United States Dollar

Topics: United States dollar, Currency, Board of directors Pages: 12 (3569 words) Published: February 13, 2013

In January 1985, a German company that uses Deutschmarks made a large purchase from a U.S. company that uses U.S. dollars, and needed to evaluate the best hedging alternatives to secure the least possible cost. The Chairman of Lufthansa, Herr Heinz Ruhnau, purchased twenty 737 jets from Boeing. The total purchase price was $500,000,000, which was payable in U.S. dollars on delivery of the aircrafts in one year.

Chairman Ruhnau chose a partial cover by hedging 50% of the exposure with forward contracts, which was $250 million at the one year forward rate of DM3.2/$. He left the remaining 50% ($250 million) uncovered.

Due to this decision, Lufthansa paid DM225,000,000 more than if Ruhnau would have chosen to not hedge at all or DM196,000,000 if he chose the put option. The Board of Directors is going to determine whether Ruhnau should be kept on as Chairman or be terminated.

1) Timing of Boeing Purchase
Purchasing the Boeing aircraft at the wrong time. The U.S. dollar was at an all-time high at the time of the purchase, in January of 1985. Board of Director’s Perspective
In January 1985, the Board of Directors believed Ruhnau purchased the aircrafts at the wrong time since the U.S. dollar was at an all-time high, which was DM3.2/$. Ruhnau and many others at the time believed the U.S. dollar had reached its max and would start its decline. The U.S. dollar dropped to DM2.3/$ when payment was due one year later.

The Board understands the difficulty to determine future currency exchange rates, even when using different forecasting techniques there is no guarantee to predict accurate future exchange rates. However, Ruhnau and many others believed the U.S. dollar would depreciate.

The Board also questions Ruhnau about the necessity of these aircrafts, the timing of purchase, and the purchase price agreed upon. * Does Lufthansa really need the aircrafts at this time? Why are they being purchased? * If they are deemed necessary, then when are the aircrafts needed by? Should we have purchased the aircrafts at that date or a later time? * Was the agreed upon purchase price the best deal? If they waited to watch the exchange rate, would that affect the deal offered? Would there have been affects to the purchase price due to changes in the airline industry?

Chairman, Herr Ruhnau’s Perspective
The U.S. dollar had been rising for the past three years and was at an all-time high at the time of purchase, in January 1985. Herr made the decision to purchase the Boeing Aircraft at this time.

The Board is looking in hindsight and focused on the U.S. dollar being at an all-time high of DM3.2/$ at the time of purchase and then falling to DM2.3/$ when payment was due.

There are three main possible scenarios Ruhnau could have considered when evaluating his decision: Scenario 1: The U.S. dollar may increase
Scenario 2: The U.S. dollar may stay about the same
Scenario 3: The U.S. dollar may decrease

Scenario 1: The U.S. dollar may increase
The U.S. dollar had been steadily rising against the DM for the past three years. The U.S. dollar was at an all-time high and it could have steadily continued to rise. One month later, the U.S. dollar did rise to DM3.4/$.

If the U.S. dollar did continue to rise to DM4.0/$, then Ruhnau made the right decision to purchase the Boeing Aircraft. If he would have waited and the U.S. dollar continued to rise, then he would have had to a total cost of DM2.0 billion, which would have been an additional DM625,000,000 cost in comparison to the partial forward cover. Ruhnau would have been blamed for this substantial loss.

Scenario 2: The U.S. dollar may stay about the same
The most accurate predictor of the future U.S. dollar rate is today’s rate because today’s rate already includes all the information about the economy, social issues, politics, and all other pertinent details affecting the exchange rate.

The U.S. dollar was increasing...
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