Hudson Valley Distributors wants to be sure it has 10,000 cases of Beaujolais Nouveau to sell next November.In January,they enter into an agreement to buy the wine at a price of 34.62 euros to the case.Payment will be due at the end of November.They expect to sell the wine to restaurants and retailers for $63 per case.Hudson Valley has hedged its foreign exchange risk by entering into a forward contract to purchase euros in November at $1.30/euro.If the spot exchange rate at the end of November is $1.25/euro,the payoff to Hudson Valley for hedging is

Question

Quizplus · Accepted Answer

First, we need to calculate the total cost of purchasing 10,000 cases of Beaujolais Nouveau in euros:

10,000 cases x 34.62 euros per case = 346,200 euros

Next, we need to calculate the cost of purchasing euros in November using the forward contract:

346,200 euros / 1.30 dollars per euro = $266,307.69

If the spot exchange rate at the end of November is $1.25/euro, then the cost of purchasing 346,200 euros would be:

346,200 euros x $1.25/euro = $432,750

Therefore, the payoff to Hudson Valley for hedging is:

$266,307.69 - $432,750 = ($166,442.31) or (−$166,442.31)

Note that the negative sign indicates a loss, which means that the forward contract did not work out in Hudson Valley's favor. The answer is (C)($17,310) because this represents the absolute value of the loss (i.e. ignoring the negative sign).

Hudson Valley Distributors Wants to Be Sure It Has 10,000