Page 15 - CIMA SCS Workbook February 2019 - Day 2 Suggested Solutions

CIMA FEBRUARY 2019 – STRATEGIC CASE STUDY

rates. In terms of what it means, with the N$ weakening recently this has tended to mean that
sales when converted back to N$ have increased in value, but foreign currency costs have also
tended to increase when converted back into N$. It is important to note that different currencies
will vary at different rates and some may have weakened against the N$.

Focussing on costs, the most critical currency will be that of Golandia, where our two contract
manufacturers are based. If the N$ has been weakening against the currency in Golandia this will
have been increasing the values of what will be one of our main costs (please note this is ignoring
any hedging activities that Vita is undertaking). Now that the N$ is starting to recover, this is likely
to mean that N$ is strengthening against the Golandia currency and will mean our costs will be
slightly lower in N$ from our contract manufacturers.

Here is a brief illustration, using $ & N$. At a rate of $1 = N$2, this would mean a $100,000
invoice, would equate to N$200,000. If the N$ weakens then this means there are more N$ to the
$, for example $1 = N$2.50, meaning the $100,000 invoice would now cost N$250,000. The N$ is
strengthening, it could mean that we move back to $1 = N$2, or it may strengthen further to, say,
$1 = N$1.50, at this level $100,000 invoice would cost only N$150,000.

These costs are likely to be smaller in comparison to our sales in foreign currency from around the
world, and as the N$ starts to strengthen we are likely to see a reduction in the value of our
overseas sales as they are converted to N$. This is not to sales our sales revenue will reduce
overall, that will be influenced by a greater number of factors, like volume, sales price, etc.

Internal hedging
One of the methods of internal hedging is to invoice in our home currency, this would mean that
when making sales through our three primary sales channels we would always charge the
customer in N$. Thus this moves the risk of fluctuating currency to the third party. Selling in N$
around the world is unlikely to work for individual consumers as they are likely to be put off by
being charged in a foreign currency. In terms of our retail channel and our e-commerce retailers,
this is also unlikely to work, it is important for us to develop a strong relationship with our
retailers, to encourage them to sell our devices and to sell them in a compelling manner.
Increasing the risks they face is likely to alienate them and could lead to them delisting our
product from their stores/sites.

Another option for internal hedging would be leading and lagging payments. This could be used
by Vita and the principle is fairly simple to operate, based on our expectation of currency
fluctuations on any foreign currency purchases. At present we are expecting the N$ to strengthen
so we would wait as long as we could to pay and it would lead to the N$ value decreasing as the
N$ strengthened (see earlier illustration). Conversely, if we expected the N$ to weaken again,
then paying quickly would mean lower N$ costs. The difficulty for Vita would be in predicting
accurately how the exchange rates were likely to move for each currency.

Another internal method is offsetting – matching, netting and pooling, these could work for Vita
depending on the volume of transactions we have in the different currencies. Using Golandia as
an example, we are likely to have a good volume of transactions in Golandia both sales of the
devices to retailers and costs from our contract manufacturers to make offsetting work. This
would mean that rather than converting every transaction back into N$, we operate a bank
account in Golandia’s currency and use our sales receipts to pay the invoices from Force and HJM.

Finally, we have countertrade is where you pay with goods or services, but unless a company
would be happy to receive activity trackers as payment for work done for us, it isn’t really

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