ALLIANCE DESIGN CONCEPTS FOREIGN EXCHANGE RISK Harvard Case Solution & Analysis

ALLIANCE DESIGN CONCEPTS FOREIGN EXCHANGE RISK Case Study Solution

Question 1

How do exchange rate fluctuations directly affect the profit of a small business? Can Alliance Design Concepts share the foreign exchange risk that it experiences with others in its supply chain (e.g., suppliers, customers)?

Exchange rate plays an important role for all those small companies that source or import their raw materials from other countries and export their goods to other countries. A depreciation of the exchange rate would pose serious threats for the domestic firm and impact negatively on its profitability because of the higher than expected costs of the imports. If there is a depreciation of the CAD against the USD as is the scenario in this case, then all the imports of the equipment made by Alliance from US would become more expensive.

As the impact of the exchange rate fluctuations is on the costs of the imports and the raw materials that are purchased from other countries, therefore, this directly affects the profits of a small business. However, this impact on profitability of the small businesses also depends upon several factors such as the elasticity of the demand of the company’s products. If the foreign country is selling price inelastic goods, then the depreciation of the exchange rate would have a small increase in their demand.

Secondly, the impact on profitability also depends upon the percentage of the goods or the raw materials that are imported from the other countries. If this percentage is high, then the impact on the profitability would also be high in either of the directions depending upon the movement of the exchange rate. Lastly, most of the companies enter into fixed contracts for buying the raw materials from the other countries however, this is not common for the small businesses and they have to buy the raw materials from time to time and pay according to the prevailing spot exchange rates. This increases uncertainty and impacts their profitability.

Finally, Alliance cannot share the foreign exchange risk with others in its supply chain and this is usually not the normal practice. If the company shares the foreign exchange risk with the customers, then it would not be able to quote a fixed price to its customers and the clients would be uncertain. Even if Alliance, pads the margin within the final quotation by a few percentages then the customers and suppliers might question it and they might not be willing to take the risks. Overall, this would increase the price of Alliance altogether and its demand would decrease.

Question 2

What are the relative strengths and weaknesses of the proposed risk mitigation strategies for Alliance?

The strengths and the weaknesses of the proposed risk mitigation strategies for Alliance are as follows:

ALLIANCE DESIGN CONCEPTS FOREIGN EXCHANGE RISK Harvard Case Solution & Analysis

 

Strategy 1: Involve the Customer

The strength or advantage of this strategy is that the company would be able to mitigate the foreign exchange risk and exchange rate uncertainty that it faced and its overall magnitude of the risk that it faces would reduce. For instance, if the final charges are based on the stipulation that they would depend upon the exchange rate movements at the time of project completion, then Alliance can set a risk sharing ratio of 50:50 so equally divide the foreign exchange risk between itself and its suppliers..................

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