1. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. International Financial Management 10 th Edition by Jeff Madura 1

2. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 2 20 Short-Term Financing Chapter Objectives This chapter will: A. Identify sources of short-term financing for MNCs B. Explain how MNCs determine whether to use foreign financing C. Illustrate the possible benefits of financing with a portfolio of currencies 2

3. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 3 Sources of Foreign Financing 1.Internal short-term financing a.An MNC should have an internal system that consistently monitors the amount of short-term financing by all subsidiaries. 2.External short-term financing a.Short-term notes b.Commercial paper c.Bank loans 3.Access to funding during the credit crisis a.MNCs had limited access to short-term funding.

4. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 4 Financing With a Foreign Currency 1.MNCs borrow the currency that matches future cash inflows a.If they have a net receivables position in foreign currency, they may borrow in that currency to hedge their receivables 2.Comparison of interest rates among currencies

5. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 5 Exhibit 20.1 Comparison of Interest Rates among Countries (as of January 2009) 5

6. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 6 Determining the Effective Financing Rate The actual of “effective” financing rate will differ from the quoted rate based on: 1.The interest rate charged by the bank. 2.The movement in the borrowed currency’s value over the time of the loan. where r f = effective financing rate S = spot rate i f = interest rate of the foreign currency

7. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 7 Criteria Considered in the Financing Decision 1.Interest Rate Parity: if interest rate parity exists, the currency will exhibit a forward premium that offsets the differential between its interest rate and the home interest rate. 2.The Forward Rate as a Forecast: If the forward rate is an unbiased predictor of the future spot rate, then the effective financing rate of a foreign currency will on average be equal to the domestic financing rate. 3.Exchange Rate Forecasts: the firm can use exchange rate forecast in conjunction with foreign interest rate to forecast the effective financing rate.

8. © 2010 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use. 8 Financing with a Portfolio of Currencies 1.Financing with a Portfolio of Currencies a.Variance (risk) may be higher b.If low interest rates prevail, probability of lower financing costs are possible 2.Portfolio Diversification Effects a.With diversification of currencies, lower financing costs are possible but currencies used must not be highly correlated 3.Repeated Financing with a Currency Portfolio a.Solving the variance of a portfolio’s effective financing rate becomes more complex as more currencies are added b.Computer software packages are used to solve for the effect