Ch 27-18 Build a Model Solution								3/7/2001
Chapter 27. Solution toCh 27-18 Build a Model
Yohe Telecommunications is a multinational corporation that produces and distributes telecommunications technology.
Although its corporate headquarters are located in Maitland, Florida, Yohe usually must buy its raw materials in several
different foreign countries, and several different foreign currencies. The matter is complicated even further by the fact
that Yohe usually sells its products in other different foreign countries. One product in particular, the SY-20 radio
transmitter draws its principal components Component X, Component Y, and Component Z from Sweden, Mexico, and
England, respectively. Specifically, Component X costs 765 Swedish krona, Component Y costs 650 Mexican pesos, and
Component Z costs 105 British pounds. The largest market for the SY-20 is in Japan, where it sells for 38,000 Japanese
yen. Naturally, Yohe is intimately concerned with economic conditions that could adversely affect dollar exchange rates.
You will find Tables 28-1, 28-2, and 28-3 useful for this problem.
TABLE 27-1 (abridged)
Exchange rates of select major currencies, relative to the U.S. dollar a
	Direct	Indirect
	Quotations	Quotations
British pound	1.45150	0.68890
French franc	0.12740	7.85060
Swedish krona	0.09850	10.14960
Japanese yen	0.00923	108.31000
a WSJ.com, October 28, 2000.
TABLE 27-2 (abridged)
Key Currency Cross-Exchange Rates b
	Dollar	Pound	Yen	D-Mark	Ffranc
Mexico	7.8506	11.3958	0.0725	0.7735	1
Sweden	10.1496	14.7331	0.0937	1	1.2928
Japan	108.31	157.2217	1	10.6714	13.7964
United Kingdom	0.6889	1	0.0064	0.0679	0.0878
United States	1	1.4516	0.0092	0.0985	0.1274
b WSJ.com, January 21, 2000.
a. How much, in dollars, does it cost for Yohe to produce the SY-20? What is the dollar sale price of the SY-20?
Input Data
Cost of component X (in krona)			765 kr
Cost of component Y (in pesos)			650
Cost of component Z (in pounds)			£105
Sale price of the SY-20 (in yen)			38,000
We will convert the cost of each component to dollars, and find the total cost of the SY-20. We will do the same to find the
dollar sale price.
Component X
Cost of X in $	=	Cost in krona	x	Direct spot exchange rate
Cost of X in $	=	765.00	x	0.0985
Cost of X in $	=	$75.35
Component Y
Cost of Y in $	=	Cost in pesos	x	Direct spot exchange rate
Cost of Y in $	=	650.00	x	0.1274
Cost of Y in $	=	$82.81
Component Z
Cost of Z in $	=	Cost in pounds	x	Direct spot exchange rate
Cost of Z in $	=	105.00	x	1.4515
Cost of Z in $	=	$152.41
TOTAL COST OF THE SY-20 (in dollars) =			$310.57
Revenue from sale of the SY-20
Sale price (in yen)	=	Price in yen	x	Direct spot exchange rate
Sale price (in yen)	=	38,000	x	0.00923
Sale price (in yen)	=	$350.85
SY-20 SALES PRICE (in dollars) =			$350.85
b. What is the dollar profit that Yohe makes on the sale of the SY-20? What is the percentage profit?
The dollar profit from the sale of the SY-20 is simply the sales revenue minus the total cost.
Dollar profit =	Sales price	-	Total cost
Dollar profit =	$350.85	-	310.57
Dollar profit =	$40.28
The percentage profit is determined as the dollar profit divided by the total cost.
% profit =	$ profit	/	Total cost
% profit =	$40.28	/	310.57
% profit =	12.97%
c. If the U.S. dollar were to weaken by 10% against all foreign currencies, what would the dollar and percentage profits be
for the SY-20?
If the dollar were to weaken by 10% against all currencies, that could be expressed by multiplying the direct quotations of
foreign exchange rates by (1+%change), to reflect a ten percent decrease in purchasing strength. Since there is a
weakening of the dollar, the % is negative.
Change in dollar strength against all currencies				-10%
We will reproduce the table from the top of the spreadsheet, but we will add a column for the new exchange rates.
	Direct	Indirect	New Direct
	Quotations	Quotations	Quotations
British pound	1.45150	0.68890	1.30635
French franc	0.12740	7.85060	0.11466
Swedish krona	0.09850	10.14960	0.08865
Japanese yen	0.00923	108.31000	0.0083097
Now, we will recompute the component costs and sales price of the SY-20.
Component X
Cost of X in $	=	Cost in krona	x	Direct spot exchange rate
Cost of X in $	=	765.00	x	0.0887
New cost of X in $	=	$67.82
Component Y
Cost of Y in $	=	Cost in pesos	x	Direct spot exchange rate
Cost of Y in $	=	650.00	x	0.1147
New cost of Y in $	=	$74.53
Component Z
Cost of Z in $	=	Cost in pounds	x	Direct spot exchange rate
Cost of Z in $	=	105.00	x	1.3064
New cost of Z in $	=	$137.17
TOTAL COST OF THE SY-20 (in dollars) =			$279.51
Revenue from sale of the SY-20
Sale price (in yen)	=	Price in yen	x	Direct spot exchange rate
Sale price (in yen)	=	38,000	x	0.00831
Sale price (in yen)	=	$315.77
SY-20 SALES PRICE (in dollars) =			$315.77
The dollar profit from the sale of the SY-20 is simply the sales revenue minus the total cost.
Dollar profit =	Sales price	-	Total cost
Dollar profit =	$315.77	-	279.51
Dollar profit =	$36.26
The percentage profit is determined as the dollar profit divided by the total cost.
% profit =	$ profit	/	Total cost
% profit =	$36.26	/	279.51
% profit =	12.97%
From this exercise, we see that since all costs and revenues are generated overseas, an across the board weakening of the
dollar does not result in any decreased profitability for Yohe's SY-20. The lack of decreased profitability may seem
surprising because of the significant decrease in sales price, but remember that same decrease was observed in the cost of
the SY-20.
d. If the U.S. dollar were to weaken by 10% only against the Japanese yen and remained constant relative to all other
foreign currencies, what would the dollar and percentage profits be for the SY-20?
Once again, we must reconstruct the currency table from the top of the worksheet. This time, however, we will only be
changing the exchange rate for the yen. Again, we will be multiplying the old rate by (1+%change). Since there is a
weakening of the dollar, that % is a negative number.
Change in dollar strength against Japanese yen				-10%
	Direct	Indirect	New Direct
	Quotations	Quotations	Quotations
British pound	1.45150	0.68890	1.45150
French franc	0.12740	7.85060	0.12740
Swedish krona	0.09850	10.14960	0.09850
Japanese yen	0.00923	108.31000	0.0083097
Now, we will recompute the component costs and sales price of the SY-20.
Component X
Cost of X in $	=	Cost in krona	x	Direct spot exchange rate
Cost of X in $	=	765.00	x	0.0985
New cost of X in $	=	$75.35
Component Y
Cost of Y in $	=	Cost in pesos	x	Direct spot exchange rate
Cost of Y in $	=	650.00	x	0.1274
New cost of Y in $	=	$82.81
Component Z
Cost of Z in $	=	Cost in pounds	x	Direct spot exchange rate
Cost of Z in $	=	105.00	x	1.4515
New cost of Z in $	=	$152.41
TOTAL COST OF THE SY-20 (in dollars) =			$310.57
Revenue from sale of the SY-20
Sale price (in yen)	=	Price in yen	x	Direct spot exchange rate
Sale price (in yen)	=	38,000	x	0.00831
Sale price (in yen)	=	$315.77
SY-20 SALES PRICE (in dollars) =			$315.77
The dollar profit from the sale of the SY-20 is simply the sales revenue minus the total cost.
Dollar profit =	Sales price	-	Total cost
Dollar profit =	$315.77	-	310.57
Dollar profit =	$5.20
The percentage profit is determined as the dollar profit divided by the total cost.
% profit =	$ profit	/	Total cost
% profit =	$5.20	/	310.57
% profit =	1.67%
In this instance, we observe that a weakening of the dollar against the yen (all else equal) will result in declined profitability
for Yohe.
e. Using the forward exchange information from Table 19-3, calculate the return on 90 day securities in England, if the
rate of return on one-year securities in the U.S. is 4.9%?
Applying interest rate parity, we can determine the return on 1-year securities in England.
TABLE 27-3 (abridged)
Forward exchange rates for the British pound
		Forward Rates
	This is the indirect spot rate. Spot Rate	30 days	90 days	180 days
British Pound	0.68890	0.6886	0.6878	0.6870
Using our knowledge of interest rate parity, the following problem is set up.
spot exchange rate			1.45158949049209
forward exchange rate			1.4539
foreign nominal interest rate			4.9%
time to maturity on securities (in years)			0.25
foreign periodic interest rate			1.225%
	f t / e0	=	(1+k h) / (1+k f)
	1.00	=	1.01	/	1+kf
	1.01	=	1+kf
	1.063%	=	kf	periodic
	4.253%	=	kf	annual
f. Assuming that purchasing power parity holds, what would the sale price of the SY-20 be if it were sold in England,
rather than Japan?
Purchasing power parity allows us to establish the following problem.
Price in yen	=	$38,000
Yen/pound exchange rate =		0.00636
	P h	=	( P f )	x	( e0 )
	$38,000	=	( P f )	x	157.22166
(in pounds)	£242	=	( P f )