Concept explainers
Ignoring taxes, what are East Coast Yachts’ projected gains or losses from this proposed arrangement at the current exchange rate of $1.34/€? What will happen to profits if the exchange rate changes to $1.25/€? At what exchange rate will the company break even?
To calculate: The profit and loss and break even of company.
Exchange rate
Exchange rate defines the value of one country’s currency against the other country’s currency. Exchange rate has two main components, namely domestic currency and foreign currency.
Explanation of Solution
Calculation of production cost:
Given,
Total sales €8,000,000
Exchange rate $1.34/€
Formula to calculate total production:
Substitute €8,000,000 for total sales and $1.34/€ for Exchange rate.
Hence, total sales is $10,720,000
Calculate production cost:
Given,
Total sales $10,720,000
Total spending by the company on production cost is 80%
Formula to calculate production cost:
Substitute $10,720,000 for Total sales and 80% for total spending by the company on production cost,
Hence, the production cost is $8,576,000.
Production cost remains constant irrespective of the exchange rate.
Calculate profit with the exchange rate of $1.34/€:
Given,
Total sales €8,000,000
Commission rate is 5%
Formula for commission on sales is,
Substitute €8,000,000 for Total sales and 5% for Commission rate,
Therefore, commission on sales is €400,000.
Calculate sales after commission:
Given,
Total sales is €8,000,000
Commission on sales is €400,000
Formula to calculate sales after commission:
Substitute €8,000,000 for Total sales and €400,000 for Commission on sales
Hence, sales after commission are €7,600,000.
Calculation of sales after commission in dollars:
Given,
Sales after commission is €7,600,000.
Exchange rate is $1.34/€.
Formula to calculate sales after commission in dollars:
Substitute €7,600,000 for Sales after commission and $1.34/€ for Exchange rate,
Hence, sales after commission is $10,184,000.
Calculation of profit in dollars
Given,
Sales after commission in dollars is $10,184,000,
Production cost is $8,576,000,
Formula to calculate profits in dollars:
Substitute $10,184,000 for Sales after commission in dollars and $8,576,000 for Production cost,
Hence, profit in dollars is $1,608,000.
Calculate of profit with exchange rate of $1.25/€:
Given,
Total sales €8,000,000.
Commission rate is 5%.
Formula for commission on sales:
Substitute €8,000,000 for Total sales and 5% for Commission rate.
Therefore, commission on sales is €400,000.
Calculation of sales after commission:
Given,
Total sales is €8,000,000
Commission on sales is €400,000
Formula to calculate sales after commission:
Substitute €8,000,000 for Total sales and €400,000 for Commission on sales.
Hence, sales after commission are €7,600,000.
Calculation of sales after commission in dollars:
Given,
Sales after commission is €7,600,000
Exchange rate is $1.25/€
Formula to calculate sales after commission in dollars,
Substitute €7,600,000 for Sales after commission and $1.34/€ for Exchange rate,
Therefore, sales after commission in dollars are $9,500,000.
Calculate profit in dollars:
Given,
Sales after commission in dollars is $9,500,000.
Production cost is $8,576,000.
Formula to calculate profits in dollars,
Substitute $9,500,000 for Sales after commission in dollars and $8,576,000 for Production cost,
Hence, profit in dollars is $924,000.
Therefore, when the exchange rate changes to $1.25/€the profit of the company will automatically decrease.
Calculate the break- even exchange rate:
Given,
Production cost in dollars is $8,576,000.
Sales after commission in euro is €7,600,000.
Formula to calculate break-even exchange rate:
Substitute $8,576,000 for production cost in dollars and €7,600,000 for Sales after commission in euro,
Hence, the break even exchange rate is $1.128/€.
If the exchange rate shifts from $1.34/€ to $1.25/€, the company will observe a decline in their profits. The company will break even at the exchange rate of $1.128/€.
Want to see more full solutions like this?
Chapter 31 Solutions
UPENN: LOOSE LEAF CORP.FIN W/CONNECT
- If the U.S. dollar were to appreciate substantially, what steps could a domestic manufacturer such as Cummins Engine Co. of Columbus, Indiana, take in advance to reduce the effect of the exchange rate fluctuation on company profitability?arrow_forwardIf the euro depreciates against the U.S. dollar, can a dollar buy more or fewer euros as aresult? Explain.arrow_forwardIn the following cases, state which type of exchange rate risk the company is facing and wheter this risk is beneficial or harmful in nature. A British power-generating company imports coal from Germany, paying for the coal in euros. The company expects the pound to weaken against the euro over the next year. A UK toy company supplies only the domestic market. Its only major competitor in this market if a US toy company. The pound is expected to weaken against the dollar over the next year. A UK company has bought a factory in France, financing the purchase with a sterling borrowing. Over the next year the pound is expected to appreciate against the euro.arrow_forward
- Suppose the current exchange rate between the US dollar (USD) and the euro (EUR) is 1 USD = 0.85 EUR. Additionally, assume that the expected rate of return on US assets is 8% and the purchasing price of a US asset is $ 100. Calculate the expected rate of return on this US asset in terms of euros. [5] How does the ability of international investors to quickly and easily switch between domestic and foreign assets impact the relationship between exchange rates and asset prices, particularly in terms of expected rates of return?arrow_forwardα) Suppose that the annual interest rate of the Euro (€) is 2% and the annual interest rate of the US Dollar ($) is 1%. The current $/€ exchange rate is $1 = €1.10. The expected exchange rate from a European investor after one year is 1.10 5 (1$= 1.105€). Is there arbitrage margins from the point of view of a European investor provided that his expectation for the future exchange rate is verified? Show what this investor can do.arrow_forwardSuppose the real exchange rate is constant – say, at the level required for net exports (or the current account) to equal zero. In this case, if foreign inflation is higher than domestic inflation, what must happen to the nominal exchange rate over time?arrow_forward
- Suppose exchange rate of Japanese yen in US $ is $.010, exchange rate of euro in US $ is $1.34, and exchange rate of euro in Japanese yen is 139 yen and you have $100, 000 to invest. By looking the exchange rates, do you see triangular arbitrage opportunity? What is your profit or loss? Show the work to support your answer.arrow_forwardThe next two questions are based on the following information Consider the following prices in the international money markets: Spot rate: USD1.275/GBP One-year Forward rate: USD1.364/GBP Interest Rate (UK): 2.39% Interest Rate (US): 11.66% Assuming no transaction costs, which of the following statements is true? An arbitrage can be obtained by borrowing in the currency that is expressing the other currency. An arbitrage can be obtained by investing in the currency that is expressing the other currency. An arbitrage can be obtained by borrowing in the currency that is being expressed by the other currency. O d. An arbitrage cannot be obtained by investing in the currency that is being expressed by the other currency. O e. None of the option in this question are correct. O a. O b. O c. What should the forward rate be for the International Fisher Effect to hold? GBP1.4875/USD GBP1.3904/USD USD1.3904/GBP d. USD1.4875/GBP O e. None of the options in this question. a. O b. Ocarrow_forward