Calculating Values

On April 14, 1998, an investor ran a search on a company's database through its web search engine to find any risky contracts the company had entered into. He found:

On March 1,1998, Cafe Import (the company) purchased food and general merchandise from Minako Usa, a Japanese wholesaler. Cafe Import has now an account payable in the amount of 257,200 yen, which is due in 90 days.

The investor wants to know the current U.S. dollar value of this account payable. Using a web calculator such as on the Bloomberg web site, he can enter in the principal amount of 257,200 yen and receive the current value using the current exchange rates.

But suppose the investor is interested in what the value of the currency exchange was several weeks ago, about March 5, 1998. Cafe Import could have on its web site a simple calculator wherein the investor could input the principal amount and the exchange rate from December 21.

Fill in the Time Period, use Japanese yen for the base currency, and click U.S. dollars under Currencies. Then hit the Retrieve button.

What happened? When the Calculate button is pushed, a calculation is performed where the Principal amount is multiplied by the Exchange Rate.

Hedging with Forwards

Cafe Import realizes that currency exchange rates are not always stable, and that a larger $U.S. amount may be needed to settle the 257,200 yen in 90 days. So, it enters into a forward contract to receive 257,200 yen from an exchange broker on the same day to ensure that the $U.S. amount it pays is the same on May 31 as it was on March 1. The investor wants to know how much the contract receivable, contract payable, and premium was.

Enter the Principal Amount here: (ie. 257,200 yen)

Enter the Spot Exchange Rate: (ie. March 2 rate--No rate is available for March 1)

Enter the Forward Exchange Rate: (90 day Forward on March 1):(Assume a rate of $.0078 for speed and efficiency)

Push this button to retrieve the Contract Receivable value.

Contract Receivable:

Push this button to retrieve the Contract Payable value:

Contract Payable:

Premium Calculation

Enter the Contract Receivable amount that was just calculated(round to nearest cent):

Enter the Contract Payable amount that was just calculated(round to nearest cent):

Push this button to retrieve the Premium /Discount Amount:

Premium/Discount:

The Contract Receivable calculation is the Principal x Spot Rate. The Contract Payable calculation is the Principal x Forward Rate. The Premium can be calculated as the difference between the Contract Receivable and the Contract Payable.

Reported Values

Cafe Import's year end is March 31, 1998. The investor knows the values of the foreign currency contract and the forward contract on this date because the company has reported it in its 10-K. But Cafe Import can also put in a simple calculator on its website to calculate the yearend amounts and corresponding gains and losses.

According to SEC requirements, information about the forward contract should be disclosed in one of three methods: tabular presentation, sensitivity analysis, or value-at-risk. For this illustration, the sensitivity analysis will be used. What this entails is a presentation of the potential loss in future earnings, fair values, or cash flows of market risk sensitive instruments due to hypothetical changes in rates, be it interest, currency exchange, commodity prices, or other similar changes.

So, in its 10-K filed on March 31, 1998, Cafe Import will not only report the market values of the contract receivables and payables, it will also report the future values based on reasonably hypothetical rates.

Item 8b. Quantitative and Qualitative Disclosures About Market Risk--Foreign Exchange Risk

Because of the nature of the company's business, Cafe Import often deals with foreign companies, and therefore is constantly exposed to exchange risk. The analysis shows that U.S. dollar values of current foreign exchange contracts and hypothetical losses in the event of a 10 percent depreciation of the U.S. dollar. The market rate used was $.007504. The hypothetical rate was $.0082544. Cafe Import enters into forward contracts to cover the foreign currency transaction exposures and therefore offset the risk changes in foreign currency rates.

Such a sensitivity analysis can also be put on Cafe Import's web site, along with the calculators. The table above is filled in for now, but on the company's site, another text box can be added wherein users can input hypothetical appreciation/depreciation values. The values in the columns would change accordingly.

What if the investor wanted to know the journal entries that the company made regarding the foreign exchange contract and the forward contract? The web site could feature a section where the journal entries are recreated. Just for illustration purposes, some of the entries are already filled in. But on the true site, all of these boxes would be filled in with answers that change with respect to the amounts calculated in the prior sections. Note: in order for automatic updating of the journal entries to work, the previous sections must be filled out.

The above entry is for the foreign exchange contract. The amounts would be pulled from the results of the Past Value section, with March 1 as the time frame for the exchange rate.

This entry is for the establishment of the forward contract. Here again, the amounts would be pulled from prior calculated results, this time from the Forwards Section. But here, the amounts automatically pull themselves from the Forwards Section.

At year end, the accounts payable must be reported at the market value. The Gains/Losses amounts are pulled from the YearEnd Calculation Section(Reported Values on this page). Obviously, if there is a loss, there is no entry for the gain, and vice versa. The Accounts Payable is credited/debited accordingly. The same is true for the Contract Receivable Adjustment.

Here, the premium is amortized over the forward contract's life of 90 days. Since it has only been a month into the forward contract, the amortization calculation is (premium*(30/90)). Again, a simple web calculator can compute this.

The entries for the settlement of the forward and the account payable will follow the same method as before with the other entries. For now, the values are filled in, assuming the spot rate on May 31 was $.0081.

By following these calculations on the web site, the investor not only can retrieve the current and past values, but can evaluate the exchange risk involved with hypothetical changes in exchange rates using such web calculators.

Cafe Import could also use the same web calculating technologies for any foreign currency swaps that it entered into. It could set up a table wherein the principal amount, rate of the note receivable/payable from another U.S. company, rate of the international bank note, time frame, and rate of the swap receivable are entered. Investors could enter in hypothetical exchange rates and find out the cash flows, gains, and losses corresponding to the hypothetical exchange rates. Automatic updating of journal entries to illustrate the cash flows would also be possible with such web operations, similar to the illustration with the forward contract above.

So, in conclusion, current and emerging web technologies can be incorporated into a company's web site to help investors estimate risks and values of foreign currency contracts. The use of such web calculators as illustrated above shows that a company does not need to spend much on developing useful tools for its site. By taking advantage of current technologies, it will help its investors in estimating the current and hypothetical values, lending to calculations of the risk involved in foreign currency transactions.

	US Dollar Value of Net Foreign Exchange Contracts	Net Underlying Foreign Currency Transaction Exposures	Foreign Exchange Loss from 10% Depreciation of the US Dollar Without Forward Contracts
Japanese Yen
Total Exposure