Aspen Technology,Inc.:Currency Hedging Review

History and OverviewSpecialized in the development of simulation software for customer in process manufacturing industries

Advanced System for Process Engineering (ASPEN) project conducted at the Massachusetts Intitutes of Technology (MIT) in Cambridge Massachusetts, from 1976 to 1981

Founded in 1981 by Dr. Larry Evans, a professor of chemical engineering at MIT

Larry Evans"leadership in the development and application of integrated systems for modeling, simulation and optimization of industrial chemical process

History and OverviewIn 1982 its first year of operations, AspenTech lost USD565,000 on sales of USD182,000

Over next 13 years AspenTechs sales grew rapidly as it became a major payer in the process simulation segment of the software industry.

1995 company earned net income $5.4 million on sales $57.5 million. AspenTech estimated that it commanded 50% of the simulation market for chemical sector.

1995, it employed 417 people of which 265 ware based in the US and the remainder in office in 5 countries.

History and OverviewAspenTech went public in USDD31 million IPO which included a USD 18 Million primary offering and USD 13 Million secondary offering :to finance further R&Dto acquire externally developed technologiesto allow early investors to monetize their holdings in the company,

Feb1995, Aspentech conducted a $23 million public offering, which included a USD 1 million primary offering and USD 22 million secondary offering.

1995, AspenTech was the only one of the firms that specialized in simulation programs for chemical petroleum, and petrochemicals industries that was publicly traded.

Products (versi makalah)Aspen PlusAspen Plus is the most popular producta steady state modeling system built around the core technology This product accounted 48% of sales in 1995

Speed UP It was AspenTechs dynamic process modeling product commercialized in 1986 by Prosys Tecknology that AspenTech purchased in 1991

MaxIt is a less powerful version of Aspen Plus

Advent A software to optimize the tradeoff between capital expenditures for energy saving heat exchangers and the energy saving realized

Product Portfolio (versi makalah)Properties PLUSIt is a database of chemicals properties underlying its other products, popular with customers ~ developed in-house modeling software Other modulesoffers to the customers ~ license separately use with its other products to model subsystems used in highly specialized chemicals processing application.

Product Portfolio (versi web)Process EngineeringProcess simulation Chemicals (10 products : AspenPlus)Process simulation Oil&Gas (8 products : AspenHYSYS)Process simulation Refining (11 products : Aspenadsim+)Process simulation Batch/Pharma (8 products :Aspenproperties)Model Deployment (3 products : AspenModelrunner)Equipment modeling (8 products :AspenAcol+)Basic Engineering (2 products :AspenKbase)Economic Evaluation (3 products : Aspn Icarus Project Manager)

Advance Process Control (14 products : Aspen Apollo, Aspen IQ)

Planning & Scheduling (10 products : Aspen Advisor, Aspen MBO)

Supply & Distribution (3 products : Aspen Retail)

Production Management & Execution (16 products : Aspen 0server)

Sales & Marketing 1995, licensed to more than 450 companies ~ chemical industry and 350 univerities

The selling cycle for process modelling software was long (6-12 months)

AspenTech charged a premium over competitors products, raise licensing fees three times (1998-1995)~10%

Customer loyalty Over 90% renewed their software1994 : 34% revenue from software renewal; 34% from expansion from existing customer

Sales & Marketing United States : Directs sales forceEarned combination of salary & commission

Sales subsidiaries : UK, Japan, HongKong, BrusselsServe local & regional markets via directs sales forces

Licensed software for a non-cancelable term ~ 3 or 5 years

Charge : annual fee x license term (year)Interest rate 9.5% - 11% currently 12%

Customer were more likely to buy software priced in local currency

Risk Exposure Foreign Exchange Risksell software in local currencies installment from three-to-five years creates foreign exchange exposureexchange rate fluctuations52% revenue generated from foreign company with following revenues figures:Europe 31%Asia 12%Other countries 9%In United State 48%.

Risk exposure are might be applicable : Transaction Exposure (High) most the costumer operated outside of USTranslation Exposure (Low)convert foreign currency financial statements into a single currency (USD).

Risk Exposure 2. Interest Rate Risk (low)AspenTech debt using US dollar currency fix interest rate and mid term (3years)place a seasonal line-of-credit facility with a New England Bank

Risk Exposure Credit Risk Credit risk (default risk) in high exposure levelgrowing rapidly customer choose to defer payment of their license over the life of the contractEx: AspenTech was liable for $ 4,6 million of this amount under limited recourse agreement 2 sources probability trigger this risk:Unwilling (Low)most of the customers are a loyal customerUnable (High)depend on the type of business of customer

Liquidity Riskmany of its customers chose to defer payment of their licenses over the life of the contractthe company usually experienced an operating cash shortfallEx: the firm booked revenue of USD57.5 million, yet receive cash payments directly from customers of only $38.5 million (66.96%).

Management Risk Perform by AspenTech Foreign Exchange Riskeliminated all sales transaction exposure arising from foreign currency denominated license contract inline with its risk management policy by doing hedging : Sale non USD installment receivable for USD forward currency agreement

Credit Risk AspenTech has not managed the risk of the uncollectible installment The contract with GE and Sanwa in selling the account receivable has limited recourse agreement

Liquidity Risk To manage its liquidity risk in order to cover their day to day operation, AspenTech sell its receivable to GE and Sanwa and other financial institution. AspenTech also has debt to Massachusetts Capital Resources placed a seasonal line of credit facility with New England bank.

Recommendation AspenTechs should reexamine the firm risk management policies and practices in light of the changes :

over the past year AspenTechs international sales had remained a substantial portion of its revenuesthe firm international expenses had increase a slightly faster rate than its international revenueAspenTech had gone from private company into a publicly traded company

AspenTechs should review and determine an acceptable level of risk. It involves determining reasonable level of risk in-line with appropriate opportunity to gain

Recommendation Net Foreign Exchange Exposure (Operational Hedging)

AspenTech should hedge only the net exposure Net foreign exchange exposure in German and Japan Forward contract for Belgians operating expense

Recommendation Liquidity & Credit Risk

AspenTech should look other possibility to deal with other financial institution to increase their bargaining position to GE and SanwaWith higher bargaining position, AspenTech can get lower cost and better position in managing their credit risk

Maximize in selling long term receivable first

Recommendation Others Hedging Instrument :Plain-Vanilla Optionsgive the buyer of the option the right but not the obligation to buy (call) or sell (put) a specific amount of currency at a predetermined strike price (exchange rate High costAverage-Rate OptionsSpot rate are calculated as an average over a periodTransaction possible during the expiry period at several predetermined datesStrike rate can be fixed or floating

Knock-in/knock-out Options Does not provide full protectionThe key is in determining the barrier rateLow cost

Cross-currency transactions

Foreign currency money-market borrowing

Recommendation Others Hedging Instrument :Cross-currency transactions transaction basically does not provide ability to hedge or secure any riskprovide probability of arbitrage if there is a difference between cross rate and indirect rate.

Foreign currency money-market borrowing Borrowing in the money market, rather difficult to use since the company need to determine level of debt that matched with its cash inflow from other matched currency