Question

Suppose Toyota wants to borrow $450 million or the foreign currency equivalent for 4 years. It has decided to use international bond markets rather than the U.S. market as a source of funding. It is considering the following: (i) Borrow in $ using a Eurodollar bond. The bond could be issued at 100.5% of face value with a coupon rate of 5%. Expenses associated with the issue would be 1.8% of the amount borrowed. (ii) Borrow in euros using a euro-denominated Eurobond. The euro-Eurobond has a face value of euro 400m., and it can be issued at 99.5% of face value with a coupon rate of 4.0%. Expenses associated with the issue would be 2.0% of the amount borrowed. (iii) Borrow using a dual currency Swiss franc (SF) Foreign Bond. The bond is issued in SF, the coupons are paid in SF, but the principal is repaid in US$. The bond would be issued in Switzerland, subject to the same registration requirements as an ordinary SF bond issued in Switzerland. The SF bond can be written with a face value of SF 506m., and could be issued at par with a coupon of 6.2%. Expenses associated with the issue would be 2.0% of the amount borrowed. At maturity, the bond's face value payment would be $430 million. Assume that Toyota would hedge the exchange risk of its international payments using the forward market. The bank is quoting Ford the following rates: $/euros Bid Offer Spot $1.1500/euro $1.1505/euro 1-yr Forward $1.1610/euro $1.1618/euro 2-yr Forward $1.1790/euro $1.1805/euro 3-yr Forward $1.1840/euro $1.1855/euro 4-yr Forward $1.2020/euro $1.2038/euro SF/$ Bid Offer Spot SF 1.0950/$ SF 1.1000/$ 1-yr Forward SF 1.1115/$ SF 1.1125/$ 2-yr Forward SF 1.1280/$ SF 1.1295/$ 3-yr Forward SF 1.1420/$ SF 1.1435/$ 4-yr Forward SF 1.1595/$ SF 1.1610/$ (i) Given the three financing alternatives described above, and Toyota's desire to hedge its exchange risk in the forward market, which alternative offers the lowest financing rate for Toyota (compute all-in-costs)? (ii) Suppose the face value payoff of the dual currency bond is $440 million, and Toyota continues to hedge its risk in the forward market. Does this change your conclusion? Explain.

Suppose Toyota wants to borrow $450 million or the foreign currency equivalent for 4 years. It has decided to use international bond markets rather than the U.S. market as a source of funding. It is considering the following:

(i) Borrow in $ using a Eurodollar bond. The bond could be issued at 100.5% of face value with a coupon rate of 5%. Expenses associated with the issue would be 1.8% of the amount borrowed.

(ii) Borrow in euros using a euro-denominated Eurobond. The euro-Eurobond has a face value of euro 400m., and it can be issued at 99.5% of face value with a coupon rate of 4.0%. Expenses associated with the issue would be 2.0% of the amount borrowed.

(iii) Borrow using a dual currency Swiss franc (SF) Foreign Bond. The bond is issued in SF, the coupons are paid in SF, but the principal is repaid in US$. The bond would be issued in Switzerland, subject to the same registration requirements as an ordinary SF bond issued in Switzerland. The SF bond can be written with a face value of SF 506m., and could be issued at par with a coupon of 6.2%. Expenses associated with the issue would be 2.0% of the amount borrowed. At maturity, the bond's face value payment would be $430 million.

Assume that Toyota would hedge the exchange risk of its international payments using the forward market. The bank is quoting Ford the following rates:

$/euros
Bid
Offer
Spot
$1.1500/euro
$1.1505/euro
1-yr Forward
$1.1610/euro
$1.1618/euro
2-yr Forward
$1.1790/euro
$1.1805/euro
3-yr Forward
$1.1840/euro
$1.1855/euro
4-yr Forward
$1.2020/euro
$1.2038/euro
SF/$
Bid
Offer
Spot
SF 1.0950/$
SF 1.1000/$
1-yr Forward
SF 1.1115/$
SF 1.1125/$
2-yr Forward
SF 1.1280/$
SF 1.1295/$
3-yr Forward
SF 1.1420/$
SF 1.1435/$
4-yr Forward
SF 1.1595/$
SF 1.1610/$

(i) Given the three financing alternatives described above, and Toyota's desire to hedge its exchange risk in the forward market, which alternative offers the lowest financing rate for Toyota (compute all-in-costs)?

(ii) Suppose the face value payoff of the dual currency bond is $440 million, and Toyota continues to hedge its risk in the forward market. Does this change your conclusion? Explain.

Added by Ashley F.

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