IB Chapter 20

Investment decisions
Financing decisions
Money management decisions

reduces the costs of creating value and adds value by improving customer service

different currencies, tax regimes, regulations on capital flows, economic and political risk, etc.

Financial managers must quantify the benefits, costs, and risks associated with an investment in a foreign country

managers use capital budgeting

involves estimating the cash flows associated with the project over time, and then discounting them to determine their net present value

go ahead with the project

distinction must be made between cash flows to the project and cash flows to the parent company

political and economic risk

connection between cash flows to the parent and the source of financing

Parent companies are interested in the cash flows they will receive, not the cash flows the project generates

the likelihood that political forces will cause drastic changes in a country’s business environment that hurt the profit and other goals of a business
higher in countries with social unrest or disorder, or where the nature of the society increases the chance for social unrest

result in the expropriation of a firm’s assets, or complete economic collapse that renders a firm’s assets worthless

the likelihood that economic mismanagement will cause drastic changes in a country’s business environment that hurt the profit

inflation

Firms analyzing foreign investment opportunities can adjust for risk
By raising the discount rate in countries where political and economic risk is high
By lowering future cash flow estimates to account for adverse political or economic changes that could occur in the future

How the foreign investment will be financed

How the financial structure (debt vs. equity) of the foreign affiliate should be configured

manage global cash resources efficiently

Minimize cash balances
Reduce transaction costs

need cash balances on hand for notes payable and unexpected demands

cash reserves are usually invested in money market accounts that offer low rates of interest
when firms invest in money market accounts they have unlimited liquidity, but low interest rates

the cost of exchange

Multilateral netting can reduce the number of transactions between subsidiaries and the number of transaction costs

Double taxation occurs when the income of a foreign subsidiary is taxed by the host-country government and by the home-country government

Tax credits
Tax treaties
Deferral principle
Tax havens

Dividend remittances
Royalty payments and fees
Transfer prices
Fronting loans
Firms that use more than one of these techniques are unbundling

Paying dividends is the most common method of transferring funds from subsidiaries to the parent

the remuneration paid to the owners of technology, patents, or trade names for the use of that technology or the right to manufacture and/or sell products under those patents or trade names

A fee is compensation for professional services or expertise supplied to a foreign subsidiary by the parent company or another subsidiary
royalties and fees

tax-deductible locally

the price at which goods and services are transferred between entities within the firm

Reduce tax liabilities

Move funds out of a country where a significant currency devaluation is expected

Move funds from a subsidiary to the parent when dividends are restricted by the host government

Reduce import duties

Governments think they are being cheated out of legitimate income

Fronting loans are loans between a parent and its subsidiary channeled through a financial intermediary, usually a large international bank

to circumvent host-country restrictions on the remittance of funds from a foreign subsidiary to the parent company
to gain tax advantages

Centralized depositories
Multilateral netting

firms can deposit larger amounts, and therefore earn higher rates of interest

greater variety of investment opportunities

invest larger amounts in longer-term, less liquid accounts that have higher interest rates

transaction costs

can reduce the transaction costs associated with many transactions between subsidiaries

an extension of bilateral netting