FIN 570Case Study

October 6, 2008Riley DrakeFazal KhanMatthew Hemenez

Introduction Tranzonic Companies / Hospeco

Specialty Company

Crosswell International & Hector Lans

Latin America and Brazil (Mathieux Bros.)

Brazil Markets 1980’s - Johnson & Johnson introduce

the Disposable Diaper

1990’s - Increased competition, new entrants (25% Annual growth)

Segments− Foreign: Local production (40%)− Homegrown (30%)− Argentina: Mercusor (20%)− Foreign Imported (10%)

Brazilian Economy (1995) The Real Plan - 1994

Currency Exchange Rates− Crz2,750/US$ -> R$1.00/US$ − R$0.93/US$ (1995)

Inflation Rates – 50% -> 2% per month

Savings/Loans – 3-4% & 8-9% per month Stable

Historical Exchange Rate

Value of $R to the US Dollar has been fairly stable since Jan-94

Value of One Brazilian $R

$0.70

$0.80

$0.90

$1.00

$1.10

$1.20

$1.30

Jul-

94

Aug

-94

Sep

-94

Oct

-94

No

v-9

4

De

c-9

4

Jan

-95

Feb

-95

Ma

r-95

Apr

-95

Ma

y-9

5

Jun

-95

Jul-

95

Aug

-95

$US

Entry in Brazilian Market Establish contract with distributor for

“Precious Line of Diapers”- Material Hospitalar

Determine method of operations and associated risks

Determine target market segment

Establish price of product to consumer

Considerations

Crosswell to ship FOB

Payment to be made in US$ to Crosswell− Cash in Advance− Confirmed

Documentary Letter of Credit

Establish Price − Crosswell R$92.21− Hospitalar R$83.00

US CompanyCROSSWELL

US Sales RepsMATHIEUX

BROS.

BrazilianDistributorMATERIAL

HOSPITLAR

BrazilianRetail

Outlets

Exchange Rate Risk

Issues

Cause and Effect

Causes

Financing costs too high

Exchange rate risks

Differing interest ratesDiffering inflation rates

Taxes and tariffs

Effect

Price ofproduct is too high for Brazilmarket.

Examples 2% Import Duty 25% Merchant Marine Renovation Fee 2% Customs brokerage fee 15% Industrial product tax

Alternatives Do nothing to reduce price

All parties reduce margins

Eliminate or reduce distributor financing costs

Capitalize on interest rates

Decision Criteria

Select the alternative that:− Ensures a <$83 per case price− Ensures that margin objectives are

met at each channel tier.− Sufficiently addresses exchange rate

risk.

All three criteria must be met

US CompanyCROSSWELL

US Sales RepsMATHIEUX

BROS.

BrazilianDistributorMATERIAL

HOSPITLAR

BrazilianRetail

Outlets

Exchange Rate Risk

SCENARIO ADD'L 4% DISC. No Financing CostCROSSWELLQuoted price 32.57 32.57 32.57Discount 0.00 0.00% 1.30 4.00% 0.00 0.00%price to Mathieux Bros 32.57 $US 31.27 $US 32.57 $US

MATHIEUX BROS.cost/ case 32.57 31.27 32.57Mathiex commissions 1.50 4.61% 0.94 3.00% 1.50 4.61%other costs 5.18 5.18 5.18price to Distributor 39.25 $US 37.39 $US 39.25 $US

EXCHANGE RATE 0.935 $R/$US 0.935 $R/$US 0.935 $R/$US

MATERIAL HOSPITALAR (dist)cost/ case 36.70 $R 34.96 $R 36.70 $Rimporting costs 4.29 11.7% 4.09 11.7% 4.29 11.7%cost of financing inventory 2.57 7.00% 2.45 7.00% 0.00 0.00%distributor margin 8.71 20.0% 6.64 16.0% 8.20 20.0%price to retailer 52.27 $R 48.13 $R 49.19 $R

RETAILERcost/ case 52.27 48.13 49.19taxes 18.66 35.7% 17.18 35.7% 17.56 35.7%retailer costs & markup 21.28 40.7% 17.33 36.0% 20.02 40.7%price to consumer 92.21 $R 82.63 $R 86.77 $R

Target Price 83.00 $R 83.00 $R 83.00 $RPrice to consumer - + - +Margins + - + +Exchange Rate Risk - - - + ?

ORIGINAL

US CompanyCROSSWELL

US Sales RepsMATHIEUX

BROS.

BrazilianDistributorMATERIAL

HOSPITLAR

BrazilianRetail

Outlets

Exchange Rate Risk

AlternativesORIGINAL ADD'L 4% DISC. No Financing Cost PROPOSED

CROSSWELLQuoted price 32.57 32.57 32.57 32.57Discount 0.00 0.00% 1.30 4.00% 0.00 0.00% 1.22 3.75%price to Mathieux Bros 32.57 $US 31.27 $US 32.57 $US 31.35 $US

MATHIEUX BROS.cost/ case 32.57 31.27 32.57 31.35Mathiex commissions 1.50 4.61% 0.94 3.00% 1.50 4.61% 1.02 3.25%other costs 5.18 5.18 5.18 5.18price to Distributor 39.25 $US 37.39 $US 39.25 $US 37.55 $US

EXCHANGE RATE 0.935 $R/$US 0.935 $R/$US 0.935 $R/$US 0.935 $R/$US

MATERIAL HOSPITALAR (dist)cost/ case 36.70 $R 34.96 $R 36.70 $R 35.11 $Rimporting costs 4.29 11.7% 4.09 11.7% 4.29 11.7% 4.11 11.7%cost of financing inventory 2.57 7.00% 2.45 7.00% 0.00 0.00% 0.00 0.00%distributor margin 8.71 20.0% 6.64 16.0% 8.20 20.0% 7.84 20.0%price to retailer 52.27 $R 48.13 $R 49.19 $R 47.05 $R

RETAILERcost/ case 52.27 48.13 49.19 47.05taxes 18.66 35.7% 17.18 35.7% 17.56 35.7% 16.80 35.7%retailer costs & markup 21.28 40.7% 17.33 36.0% 20.02 40.7% 19.16 40.7%price to consumer 92.21 $R 82.63 $R 86.77 $R 83.01 $R

Target Price 83.00 $R 83.00 $R 83.00 $R 83.00 $RPrice to consumer - + - +Margins + - + +Exchange Rate Risk - - - +

Monthly Interest Rates in Brazil(www.latin-focus.com)

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

20.0%

Jan-95 Feb-95 Mar-95 Apr-95 May-95 Jun-95 Jul-95 Aug-95

Borrow ing Rate 8.4% 10.6% 7.8% 12.6% 14.5% 18.0% 11.2% 8.3%

Deposit Rate 3.8% 4.8% 3.5% 5.7% 6.5% 8.1% 5.0% 3.5%

US Prime Rate 0.7% 0.8% 0.8% 0.8% 0.8% 0.8% 0.7% 0.7%

Jan-95 Feb-95 Mar-95 Apr-95 May-95 Jun-95 Jul-95 Aug-95

Special Conditions

IF Crosswell opened a Brazilian acct

Interest earned in 6 months: 16.8%

Interest earned would offset exchange rate risk

Interest Income Possibility

Brazilian Deposit Account $R month1 month2 month3 month4 month5 month6beginning balance - - 101,750 105,311 108,997 112,812 collections deposited 100,000 interest earned 3.50% - 1,750 3,561 3,686 3,815 3,948 converted to $US (100,000) ending balance - 101,750 105,311 108,997 112,812 16,760 profit from deposit 16.8%

Value of One Brazilian $R

$0.70

$0.80

$0.90

$1.00

$1.10

$1.20

$1.30

Jul-

94

Aug

-94

Sep

-94

Oct

-94

No

v-9

4

De

c-9

4

Jan

-95

Feb

-95

Ma

r-9

5

Apr

-95

Ma

y-9

5

Jun

-95

Jul-

95

Aug

-95

$US

Interest Offset

16.8% margin for exchange rate risk via interest offset

Interest offset for exchange rate risk (-16.8%)

Proposed Solution− Crosswell will reduce its price by 3.75% to

achieve $83 retail price per unit− Crosswell retains 16.8% margin against

exchange rate risk via interest offset− Under nominal conditions, Crosswell will

earn 62% more profit

CROSSWELL FINANCIAL PERFORMANCE SCENARIOSworst poor nominal good best

value of $R incr (decr) -10% -5% 0% 5% 10%price to distributor ($US) 31.35 31.35 31.35 31.35 31.35normal gross profit (@ 20%) 6.51 6.51 6.51 6.51 6.513.75% discount (1.22) (1.22) (1.22) (1.22) (1.22)subtotal 5.29 5.29 5.29 5.29 5.29interest earned (16.8%) 5.27 5.27 5.27 5.27 5.27gain (loss) from chg in ExR (3.14) (1.57) 0.00 1.57 3.14gross profit realized 7.42 8.99 10.56 12.12 13.69

normal gross profit 6.51 6.51 6.51 6.51 6.51% better (worse) 14% 38% 62% 86% 110%

ORIGINAL ADD'L 4% DISC. No Financing Cost PROPOSEDCROSSWELLQuoted price 32.57 32.57 32.57 32.57Discount 0.00 0.00% 1.30 4.00% 0.00 0.00% 1.22 3.75%price to Mathieux Bros 32.57 $US 31.27 $US 32.57 $US 31.35 $US

MATHIEUX BROS.cost/ case 32.57 31.27 32.57 31.35Mathiex commissions 1.50 4.61% 0.94 3.00% 1.50 4.61% 1.02 3.25%other costs 5.18 5.18 5.18 5.18price to Distributor 39.25 $US 37.39 $US 39.25 $US 37.55 $US

EXCHANGE RATE 0.935 $R/$US 0.935 $R/$US 0.935 $R/$US 0.935 $R/$US

MATERIAL HOSPITALAR (dist)cost/ case 36.70 $R 34.96 $R 36.70 $R 35.11 $Rimporting costs 4.29 11.7% 4.09 11.7% 4.29 11.7% 4.11 11.7%cost of financing inventory 2.57 7.00% 2.45 7.00% 0.00 0.00% 0.00 0.00%distributor margin 8.71 20.0% 6.64 16.0% 8.20 20.0% 7.84 20.0%price to retailer 52.27 $R 48.13 $R 49.19 $R 47.05 $R

RETAILERcost/ case 52.27 48.13 49.19 47.05taxes 18.66 35.7% 17.18 35.7% 17.56 35.7% 16.80 35.7%retailer costs & markup 21.28 40.7% 17.33 36.0% 20.02 40.7% 19.16 40.7%price to consumer 92.21 $R 82.63 $R 86.77 $R 83.01 $R

Target Price 83.00 $R 83.00 $R 83.00 $R 83.00 $RPrice to consumer - + - +Margins + - + +Exchange Rate Risk - - - +

Proposed Solution

Risks

Brazilian interest rates could drop substantially, & will likely decline steadily as $R value proves to be stable − Crosswell to watch rates closely (at least

weekly)− May convert Brazilian deposit amount to $US

at any time− Set up ExIm Bank for possible future L/C

financing for Brazilian trade− Propose alternative to Crosswell board: 90-

day L/C to Brazilian distributor, and distributor earn interest & absorb exchange rate risk

Implementation Plan1-Aug Hospitalar requests a price from Crosswell2-Aug Crosswell proposes Brazilian account idea to the board of directors5-Aug Crosswell's board of directors approves the Brazilian account idea6-Aug Crosswell establishes Brazilian bank account8-Aug Crosswell responds, via fax, with an FOB price Miami of 29.31 $R ($US

price discounted 3.75 and converted to $R at ExR of .935), in exchange for confirmed 45-day L/C in $R

11-Aug Hospitalar agrees to terms and faxes purchase order to Crosswell12-Aug Crosswell faxes a pro forma invoice to importer agreeing to price and

terms13-Aug Hospitalar's bank issues L/C and sends advice to Crosswell's Brazilian

bank that a L/C has been opened in its behalf, guaranteeing payment in $R within 45 days upon presentation of specified documents.

14-Aug Crosswell's Brazilian bank confirms the L/C.15-Aug Crosswell turns goods over to freight forwarder for shipment and

consigns goods to order of shipper.16-Aug Shipping company issues bill of lading.

8-Sep Hospitalar receives goods12-Sep Hospitalar sells goods to retailer and is paid cash by retailer.27-Sep L/C matures and payment transacts to Crosswell's Brazilian account

After Crosswell monitors its Brazilian account and interest rates no less than weekly