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¶ … Disney hedge its yen royalty cash flow? Why or why not? If so, how much should be hedged and over what time period?
It is recommended that the Walt Disney Company hedge its current royalty cash flow in order to protect against future fluctuations in currency. It is estimated that future annual yen revenue streams exceeding ¥8 billion would create currency exposure for the Walt Disney Company. Due to the recent 9% decline in the yen's value, management is concerned about how currency depreciation such as this will impact the company; any further depreciation in the yen's value would significantly reduce the dollar value of future royalty receipts. Additionally, because of Disney's recent acquisition of Arvida Corporation and the increase in debt, it is advised that Disney should do everything in their power to not put the corporation in a difficult situation. Disney's investors, creditors, and shareholders are risk adverse and any decisions that they make can and will impact Walt Disney Company. These investors, creditors, and shareholders could force the company to produce higher rates of return, which would significantly impact Disney's revenue streams.
If Disney hedges its yen royalty cash flow then earnings would be stabilized and risk would be reduced. In order to efficiently hedge its yen royalty cash flow, it is recommended that Disney take out short-term loans in yen in order to match its revenue stream. This will allow the company to have cash inflow and outflow in yen. The minimum amount of yen that is borrowed should be equal to reducing short-term borrowing to 1983's 43% debt/capitalization ratio. This borrowing should help Disney to maintain the company's favorable credit rating and reduce short-term borrowings.
Disney should forego hedging to speculate exchange movements. Because of this, the amount of revenue that is hedged should not exceed royalty revenue amounts. It is recommended that Disney opt for 10-year term hedging strategies and that hedging should not exceed ¥15 billion -- which is equal to the amount of term loan. During this 10-year term, Disney should have the flexibility to use any favorable method to increase revenue streams and decrease short-term borrowings and debt.
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