Optimal financial structure and the MNE
To get the best financial structures a MNE should take into account four different variables. We are going to develop these 4 main variables:
Availability of capital
MNE has a big advantage compared to local firms because they have an access to the international market and they can lower their costs of equity and debt. b.
International diversification of cash flows
Because the cash flows of MNE are internationally diversified they can support higher debt ratios. c.
Foreign exchange risk and the cost of debt
When asking for credits abroad, and specially to countries in which the currency used is different, the MNE has the risk of losing money due to the currency exchange ratios. When the credit has to be repaid the MNE has to pay both the nominal interest plus the increase or decrease in the currency exchange ratio. d. Expectations of international portfolio investors
In the international market, an acceptable debt ratio is up to 60% and any higher ratio is difficult to sell. This is due to the standards used in the Amercian and English markets.
Financial structure of foreign subsidiaries :
The main important objective for a MNE is to minimize globally the cost of capital. However, a MNE is composed of many different subsidiaries in different countries all over the world and each country has its own norms, rules and legal constraints. Therefore, the MNE faces the problem of whether to follow the procedures of the specific country in which the subsidiary is located, or to follow more global financial structures. a.
Advantages to conform to local norms (localization)
- It helps to improve the image of subsidiaries.
- Too much debt is not good for the investors as they find it too risky to invest. - Not enough debt can be interpreted as being an insensitive MNE to local monetary policy. - Local debt positions you at the same level of your competitors being no unfair competition.
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