International Financial Management- An overview
Transcript of International Financial Management- An overview
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Multinational Financial Management:An Overview
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Chapter
South-Western/Thomson Learning 2003
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Why is International Finance Important?
In previous finance courses you have beentaught about general finance concepts thatapply to domestic or local settings, BUT welive in an international world.
Companies (and individuals) can raise funds,invest money, buy inputs, produce goods and
sell products and services overseas.With these increased opportunities comes
additional risks. We need to know how toidentify these risks and then how to control or
remove them.
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What is different?
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Multinational Enterprises
A multinational enterprise (MNE) is definedas one that has operating subsidiaries,branches or affiliates located in foreigncountries.
While international finance focuses onMNEs, purely domestic firms can also facesignificant international exposures: Import & export of products, components and
services Licensing of foreign firms to conduct their
foreign business Exposure to foreign competition in the domestic
market Indirect exposure to international risks through
relationships with customers and suppliers
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Types of Multinational Enterprises
Raw Material Seekers First type of MNEs Exploit raw materials found overseas Trading, mining and oil companies
Market Seekers Post-WWII MNEs Expand production and sales into foreign markets Big name companies IBM, McDonalds etc.
Cost Minimisers
More recent MNEs Seek out lowest production cost countries Manufacturing and service companies
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Goal of the MNC
The commonly accepted goal of an MNC is
to maximize shareholder wealth.
We will focus on MNCs that are based inthe United States and that wholly own
their foreign subsidiaries.
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Conflicts Against the MNC Goal
For corporations with shareholders who
differ from their managers, a conflict of
goals can exist - theagency problem. Agency costs are normally larger for MNCs
than for purely domestic firms.
The sheer size of the MNC. The scattering of distant subsidiaries.
The culture of foreign managers.
Subsidiary value versus overall MNC value.
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Impact of Management Control
The magnitude of agency costs can vary
with the management style of the MNC.
A centralized management style reducesagency costs. However, a decentralized
style gives more control to those
managers who are closer to the
subsidiarys operations and environment.
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Impact of Management Control
Some MNCs attempt to strike a balance -
they allow subsidiary managers to make
the key decisions for their respectiveoperations, but the decisions are
monitored by the parents management.
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Impact of Management Control
Electronic networks make it easier for the
parent to monitor the actions and
performance of foreign subsidiaries. For example, corporate intranet or internet
email facilitates communication. Financial
reports and other documents can be sent
electronically too.
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Constraints
Interfering with the MNC
s Goal As MNC managers attempt to maximize
their firms value, they may be confronted
with various constraints. Environmental constraints.
Regulatory constraints.
Ethical constraints.
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Why are firms motivated to expandtheir business internationally?
Theories of International Business
Theory of Comparative Advantage
Specialization by countries can increase
production efficiency.
Imperfect Markets Theory The markets for the various resources
used in production are imperfect.
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Why are firms motivated to expandtheir business internationally?
Theories of International Business
Product Cycle Theory
As a firm matures, it may recognize
additional opportunities outside its home
country.
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International
Business Methods
International trade is a relativelyconservative approach involving
exporting and/or importing.
The internet facilitates international tradeby enabling firms to advertise and manage
orders through their websites.
There are several methods by which firmscan conduct international business.
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International
Business Methods Licensing allows a firm to provide its
technology in exchange for fees or some
other benefits. Franchising obligates a firm to provide a
specialized sales or service strategy,
support assistance, and possibly an initial
investment in the franchise in exchange
for periodic fees.
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International
Business Methods Firms may also penetrate foreign markets
by engaging in ajoint venture (joint
ownership and operation) with firms thatreside in those markets.
Acquisitions of existing operations in
foreign countries allow firms to quickly
gain control over foreign operations as
well as a share of the foreign market.
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International
Business Methods Firms can also penetrate foreign markets
by establishing new foreign subsidiaries.
In general, any method of conductingbusiness that requires a direct investment
in foreign operations is referred to as a
direct foreign investment (DFI).
The optimal international business
method may depend on the characteristics
of the MNC.
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International Opportunities
Investment opportunities - The marginal
return on projects for an MNC is above
that of a purely domestic firm because ofthe expanded opportunity set of possible
projects from which to select.
Financing opportunities - An MNC is also
able to obtain capital funding at a lower
cost due to its larger opportunity set of
funding sources around the world.
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Exposure to International Risk
exchange rate movements Exchange rate fluctuations affect cash
flows and foreign demand.
foreign economies
Economic conditions affect demand.
political risk
Political actions affect cash flows.
International business usually increases anMNCs exposure to:
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Managing for Value
Like domestic projects, foreign projects
involve an investment decision and a
financing decision. When managers make multinational
finance decisions that maximize the
overall present value of future cash flows,
they maximize the firms value, and hence
shareholder wealth.
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n
ttt
k1=
$,
1CFE=Value
E (CF$,t ) = expected cash flows to be received at
the end of period tn = the number of periods into the future
in which cash flows are receivedk = the required rate of return by
investors
Valuation Model for an MNC
Domestic Model
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n
tt
m
j
tjtj
k1=
1
,,
1
ERECFE
=Value
E (CFj,t ) = expected cash flows denominated in currencyj
to be received by the U.S. parent at the end ofperiod t
E (ERj,t ) = expected exchange rate at which currencyj canbe converted to dollars at the end of period t
k = the weighted average cost of capital of the U.S.
parent company
Valuation Model for an MNC
Valuing International Cash Flows
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Valuation Model for an MNC
An MNCs financial decisions include how
much business to conduct in each country
and how much financing to obtain in eachcurrency.
Its financial decisions determine its
exposure to the international environment.
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Valuation Model for an MNC
Impact of New International Opportunitieson an MNCs Value
Exchange Rate Risk
n
t t
m
j
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k1=
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ERECFE
=Value
Political Risk
Exposure toForeign Economies
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Chapter Review
Goal of the MNC
Conflicts Against the MNC Goal
Impact of Management Control Impact of Corporate Control
Constraints Interfering with the MNCs
Goal
Theories of International Business
Theory of Comparative Advantage
Imperfect Markets Theory
Product Cycle Theory
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Chapter Review
International Business Methods
International Trade
Licensing Franchising
Joint Ventures
Acquisitions of Existing Operations
Establishing New Foreign Subsidiaries
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Chapter Review
International Opportunities
Investment Opportunities
Financing Opportunities Opportunities in Europe
Opportunities in Latin America
Opportunities in Asia
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Chapter Review
Exposure to International Risk
Exposure to Exchange Rate Movements
Exposure to Foreign Economies Exposure to Political Risk
Managing for Value
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Chapter Review
Valuation Model for an MNC
Domestic Model
Valuing International Cash Flows Impact of Financial Management and
International Conditions on Value