Management
Multinationalvs.domesticfinancial CHAPTER19
MultinationalFinancial management Exchangeratesandtradinginforeign exchange Internationalmoneyandcapitalmarkets
191
Whatisamultinationalcorporation?
Acorporationthat operatesintwoormore countries. Decisionmakingwithin thecorporationmaybe centralizedinthehome country,ormaybe decentralizedacrossthe countriesthecorporation doesbusinessin.
192
Whydofirmsexpandinto othercountries?
1. 2. 3. 4. 5. 6.
Toseeknewmarkets. Toseekrawmaterials. Toseeknewtechnology. Toseekproductionefficiency. Toavoidpoliticalandregulatory hurdles. Todiversify.
193
Whatfactorsdistinguishmultinational financialmanagementfromdomestic financialmanagement?
1. 2. 3. 4. 5. 6.
Differentcurrencydenominations. Economicandlegalramifications. Languagedifferences. Culturaldifferences. Roleofgovernments. Politicalrisk.
194
Considerthefollowing exchangerates
US$tobuy1unit Japaneseyen 0.009 Australiandollar 0.650
Arethesecurrencypricesdirectorindirect quotations? Sincetheyarepricesofforeign currenciesexpressedindollars,theyare directquotations.
195
Whatisanindirectquotation?
Thenumberofunitsofaforeign currencyneededtopurchaseoneU.S. dollar,orthereciprocalofadirect quotation. Areyoumorelikelytoobservedirector indirectquotations?
Mostexchangeratesarestatedintermsof anindirectquotation. ExcepttheBritishpound,whichisusuallyin termsofadirectquotation.
196
Calculatetheindirectquotations foryenandAustraliandollar
#ofunitsofforeign currencyperUS$ Japaneseyen 111.11 Australiandollar 1.5385
Simplyfindtheinverseofthedirect quotations.
197
Whatisacrossrate?
Theexchangeratebetweenanytwo currencies.Crossratesareactuallycalculated onthebasisofvariouscurrenciesrelativetothe U.S.dollar. CrossratebetweenAustraliandollarandthe Japaneseyen.
Crossrate =(Yen/USDollar)x(USDollar/A.Dollar) =111.11x0.650 =72.22Yen/A.Dollar Theinverseofthiscrossrateyields: 0.0138A.Dollars/Yen
198
Orangejuiceproject: Settingtheappropriateprice
Afirmcanproducealiteroforange juiceandshipittoJapanfor$1.75per unit.Ifthefirmwantsa50%markupon theproject,whatshouldthejuicesellfor inJapan? Price =(1.75)(1.50)(111.11) =291.66yen
199
Orangejuiceproject: Determiningprofitability
Theproductwillcost250yentoproduceand shiptoAustralia,whereitcanbesoldfor6 Australiandollars.WhatistheU.S.dollar profitonthesale?
CostinA.dollars=250yen(0.0138) =3.45A.dollars A.dollarprofit=63.45=2.55A.dollars U.S.dollarprofit =2.55/1.5385=$1.66
1910
Whatisexchangeraterisk?
Theriskthatthevalueofacashflowin onecurrencytranslatedtoanother currencywilldeclineduetoachangein exchangerates. Forexample,inthelastslide,aweakening Australiandollar(strengtheningdollar) wouldlowerthedollarprofit. Thecurrentinternationalmonetarysystem isafloatingratesystem.
1911
EuropeanMonetaryUnion
In2002,thefullimplementationof theeurowascompleted.The nationalcurrenciesofthe12 participatingcountrieswerephased outinfavoroftheeuro.Thenewly formedEuropeanCentralBank controlsthemonetarypolicyofthe EMU.
1912
MembernationsoftheEMU
Austria Belgium Finland France Germany Greece
Ireland Italy Luxembourg Netherlands Portugal Spain
NotableEuropeanUnion countriesnotintheEMU:
Britain,Sweden,and Denmark
1913
Whatisaconvertiblecurrency?
Acurrencyisconvertiblewhenthe issuingcountrypromisestoredeem thecurrencyatcurrentmarketrates. Convertiblecurrenciesaretradedin worldcurrencymarkets.
1914
Whatproblemsmayarisewhena firmoperatesinacountrywhose currencyisnotconvertible?
Itbecomesverydifficultformulti nationalcompaniestoconduct businessbecausethereisnoeasy waytotakeprofitsoutofthecountry. Often,firmswillbarterforgoodsto exporttotheirhomecountries.
1915
Whatisdifferencebetween spotratesandforwardrates?
Spotratesaretheratestobuy Forwardratesaretheratestobuy currencyforimmediatedelivery. currencyatsomeagreedupondate inthefuture.
1916
Whenistheforwardrateata premiumtothespotrate?
IftheU.S.dollarbuysfewerunitsofa foreigncurrencyintheforwardthaninthe spotmarket,theforeigncurrencyisselling atapremium. Intheoppositesituation,theforeign currencyissellingatadiscount. Theprimarydeterminantofthe spot/forwardraterelationshipisrelative interestrates.
1917
Whatisinterestrateparity?
Interestrateparityholdsthatinvestorsshould expecttoearnthesamereturninallcountries afteradjustingforrisk.
f t 1+k h = e0 1+k f
f t =t periodforwardexchangerate e0 =today' sspotexchangerate k h =periodicinterestrateinhomecountry k f =periodicinterestrateinforeigncountry
1918
Evaluatinginterestrateparity
Supposeoneyenbuys$0.0095inthe30 dayforwardexchangemarketandkNOMfor a30dayriskfreesecurityinJapanandin theU.S.is4%.
ft=0.0095
kh=4%/12=0.333% kf=4%/12=0.333%
1919
Doesinterestrateparityhold?
0.0095 1.0033 = e0 1.0033 0.0095 =1 e0
Therefore,forinterestrateparitytohold,e0 mustequal$0.0095,butweweregiven earlierthate0=$0.0090.
1920
Whichsecurityoffersthe highestreturn?
TheJapanesesecurity.
Convert$1,000toyeninthespotmarket. $1,000x111.111=111,111yen. Invest111,111yenin30dayJapanesesecurity. In30daysreceive111,111yenx1.00333= 111,481yen. Agreetodaytoexchange111,481yen30days fromnowatforwardrate,111,481/105.2632= $1,059.07. 30dayreturn=$59.07/$1,000=5.907%,nominal annualreturn=12x5.907%=70.88%.
1921
Whatispurchasingpowerparity (PPP)?
Purchasingpowerparityimpliesthatthe levelofexchangeratesadjustssothat identicalgoodscostthesameamountin differentcountries. Ph=Pf(e0) OR e0=Ph/Pf
1922
Ifgrapefruitjuicecosts$2.00perliterin theU.S.andPPPholds,whatisthe priceofgrapefruitjuiceinAustralia? e0 =Ph/Pf $0.6500 =$2.00/Pf Pf =$2.00/$0.6500 =3.0769Australiandollars.
1923
Whatimpactdoesrelativeinflationhave oninterestratesandexchangerates?
Lowerinflationleadstolowerinterest rates,soborrowinginlowinterest countriesmayappearattractiveto multinationalfirms. However,currenciesinlowinflation countriestendtoappreciateagainstthose inhighinflationratecountries,sothe effectiveinterestcostincreasesoverthe lifeoftheloan.
1924
Internationalmoneyand capitalmarkets
Eurodollarmarkets asourceofdollarsoutsidetheU.S. Internationalbonds Foreignbondssoldbyforeign borrower,butdenominatedinthe currencyofthecountryofissue. Eurobondssoldincountryother thantheoneinwhosecurrencythe bondsaredenominated.
1925
Towhatextentdoaveragecapital structuresvaryacrossdifferentcountries?
Previousstudiessuggestedthat averagecapitalstructuresvaryamong thelargeindustrialcountries. However,arecentstudy,which controlledfordifferencesinaccounting practices,suggeststhatcapital structuresaremoresimilaracross differentcountriesthanpreviously thought.
1926
Impactofmultinationaloperations
Cashmanagement
Distancesaregreater. Accesstomoremarketsforloansand fortemporaryinvestments. Cashisoftendenominatedindifferent currencies.
1927
Impactofmultinationaloperations
Capitalbudgetingdecisions
Foreignoperationsaretaxedlocally, andthenfundsrepatriatedmaybe subjecttoU.S.taxes. Foreignprojectsaresubjecttopolitical risk. Fundsrepatriatedmustbeconvertedto U.S.dollars,soexchangerateriskmust betakenintoaccount.
1928
Impactofmultinationaloperations
Creditmanagement
Inventorymanagement
Creditismoreimportant,becausecommerceto lesserdevelopedcountriesoftenrelieson credit. Creditforfuturepaymentmaybesubjectto exchangeraterisk. Inventorydecisionscanbemorecomplex, especiallywheninventorycanbestoredin locationsindifferentcountries. Somefactorstoconsiderareshippingtimes, carryingcosts,taxes,importduties,and 1929 exchangerates.