Infosys major staff and operations are in India but 98% of revenue comes from foreign countries. So we can easily understand Infosys is exposed to foreign currency exchange risk.
How it hedging?
Infosys have collection account where they have operations. They use collection account to make the local transactions hence currency exchange risk is minimized. Then remaining amount (surplus) is pooled and transferred to India on regular basis. Interest rates in India are high so most of surplus is kept and invest in India only.
Infosys hedge their foreign currency exposure through a variety of instruments like forwards and options regularly. Infosys is focused on reducing the Indian rupee to US $ volatility because 66% of total income is from North America. Infosys is relatively slow compared to other in using hedging in foreign currency.
Instruments used:
Vanilla options: A category of options which includes only those with the most standard components. A plain vanilla option has an expiration date and straightforward strike price. American-style options and European-style options are both categorized as plain vanilla options.
(http://www.investorwords.com/6884/plain_vanilla_option.html)
Knock-in: A latent option contract that begins to function as a normal option ("knocks in") only once a certain price level is reached before expiration.
Knock-out: An option with a built in mechanism to expire worthless should a specified price level be exceeded.
(http://www.investopedia.com/terms/k/knock-outoption.asp)
Infosys have active treasury management team to hedge the risk involve with foreign currencies. They are keep evolving and adopting best practices to minimize risk involving in forex.
ALOK INDUSTRIES
Alok industries first barrowed 100mn yen and at the time it receiving that amount yen appreciated and total amount become 102mn. Then it realized concentrated on forex risk management. Appointed a treasury team and build a hedge to protect the draw down rate. Knock-in knock-out option is generally used by Alok industries to minimize the risk associated with foreign currency exchange.
If the rate protection objective is achieved then hedge needs to wound up is the Alok principle. Alok appointed Delloite as chief risk officer. Alok don't prefer natural hedging, they treat every exposure individually and separately. Except plain vanilla every hedge instrument has to be signed by treasury head, CFO, MD. Forex debt liabilities are also hedged.
37% of total revenue is from exports only and 40% of exports are to USA. Key risks of this company are cotton prices and foreign exchange fluctuations. An Alok industry is now using yield enhancing structured derivatives proposed a bank. This company following complex structured forex transactions to increase interest on idle money.
Ranbaxy:
Entered into foreign currency derivatives transactions with various banks ,now looking at an estimated MTM loss of over 2500 crore as on February .
Ranbaxy hitting a net loss of 761crore and it has $1.4 billion in outstanding hedging and booked a loss of rs.9.18 billion.
Share prices felt by 4.7% and ban of ranbaxy in us adding to its losses.
Entered into numerous "FOREX STRIP OPTIONS".
A strip like series of options that mature on certain dates over period of time
Ranbaxy speculated that rupee would appreciate further, hedged it dollar receivables a leverage of 1:2:5,Hence it put option.
Strategy:
• Bought put option from banks----------sold call option
• Dollar appreciation against Ranbaxy expectations
Ranbaxy had opted for opted for a put and call the risky in any direction should have been hedged .
Buy A Call Option:
When the rupee depreciates the call buyer will exercise the call option and buy the dollar at the strike price which is lower than the current price, also there will be income for the seller of put in the form of premium as the put buyer will not exercise the put option.
Write A Put Option: when the rupee appreciate the call option will result in the loss as it will be in the form of premium as it will not be exercised and put option will result in large olass as it will be by the buyer.
ICICI BANK (Swiss france/$)
Swiss france &japanese yen -good cover for $ liabilities, trade strongly against $, as icici persuaded clients to take position in swiss franc to cover losses from $, as arupee registered biggest gain in 34 year.
Clients: sundharam multi papers
2006-2007:
Total sales: rs 84.81 crore
Net profit: rs.4.44 crores
Icici bank asked margin rs 6 crore to cover for losses.
Sundaram no business in Switzerland,in france below,sundaram had to buy.
Nov20: France rose to 1.08 concerns about us recession: 2nd contract of potencial profit profit of $22000 turned to losses and sundaram bought [email protected] icici could not see the movement
Toyota
Toyota has its operations in several countries so normally it exposed to currency exchange exposure. Majority of risk is associated with dollar and euro currency exchange.
How?
Toyota uses VAR - value at risk analysis to evaluate the risk associated with currency exchange.
"A technique used to estimate the probability of portfolio losses based on the statistical analysis of historical price trends and volatilities."
(http://www.investopedia.com/terms/v/var.asp)
Instruments used:
Forwards, leading and lagging swaps and netting.
It try to minimize the risk by forward and swaps in those counties which it have earnings. These hedges are designed by inside financial specialist or outside experts.
Netting: Reducing the transfer of funds between subsidiaries to a net amount
Toyota monitors and manages these financial exposures as an integral part of its overall risk management program, which recognizes the unpredictability of financial markets and seeks to reduce the potentially adverse effects on Toyota's operating results.
IBM
Long-Term Investments in Foreign Subsidiaries (Net Investment)
A significant portion of the company's foreign currency denominated debt portfolio is designated as a hedge of net investment to reduce the volatility in stockholders' equity caused by changes in foreign currency exchange rates in the functional currency of major foreign subsidiaries with respect to the U.S. dollar. The company also uses currency swaps and foreign exchange forward contracts for this risk management purpose. At March 31, 2009, the total notional amount of derivative instruments designated as net investment hedges was $1,000 million.
Anticipated Royalties and Cost Transactions
The company's operations generate significant non-functional currency, third-party vendor payments and intercompany payments for royalties and goods and services among the company's non-U.S. subsidiaries and with the parent company. In anticipation of these foreign currency cash flows and in view of the volatility of the currency markets, the company selectively employs foreign exchange forward contracts to manage its currency risk. These forward contracts are accounted for as cash flow hedges. The maximum length of time over which the company is hedging its exposure to the variability in future cash flows is approximately four years. At March 31, 2009, the total notional amount of forward contracts designated as cash flow hedges of forecasted royalty and cost transactions was $19,122 million with a weighted-average remaining maturity of 488 days.
Foreign Currency Denominated Borrowings
The company is exposed to exchange rate volatility on foreign currency denominated debt. To manage this risk, the company employs cross-currency swaps to convert fixed-rate foreign currency denominated debt to fixed-rate debt denominated in the functional currency of the borrowing entity. These swaps are accounted for as cash flow hedges. At March 31, 2009, the total notional amount of cross-currency swaps designated as cash flow hedges of foreign currency denominated debt was $300 million.
Subsidiary Cash and Foreign Currency Asset/Liability Management
The company uses its Global Treasury Centres to manage the cash of its subsidiaries. These centres principally use currency swaps to convert cash flows in a cost-effective manner. In addition, the company uses foreign exchange forward contracts to economically hedge, on a net basis, the foreign currency exposure of a portion of the company's non-functional currency assets and liabilities. The terms of these forward and swap contracts are generally less than two years. The changes in the fair values of these contracts and of the underlying hedged exposures are generally offsetting and are recorded in other (income) and expense in the Consolidated Statement of Earnings. At March 31, 2009, the total notional amount of derivative instruments in economic hedges of foreign currency exposure was $8,957 million.
