International Business Environments & Operations

International Business Environments & Operations
Daniels ● Radebaugh ● Sullivan International Business Environments and Operations 14e by Daniels, Radebaugh, and Sullivan Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

The Multinational Finance Function
Chapter 19 The Multinational Finance Function Chapter 19: The Multinational Finance Function Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
Learning Objectives To describe the multinational finance function and how it fits in the MNE’s organizational structure To show how companies can acquire outside funds for normal operations and expansion, including offshore debt and equity funds To explore how offshore financial centers are used to raise funds and manage cash flows To explain how companies include international factors in the capital budgeting process To discuss the major internal sources of funds available to the MNE and to show how these funds are managed globally To describe how companies protect against the major financial risks of inflation and exchange rate movements To highlight some of the tax issues facing MNEs The Learning Objectives for this chapter are To describe the multinational finance function and how it fits in the MNE’s organizational structure To show how companies can acquire outside funds for normal operations and expansion, including offshore debt and equity funds To explore how offshore financial centers are used to raise funds and manage cash flows To explain how companies include international factors in the capital budgeting process To discuss the major internal sources of funds available to the MNE and to show how these funds are managed globally To describe how companies protect against the major financial risks of inflation and exchange rate movements To highlight some of the tax issues facing MNEs Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Introduction MNEs use capital markets to finance expansion Small companies deal in foreign currencies to settle payments for exports and imports MNEs need to be able to understand and access capital markets in different countries to finance expansion. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

The Finance Function Learning Objective 1: To describe the multinational finance function and how it fits in the MNE’s organizational structure Learning Objective 1: To describe the multinational finance function and how it fits in the MNE’s organizational structure. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

The Finance Function Key finance functions include Capital structure Long-term financing Capital budgeting Working capital management The finance function acquires and allocates financial resources among the company’s activities and projects. The four key functions are capital structure, long-term financing, capital budgeting, and working capital management. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

The Role of the CFO The Role of the Treasurer in the Finance Function
This Figure shows how the responsibilities of the CFO, controller, and treasurer fit into the organization. Note that the CFO is responsible for generating funds internally and/or externally at the lowest cost and then allocating them. The CFO’s job is more complex in an international environment. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Capital Structure Capital structure mix between long-term debt and equity Leveraging the degree to which a firm funds the growth of business by debt The CFO determines a firm’s capital structure. Firms can fund growth by leveraging, or using debt. Note that relying too heavily on long-term debt raises financial risk and requires a higher return for investors. Moreover, foreign subsidiaries may have only limited access to local capital markets making it difficult for the MNE to rely on debt. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Capital Structure Selected Capital Structures, FY 2007
This Table shows the debt to asset and equity to asset ratios for companies in several countries. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Capital Structure Factors affecting the choice of capital structure local tax rates the degree of development of local equity markets creditor rights A firm’s choice of capital structure depends on tax rates, the degree of development of local equity markets, and creditor rights. Note that excessive dollar bank debt was a major cause of the 1997 Asian financial crisis. The more recent global financial crisis was due more to sovereign liquidity than exchange rates. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Capital Structure Sources of capital banks sovereign wealth funds Debt markets as a means of expansion local debt markets international debt markets Banks are the easiest source of capital. Sovereign wealth funds are another source. They often invest in massive government infrastructure projects. International firms can raise capital through both local and international debt markets. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Global Capital Markets
Learning Objective 2: To show how companies can acquire outside funds for normal operations and expansion, including offshore debt and equity funds Learning Objective 2: To show how companies can acquire outside funds for normal operations and expansion, including offshore debt and equity funds. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Eurocurrency market source of debt financing Eurocurrency any currency banked outside its country of origin Eurodollar a certificate of deposit in dollars in a bank outside of the United States In addition to what they can find in their local markets, many MNEs tap the Eurocurrency markets. The Eurocurrency market is a wholesale, not a retail market and transactions are very large. Because of the size of the transactions, as well as the lack of costly controls, the Eurocurrency market yields better returns than domestic markets. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

International bonds Foreign bonds sold outside the borrower’s country but denominated in the country of issue currency Eurobonds underwritten by a syndicate of banks from different countries and sold in a currency other than that of the country of issue Global bond The United States and Japan have long been active in the bond market. Now, bonds are becoming a more important source of financing in emerging markets and Europe as well. The international bond market is desirable not only because it allows firms to diversify funding sources, but also because it’s often less expensive than domestic markets. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Equity securities investor takes an ownership position in return for shares of stock in the company and the promises of capital gains and maybe dividends Market capitalization the total number of shares of stock listed times the market price per share New York, Tokyo, and London have the three largest stock markets in the world Firms can also use equities as a source of financing. Keep in mind that stock markets have been highly volatile recently because of the various crises like the one in Greece. However, because debt markets are also uncertain, equity markets remain popular. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Global Markets: Market Capitalization, 2008 This Figure shows the 10 highest income stock markets in the world and the 10 largest emerging economy stock markets. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Euroequity market the market for shares sold outside the boundaries of the issuing firm’s home country allows firms to target another group of stockholders Another significant development in the last decade was the creation of the Euroequity market. This market allows firms to attract capital from a wider variety of stockholders. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Offshore Financing and Offshore Financial Centers
Learning Objective 3: To explore how offshore financial centers are used to raise funds and manage cash flows Learning Objective 3: To explore how offshore financial centers are used to raise funds and manage cash flows. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Offshore Financing and Offshore Financial Centers
the provision of financial services by banks and other agents to nonresidents Offshore financial centers (OFCs) cities or countries that provide large amounts of funds in currencies other than their own and are used as locations in which to raise and accumulate cash OFCs are cities or countries that provide large amounts of funds in currencies other than their own and are used as locations in which to raise and accumulate cash. Key offshore financial centers are in the Bahamas, Bahrain, the Caribbean, Hong Kong, Ireland, New York, London, Singapore, and Switzerland. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Capital Budgeting in a Global Context
Learning Objective 4: To explain how companies include international factors in the capital budgeting process Learning Objective 4: To explain how companies include international factors in the capital budgeting process. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

the process whereby MNEs determine which projects and countries will receive capital investment funds Techniques Payback period Net present value of a project (NPV) Internal rate of return Once companies have their financing worked out, they need to decide which countries and projects will receive capital investment funds. This is done through capital budgeting. Capital budgeting can been done using payback periods where the number of years required to recover the initial investment are calculated, using the net present value of the project, or using the internal rate of return. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Internal sources of funds Loans Investment through equity capital Intercompany receivables and payables Dividends Working capital is defined as the difference between current assets and current liabilities. Funds can come from normal business operations or from financing activities. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

CFOs must determine What are the local and corporate system needs for cash? How can the cash be withdrawn from subsidiaries and centralized? Once the cash has been centralized, what should be done with it? CFOs must answer three questions: What are the local and corporate system needs for cash? How can the cash be withdrawn from subsidiaries and centralized? Once the cash has been centralized, what should be done with it? Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

How the MNE Handles its Funds: Multilateral Netting MNEs can use a technique called multilateral netting to coordinate cash inflows and outflows among subsidiaries. This Figure shows how the MNE established a clearing center to reduce the number of transactions. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Foreign Exchange Risk Management
Learning Objective 6: To describe how companies protect against the major financial risks of inflation and exchange rate movements Learning Objective 6: To describe how companies protect against the major financial risks of inflation and exchange rate movements. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Types of foreign exchange exposure Translation exposed accounts either gain or lose value in dollars when the exchange rate changes Transaction when a transaction is denominated in a foreign currency and the settlement results in a cash flow gain or loss Economic or operating the potential for change in expected cash flows that arises from the pricing of products, the sourcing and cost of inputs, and the location of investments Firms also need to protect against foreign exchange risk. Firms face three types of foreign exchange exposure: translation, transaction, and economic. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Exposure Management Strategy Defining and measuring exposure Creating a reporting system Adopt a policy assigning responsibility for minimizing or hedging exposure Formulating hedging strategies Operational leads and lags strategy Financial forward contracts and currency options To protect against exposure, managers need to define and measure it, set up a monitoring and reporting system, assign responsibility for managing it, and formulate hedging strategies. Hedging strategies can be operational or financial. Operational strategies include using local debt to balance local assets and taking advantage of leads and lags for intercompany payments. Financial strategies might include forward contracts to establish a fixed exchange rate for future transactions, or currency options to ensure access to foreign currency at a specific exchange rate. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Taxation of Foreign Source Income
Learning Objective 7: To highlight some of the tax issues facing MNEs Learning Objective 7: To highlight some of the tax issues facing MNEs. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Problems with foreign country tax laws arise from a lack of familiarity with laws loose enforcement Taxes affect both cash flow and profits In fact, taxes can affect many things including location of operations; choice of operating form, such as export or import, licensing agreement, or overseas Investment; the legal form of the new enterprise, such as branch or subsidiary; possible facilities in tax-haven countries to raise capital and manage cash; methods of financing, such as internal or external sourcing and debt or equity; capital budgeting decisions; and how transfer prices are set. Therefore, it’s imperative that companies develop a tax strategy. This may not be easy though because managers may be unfamiliar with tax laws in foreign countries, enforcement could be weak, and identifying taxable income can be challenging. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

The Tax Status of U.S.-Owned Foreign Subsidiaries This Figure shows how the United States classifies income earned in foreign countries. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Transfer prices a price on goods or services one member of a corporate family sells to another Tax treaties prevent double taxation or provide remedies when it occurs Companies want to avoid taxes whenever possible. One way is to establish arbitrary transfer prices in order to capitalize on tax rate differences between countries. Keep in mind that while this may seem like a good idea on paper, it often leads to disputes. Tax treaties can protect companies from double taxation. The United States is involved in 65 tax treaties. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

Technology and Cash Flows
Going forward Companies will focus more on moving corporate cash worldwide to take advantage of differing rates of return and minimize tax bills Technological innovation will allow companies to transfer funds more quickly worldwide The OECD, the IMF, and the EU will help countries minimize tax differences and crack down on money transfers for illegal purposes Going forward, it’s expected that companies will focus more on moving corporate cash worldwide to take advantage of differing rates of return and minimize tax bills; that technological innovation will allow companies to transfer funds more quickly worldwide; and that the OECD, the IMF, and the EU will help countries minimize tax differences and crack down on money transfers for illegal purposes. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America. Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall

International Business Environments & Operations

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