHF/USD goes below1.04, TT Textile will have to pay on the basis of spot rate prevailing at that time, if the CHF/USD goes below 1.04, TT Textile would have to pay INR 41.4 million more than the expected payment which can have adverse implications on the profitability of TT Textile.........................

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