1. International Financial Management
Associate Professor Ivar Bredesen
©2000 South-Western College Publishing

2. Multinational Financial Management:
CHAPTER 1
Multinational Financial Management:
An Overview 1

3. Chapter Objectives
To identify the main goal of the MNC and conflicts with that goal;
To describe the key theories that justify international business; and
To explain the common methods used to conduct international business.

4. Goal of the MNC
The commonly accepted goal of an MNC is to maximize shareholder wealth.
For corporations with shareholders who differ from their managers, a conflict of goals can exist - the agency problem.
Agency costs are normally larger for MNCs than for purely domestic firms, but can vary with the management style of the MNC.

5. Goal of the MNC
Various forms of corporate control can reduce agency problems - stock compensation, threat of hostile takeover, monitoring by large shareholders.
As MNC managers attempt to maximize their firm’s value, they may be confronted with various environmental, regulatory, or ethical constraints.

6. Corruption - the good guys

7. Corruption - the bad guys

8. Theories of International Business
Why are firms motivated to expand their business internationally?
Theory of Comparative Advantage
Specialization by countries can increase production efficiency.
Imperfect Markets Theory
The markets for the various resources used in production are “imperfect.”

9. Theories of International Business
Product Cycle Theory
Firm creates product to accommodate local demand. 1
Firm exports product to accommodate foreign demand. 2
Firm establishes foreign subsidiary to establish presence in foreign country and possibly to reduce costs. 3
Firm differentiates product from competitors and/or expands product line in foreign country. 4a or
Firm’s foreign business declines as its competitive advantages are eliminated. 4b

10. International Business Methods
International Trade - a relatively conservative approach involving exporting and/or importing.
Licensing - provision of technology in exchange for fees or some other benefits.
Franchising - provision of a specialized sales or service strategy, support assistance, and possibly an initial investment in the franchise in exchange for periodic fees.

11. International Business Methods
Joint Ventures - joint ownership and operation by two or more firms.
Acquisitions of Existing Operations
Establishing New Foreign Subsidiaries
Any method of increasing international business that requires a direct investment in foreign operations normally is referred to as a direct foreign investment (DFI).

12. International Opportunities
Cost-benefit Evaluation for
Purely Domestic Firms versus MNCs
Marginal Return on Projects
Marginal Cost of Capital
Purely Domestic Firm
MNC
Appropriate Size for Purely Domestic Firm
Appropriate Size for MNC X Y
Asset Level of Firm

13. Exposure to International Risk
Exposure to Exchange Rate Movements
exchange rate fluctuations affect cash flows and foreign demand
Exposure to Foreign Economies
economic conditions affect demand
Exposure to Political Risk
political actions affect cash flows

14. Overview of an MNC’s Cash Flows
Profile A: MNCs focused on International Trade
$ for products
U.S. Customers
U.S.-based MNC
$ for supplies
U.S. Businesses
$ for exports
Foreign Importers
$ for imports
Foreign Exporters

15. Overview of an MNC’s Cash Flows
Profile B: MNCs focused on International Trade and International Arrangements
$ for products
U.S. Customers
$ for supplies
U.S. Businesses
U.S.-based MNC
$ for exports
Foreign Importers
$ for imports
Foreign Exporters
$ for service
Foreign Firms
cost of service

16. Overview of an MNC’s Cash Flows
Profile C: MNCs focused on International Trade, International Arrangements, and Direct Foreign Investment
U.S.-based MNC
$ for products
U.S. Customers
$ for supplies
U.S. Businesses
$ for exports
Foreign Importers
$ for imports
Foreign Exporters
$ for service
Foreign Firms
cost of service
funds remitted
Foreign Subsidiaries
funds invested

17. Valuation Model for an MNC
Domestic Model
where E (CF$,t ) = expected cash flows to be
received at the end of period t
n = the number of periods into the future in
which cash flows are received
k = the required rate of return by investors

18. Valuation Model for an MNC
Valuing International Cash Flows
where E (CFj,t ) = expected cash flows denominated
in currency j to be received by the
U.S. parent at the end of period t
E (ERj,t ) = expected exchange rate at which
currency j can be converted to
dollars at the end of period t
k = the weighted average cost of capital of
the U.S. parent company

19. Valuation Model for an MNC
Impact of New International Opportunities
on an MNC’s Value
More Exposure to Exchange Rate Risk
New International Opportunities
More Exposure to Political Risk
More Exposure to Foreign Economies

20. How Chapters Relate to Valuation
Exchange Rate Behavior (Chapters 6-8)
Exchange Rate Risk Management (Chapters 9-12)
Background on International Financial Markets (Chapters
2-5)
Long-Term Investment and Financing Decisions (Chapters 13-18)
Risk and Return of MNC
Value and Stock Price of MNC
Short-Term Investment and Financing Decisions (Chapters 19-21)

21. Chapter Review Goal of the MNC Conflicts against the MNC Goal
Impact of MNC’s Management Style on Agency Costs
Impact of Corporate Control on Agency Costs
Constraints Interfering with the MNC’s Goal

22. Chapter Review Theories of International Business
Theory of Comparative Advantage
Imperfect Markets Theory
Product Cycle Theory
International Business Methods
International Trade ¤ Licensing
Franchising ¤ Joint Ventures
Acquisitions of Existing Operations
Establishing New Foreign Subsidiaries

23. Chapter Review Exposure to International Risk
Exposure to Exchange Rate Movements
Exposure to Foreign Economies
Exposure to Political Risk

24. Chapter Review Overview of an MNC’s Cash Flows
Valuation Model for an MNC
Domestic Model
Valuing International Cash Flows
How Chapters Relate to Valuation