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Use the Information for the Following Problem(s)

question 50

Multiple Choice

Use the information for the following problem(s) .
Central Valley Transit Inc. (CVT) has just signed a contract to purchase light rail cars from a manufacturer in Germany for euro 3,000,000. The purchase was made in June with payment due six months later in December. Because this is a sizable contract for the firm and because the contract is in euros rather than dollars, CVT is considering several hedging alternatives to reduce the exchange rate risk arising from the sale. To help the firm make a hedging decision you have gathered the following information.
∙ The spot exchange rate is $1.250/euro
∙ The six month forward rate is $1.22/euro
∙ CVT's cost of capital is 11%
∙ The Euro zone 6-month borrowing rate is 9% (or 4.5% for 6 months)
∙ The Euro zone 6-month lending rate is 7% (or 3.5% for 6 months)
∙ The U.S. 6-month borrowing rate is 8% (or 4% for 6 months)
∙ The U.S. 6-month lending rate is 6% (or 3% for 6 months)
∙ December call options for euro 750,000; strike price $1.28, premium price is 1.5%
∙ CVT's forecast for 6-month spot rates is $1.27/euro
∙ The budget rate, or the highest acceptable purchase price for this project, is $3,900,000 or $1.30/euro
-Refer to Instruction 10.1.If CVT chooses to hedge its transaction exposure in the forward market,it will ________ euro 3,000,000 forward at a rate of ________.

Definitions:

Recoups All Costs

A situation where the total expenses of an investment or project are fully recovered.

Competitive Bidding

Competitive bidding is a procurement process where several suppliers submit bids to win a contract, offering the best terms in terms of price, quality, and service.

Firm Bidding

A bidding process where the bid price is fixed and non-negotiable, often used in contexts requiring budget adherence or strict cost controls.

Target Cost

is the estimated price at which a product needs to be sold in the market, guiding the design and manufacturing process to ensure profitability.