Lyle Shipping, a British company, has chartered out ships at fixed‑U.S.‑dollar freight rates. How can Lyle use financing to hedge against its exposure? How will your recommendation affect Lyle’s translation exposure? Lyle uses the current rate method to translate foreign currency assets and liabilities. However, the charters are off‑balance‑sheet items.
Answer. Since Lyle has chartered out its ships in dollars, it has fixed dollar revenues. By financing its ship purchases with dollars, Lyle can offset these contractual dollar inflows with contractual dollar outflows.
Accountants will note that Lyle bears significant translation exposure. As the dollar rises against the pound, Lyle will show losses on its dollar debt and vice versa when the dollar falls. But gains or losses on the debts will be canceled out over time by changes in its operating cash flows. In 1984, when the dollar rose, its chairman pointed out that “Although foreign exchange losses have now been provided for in full on all loans and leases as if they had been repayable at 30 June 1984, it must be borne in mind that these are secured against ships chartered out at fixed freight rates, the U.S. dollar income from which will be sufficient to service both the interest and capital on the underlying loans. This future income will offset the exchange losses now provided for.”
