Shanghai General Motors Case study hedging practices

Shanghai General Motors Case study

1. GROUP 9:
MBA/0230/58 : AMAN KUMAR
MBA/0167/58 : ADARSH GUPTA
MBA/0392/58 : NAMAN JAIN
MBA/0298/58 : SUMEDH KUMAR
MBA/0071/58 : SHIVAM TANAY
The Refinancing of Shanghai
General Motors

2. General Motors: Company History & Profile
030201
June 12, 1997
50% with General
Motors
50% with Shanghai
Automotive Industry
Corporation
Chevrolet
Buick
Cadillac
Founded in Stakeholders Product mix

3. Shanghai General Motors: Capital Structure & JV rationale
•The joint venture (JV) between General
Motors (GM) and Shanghai Automotive
Industry Corporation (SAIC) in 1997, was
regarded as the largest single foreign
investment ever made in China. ( Capital
outlay of $1.52 B).
•Before the formation of Shanghai-GM in
1997, despite having worldwide revenues,
General Motors was in crisis. Market in USA
has been “saturated” which only offers a
limited space for GM’s business expansion
and growth potential. Also, car sales in
Europa was dropping.
•Product mix included medium luxury sedan
based on US based Buick Regal & minivan
model, Buick GL8.

4. General Motors: Financial Overview (2000)
Topline
1.$184.6B
2.Salesin
2000across
190+
countries
3.Sold8.6
million
vehicles
Market Share
Market leader
with 28% share
in North
America
Bottomline
1.$ 4.3Bn
2.Employess:
386K+
3.Manufactur
ing
operation
in 30+
countries

5. SAIC: Financial Overview (2000)
Topline
1.RMB6Bn
in2000
Product mix
•55% market
share of
Santana &
Passat model.
•Change in
product mix,
focus towards
budget
models.
Stakeholder
1.100%
owned by
Shanghai
Municipal
Corp.

6. USD
Loan
Chinese
RMB
Loan
Cost
Floating LIBOR
+105 bps
Cost
Floating PBOC
rate
General Motors: Financing of Initial Cost after Asian Financial Crisis
•In order to minimisefinancial risk and better match
the company's revenues, Newman wants to boost
the RMB portion of SGM's debt.
•Since there seems to be an abundance
of local currency and capital controls
now restrict investors' capacity to
invest RMB abroad, he also wants to
take advantage of prospects for lower
interest rates on the debt that is
denominated in RMB.

7. Problem Statement
Primary problem of the case is:
For its upcoming SAIL
project, should SGM use
project-financing on existing
terms or re-finance its
existing debts altogether and
start afresh?
Secondary Problem:
How to hedge the foreign
currency risk of SGM given
the restrictive nature of
derivative trading in China
PROBLEM

8. 1.High cost of debt due to Asian Crisis. Situations have improved since
then and loans are available at more favorable terms
2.Restrictive clauses of existing financial terms:
•Any finance related decision needed a super-majority approval of the
existing bank committee
•All existing and future assets of SGM were pledged
•Equal use and pro-rata repayment of Chinese and American currency loans
3.The super-majority clause was restricting decision making in areas such
as expansion, capital expenditure etc.
4.USD LIBOR rates at 6.2% were higher than the Chinese RMB rate of
5.85%, yet re-adjustment was not possible due to the proportionate
borrowing clause between USD and RMB
Problems of existing financing terms
04
03
02
01

9. Solutions
Option 1: Refinancing
As of December 31, 2000 LIBOR = 6.2% PBOC = 5.85%
ItisquiteevidentthatLIBOR is higher than the interest rate for
debt borrowed in RMB.
-Foreign exchange risk
•Foreign currency transaction is strongly controlled by SAFE &
they can decide to provide or not provide SGM with required
dollars for repayment andprepayment.
•Exchange risk which were also available at a high premium.
•Currency appreciation posed a threat as it might lead to paying
more amount in nominal terms as compared to the amount
borrowed.

10. 8.276
8.277
8.278
8.279
8.28
Apr-99
May-99
Jun-99
Jul-99
Aug-99 Sep-99 Oct-99 Nov-99 Dec-99 Jan-00 Feb-00 Mar-00
CNY/USD
CNY/USD
CNY/USD Exchange Rate
•The chart above shows quite a
stable exchange rate between USD
and CNY during the period under
discussion.
•Hence there is not much risk of
loss in repatriation of profit due to
currency appreciation in U.S.
•Inflation rates in China have
been historically lower than
that of USA

11. Based on the above rationale, we can argue that re-
financing the debt should be the priority of SGM in order
to ensure that there is no
•impact of underlying risks of
•Unutilized cash,
•Requirement of cash in near future,
•Interestraterisk
•Exchange rate risks
Refinancing

12. Solution: Option 2

13. Risk Variables
.
Currency Exchange Rate Risk
•Risk of depreciation of
Chinese currency and thus
dearer imports from US.
•Risk of SAFE not supplying
enough USD to make
payments
01
02
Interest Rate Risk
Risk of an increase in 6mnth LIBOR
or PBOC rates

14. Mitigating Interest rate risk
1.Since there aren’t any derivatives available, interest rate
risk can be mitigated only by an interest rate cap
2. Forward Rate Agreements
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3.Interest rate swap if possible:
BANK
Floating rate
Fixed rate
Floating rate
SGM

15. Localization:reducing dependency on US
imports and thus reducing USD liability
Refinancing:Change the borrowings from
USD loans to Chinese RMB loans to avoid
payment in USD
Export:Export products to US in order to
balance out payables and receivables in the
same currency
Mitigating exchange rate risk

16. Thank You!
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