Hello guys!
Viewmont is planning an expansion of its manufacturing capacity in Brazil. At the current exchange rate, BRL1.72/USD1, the expansion will cost BRL86,000,000, or USD50,000,000. Montero and his team discuss alternative ways to raise the capital required so that Viewmont can achieve the lowest borrowing cost and hedge against exchange rate risk. Bazlamit suggests Viewmont can achieve the lowest borrowing cost and avoid currency risk by borrowing directly in Brazilian reals. Kemigisa disagrees and suggests that Viewmont, being based in the United States, receives the best terms by borrowing domestically and then converting the proceeds to Brazilian reals at current exchange rates. Montero states, “Viewmont will enjoy the lowest borrowing cost by borrowing in U.S. dollars and then engaging in a currency swap to obtain Brazilian reals.”
With respect to Viewmont’s goal of borrowing at the lowest cost and hedging currency risk, who is most likely correct?
Montero Kemigisa Bazlamit Incorrect.
Montero is correct. Viewmont can reduce its overall borrowing costs by borrowing in U.S. dollars and engaging in a currency swap for Brazillian reals. This swap not only reduces borrowing costs but also hedges currency exposure.
I am wondering why the solution of Kemigisa is not correct.
If you borrow USD, translate immediately to BRL, you will pay US interest + spread and eliminate exchange rate risk.
Why do you need a currency swap ? This should be true only if the Brazilian Plant pay the interest for the loan. Is this the case? If true the wording is not very clear…
If the US Company borrow and pay interest, it dont need a currency swap.
What do you think guys?