Transcript Lecture 4.ppt

Lecture 4
INTERNATIONAL FINANCE
Overview
• Common methods to conduct international business.
• International trade Licensing, Franchising, Joint ventures,
Acquisitions of existing operations, Establishing new foreign
subsidiaries

Investment opportunities

Financing opportunities

Marginal Returns and Marginal Costs
• International opportunities in Europe
International Flow of Funds
Lecture 4
Lecture Objectives

Opportunities in Latin America, Europe and Asia

Provide a model for the valuation of MNC.

To explain the key components of the balance of payments

To explain how the international flow of funds is
influenced by economic factors and other factors.
International Opportunities
• Opportunities in Latin America
¤
The North American Free Trade Agreement (NAFTA)
of 1993 (US & MEXICO)
¤
The removal of investment restrictions involved many
Latin American countries
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Some firms have capitalized by exporting goods.
¤
Others established subsidiaries in Mexico.
International Opportunities
• Opportunities in Asia
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The removal of investment restrictions in 1990s e.g.
Pepsi, Coke, Apple , General Motors, Proctor &
Gamble etc.
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The impact of the Asian crisis in 1997-1998
(Indonesia, Malaysia & Thailand)
¤
Many companies went bankrupt and faced capital
outflows.
Exposure to International Risk
• International business usually increases an
MNC’s exposure to:
 exchange rate movements
 foreign economies
 political risk
Exchange Rate Movements
• Exchange of one currency in another to make payments
• Exchange rates fluctuate over time
• When a currency strengthens/ appreciates;
products denominated in that currency becomes expensive
to foreign customers
• Cause a decline in demand
• Decline in cash flows
• If the currency of parent company is strong so the remitted
funds will convert into small amounts
Overview of an MNC’s Cash Flows
Profile A: MNCs Focused on International Trade
U.S.based
MNC
Payments for products
U.S. Customers
Payments for supplies
U.S. Businesses
Payments for exports
Foreign Importers
Payments for imports
Foreign Exporters
Overview of an MNC’s Cash Flows
Profile B: MNCs Focused on International Trade and
Licensing, Joint Ventures and Franchising
U.S.based
MNC
Payments for products
U.S. Customers
Payments for supplies
U.S. Businesses
Payments for exports
Foreign Importers
Payments for imports
Foreign Exporters
Fees for services provided
Foreign Firms
Fees for services received
Foreign Firms
Overview of an MNC’s Cash Flows
Profile C: MNCs Focused on International Trade, International
Arrangements, and Direct Foreign Investment
Payments for products
Payments for supplies
U.S.based
MNC
Payments for exports
Payments for imports
U.S. Customers
U.S. Businesses
Foreign Importers
Foreign Exporters
Fees for services provided
Foreign Firms
Fees for services received
Foreign Firms
Funds remitted back
Foreign Subsidiaries
Investment funds
Foreign Subsidiaries
Valuation Model for an MNC
• Domestic Model
n
Value = 
t =1
E CF$, t 
1 k 
t
E (CF$,t ) = expected cash flows to be received at
the end of period t
n
= the number of periods into the future
in which cash flows are received
k
= the required rate of return by
investors
Valuation Model for an MNC
• Valuing International Cash Flows
m

E CFj , t  E ER j , t 
n 
 j 1

Value =  

t
1  k 
t =1 



E (CFj,t ) = expected cash flows denominated in currency j
to be received by the U.S. parent at the end of
period t
E (ERj,t ) = expected exchange rate at which currency j can
be converted to dollars at the end of period t
k
= the weighted average cost of capital of the MNC
Impact of Financial
Management and International
Conditions on Value
• An MNC will decide how much business to conduct in
each country and how much financing to obtain in each
currency.
• The MNC’s financial decisions determine its exposure to
the international environment.
 An MNC can control its degree of exposure
to exchange rate effects, economic conditions, and
political conditions with its financial management.
Balance of Payments
Balance of Payments
• The balance of payments is a summary of transactions
between domestic and foreign residents for a specific
country over a specified period of time.
• It represents an accounting of a country’s international
transactions by business, individual or government.
• Inflows of funds generate credits for the country’s
balance, while outflows of funds generate debits.
• A balance of payment statement can be broken down into
different parts, the most important are current account
and capital account.
Balance of Payments
• A balance of payment statement can be broken down into
different parts, the most important are current account
and capital account.
Balance of
Payment
Current
Account
Capital
Account
Current Account
• The current account summarizes the flow of funds
between one specified country and all other countries
due to purchases of goods or services, or the
provision of income on financial assets.
• Key components of the current account include the
balance of trade, factor income, and transfer
payments.
Capital Account
• The capital account summarizes the flow of
funds resulting from the sale of assets
between one specified country and all other
countries.
Capital Account
• The key components of the capital account
are
• Direct Foreign Investment,
• Portfolio Investment,
• Other Capital Investment.
Overview

Opportunities in Latin America, Europe and Asia

Provide a model for the valuation of MNC.

MNC’s Cash flows with different aspects
Overview
• Balance of Payment (Accounting of transactions)
¤
Current Account
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Capital Account
• Current Account (Purchase Summary)
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Balance of Trade
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Factor Income
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Transfer Payments
Overview
• Capital Account (Flow of funds; one country to other)
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Direct Foreign Investment
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Portfolio Investment
¤
Capital Investment
• Trade volume is different
• Over all the World is developing
• Source: Adopted from South-Western/Thomson Learning. 2006
Source: Adopted from South-Western/Thomson Learning. 2006