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AFC3240 International Finance

Topic 1: Multinational Enterprise and


Multinational Financial Management
(Shapiro, Chapter 1)

Financial Management is concerned with


making optimal financing and investment
decisions.
International Financial Management
= Domestic Financial Management
+ International issues
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WHAT IS INTERNATIONAL FINANCIAL


MANAGEMENT?

Foreign Exchange Risk


Political Risk
Market Imperfections
Expanded Opportunity Set

Foreign Exchange Risk


The risk that foreign currency profits may
evaporate due to unanticipated unfavorable
exchange rate movements. Eg., assume an
Australian exporter has US$100,000
receivables in six months. Say, the current
exchange rate is A$1.00 = US$0.9000.
What will happen if A$ appreciates to
US$1.0000?
What will happen if A$ depreciates to
US$0.8000?
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Political Risk
Sovereign governments have the right to
regulate the movement of goods, capital,
and people across their borders.
These laws sometimes change in
unexpected ways. For example:
- Implementation of capital control
- Restrictions on foreign direct investment
(FDI).
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Market Imperfections
- Legal restrictions on movement of
goods, people, and money
- Transactions costs
- Shipping costs
- Tax arbitrage possibilities

Expanded Opportunity Set


Globally, there are much more opportunities
as compared to a single country. At times
the opportunities may be to exploit the
market imperfections. Does it make sense
to invest in your home country alone if you
have better opportunities elsewhere?

True for corporations as well as individual


investors.
True for direct investment as well as
portfolio investments.
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Emergence of Globalized Financial


Markets
Deregulation of financial markets and
advances in technology have greatly reduced
information and transactions costs.
We notice Financial Innovations, such as:
Cross-border stock listings
International mutual funds
Currency futures and options
Multi-currency bonds
Internet trading of securities issued in
foreign countries.
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Economic Integration
Evidence shows substantial increase in the
ratio of merchandise exports to GDP
For some countries, international trade has
grown much faster than others. Eg, China,
India, Brazil, South Korea, compared to the
US.
Overall, over the past 50 years, international
trade increased about twice as fast as world
GDP
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Trade Liberalization
A big change in the attitudes of many of the
worlds governments. Even, onceprotectionist countries are now pursuing freemarket and open-economy policies
There are International trade organizations and
agreements:
- WTO (World Trade Organization) is an
international organization that has the
power to enforce the rules of international
trade.
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- GATT (General Agreement on Tariffs and


Trade) is a multilateral agreement among
member countries that has reduced many
barriers to trade.
- Bilateral Free Trade agreements
Privatization
The selling off state-run enterprises to investors.
Also known as Denationalization.
By most estimates, privatisation increases the
efficiency of the enterprises.
Often spurs a tremendous increase in crossborder investment.
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THE CLASSICAL THEORY OF


INTERNATIONAL TRADE
Also known as the doctrine of comparative
advantage. First developed by Adam Smith
and David Ricardo, this theory says that:
It is mutually beneficial for countries if they
specialize in the production of those goods
they can produce most efficiently and trade
those goods among them. (Shapiro, page 4,
53-56)
(see tutorial question for a typical example of
the principle of comparative advantage) 11

An important implication is that liberalization of


international trade will enhance the welfare of
the worlds citizens.
Is this a valid argument? Why an opposition
to globalization?
Limitations
This theory assumes that goods and
services are internationally movable, but
factors of production (e.g. capital, labor and
land) are immobile.
Ignores the roles of uncertainty,
transportation costs etc.
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THE RISE OF THE MULTINATIONAL


CORPORATIONS (MNCs)
MNCs supercede theory
mobility of factors, e.g. capital, labor are
mobile
better position to exploit the different
costs/skills between nations
prime transmitter of competitive forces
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Definition of MNC
A company with production and distribution
facilities in more than one country.
Many MNCs obtain raw materials from one
nation, financial capital from another, produce
goods with labor and capital equipment in a
third country and sell their output in various
other national markets.

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Main reasons to go Global


To seek raw materials
exploit markets in other countries;
historically first to appear. E.g. British
Petroleum
To seek more markets
produce and sell in foreign markets; heavy
foreign direct investors. E.g. Nestle, Coca
Cola
To minimize costs of production
seek lower-cost production abroad with a
motive to remain cost competitive. E.g.
Texas Instruments
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MULTINATIONAL FINANCIAL
MANAGEMENT
Characteristics of an effective global manager
Understands political and economic
differences among nations;
Searches for most cost- effective suppliers;
Responds quickly to changes that may
affect the value of the firm
so on.
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Objectives of a firm may be one or a


combination of:
Maximisation of shareholders wealth
Maximisation of share price
Maximisation of accounting profits
Maximisation of sales
Minimisation of costs
Minimisation of risk
Maximisation of resource utilisation
Social responsibility, employee welfare,
etc
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What goal should an effective global


manager be working toward?
Maximization of shareholder wealth or
some other goals?
In some countries shareholders are
viewed as merely one among many
stakeholders of the firm, e.g. employees,
suppliers, customers.

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