MEMO
To: CEO of Palmetto Bug Extermination Corporation
From:
Subject: Hedging Instruments
Date: 4 February, 2026
PBEC is experiencing continuous foreign exchange losses on the purchase of chemicals from its
Swiss supplier due to the increase in the U.S. dollar price of francs. Implementing derivative
financial instruments is a way to hedge against these losses, specifically by using foreign
currency forward contracts and foreign currency options. Below is a comparison of the
advantages and disadvantages of each, as well as a recommendation.
1. Foreign Currency Forward Contracts
There are many advantages to foreign currency forward contracts, including reduced risk, lower
cost, and customization. These forward contracts eliminate the risk of fluctuations in foreign
currency by stating a fixed future purchase price for the chemicals. Also, forward contracts do
not require an upfront premium, which makes them cost-effective. They are customizable
contracts tailored to meet the needs of PBEC in regard to maturity dates, amounts, and delivery
terms.
Disadvantages to foreign currency forward contracts include an obligation to transact and
potential opportunity loss. Forward contracts provide the company with an obligation to fulfill
the terms of the contract, which could be unfavorable if amounts or plans change. There is also a
potential opportunity loss if the value of Swiss francs increases while the transaction is set at a
lower price.
2. Foreign Currency Options
Advantages of currency options include flexibility, favorable movement, and limited risk.
Currency options do not require a contractual obligation to purchase goods at a set price, giving
them more flexibility than forward contracts. They also allow for an increase in the rate for
goods if the spot rate increases, and in the case of a loss, is limited to the premium paid.
Disadvantages of foreign currency options include the premium cost and volatility. Options
require a premium to be paid upfront and can vary significantly since they are volatile. They can
also result in a loss of the premium if the option is not fulfilled.
Since PBEC is a consistent buyer of the Swiss chemicals, our main goal is to reduce the risk in
the exchange rates and increase stability. I recommend implementing foreign currency forward
contracts to achieve this goal since they provide certainty. They will be a great way to hedge
against the current foreign exchange losses.
To: CEO of Palmetto Bug Extermination Corporation
From:
Subject: Hedging Instruments
Date: 4 February, 2026
PBEC is experiencing continuous foreign exchange losses on the purchase of chemicals from its
Swiss supplier due to the increase in the U.S. dollar price of francs. Implementing derivative
financial instruments is a way to hedge against these losses, specifically by using foreign
currency forward contracts and foreign currency options. Below is a comparison of the
advantages and disadvantages of each, as well as a recommendation.
1. Foreign Currency Forward Contracts
There are many advantages to foreign currency forward contracts, including reduced risk, lower
cost, and customization. These forward contracts eliminate the risk of fluctuations in foreign
currency by stating a fixed future purchase price for the chemicals. Also, forward contracts do
not require an upfront premium, which makes them cost-effective. They are customizable
contracts tailored to meet the needs of PBEC in regard to maturity dates, amounts, and delivery
terms.
Disadvantages to foreign currency forward contracts include an obligation to transact and
potential opportunity loss. Forward contracts provide the company with an obligation to fulfill
the terms of the contract, which could be unfavorable if amounts or plans change. There is also a
potential opportunity loss if the value of Swiss francs increases while the transaction is set at a
lower price.
2. Foreign Currency Options
Advantages of currency options include flexibility, favorable movement, and limited risk.
Currency options do not require a contractual obligation to purchase goods at a set price, giving
them more flexibility than forward contracts. They also allow for an increase in the rate for
goods if the spot rate increases, and in the case of a loss, is limited to the premium paid.
Disadvantages of foreign currency options include the premium cost and volatility. Options
require a premium to be paid upfront and can vary significantly since they are volatile. They can
also result in a loss of the premium if the option is not fulfilled.
Since PBEC is a consistent buyer of the Swiss chemicals, our main goal is to reduce the risk in
the exchange rates and increase stability. I recommend implementing foreign currency forward
contracts to achieve this goal since they provide certainty. They will be a great way to hedge
against the current foreign exchange losses.
