1. International Finance
Chapter 18:
Multinational Cash Management

2. Cash Management for a Global Firm
A global firm’s cash management is actually part of the larger issue of working capital management.
Working capital = current assets – current liabilities.
Current assets:
Cash, accounts receivable, inventories, short term investments.
Current liabilities:
Accounts payable, bank loans and notes payable, current taxes payable.

3. Working Capital Management
Broader issue than cash.
Global firm needs to manage the:
Individual components in its working capital structure.
Ensure that funds are available when needed to meet current liabilities as they come due.
If internal funds are not available, need to enter short term money markets to cover.

4. Focus on Cash Management
Issues for Global Firms:
Size of cash balances
Currency denominations of cash balances
Where cash balances are located among the global firm’s foreign affiliates.
Goal of Global Firms:
Minimize the size of cash balances.
Non-interest earning assets!
Reduce foreign exchange transaction expenses and exposure.

5. Additional Objectives of Cash Management
When sourcing short term funds to cover cash flow needs:
Do so at the lowest possible borrowing cost.
When investing short term (“excess” cash) funds:
Do so where the greatest returns can be earned.
Both objectives need to consider:
Risk
Foreign exchange expsoure

6. Operational Consideration
Global firm must decide whether its cash management shall be done:
Centrally (e.g., at headquarters), or
Centralized organizational structure.
Locally (e.g., at the affiliate level).
Decentralized organizational structure.

7. Cash Management Techniques
The following are the two major techniques which are used by global firms in managing their cash positions:
Netting Systems
Bilateral and Multilateral
Netting the cash positions of the various affiliates. Transferring the net amounts (not the gross amounts).
Transfer Pricing
Establishing prices among affiliates for the intra-global firm selling of produces and services.
Means of moving (repositioning) cash within the global firm.

8. Netting Systems
Begins with an analysis of the global firm’s internal cash flows (i.e., among affiliates and the parent).
What are the amount of the payments that each entity expects to pay and expects to receive.
Netting the above amounts is a way of reducing the amount of cash flow (and its associated cost) within the organization.
Netting is an efficient and cost-effective mechanism for settling interaffiliate foreign exchange transactions.
However, not all countries allow MNCs to net payments
If this is the case, larger foreign exchange transactions flow through the local (host country) banking system.

9. Exposure Netting: an Example
Consider a U.S. MNC with three subsidiaries and the following foreign exchange transactions:
$20
$30
$40
$10
$10
$35
$30
$40
$25
$60
$20
$30

10. Bilateral Netting: an Example
Bilateral Netting would reduce the number of foreign exchange transactions as follows; Examine U.S and Canadian affiliate
$20
$30
$40
$10
$10
$35
$30
$40
$25
$60
$20
$30

11. Bilateral Netting: an Example
Bilateral Netting: U.S. and Canada net out at $10
$10
$40
$10
$10
$35
$30
$40
$25
$60
$20
$30

12. Bilateral Netting: an Example
Bilateral Netting: Canadian and U.K. affiliates.
$10
$40
$10
$10
$35
$30
$40
$25
$60
$20
$30

13. Bilateral Netting: an Example
Bilateral Netting: Canadian and U.K. affiliates net out at $10
$10
$40
$10
$10
$35
$10
$25
$60
$20
$30

14. Bilateral Netting: an Example
Bilateral Netting: U.K. and German affiliates.
$10
$40
$10
$10
$35
$10
$25
$60
$20
$30

15. Bilateral Netting: an Example
Bilateral Netting: U.K. and German affiliates net out at $10
$10
$40
$10
$10
$35
$10
$25
$60
$10

16. Bilateral Netting: an Example
Bilateral Netting: U.S. and German affiliate.
$10
$40
$10
$10
$35
$10
$25
$60
$10

17. Bilateral Netting: an Example
Bilateral Netting: U.S. and German affiliate net out at $25.
$10
$40
$10
$25
$10
$25
$60
$10

18. Bilateral Netting: an Example
Bilateral Netting: U.S. and U.K. affiliate.
$10
$40
$10
$25
$10
$25
$60
$10

19. Bilateral Netting: an Example
Bilateral Netting: U.S. and U.K. affiliate net out at $20.
$10
$20
$10
$25
$10
$25
$10

20. Bilateral Netting: an Example
Bilateral Netting: German and Canadian affiliates.
$10
$20
$10
$25
$10
$25
$10

21. Bilateral Netting: an Example
Bilateral Netting: German and Canadian affiliates net out at $15
$10
$20
$15
$25
$10
$10

22. Bilateral Netting Before bilateral netting: With bilateral netting:
Total funds (gross) to be moved: $350
With bilateral netting:
Total funds (net( to be moved: $90
This is a reduction of $260 in foreign exchange transactions.

23. Multilateral Netting: an Example
Consider simplifying the bilateral netting with multilateral netting: Start with the bilateral amounts.
$10
$20
$15
$25
$10
$10

24. Multilateral Netting: an Example
U.K. affiliate owes the German affiliate $10; the German affiliate owes U.S. $10.
$10
$20
$15
$15
$10
$10
$10

25. Multilateral Netting: an Example
Thus, the U.K. affiliate nets its payment to the U.S. of $10.
$10
$20
$15
$15
$10
$10

26. Multilateral Netting: an Example
U.K. net payment of $10 to U.S. is combined with the $20 it owes.
$10
$20
$15
$15
$10
$10

27. Multilateral Netting: an Example
U.K. affiliates owes $30 to U.S.
$10
$30
$15
$15
$10

28. Multilateral Netting: an Example
Consider Canadian and German affiliates.
$10
$30
$15
$15
$10

29. Multilateral Netting: an Example
Canadian affiliate owes German affiliate $15 and the German affiliate owes the U.S. $15.
$10
$30
$15
$15
$10

30. Multilateral Netting: an Example
Canadian affiliate nets its payment to the U.S. of $15; total Canadian affiliate payment to U.S. $25.
$10
$15
$30
$10

31. Multilateral Netting: an Example
Consider Canadian and U.K. affiliate
$10
$15
$30
$10

32. Multilateral Netting: an Example
U.K. affiliate owes Canadian affiliate $10; Canadian affiliate owes U.S. $10.
$10
$15
$30
$10

33. Multilateral Netting: an Example
U.K. affiliate nets its payment to the U.S. of $10.
$15
$30
$10

34. Multilateral Netting: an Example
Combine this $10 with the $30 the U.K. affiliate owes the U.S.
$15
$30
$10

35. Multilateral Netting: an Example
U.K. affiliate owes the U.S. $40.
$15
$40

36. Multilateral Netting: an Example
Total funds to be moved under multilateral netting is $55.
$15
$40

37. Summary of Netting Compare this (before netting). $20 $30 $40 $10 $10
$35
$30
$40
$25
$60
$20
$30

38. Bilateral Netting To this. Bilateral Netting: Total funds moved = $90
$10
$20
$15
$25
$10
$10

39. Multilateral Netting With this.
Multilateral netting: Total funds moved = $55
$15
$40

40. Government Policies and Netting
As noted, not all governments permit global firms to net their account:
Who does without request:
United States, U.K., Canada, Germany, Switzerland, Hong Kong.
Who does upon request and approval:
Italy, the Netherlands, Belgium.
Who doesn’t:
Spain. Austria, the Philippines.
Why: Want transactions to flow through local banking system (generate fees for local banks).

41. Benefits of Netting Studies have shown the following:
Decrease in the expenses associated with moving funds internationally.
Decrease in the number of foreign exchange transactions (also reduces costs).
Reduction in intra-company float (wire transfers can take up to 5 days).
Savings in administrative time.

42. Transfer Pricing
Refers to the prices being assigned to goods and/or services transferred among the affiliates (including the parent) within a global organization.
The transfer price will reposition funds (cash) within the organization.
High transfer price transfers to selling entity!

43. Reasons for Transfer Pricing
Reposition funds.
Out of high risk areas
Concerns about exchange rate changes, host government policy changes affecting funds transfers, political risk…
Move funds (profits) into low tax rate countries.
Minimize the consolidated tax liability of the global firm.

44. Government Involvement in Transfer Pricing
Most governments monitor the use of transfer pricing by firms within their political boundaries.
Concerned with companies attempting to escape their “appropriate” tax liabilities.
Most governments insist that the transfer price be:
An “arm’s-length” price, or what the selling affiliate would charge an unrelated customer.

45. Calculating the “Arm’s-Length” Price
United States (IRS) government uses the following procedures for calculating an “arm’s-length” price:
Comparable uncontrolled price.
Between affiliate and unrelated parties
Third party price
Similar goods/services sold in the market place.
Cost-plus price
Appropriate profit added to the cost of production