Supplemental Case: Flame Fixtures, Inc.

a. If the peso depreciates by more than the inflation differential, then the dollar cost to Flame will be even lower than expected. b. If the peso depreciates by less than the inflation differential, then the dollar cost to Flame will be even higher than expected. Consider a scenario in which the Mexican inflation rate is 80 percent or so, causing the bill in pesos to be 80 percent higher. Yet, if the peso depreciated by a relatively small amount over this period (say 20 percent or so), the dollar cost to Flame will increase substantially. Since there are other factors in addition to inflation that also affect the pesos exchange rate, the peso will not necessarily depreciate by an amount that fully offsets the high inflation. c. Stable dollar payments would only occur if the peso depreciated by an amount that offset its high inflation rate. It is unlikely that there will be a perfect offset in any given period. Therefore, Flames dollar payments would be unstable, and so would its profits. d. The risk would increase, because its payments for parts would now be more volatile, and so would its profits. Given that it does not have much liquidity, it will suffer a cash squeeze if the peso does not depreciate much while Mexican inflation is high. Over the long run, there may be periods in which this happens. Flame would be locked into this arrangement with Coron for ten years, and therefore cannot back out, even if the pesos depreciation does not offset the inflation differential.