World Tours, Incorporated (WTI)

Cash Management Swap

FINA 7360

Srilakshmi BharthwajAndrey Kolokoltsov

Asal Shokati

Period Revenue

Profit before Interest Swap

Exchange Rate (St) Predicted Revenue Trend D Seasonal Effect on Revenue Seasonal Effect on Profits

1 1700.93 -23.9256 2.04 1714.6 1400 1 280 22.4

2 1354.72 -51.6224 2.111 1385.56 1600 -1 -320 -25.6

3 2250.09 20.0072 2.103 2272.24 1800 1 360 28.8

4 1622.8 -30.176 1.989 1585.8 2000 -1 -400 -32

5 2629.77 50.3816 2.022 2670.04 2200 1 440 35.2

6 1941.6 -4.672 2.026 1956.44 2400 -1 -480 -38.4

7 3143.01 91.4408 2.033 3172.48 2600 1 520 41.6

8 2077.74 6.2192 1.899 2069.32 2800 -1 -560 -44.8

9 3397.65 111.812 1.874 3374.2 3000 1 600 48

10 2464.48 37.1584 1.924 2413.08 3200 -1 -640 -51.2

11 3735.75 138.86 1.856 3787.24 3400 1 680 54.4

12 2060.46 4.8368 1.614 2045.24 3600 -1 -720 -57.6

13 3817.29 145.3832 1.663 3792.64 3800 1 760 60.8

14 2379.8 30.384 1.671 2409.4 4000 -1 -800 -64

15 3895.08 151.6064 1.568 3952.36 4200 1 840 67.2

16 2335.96 26.8768 1.57 2383.8 4400 -1 -880 -70.4

17 4360.8 188.864 1.605 4430.8 4600 1 920 73.6

18 2506.56 40.5248 1.518 2450.84 4800 -1 -960 -76.8

19 4726.5 218.12 1.586 4759 5000 1 1000 80

20 2507.7 40.616 1.504 2611.48 5200 -1 -1040 -83.2

21 5002.83 240.2264 1.528 4951.72 5400 1 1080 86.4

22 2950.92 76.0736 1.497 2788.92 5600 -1 -1120 -89.6

23 5129.23 250.3384 1.463 5092.24 5800 1 1160 92.8

24 3176.1 94.088 1.558 3207.8 6000 -1 -1200 -96

Revenue = Trend + Seasonal + ECI Factor + RandomTrend = 1200 + (200 x Period)Seasonal = .2 x D x TrendECI Factor = .6 x (ER – 2.000) x Trend

Keeping the seasonal factor out, we designed the swap:

Swap Schedule

Interest Rate Swap Dealer

WTI

1Q 1991

2Q 1991

3Q 1991

4Q 1991

1Q 1992

2Q 1992

3Q 1992

4Q 1992

Payment 99.2

Payment 99.2*(1+0.02)

Payment 105.6

Payment 105.6*(1+0.02)

Payment 112

Payment 112*(1+0.02)

Payment 118.4

Payment 118.4*(1+0.02)

Let’s assume YTM= 8% compounded quarterly

Interest Swap pay Interest Swap Receive Cash Flows from Swap Total CF after the Swap

22.4 0 -22.4 -46.3256

0 22.848 22.848 -28.7744

28.8 0 -28.8 -8.7928

0 29.376 29.376 -0.8

35.2 0 -35.2 15.1816

0 35.904 35.904 31.232

41.6 0 -41.6 49.8408

0 42.432 42.432 48.6512

48 0 -48 63.812

0 48.96 48.96 86.1184

54.4 0 -54.4 84.46

0 55.488 55.488 60.3248

60.8 0 -60.8 84.5832

0 62.016 62.016 92.4

67.2 0 -67.2 84.4064

0 68.544 68.544 95.4208

73.6 0 -73.6 115.264

0 75.072 75.072 115.5968

80 0 -80 138.12

0 81.6 81.6 122.216

86.4 0 -86.4 153.8264

0 88.128 88.128 164.2016

92.8 0 -92.8 157.5384

0 94.656 94.656 188.744

Retroactively applying the swap, keeping the seasonal factor out.

Cash Flows after the Interest Rate Swapin Comparison to the No Hedge Strategy

Profits

VolatilityRate of Change before Swap Rate of Change after Interest Rate Swap

SD

1.157622 -0.37887 Volatility before Swap 8.609444-1.38757 -0.69442 Volatility after Swap 4.197227

-2.50826 -0.90902

-2.66959 -19.977

-1.09273 1.057227 Volatility after Interest Rate Swap and after actual profitability in period 4

-20.5721 0.595825 0.29849

-0.93199 -0.02387

16.97852 0.311622

-0.66767 0.349564

2.736975 -0.01926

-0.96517 -0.28576

29.05772 0.40213

-0.79101 0.092416

3.989679 -0.08651

-0.82272 0.130492

6.027027 0.207955

-0.78543 0.002887

4.382383 0.194843

-0.81379 -0.11515

4.914576 0.258644

-0.68333 0.067447

2.290739 -0.04058

-0.62416 0.198082

This is an accreting fixed-for-fixed interest rate swap due to the fact that our notional value grows as opposed to having a floating swap

leg.

Our exchange rate exposure is 85% of the revenue. This is due to the fact that 15% of

WTI’s expenses is in domestic currency. Swap should cover 85% of predicted revenue.

ECI/DCU=2 so ECI factor =0.

Predicted Revenue assuming Currency Swap We pay in DCU We receive in ECI and pay in Europe Swap’s Effect on Profits Currency and Interest Rate Swap Combined

1680 1428 2856 -2.688 -49.0136

1280 1088 2176 -8.5248 -37.2992

2160 1836 3672 -8.8992 -17.692

1600 1360 2720 1.056 0.256

2640 2244 4488 -2.3232 12.8584

1920 1632 3264 -2.9952 28.2368

3120 2652 5304 -4.1184 45.7224

2240 1904 3808 13.5744 62.2256

3600 3060 6120 18.144 81.956

2560 2176 4352 11.6736 97.792

4080 3468 6936 23.5008 107.9608

2880 2448 4896 66.7008 127.0256

4560 3876 7752 61.4688 146.052

3200 2720 5440 63.168 155.568

5040 4284 8568 87.0912 171.4976

3520 2992 5984 90.816 186.2368

5520 4692 9384 87.216 202.48

3840 3264 6528 111.0528 226.6496

6000 5100 10200 99.36 237.48

4160 3536 7072 123.8016 246.0176

6480 5508 11016 122.3424 276.1688

4480 3808 7616 135.2064 299.408

6960 5916 11832 149.5008 307.0392

4800 4080 8160 127.296 316.04

The both sides of the swap have the same exact value since the swap was originally designed

to create an NPV of zero for the total cash flows.

The original design of this fixed-for-fixed interest rate swap allows for the total NPV=0 -> no spread for the dealer.

We have different alternatives to pay him/ her for the deal:– Upfront fee– A fixed percentage of the growing notional value– Fee per transaction