You are the president of Hawaiian Caffeine Inc., (HC). You produce some of the best coffee beans in the world because of the rich volcanic soil of the islands. However, roasting coffee beans is labor intensive and cheap labor is hard to come by in Hawaii. Therefore, you set up a roasting factory in Baja California (Mexico) primarily to reduce cost. The workers in your Mexican factory are very motivated because you pay them in U.S. dollars which they prefer over their local currency.
Within a year, other Hawaiian coffee growers are now coming to you for their roasting needs. It seems it is cheaper for them to pay you to roast their coffee than for them to roast it themselves. At the rate the roasting business is growing, you project that you will need to expand your roasting capacity in Baja in 6 months. The manager of the roasting facility tells you that it will cost M$13,333,333.33 to buy extra roasting ovens. You have enough money for the expansion. You tell the CFO to immediately exchange some U.S. dollars to pesos to finance the expansion.
Your CFO tells you there is no need to spend the money right now for something that is not needed for 6 months. He tells you we should either invest the money for 6 months in the U.S. or convert it right away and invest it in Mexico for 6 months. He looks at the figures provided below and recommends that you keep the money in the U.S.
Is he right or wrong? (Show your calculations on this page and explain you answer carefully on the next page.)
Following information regarding U.S. and Mexican annualized interest rates and exchange rates:
Currency Interest Rate
U.S. Dollar ($) 4.00016%
Mexican Peso (M$) 18.5716%
Today’s spot rate: $0.075
Expected spot rate in 6 months: $0.070
Note: Do not round off the numbers given above. You may round off the final calculations to the nearest peso or dollar.