Somu Electronics imported goods from Japan on July 1st 2009, of JP ¥ 1 million, to be paid on 31st, December 2009. The treasury manager collected the following exchange rates on July 01, 2009 from the bank.

In spite of fact that the forward quotation for JP ¥ was available through cross currency rates, Mr. X, the treasury manager purchased spot US$ and converted US$ into JP ¥ in Tokyo using 6 months forward rate.

However, on 31st December, 2009 Rs./US$ spot rate turned out to be 46.24 /26.

You are required to calculate the loss or gain in the strategy adopted by Mr. X by comparing the notional cash flow involved in the forward cover for Yen with the actual cash flow of the transaction.

Solution

Here we have to compare the notional cash outflow for the forward rate of JP ¥ and the actual cash outflow involved in rupees against forward purchase of JP ¥ for dollars in Tokyo and spot purchase of dollars in Delhi for Rs.

Cash flow of forward purchasing the JP ¥

Rs./JP ¥ 6 month forward rate

Bid rate = Bid rate of US$ / Ask Rate of JP ¥ = Rs. 46/ JP ¥ 110.60 =Rs. 0.415913

Ask rate = Ask rate of US$ / Bid Rate of JP ¥ = Rs. 46.03/ JP ¥ 110=Rs.0. 418454

Hence, Rs./JP ¥ 6 month forward rate = 0.415913/0.418454

Accordingly, if the company had purchased JP ¥ forward against rupees it would have paid = Rs.418454.50

Cash flow of forward purchasing US$ in spot market and converting into JP ¥

Amount of US dollars to be paid on due date by purchase of JP¥ 1 million in forward market

= JP¥ 1,000,000/ JP¥ 110 = US$ 9090.91

Cash outflows in rupees against purchase of dollars in on Dec. 31, 2009

= US$ 9090.91× Rs. 46.26 = Rs. 420,545.50

Loss or gain due to strategy adopted by Mr. X.

(A) – (B) = Rs. 4,18,454.50 – 4,20,545.50 = Rs. 2091.00

Thus, the company paid more Rs.2,091.00 in the strategy adopted by Mr. X.

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