Part I.

The fundamental information of Walt Disney The Walt Disney Company, a diversified international company operated entertainment and recreational complexes, produced motion picture and television features, developed community real estate projects, and sold consumer products. The company was founded in 1938 as a successor to the animated motion picture business established by Walt and Roy Disney in 1923.

The company operated the Disneyland amusement theme park in Anaheim, California, and the Walt Disney World destination resort in Orlando, Florida. In addition to the domestic entertainment and recreation revenues from Disneyland and Walt Disney World, the company received royalties, paid in yen, on certain revenues generated by Tokyo Disneyland. Owned and operated by an unrelated Japanese corporation, Tokyo Disneyland was opened to the public on April 15, 1983. In year 1984, the consolidated revenues for The Walt Disney Company and its subsidiaries increased by almost 27% to $1.7 billion. Total entertainment and recreation revenues, including royalties from Tokyo Disneyland, increased by 6% to $1.1 billion in the fiscal year ended September 30, 1984. Net income totaled $97.8 million in 1984, an increase of 5% from 1983. During fiscal 1984, yen royalty receipts had been just over 8 billion, however, Disney foresaw a constant further growth at 10% to 20% per year over next few years. At the same time, there were volatile fluctuations in the yen/dollar exchange rate. Yen has depreciated almost 8% last year, which indicated a shrink in royalty receipts in yen. Rolf Anderson, the director of finance at The Walt Disney was considering various ways of hedging the exposure. Besides, considering the increased interest costs on high level of borrowing and excessive short-term loan and commercial paper, the company planned to reduce such short-term debts.

Part II. Should Disney hedge its yen royalty cash flow? Why or why not? Disney should hedge its yen royalty cash flow. During fiscal 1984, yen royalty receipts had been just over 8 billion, however, Disney foresaw a constant further growth at 10% to 20% per year over next few years. At the same time, there were volatile fluctuations in the yen/dollar exchange rate. The current spot rate of 248 yen/dollar represented almost an 8% depreciation in the value of the yen from 229.70 just over a year ago, indicating a shrink in royalty receipts in yen.

The benefits of hedging: Hedging can help smooth the royalty receipts in dollar, eliminating the operating exposure. Thus Disney could be able to focus more on the operation, rather than distracting by the exchange rate fluctuation. Hedging can help to reduce the translation exposure. As an international corporation, the fluctuation in the exchange rate can affect the earnings in the consolidated Income Statement. Some potential problems with hedging: Hedging might introduce other uncertainties, especially when Disney chooses to enter into some obligation, for example, forward, future and swap. The hedging is based on the forecast that the company will keep receiving increasing yen cash flows in the future years. However such forecast may not be guaranteed. Just consider the following situation: Disney has entered into a forward contract to hedge its yen income, while for some reasons, the income from Japan decreased or ceased to come. At the same time, yen is appreciating against dollar. Then Disney could lose a great amount of money for entering into the hedge. All the above, Disney should hedge its royalty receipts in yen, but with more cautious evaluation of different situation.

Part III. Hedging techniques available to the treasurer: 1. FX futures Advantage: Foreign exchange future is an open market and its liquidity is good. Disadvantage: Firstly, the maturity is often two years or less which causes a mismatch between the period in which Disney want to hedge the fluctuations in the yen/dollar spot rate and the period of futures. Secondly, futures will not produce any cash flow to reduce short-term debt. Thirdly, future is an obligation, which could induce some potential risks given Disneys inaccurate forecast. 2. Long-dated forwards Advantage: Forward is more customer-tailed and its maturity can be long enough to satisfy Disney. Disadvantage: FX forwards will be considered by banks as a part of their total exposure to Disney, so the valuable credit line will be tied up. And it provides no cash flow to cover short-term

debt. Whats more, it is also an obligation as futures. 3. FX options: Advantage: FX options have an open market with easy access. The most important thing is that option is a right, rather than an obligation, which can keep Disney from the potential risks that will be induced by future or forward. Disadvantage: Disney has to pay a premium to obtain the right. The costs could be significant. 4. Convert existing dollar debt into yen liability: Advantage: It is a comparably cheap method to hedge. Disadvantage: The hedge would be short-term since Disneys Eurodollar issue matured in one to four years. The arrangement neither provides any additional cash nor reduces its short-term debt. 5. Issue a long maturity Eurodollar debt which can be swapped into yen Advantage: The costs are probably low. Disadvantage: Disney has recently issued Eurodollar note and has temporarily high debt ratio, which make it difficult to employ this approach. 6. Issue Euroyen bond Advantage: It will incur low transaction cost, only front-end fees. Disadvantage: Disney has no intention to issue Euroyen bond under the current Japanese strict finance guidelines. 7. Create a yen liability through a term loan from a Japanese bank Advantage: The Japanese bank can provide a loan with ten years maturity. The company can reduce short-term debt by converting short-term debt to long-term debt. Disadvantage: The loan could decrease the Disneys credit and induce cut in its credit line with banks. And Disneys credit rate in Japan is single A, which makes it harder and more expensive to take loans from local banks. The last strategy is the one proposed by the Disney and we can calculate this methods all -in cost with the information provided in the paper: Yen liability through a term loan from a Japanese bank | Principal | JPY 15 million | Term | 10 years | Interest payment | 7.5% |

Front-end | 0.75% | Underwriting fees | 2.000% | Additional expense | $75000 | Exchange rate($/ECU) | 0.7420 | Sinking payment(6th -10th year) | (21.840) |

Further data about the cash flow of the yen liability: Period | Cash flow(billion) | 0 | 14.8875 | 1 | (0.5625) | 2 | (0.5625) | 3 | (0.5625) | 4 | (0.5625) | 5 | (0.5625) | 6 | (0.5625) | | (0.5625) | 19 | (0.5625) | 20 | (15.5625) |

All-in cost of JPY liability is calculated as follows: i=120CFi1+IRRi=0 Use the data in the above chart, we can figure out that: (in billion) 14.8875-i=1200.56251+IRRi-15.56251+IRR20=0 IRR= 3.80423% (semiannually) Thus, the annual all-in cost is (1+3.80423%)^2-1=7.75319%

Part IV. Evaluate Goldmans proposal for an ECU bond issue accompanied by an ECU/Yen swap. a) What is the 'all-in' cost of the proposed ECU bond before executing the currency swap? The details of issuing ECU bond are listed in the table: 10-year ECU Eurobonds before swap |

Par value | ECU 80 million | Term | 10 years | Price | ECU 80.2 million | Coupon rate | 9.125% | Underwriting fees | 2.000% | Additional expense | $75000 | Exchange rate($/ECU) | 0.7420 | Sinking payment(6th -10th year) | (21.840) | Disneys cash flow from ECU bond: Period | Cash flow(million) | 0 | 78.499 | 1 | (7.300) | 2 | (7.300) | 3 | (7.300) | 4 | (7.300) | 5 | (7.300) | 6 | (23.300) | 7 | (21.840) | 8 | (20.380) | 9 | (18.920) | 10 | (17.460) | Therefore to calculate the all-in cost of the ECU bond issue, the following equation has to be met: (In million) 78.499=80*100.25%-80*2.000%-0.0750.7420 78.499=i=157.31+ri+23.3001+r6+21.8401+r7+20.3801+r8+18.9201+r9+17.4601+r10 IRR=9.7427% Thus the annual all in cost equals to 9.4727%. b) What is currently (as of 1985) the French utilitys borrowing costs in ECU and Yen? From the Exhibit 8, we can have a look at the summary of the French Utilitys outstanding publicly traded Eurobonds. The French Utility has an ECU 75 million Eurobond with 9.7 years remained,

which is close to 10 years and its YTM is 9.37%. Similarly, the French Utility can borrow 20,000 million Yen at 6.83% with 9.6 years remained. Those two rates should be close to the actual borrowing rate, though we dont have sufficient information on the front-end fees. c) The French utility has an absolute advantage to borrow in either currency. Why would the French utility nevertheless consider swapping debt obligations with Disney? For Disney: The borrowing costs of JPY loan is 7.75319%, according to question 2. Similarly, according to question 3(a), the borrowing costs of 10-year ECU bond for Disney is 9.4727%. For the French utility: the borrowing costs of 10-year ECU bond is 9.37%, according to question 3(b).And the borrowing costs of 10-year Yen liability is 7.010%. Referring to Exhibit 7, the cash flow of the French utilitys 10-year loan is as following:

Period | Cash flow(million) | 0 | 14,445.153 | 1 | (483.226) | | () | 9 | (483.226) | 10 | (1.808.141) | 11 | (1,764.650) | 12 | (1,721.160) | 13 | (1,677.670) | 14 | (1,634.179) | 15 | (1,590.689) | 16 | (1,547.199) | 17 | (1,503.708) | 18 | (1,460.218) | 19 | (1,416.728) | 20 | (1,520.450) |

14,445.15=i=19483.2261+ri+1.808.1411+r10+1,764.651+r11+1,721.161+r12+1,677.671+r13+1,6

34.1791+r14+1,590.6891+r15+1,547.1991+r16+1,503.7081+r17+1,460.2181+r18+1,416.7281+r 19+1,520.451+r20 IRR= 3.446% (semiannually) Annual all-in cost: (1+ 3.446%) ^2-1=7.010% The following are the comparisons of the borrowing cost for Disney and the French Utility for Yen and ECU: | Disney | French Utility | Spread | ECU | 9.4727% | 9.3700% | 0.1026% | JPY | 7.7532% | 7.0100% | 0.7432% | From the table, we can see that in either currency, the French Utility has a lower borrowing rate that Disney does. However, Disney has a comparative advantage in the ECU Eurobond market. With the aid of swap, the French utility can obtain ECU debt at an even lower cost. According to Exhibit 7, we can get the AIC of ECU for the French utility after entering into swap. French utilitys ECU cash flow after entering into the swap: Period | Cash flow(million) | 0 | 80.000 | 1 | (7.350) | 2 | (7.350) | 3 | (7.350) | 4 | (7.350) | 5 | (7.350) | 6 | (23.350) | 7 | (21.880) | 8 | (20.410) | 9 | (18.940) | 10 | (17.470) |

80.000=i=157.3501+ri+23.3501+r6+21.8801+r7+20.4101+r8+18.9401+r9+17.4701+r10 The AIC is 9.19%, which is lower than 9.37%. Thus it is beneficial for the French utility entering into the swap. Whats more, its difficult for the French utility to issue ECU bond. And the swap can tackle the

currency mismatch between its debt and profit. In mid-1985, the utilitys outstanding debt in yen equaled to ECU 108,686,200. That amount is almost equal to its total outstanding debt in ECU. Given its natural cash flow is in ECU, the French utility had to hedge its exchange rate exposure. As a result, the utility can get benefit by entering the swap. d) What is the 'all-in' cost of the ECU Eurobond swapped into yen for Disney? For the French utility? How well does IBJ make out? Express the gains for all parties in terms of basis points.

Year | Yen swap flow of Disney Received from/(paid to) IBJ | ECU swap flow of French utility Received from/(paid to) IBJ | 1985/1/1 | 14445.153 | 80.000 | 1985/7/1 | (483.266) | | 1986/1/1 | (483.266) | (7.350) | 1986/7/1 | (483.266) | | 1987/1/1 | (483.266) | (7.350) | 1987/7/1 | (483.266) | | 1988/1/1 | (483.266) | (7.350) | 1988/7/1 | (483.266) | | 1989/1/1 | (483.266) | (7.350) | 1989/7/1 | (483.266) | | 1990/1/1 | (1808.141) | (7.350) | 1990/7/1 | (1764.650) | | 1991/1/1 | (1721.160) | (23.350) | 1991/7/1 | (1677.670) | | 1992/1/1 | (1634.179) | (21.880) | 1992/7/1 | (1590.689) | | 1993/1/1 | (1547.199) | (20.410) | 1993/7/1 | (1503.708) | | 1994/1/1 | (1460.218) | (18.940) | 1994/7/1 | (1416.728) | | 1995/1/1 | (1520.450) | (17.470) |

The 'all-in' cost of the ECU Eurobond swapped into JPY for Disney is 7.010%. Through this SWAP, Disney could gain 74 basis points on the cost compared with JPY loan (7.7532%). The 'all-in' cost of the JPY Eurobond swapped into ECU for the French Utility is 9.19%. For French Utility, it could gain 18 basis points on the cost compared with 9.37% of JPY loan. The gain for IBJ in terms of basis points is 50 basis points. e) What is the origin of these gains? The origin of these gains is the comparative-advantage. The French Utility has an absolute advantage in both currencies debt, but Disney has a comparative advantage in ECU. If Disney borrows in ECU and the French Utility borrows in JPY, they pay less combined interest than if Disney borrows in JPY and the French Utility borrows in ECU. This reduction in total interest can be shared by Disney and the French Utility.