Project Yarnton — Cross-Currency Hedging Program
A 1.5-hour Corporate Derivatives / FX Risk Management case study with a complete model answer
The Situation
Yarnton Global Beverages, Inc.
Yarnton Global Beverages
- Sector
- Beverages — a concentrate manufacturer selling into eleven bottling affiliates, with revenue earned in eleven currencies and reported in US dollars
- Size
- Geography
- United States, with bottling affiliates across Europe, Latin America, Asia-Pacific and Africa; eleven currency exposures in total
- Ownership
- Situation
The Prompt
You are the treasury advisory analyst. Yarnton Global Beverages wants a foreign exchange risk management policy it can put to its Board, and it wants both the arithmetic and a recommendation.
Supporting Materials
What you are handed at the start of the case, in the format a real process would use.
Blank modeling template
XLSXUnlock
What You Have to Produce
The deliverables, in the order the committee will read them. The exercise runs 90 minutes.
PART 1
The exposure map: transaction against translation
PART 2
Earnings at risk, with the correlation assumption stated
PART 3
The layered forward program
PART 4
What the program costs, and why it is not a fee
PART 5
Three candidate policies on one basis
PART 6
Risk after the program, and what it does not reach
PART 7
The cross-currency swap and the net investment hedge
PART 8
The designation table, the written policy and the recommendation
How to Approach It
The order a strong candidate works in, and why. This is the shape of the answer — the finished answer deck and Excel model are in the solution set below.
- 01
Split the exposure before you compute anything at all
- 02
Never state a portfolio risk number without its correlation assumption
- 03
Justify the hedge ratio with the forecast, never with the rate
- 04
Keep the sign on the forward points
- 05
Recompute the risk rather than assuming the reduction
- 06
Write a policy, not a trade, and say what it does not fix
Key Concepts
The ideas this case is built on. Know these cold and the case becomes a question of execution rather than knowledge.
Transaction exposure
A forecast cash flow denominated in a currency other than the functional currency of the entity that will receive it. Here it is the net receipt of a US-dollar functional principal selling concentrate to affiliates in their own currencies: the money will be converted into dollars on a settlement date, so a move in the rate changes the number of dollars actually received. Because it is a cash flow, a cash instrument can reach it — a forward locks the rate at which the conversion happens, and if the forecast transaction is highly probable the forward can be designated as a cash flow hedge, so its mark sits in other comprehensive income until the forecast sale affects earnings. This is the only half of the problem a forward program can claim to solve.
Translation exposure
The effect of exchange rates on reported results when a subsidiary's functional currency differs from the parent's reporting currency. Local operating income is earned in pesos, spent in pesos and reported in dollars because the parent reports in dollars — there is no conversion, no cash flow and no settlement date. That is why it cannot be designated in a cash flow hedge: there is no forecast transaction behind it. A forward written against translated earnings is an undesignated position whose mark runs through the income statement, and if the rate moves the way the hedge was written against, the Company pays cash to settle it while the offsetting gain never becomes cash. Hedging translation converts an accounting problem into a funding one, which is a real trade and usually the wrong one.
Economic exposure
The third category, and the one that appears in neither column. Economic or operating exposure is the effect of exchange rates on the competitive position of the business itself — the price a local competitor can charge, the cost of an input sourced abroad, the volume that survives a devaluation. It is not measured here because it is not measurable on a treasury schedule, and no derivative addresses it: the responses are operational, such as moving production, re-sourcing inputs or repricing. A candidate who names it, says why it is out of scope and moves on has demonstrated that the two columns in front of them are a deliberate simplification rather than the whole of currency risk.
Earnings at risk, and the correlation bounds
A statistical measure of how much reported earnings could move over a horizon at a stated confidence level — here one year at ninety-five percent, one-tailed, after tax and per diluted share. Aggregating eleven currency exposures requires an assumption about how they move together, and the two computable extremes bracket the answer: simple addition assumes perfect correlation and overstates the risk, while the root of the sum of squares assumes independence and understates it. Real currency baskets sit in between because a common dollar factor drives part of every pair. The honest presentation states the assumption, shows the two bounds, and applies a factor that can be seen to lie between them.
Layered or laddered hedging, and the hedge ratio
A program that hedges a declining proportion of exposure as the tenor lengthens, adding to each layer as it rolls inward. The ratio declines for one reason only: forecast confidence declines with tenor, and hedging more than the highly probable share of a forecast leaves a derivative with no exposure behind it. That criterion makes the ratio defensible without any view on the currency, which is the difference between a policy and a trade. It also produces a smoother average hedged rate over time than a single annual decision would, because each quarter's rate enters the book in increments rather than all at once — a benefit that follows from the structure rather than from anybody being right about the rate.
Forward points and covered interest parity
The difference between the forward rate and the spot rate, which is set by the interest rate differential between the two currencies rather than by anyone's expectation of where spot is going. A currency whose local rates are below the dollar's trades at a forward premium, so selling it forward earns points; a currency whose rates are above the dollar's trades at a discount and costs them. Treating the points as a fee embeds an assumption that spot would otherwise have been unchanged, which is a forecast — the same forecast the hedge ratio was carefully designed not to make. The same parity governs the interest differential on a cross-currency swap, which is why that differential is not a saving either.
Net investment hedge
A hedge of the currency exposure on a net investment in a foreign operation — the equity of the subsidiary, not its earnings. The instrument can be a forward, a cross-currency swap, or simply borrowing in the same currency. When designated and documented, the spot mark on the instrument is recorded in the currency translation account inside other comprehensive income, where it offsets the translation of the net investment itself, and it is recycled to earnings only when the foreign operation is sold or substantially liquidated. The limit is that it protects the BALANCE SHEET and does nothing whatever for translated earnings, so it is not an answer to a guidance miss caused by translation.
Cash flow hedge designation and the highly-probable criterion
To carry a derivative's mark in other comprehensive income rather than in earnings, a hedge of a forecast transaction has to be designated and documented at inception and the forecast transaction has to be highly probable. That criterion is what turns a forecasting judgment into a hedge accounting constraint: the notional that can be designated at each tenor is capped by the share of that period's forecast management can support as highly probable. Anything above that cap is an undesignated derivative whose mark runs straight through the income statement — which is why an apparently more conservative full hedge can put MORE volatility into reported earnings than a partial one.
Constant-currency reporting
The reporting convention that restates current-period results at prior-period or plan exchange rates so a reader can see the underlying movement separately from the translation effect. It is the correct fix for a translation-driven guidance miss because the problem is a reporting problem: nothing about the business changed, only the rate at which its results were converted. Guiding on stated rates and disclosing the difference between those rates and the actual ones addresses the miss without paying cash to settle a derivative against a gain that never becomes cash. Saying this out loud is part of the answer, not a way of avoiding it.
What Makes It Hard
The specific traps in this case — the places candidates lose the assessment without noticing.
Check Your Answer
Type the figures you produced and find out how many are right before you open the worked answer. You get a verdict and, where you are off, a pointer to the part of the build to re-check — never the number itself. Everything you type stays on this device.
How to type a figure. Digits, with an optional unit: 1,234.5, $1,234.5, 2.6x, 21.4%. For a negative use (20.0) or -20.0. Enter as many decimals as you carried — precision is never penalised.
What the Case Asked For
The arithmetic is only half of it. Tick off what you actually produced — this half is yours to score, because nothing can grade a written recommendation from a checkbox.
The Model Answer
The worked answer in full: answer deck and Excel model, built the way a banker would actually build them. It is a reference, not a submission — a strong answer under the clock is far shorter.
What the Solution Covers
- —Transaction versus translation exposure
- —Cross-currency swap mechanics
- —Net investment hedge accounting
- —Layered forward program design
- —Earnings-at-risk quantification
- —Hedge ratio and tenor policy
Answer Deck
Full model answer, banker-formatted
Upgrade to Diamond
Sign up and upgrade to Diamond to unlock the answer deck, the Excel model and the audio walkthrough.
Get StartedThe Excel Model
The model is linked and tied out end to end — every schedule, every formula and every check, in the file itself.
Downloads are available to Diamond members
Excel Model and PowerPoint Deck and Answer Deck (PDF) — yours to open, edit and rebuild
Walkthrough
A conversational walkthrough of how to approach the case under time pressure — where to start, what to cut, and how the recommendation gets defended.
Audio Walkthrough
How to approach Project Yarnton — Cross-Currency Hedging Program
60-second preview — upgrade to Diamond for the full walkthrough
Frequently Asked Questions
What is an FX hedging program case study?
It is a corporate derivatives and treasury exercise rather than a valuation or transaction one. Nothing is being bought, sold or valued; the question is what a company is exposed to, which part of that exposure a cash instrument can reach, how much of it to hedge at each tenor, and what the resulting policy will and will not fix. The deliverable is a workbook that separates transaction from translation exposure, sizes earnings at risk with its correlation assumption stated, builds a layered forward program and a net investment hedge, and writes the policy — plus a short presentation carrying the recommendation. It appears in corporate treasury, corporate derivatives and risk advisory interviews, and it is unlike the M&A modeling test most candidates prepare for.
What is the difference between transaction, translation and economic exposure?
Transaction exposure is a forecast cash flow that will actually be converted into another currency on a date — an invoice, a receipt, a payment. Translation exposure is the effect of exchange rates on reported results when a subsidiary's functional currency differs from the parent's reporting currency; the local earnings are never converted, they are only translated on a consolidation worksheet. Economic exposure is the effect of exchange rates on the competitive position of the business itself, which no derivative addresses and which is answered operationally. The distinction matters because it determines the instrument and the accounting: only the first is a cash flow, only the first can be hedged with a cash instrument without creating a funding problem, and only the first can be designated in a cash flow hedge.
Why should the hedge ratio decline as the tenor lengthens?
Because forecast confidence declines with tenor and nothing else should set the ratio. The nearest quarter's forecast net receipts are close to certain; the fourth quarter out is a plan. Hedge accounting makes that a hard constraint rather than a preference: a cash flow hedge requires the forecast transaction to be highly probable, so notional hedged above the highly-probable share of a period's forecast cannot be designated and marks through earnings. A ratio that declines with tenor can therefore be defended without any statement about where the currency is going — which is exactly what makes it a policy rather than a trade.
Are forward points a cost of hedging?
No. Forward points are the interest rate differential between the two currencies over the tenor of the contract, set by covered interest parity, and they are signed: a currency whose local interest rates sit below the dollar's trades at a forward premium, so selling it forward earns points. In a basket like this one some legs earn and some pay, and the net is far smaller than either half. Describing the net as a cost also smuggles in a forecast — it implies that spot would otherwise have stayed where it is. The correct framing is that locking the differential is what the contract does, and the points are the price of the certainty rather than a fee for the service.
Why not simply hedge one hundred percent of the exposure?
Because above the highly-probable share of the forecast there is no exposure behind the derivative. That notional cannot be designated as a cash flow hedge, so its mark runs through the income statement — putting mark-to-market volatility into the very line the program exists to steady. A full hedge does remove more of the underlying risk, and it costs more to run, but the binding constraint is the accounting ceiling rather than the cost. There is a second reason: if the forecast does not materialize, an over-hedged position is a naked currency trade that has to be closed at whatever the rate happens to be.
How should you allocate 90 minutes across this case?
A working budget that sums to 90: about 10 minutes reading the assumptions tab and writing down which column is a cash flow and which is not, before touching a formula; about 60 minutes at the keyboard on the workbook; and about 20 minutes on the presentation and the written policy. The workbook measures 280 fillable cells collapsing to 251 distinct authored formulas, roughly 22 seconds each — the two figures sit close together because almost nothing here fills right, since the exposure map and the forward points table are eleven distinct rows each. Inside the 60 minutes, the exposure map and the ladder are worth more than a proportional share of your attention; everything downstream reads off them.
What does designating a cross-currency swap as a net investment hedge do?
It moves the spot mark on the swap out of the income statement and into the currency translation account inside other comprehensive income, where it offsets part of the translation of the net investment it was designated against, and it is recycled to earnings only when the foreign operation is sold or substantially liquidated. Undesignated, the identical instrument marks straight through earnings. The critical limit is what it does not do: it protects the balance sheet and has no effect whatever on translated EARNINGS, so a company that missed guidance because local earnings converted at a worse rate has not fixed that problem by entering the swap. Both halves of that sentence belong in an honest recommendation.
Can translated earnings be hedged at all?
They can be, and usually should not be, and the difference between those two statements is the point. A forward sale of the subsidiary's translated operating income does offset the translation effect in reported results — but the forward settles in CASH and the translation gain it offsets is an accounting entry that never becomes cash. On a move against the position the Company writes a real check funded from somewhere else in the group. There is also no hedge accounting model available, because there is no forecast transaction to designate, so the mark runs through earnings and adds volatility on its own account. The right answer shows the Board that trade with the cash cost quantified rather than telling them the exposure cannot be hedged.
Why is there no discounted cash flow in this case?
Because nothing is being valued. There is no acquisition, no divestiture and no financing decision with a cost of capital attached — the Board is approving a treasury policy. A discounted cash flow would produce an enterprise value that no part of the decision uses. That has consequences for the whole submission: no cost of capital to build, no terminal value to disclose, no comparable companies, no precedent transactions, no football field, no equity internal rate of return and no returns attribution. A page carrying any of them is a page about a different mandate, and it is one of the fastest ways to signal that the archetype was never identified.
What is the single most common way candidates fail this case?
Writing a program that implicitly forecasts the rate. It shows up in several places at once: a hedge ratio justified by a view on the dollar, forward points described as a cost, a recommendation that treats the interest differential on the swap as income, or a policy that leaves the treasurer free to change the ratio each quarter. Each of those is the same error wearing different clothes, and each one gives away both the intellectual argument and the hedge accounting. The second most common failure is quieter: reporting the reduction in earnings at risk without saying that the figure remains well above the guidance band and that the residual is now mostly translation.
About This Corporate Derivatives / FX Risk Management Case Study
Corporate Derivatives / FX Risk Management case study for investment banking interviews. 90-minute format covering transaction versus translation exposure, cross-currency swap mechanics, net investment hedge accounting. Includes the full prompt, a model answer deck, a tied-out Excel model and an audio walkthrough.
This case study sits in Investment Banking, under Corporate Derivatives. Every case ships with the full prompt, the supporting materials, a complete model answer and an audio walkthrough of the judgment behind the recommendation.
90-Minute Format
The time limit a real assessment would give you
Answer Deck
Included in the model answer
Excel Model
Included in the model answer
Audio Walkthrough
How to approach the case under time pressure
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