Xian-Jannsen Pharmaceutical (China) and the Euro
March 25, 2010
In December of 2003, the corporate leadership of Xian-Jannsen Pharmaceutical Ltd, a Chinese-based subsidiary of Johnson and Johnson, had recently received its performance objectives for the upcoming year. The company was expected to generate over 1.2 billion Renminbi (Rmb) in net income in 2004, a 20% increase over 2003. Given that Xian-Jannsen Pharmaceutical was currently suffering from rising expenses and foreign exchange losses, Paul Young, the company’s financial controller, knew that achieving the objective would be a challenge.
In 2003, Xian-Jannsen was one of the largest producers and marketers of prescription and over-the-counter medications in China. Nearly 80% of the company’s revenues were generated from purchases by China’s government-run hospitals. The remaining 20% of sales came from drugstores, clinics, and a few private hospitals. At the time, roughly 95% of all Xian-Jannsen products were imported from Europe. Consequently, pricing and invoicing of the company’s core business originated in Europe, as well. This meant that all European purchases were priced and invoiced in euros, which was a significant cause for concern as the euro had been rising significantly in value against the Rmb. Johnson and Johnson’s corporate policy required that Xian-Jannsen hedge at least 80% of all anticipated currency risk exposures. The company decided to net all possible payments per quarter and purchase forward contracts to buy euro and sell Rmb. However, the cost of the forward contracts were having a significant negative impact on Xian-Jannsen’sfinancial results. In 2003 alone, Xian-Jannsen experienced Rmb 75 million in foreign exchange losses due to increases in the 90-day forward rate. For 2004, Paul Young had to discover a way to simultaneously hedge against currency risk and still meet the company’s profitability objectives....