BMW: Currency Hedging 2007 - Teaching Note

The BMW Group continued to perform successfully in 2007 despite difficult conditions, by achieving record figures for sales volume and revenues. External factors continued to affect figures adversely. The ongoing weakness of the US dollar and the Japanese yen, the generally high cost of raw materials and less favorable financing conditions all continued to have a negative impact. This negative impact was increased by costs of market launches for numerous new models. Group revenues rose by 14.3% to € 56.02 billion, but they would have risen by an additional 17.6% without the exchange rate impact. The company had substantial US revenues, with over 25% of its sales taking place in US, and, although the company had production facilities in North America, local sales were higher than production resulting in an estimated positive revenue exposure to the US dollar of US$ 7.4 billion. Euro deterioration in the effective transaction rate for its US dollar-denominated volumes, when it came to conversion of its US dollar net exposure to the Euro, had an important impact on profitability. In 2007 the company had estimated that currency movements had contributed some € 517 million to its earnings before tax and it was expecting that currency fluctuations would have a similar negative impact the following year. BMW's own model for determining the "fair" exchange rate of the Euro and US dollar formed the basis of BMW's hedging strategy. This model derived at the end of 2007 a fair FOREX range of 1.15 €/US$ to 1.17 €/US$. Only in the case of exchange rates falling below this level would BMW hedge its currency exposure in the long-term and to a considerable extent. In the case of less favorable rates, currency hedges will only be made to a lesser and more short term extent. Next year´s earnings would vastly depend on the upcoming dollar spot rate development, therefore a further weakening of the US dollar against the Euro will result in higher burdens for BMW.