1. USD - The currency Jaguar is most exposed to has been the US Dollar (USD). Appendix item 1 shows that Jaguar historically (1984-1989) has a large proportion of retail vehicle unit sales and thus turnover generated from the United States. CAD and DM -To a much lesser extent, Jaguar has also had revenues driven from sales into Canada (5-7% of revenues) and Europe (6-14% of revenues), although it is not clear from case data to which Euopean country the Jaguars have been exported. NB. This is pre-Euro time. DM (indirect via competitors) –Historically, Jaguars competitors in the US luxury car market have been the German’s Porsche, BMW, Merc Benz. Thus the DM exchange rate risk is to Jaguar is that the USD appreciates more (depreciates less) vs DM than it does vs GBP. In that case, the German car manufacturers may be able to steal market share from Jaguar with negative implications for Jaguar’s earnings, cashflow, valuation. Source of the USD historic exposure - Since Jaguar has costs in the UK (GBP) but sells cars abroad in USD (and to lesser extent CAD, DM etc), the exposure Jaguar faces is that GBP appreciates relative to these currencies. In that case, Jaguar (if not hedged for such a move) will likely experience a revenue fall. Depending on the strategy implemented by Jaguar in such a situation, this revenue fall would be driven by two processes. * The exchange rate change leads to an increase in Jaguar car unit price in USD and thus lowered demand from US consumers. US earned revenue falls. GBP revenues (once the US revenue has been converted back into GBP) also fall. * Jaguar does not pass on the price increase to US consumers and thus US earned revenues is not impacted by the exchange rate move. However these USD are worth less in GBP. From the case, we know Jaguar (between 84 and 87) entered into forward transactions to hedge 50-75% of the next 12 months USD receipts. Thus I believe that that Jaguar’s strategy was to try to maintain the USD car prices in order to maintain market share. Since how could they even estimate revenues in order to hedge it; if they knew that they would let the USD unit price fluctuate with the exchange rate. The above analysis (and company’s hedging strategy) approaches the exposure question from ‘revenues perspective’. However, when we consider DCF framework, this revenue impact also drives FCF, growth rate and firm valuation. Since… exchange rate change > revenues (market share & growth rate) -> EBIT/op profit -> FCF (in all future years) Quick and dirty method with following assumptions 1) dollar depreciation is global (ie. German/Japanese luxury car manufacturers do not gain competitive advantage on Jaguar from a purely GBP appreciation vs USD). 2) Jaguar does not change the USD price of care following the decline. 3) 50% of next year’s revenues are hedged via forward transactions. 4) the dollar depreciation is not a signal of general weakness in US economy (ie. Just as many Jaguars would be bought if Jaguar unit price (in USD) left unchanged. Observable| Impact (general formula)|
Units sold (in US) and unit price (in USD)| Unchanged|
USD earned revenues| Unchanged|
GBP revenues (for hedged 50%)| Unchanged - GBPUSD fwd hedges this part of revenue| GBP revenues (for unhedged 50%)| GBP revenues fall 10% (in line with USD depreciation)| Overall marginal revenue impact| GBP revenues fall 5% (-1 x % appreciation in GBPUSD x % USD revenues not hedged)| Cost impact| Zero (all costs are in GBP)|
Operating profit impact| 5% fall (-1 x % appreciation in GBPUSD x % USD revenues not hedged)| FCF marginal impact| 5% x (1-0.36)= 3.2% fall (-1 x % appreciation in GBPUSD x % USD revenues not hedged x (1-tax rate))| NB. The impact on value (beyond FCF impact in year one) would depend on what happened to forward rates (see q4 so not discussed here). The FCF fall could potentially be problematic for maintenance of planned CAPX and R&D (more...