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Johnson Family Farm Hedging Decision Case Solution

Solution Id Length Case Author Case Publisher
1329 616 Words (2 Pages) Robert M. Conroy Darden School of Business : UV5639
This solution includes: A Word File A Word File

This case discusses how the use of future contracts by Johnson can help in hedging the risk of price fluctuations in corn. It is a common occurrence for agriculture products to have such problems because their prices tend to fluctuate as a result of differences in product’s supply and demand situation.

Following questions are answered in this case study solution

  1. Introduction

  2. Evaluation of Alternatives

  3. Risks in Cargill Pacer Product

  4. Conclusion

Case Analysis for Johnson Family Farm Hedging Decision Case Solution

2. Evaluation of Alternatives

Option 1 of choosing not to hedge at all is good because it does not limit the potential gain that Johnson can make on the corn crop. However, the disadvantage is that he can also not limit the potential loss incurred on the crop because price fluctuation might occur in the pattern showed or not.

Hedging using over the counter Cargill’s Pacer Product is good because the contract does not require any up-front deposits and margin to be maintained. In comparison to the traded contracts, margins of the Pacer Product are also higher; so, this was another reason to use this hedging strategy. However, the disadvantage is that this strategy will not have the security that comes with a traded contract. Traded contract is much more liquid as there are many buyers and sellers dealing in CBOT futures but this aspect will not be present in the Pacer Product. Keeping these aspects into consideration, Johnson should opt for the Traded contract for hedging the corn product.

3. Risks in Cargill Pacer Product

In the Pacer Plus product, the contract is designed to lock in a price for the future month based on some price trends observed in the past several months. Cargill will still have to honor the contract for this price to the other party even if the trend changes. This risk needs to be hedged by Cargill. It can be done by entering into a reverse hedging strategy where the Pacer Plus is used to enter into two contracts at the same time. If on one side Cargill is entering into a contract with Johnson to buy the corn at an average price over agreed time horizon then a second contract should be made where another third party promises to buy the same product from Cargill at that matching rate. This will reduce risk to Cargill and provide them a means to hedge position.

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