S 2009

100 115 130 142 160 130 1% 225 252 230 2,653

0-5945 o.aooo 0.7156 0.6401 0.5725 0.5121 0-4530 0.4097 0.3665 0.3273 0.3273

59,45 92.01 93.03 90.39 91.60 92 18 59.73 92.13 92.35 91.73 869.61

Continuing value

PV in i

Exhibit 17.10 Use of Derivatives

Exhibit 17.10 Use of Derivatives

resulted in many well-publicized disasters. Volkswagen lost $200 million and Spectra Physics had an entire year's profits wiped out by inappropriate foreign exchange trading positions. Management either hedged the wrong exposure, or forgot that hedge positions that are too large are actually speculation. Also, other ways of hedging exist. If the local currency might decline in value, a company can reduce holdings of local currency cash and marketable securities, delay accounts payable, invoice exports in the foreign currency and imports in the domestic currency, tighten trade credit in the foreign currency, and borrow more in the foreign currency.

Until the 1990s, the literature on hedging was sparse and relatively incomplete. Most authors wrote about hedging individual transactions (such as the sale of a product with a deferred payment) or reducing the variance of cash flows (variance reduction). Recently, these approaches have been superceded by value maximization approaches that compare the benefits and costs of hedging programs. The implication is that not every company should hedge. Not every company does. The problem to which we now turn our attention is how do you decide whether or not your company should hedge, what approach should be used, and if so, what hedge ratio is appropriate? Exhibit 17.10 shows the results of a survey of 530 nonfinancial firms by Bodnar, Hayt, Marston, and Smithson4 regarding their use of financial

4 Bodnar, Hayt, Marston, and Smithson, ''Wharton Survey of Derivatives Usage by U.S. Nonfinancial Firms," Financial Management (summer 1995), pp. 104-114.

Exhibit 17.11 Reasons for Using Derivatives

Firms thai use derivatives (percent)

Hedge economic exposure Hedge anticipated transaction1 Hedge anticipated transaction1 Hedge firm commitment transaction Hedge foreign dividends

Frequently transact for this reason

Sometimes transact for this reason

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