1. INTERNATIONAL FINANCE

2. INTRODUCTION Multinational financial management: an overview – 1. What’s the main goal of multinational corporation (MNC)? Any goal conflicts? – 2. What are the key theories that justify international business? Exposure to international risks – Exposure to Foreign Economies – Exposure to Political Risk – Exposure to Exchange Rate Movements An MNC’s cashflows

3. MAIN GOAL OF MNC Maximize the shareholder’s wealth Major conflict of the goal? -Agency Problem -Conflict of interest between the needs of agent (Managers) and the principal (Shareholders)

4. AGENCY PROBLEM Agency costs are normally larger for MNCs than for purely domestic firms. Why? The sheer size of the MNC. The scattering of distant subsidiaries. The culture of foreign managers. Subsidiary value versus overall MNC value.

5. AGENCY PROBLEM The magnitude of agency costs can vary with the management style of the MNC. Centralized Decentralized

6. CENTRALIZED

7. DECENTRALIZED

8. AGENCY PROBLEM More about agency problem – Which one has the lower agency costs? – Which one gives more control to those managers ?

9. AGENCY PROBLEM a centralized management style reduces agency costs. a decentralized style gives more control to those managers who are closer to the subsidiary’s operations and environment.

10. AGENCY COST How to reduce agency costs? Various forms of corporate control Managerial Compensation Direct Intervention by large stockholders Threat of firing Threat of Takeover

11. WHAT ARE THE KEY THEORIES THAT JUSTIFY INTERNATIONAL BUSINESS? Theory of Absolute and Comparative Advantage Specialization by countries can increase production efficiency. Imperfect Markets Theory The markets for the various resources used in production are “imperfect.” Product Cycle Theory As a firm matures, it may recognize additional opportunities outside its home country.

12. ABSOLUTE VS COMPARATIVE Theory of absolute advantage The mutual gains that individuals can achieve by specializing in doing different things and trading with on another Theory of Comparative advantage There are gains from trade even if one of the trading parties isn’t especially good at anything

13. EXAMPLE 1 car1 ton cheese UK15 hrs5 hrs China4 hrs2 hrs

14. EXPOSURE TO INTERNATIONAL RISK MNC’s are highly exposed to international risk Foreign economic conditions Demand for MNC’s products are dependent on the economic conditions in foreign markets Political risks Host government or the public may take actions that affect the MNC’s cash flows, e.g. capital controls, change in patent laws Exchange rate movement risk Exchange rate fluctuation cash outflows to make payment change

15. EXPOSURE TO INTERNATIONAL RISK A UK importer imports machinery from the US. Each machine cost $3000. Payment is in one month time and will be made in $. The exchange rate today is £1.0=$2.0. One month later, the exchange rate is £1.0=$1.5

16. AN MNC’S CASH FLOWS – Overview of an MNC’s cash flows – Valuation model for an MNC

17. OVERVIEW OF AN MNC’S CASH FLOWS

18. VALUATION MODEL FOR AN MNC

20. Carolina Co. has expected cash flows of $100,000 from local business and 1 million Mexican pesos from business in Mexico at the end of period t. Assuming that the peso’s value is expected to be $.09, the expected dollar cash flows are:

21. E1CF 25 m 3E1CF 23E1S 24 $,t a j,t j,t j51 5 1$100,0002 1 31,000,000 pesos 3 1$.092 4 5 1$100,0002 1 1$90,0002 5 $190,000.