1. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. International Financial Management 11 th Edition by Jeff Madura 1

2. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 2 21 International Cash Management  Explain working capital management from a subsidiary perspective versus a parent perspective  Explain how cash management can be centralized in order to ensure that cash is used more efficiently  Explain the various techniques used to optimize cash flows  Explain the decision to invest cash internationally 2 Chapter Objectives

3. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 3 Cash management is the optimization of cash flows and the investment of excess cash.

4. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 4 Multinational Working Capital Management Subsidiary Expenses The subsidiary will normally have a more difficult time forecasting future outflow payments if its purchases are international rather than domestic because of exchange rate fluctuations. Subsidiary Revenue Subsidiaries’ sales volume may be more volatile than if the goods were only sold domestically. Accounts receivable management is an important part of the subsidiary’s working capital management because of its potential impact on cash inflows.

5. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 5 Multinational Working Capital Management Subsidiary Dividend Payment When dividend payments and fees are known in advance and denominated in the subsidiary's currency, forecasting cash flows is easier.. Subsidiary Liquidity Management After accounting for all outflow and inflow payments, the subsidiary may have excess or deficient cash. It uses liquidity management to invest excess cash or borrow to cover cash deficiencies.

6. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 6 Centralized Cash Management Decentralized management is not optimal because it will force MNC to maintain larger cash investment than necessary. MNCs commonly use centralized cash management to monitor and manage the parent- subsidiary and intersubsidiary cash flows.

7. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 7 Exhibit 21.1 Cash Flow of the Overall MNC 7

8. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 8 Accommodating Cash Shortages A key role of the centralized cash management division is to facilitate the transfer of funds from subsidiaries with excess funds to those that need funds. Technology Used to Facilitate Fund Transfers A centralized cash management system needs continual flow of information about currency positions to determine whether one subsidiary’s shortage of cash can be covered by another subsidiary’s excess cash. Monitoring of Cash Positions The centralized cash management division serves as a monitor over the subsidiaries because it can detect potential financial problems.

9. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 9 Optimizing Cash Flows Accelerating Cash Inflows using lockboxes and preauthorized payments. Minimizing currency conversion costs by netting, using a bilateral netting system or a multilateral netting system. Managing blocked funds by incurring costs within the country or using transfer pricing. Managing intersubsidiary cash transfers by using a leading or lagging strategy.

10. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 10 Exhibit 21.2 Intersubsidiary Payments Matrix 10

11. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 11 Exhibit 21.3 Netting Schedule 11

12. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 12 Complications in Optimizing Cash Flow Company related characteristics If one of the subsidiaries delays payments to other subsidiaries, the other subsidiaries may be forced to borrow. A centralized approach that monitors all intersubsidiary payments should minimize such problems. Government restrictions The existence of government restrictions can disrupt a cash flow optimization policy. Limitations of Banking Systems The abilities of banks to facilitate cash transfers for MNCs vary among countries.

13. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 13 Investing Excess Cash Determining the Effective Yield: The effective yield of a bank deposit considers both the interest rate and the rate of appreciation (or depreciation) of the currency denominating the deposit and can therefore be very different from the quoted interest rate on a deposit denominated in a foreign currency. where r = effective yield on foreign deposit, i f = quoted interest rate, e f = percentage change in value of currency

14. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 14 Investing Excess Cash Implications of interest rate parity: Short term investing can be done on uncovered basis if IRP holds. Use of forward rate as a forecast Forward rate serves as a break-even point to assess short term investment decision. Relationship with International Fisher Effect: if IRP holds and forward rate is an unbiased predictor of future spot rate, then we can expect IFE to hold. Conclusions about the Forward Rate: Exhibit 21.4

15. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 15 Exhibit 21.4 Considerations When Investing Excess Cash 15

16. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 16 Use of Exchange Rate Forecasts Deriving e f that equates foreign and domestic yields Use of probability distributions. Since even expert forecasts are not always accurate, it is sometimes useful to develop a probability distribution instead of relying on a single prediction.

17. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 17 Exhibit 21.5 Analysis of Investing in a Foreign Currency 17

18. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 18 Exhibit 21.6 Analysis of Investing in a Foreign Currency 18

19. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 19 Investing Excess Cash Diversifying cash across currencies to limit the percentage of excess cash invested in each currency. Dynamic hedging: strategy of applying a hedge when the currencies held are expected to depreciate and removing the hedge when the currencies held are expected to appreciate.

20. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 20 SUMMARY  MNCs manage their working capital, which includes short-term assets such as inventory, accounts receivable, and cash. Multinational management of working capital is complex for MNCs that have foreign subsidiaries because each subsidiary must have adequate working capital to support its operations. The MNC’s parent may use a centralized perspective in order to monitor cash positions and to ensure that funds can be transferred among subsidiaries to accommodate cash deficiencies.  An MNC’s centralized cash management can monitor cash flows between subsidiaries and between each subsidiary and the parent. It can facilitate the transfer of funds from subsidiaries with excess funds to those that need funds so that the MNC uses its funds efficiently.

21. © 2012 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 21 SUMMARY (Cont.)  The common techniques to optimize cash flows are (1) accelerating cash inflows, (2) minimizing currency conversion costs, (3) managing blocked funds, and (4) implementing intersubsidiary cash transfers. The efforts by MNCs to optimize cash flows are complicated by company-related characteristics, government restrictions, and characteristics of banking systems.  MNCs can possibly achieve higher returns when investing excess cash in foreign currencies that either have relatively high interest rates or may appreciate over the investment period. If the foreign currency depreciates over the investment period, however, this may offset any interest rate advantage of that currency.