Emerson Electric Case
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Executive Summary
Emerson Electric Company was founded in 1890. Currently it has 50 operating divisions that manufacture a broad range of electrical and electronic products and systems. The company is rated AAA by all rating agencies. In the beginning of 1987, W. Bousquette, the chief financial officer saw a possibility to issue two-year debt bonds in one of three countries: the United States, Switzerland, and New Zealand. His plan is to raise $65 million to finance general corporate activities. He can issue a domestic bond with a coupon rate of 8.65%, a Swiss Eurobond with a coupon rate of 4.58% or a New Zealand Eurobond with a coupon of 18.55%. The current exchange rate of CHF/USD (January 1987) is 1.522 while the NZD/USD rate is 1.840. However the 2 year forward exchange rate for CHF/USD is 1.410 while the NZD/USD rate is 2.166.
The economic situation in the US is fair, with stable GNP growth and relatively low inflation rates. The decline in government deficit is expected to drive the treasury-bill interest rates to less than 5%. The Swiss economic system is very stable, with low inflation rates and steady GNP growth. However, the Swiss government produced a surplus in 1986 which decreased the competition for Swiss Francs and drove the interest rates down. Lastly, the economic system in New Zealand is the most unstable out of the three countries. The country is in recession and the recession is expected to get worse. The inflation rate is very high in comparison to Switzerland and the US (15%) and the current decrease in corporate and personal income taxes is expected to increase foreign and domestic investments. The country has a strong floating currency which is highly demanded.
In order to take a decision, Mr. Bousquette, has to calculate the cost of debt of New Zealand, the US and Switzerland. Using the current exchange rate, Emerson Company needs to raise 65 million USD, 42,706,964.52 CHF or 35,326,086.96 NZD.
Using the Fisher Equation (i = r + E(inflation) ) we found the cost of debt:
Figure 1
Cost of debt = Principle*Interest rate paid to bond holders
The CHF and NZD forward rates are constantly changing in comparison to the USD. The NZD is appreciating relative to the dollar while the CHF is depreciating. This is happening because of a variety of macroeconomics reasons. The NZD is appreciating because the tax cuts attracted and will attract foreign investors, increasing the demand for NZD. The Swiss are expected to have government surpluses which will lead to a decrease in competition for CHF in the world market, leading to its depreciation.
Using the IIRP, taking in consideration the following