With reference to the case study given below Answer the questions given at the end of the

case study.

Plates, Inc., the U.S.-based manufacturer of roller Plates, is currently both exporting to and

importing from Pakistan. Ben Michal, Plates' chief financial officer (CFO), and you, a

financial analyst at Plates, Inc., are reasonably happy with Plates' current performance in

Pakistan. The Sialkot Sports Products, Inc., a Pakistani retailer for sporting goods, has

committed itself to purchase a minimum number of Plates' "Speedos" annually. The

agreement will terminate after 3 years. Plates also imports certain components needed to

manufacture its products from Pakistan. Both Plates' imports and exports are denominated

in PKR. Because of these arrangements, Plates generates approximately 10 percent of its

revenue and 4 percent of its cost of goods sold in Pakistan.

Currently, Plates' only business in Pakistan consists of this export and import trade. Ben

Michal, however, is thinking about using Pakistan to augment Plates' U.S. business in other

ways as well in the future. For example, Michal is contemplating establishing a subsidiary

in Pakistan to increase the percentage of Plates' sales to that country. Furthermore, by

establishing a subsidiary in Pakistan, Plates will have access to Pakistan's money and capital

markets. For instance, Plates could instruct its Pakistani subsidiary to invest excess funds or

to satisfy its short-term needs for funds in the Pakistani money market. Furthermore, part of

the subsidiary's financing could be obtained by utilizing investment banks in Pakistan.

Due to Plates' current arrangements and future plans, Ben Michal is concerned about recent

developments in Pakistan and their potential impact on the company's future in that country.

Economic conditions in Pakistan have been unfavorable recently. Movements in the value

of the PKR have been highly volatile, and foreign investors in Pakistan have lost confidence

in the PKR, causing massive capital outflows from Pakistan. Consequently, the PKR has

been depreciating.

When Pakistan was experiencing a high economic growth rate, few analysts anticipated an

economic downturn. Consequently, Michal never found it necessary to forecast economic

conditions in Pakistan even though Plates was doing business there. Now, however, his

attitude has changed. A continuation of the unfavorable economic conditions prevailing in

Pakistan could affect the demand for Plates' products in that country. Consequently, The

Sialkot Sports Products may not renew its commitment for another 3 years.

Since Plates generates net cash inflows denominated in PKR, a continued depreciation of

the PKR could adversely affect Plates, as these net inflows would be converted into fewer

dollars. Thus, Plates is also considering hedging its PKR-denominated inflows.

Because of these concerns, Michal has decided to reassess the importance of forecasting the

PKR- dollar exchange rate. His primary objective is to forecast the PKR-dollar exchange

rate for the next quarter. A secondary objective is to determine which forecasting technique

is the most accurate and should be used in future periods. To accomplish this, he has asked

you, a financial analyst at Plates, for help in forecasting the PKR-dollar exchange rate for

the next quarter.

Michal is aware of the forecasting techniques available. He has collected some economic

data and conducted a preliminary analysis for you to use in your analysis. For example, he

has conducted a time-series analysis for the exchange rates over numerous quarters. He then

used this analysis to forecast the PKR's value next quarter. The technical forecast indicates

a depreciation of the PKR by 6 percent over the next quarter from the PKR's current level

of $.023 to $.02162.

He has also conducted a fundamental forecast of the PKR-dollar exchange rate using

historical inflation and interest rate data. The fundamental forecast, however, depends on

what happens to Pakistani interest rates during the next quarter and therefore reflects a

probability distribution. Based on the inflation and interest rates, there is a 30 percent chance

that the PKR will depreciate by 2 percent, a 15 percent chance that the PKR will depreciate

by 5 percent, and a 55 percent chance that the PKR will depreciate by 10 percent.

Ben Michal has asked you to answer the following questions:

1. Considering both Plates' current practices and future plans, how can it benefit from

forecasting the PKR-dollar exchange rate?

2. Which forecasting technique (i.e., technical, fundamental, or market-based) would be

easiest to use in forecasting the future value of the PKR? Why?

3. Plates is considering using either current spot rates or available forward rates to forecast

the future value of the PKR. Available forward rates currently exhibit a large discount. Do

you think the spot or the forward rate will yield a better market-based forecast? Why?

4. The current 90-day forward rate for the PKR is $.021. By what percentage is the PKR

expected to change over the next quarter according to a market based forecast using the

forward rate? What will be the value of the PKR in 90 days according to this forecast?

5. Assume that the technical forecast has been more accurate than the market-based forecast

in recent weeks. What does this indicate about market efficiency for the PKR-dollar

exchange rate? Do you think this means that technical analysis will always be superior to

other forecasting techniques in the future? Why or why not?

6. What is the expected value of the percentage change in the value of the PKR during the

next quarter based on the fundamental forecast? What is the forecasted value of the PKR

using the expected value as the forecast? If the value of the PKR 90 days from now turns

out to be $.022, which forecasting technique is the most accurate? (Use the absolute

forecast error as a percentage of the realized value to answer the last part of this question.)