Multinational

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Chapter 14

Multinational Capital Budgeting

Lecture Outline

Subsidiary versus Parent Perspective
Tax Differentials
Restricted Remittances
Excessive Remittances
Exchange Rate Movements

Input for Multinational Capital Budgeting

Multinational Capital Budgeting Example
Background
Analysis

Factors to Consider in Multinational Capital Budgeting
Exchange Rate Fluctuations
Inflation
Financing Arrangement
Blocked Funds
Uncertain Salvage Value
Impact of Project on Prevailing Cash Flows
Host ostHGovernment Incentives
Real Options

Adjusting Project Assessment for Risk
Risk-Adjusted Discount Rate
Sensitivity Analysis
Simulation

Chapter Theme

This chapter identifies additional considerations in multinational capital budgeting versus domestic capital budgeting.  These considerations can either be explained briefly or illustrated with the use of an example. 

Topics to Stimulate Class Discussion

1.Create an idea for a firm to expand its operations overseas.  Provide the industry of the firm.  Given this information, students should be requested to list all information that needs to be gathered in order to conduct a capital budgeting analysis.

2.How should a firm adjust the capital budgeting analysis for investment in a country where the currency is extremely volatile?

3.How should a firm adjust the capital budgeting for investment in a country where the chance of a government takeover is relatively high?

POINT/COUNTER-POINT
Should MNCs Use Forward Rates to Estimate Dollar Cash Flows of Foreign Projects?

POINT: Yes. An MNC’s parent should use the forward rate for each year in which it will receive net cash flows in a foreign currency. The forward rate is market-determined and serves as a useful forecast for future years.

COUNTER-POINT: No. An MNC should use its own forecasts for each year in which it will receive net cash flows in a foreign currency. If the forward rates for future time periods are higher than the MNC’s expected spot rates, the MNC may accept a project that it should not accept.

WHO IS CORRECT? Use InfoTrac or some other search engine to learn more about this issue. Which argument do you support? Offer your own opinion on this issue.

ANSWER: An MNC should only use the forward rate in place of its expectations if it plans to hedge its net cash flows in future periods. Of course, it must also consider the possibility of over-hedging its future net cash flows in foreign currencies if it uses this strategy. When it assesses a project and does not hedge, it should use its expected spot rates. However, it should compare its expected spot rates to the forward rates and assess whether any large deviations of its expectations from the forward rate make sense.

Answers to End of Chapter Questions

1.MNC Parent’s Perspective. Why should capital budgeting for subsidiary projects be assessed from the parent’s perspective? What additional factors that normally are not relevant for a purely domestic project deserve consideration in multinational capital budgeting?

ANSWER: When a parent allocates funds for a project, it should view the project’s feasibility from its own perspective.  It is possible that a project could be feasible from a subsidiary’s perspective but be infeasible when considering a parent’s perspective (due to foreign withholding taxes or exchange rate changes affecting funds remitted to the parent).

Some of the more obvious factors are (1) exchange rates, (2) whether currency restrictions may exist, (3) probability of a host government takeover, and (4) foreign demand for the product.

2. Accounting for Risk. What is the limitation of using point estimates of exchange rates in the capital budgeting analysis?

List the various techniques for adjusting risk in multinational capital budgeting.  Describe any advantages or disadvantages of each technique.

Explain how simulation...
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