MNCs Capital Budgeting Issues

MNCs Capital Budgeting is pretty similar to that of purely domestic firm except in the
following cases:
1. Tax issues
Alike the purely domestic firms the MNCs income are taxed at corporate level for
income tax and any capital gain tax if salvage value realized is higher than the
book value of the assets at the end of the project life. However, additions to this,
MNCs are charged with withholding tax [tax charged by the host country
government on the remittance of fund to the home country by the MNCs.]
Generally withholding tax is charged at a lower rate compared to income tax rate.
Remember that such tax will not be applicable for salvage value. Moreover the
home countrys or parent countrys government may charge additional tax when
the MNC remit the fund to the home country, since an investment by the MNC in
the host country means loss of job and investment opportunity for the home
country. If the home government does not charge such tax, then the MNC is said
to enjoy tax credit. Some time such a tax is referred as inbound tax.
2. Blockage of fund
Blockage of fund on the remittance by the host government is a common
phenomenon. This is done to ensure that the MNCs do not leave the host country
quickly which might destabilize the host countrys economy. Blockage is placed in
terms of year or amount. If it is in terms of year then, the MNCs will not be able to
remit their income to the home country until up to the expiry the blockage period.
In such a case the MNC may reinvest the fund at a safe bank account at a certain
interest rate usually the risk free rate before the time of blockage expires.
3. Exchange rate
Perhaps the most important issue in the management of MNCs capital budgeting
is exchange rate. Exchange rate will be applied when the fund is transferred from
the host to home country (in case of annual earnings) and home to host (in case
of investment). In most cases the exchange rate will have to be forecasted
applying IRP, PPP.
MNCs Capital Budgeting: Example
Spartan Corporation has invested in Singapore for 4 years. Following are the
information related to the capital budgeting of Spartan.
1. Initial investment is $10 million at a rate of $0.50 per S$.
2. Price, variable cost and demand information has been given as follows:
Price per unit
Variable cost
per unit
Demand in
Singapore

Year1
S$350
S$200

Year2
S$350
S$200

Year3
S$360
S$250

Year4
S$380
S$260

60000 units

60000 units

100000 units

100000 units

3. The expense of leasing office space is S$1 million per year and other overhead
cost is S$1 million per year as well.
4. Depreciation will be at S$2 million per year.
5. Income tax by Singapore government is 20% and withholding tax is 10% while
USA government will give tax credit to Spartan. There is not blockage on
remittance.

6. Salvage value of S$12 million has been realized as Singapore government has
taken the business with payment of S$12 million.
7. Exchange rate is considered to be $0.5 per S$ and will remain same for next 4
years while the cost of capital is 15%.
Requirement: Assess if the project should be taken or not?