12.20 Summary: Part B
In Part B we began by looking at the special requirements of capital budgeting in an international firm. These include distinguishing between investment flow to the parent and to subsidiaries, and political and economic risk.
We then looked at the variety of sources of investment capital and noted that while MNEs generally prefer to tap the global capital market, sources of funds include their own subsidiaries. The discount rate is the major factor in deciding which source to use.
The financial structure chosen will depend on a number of factors, but it will be influenced mainly by host country tax regulations and cultural norms.
The objectives of money management in an MNE are:
- to use the firm's cash resources most effectively
- to minimise tax.
Moving money across borders can be done by dividend remittances, royalties and fees, transfer pricing and fronting loans. Dividend remittances are the most used method, but royalties and fees may have some tax advantages. Transfer prices are a great way to avoid tax, but many countries now regulate to prevent this. Fronting loans use international banks as intermediaries to sidestep host government restrictions on remittance of funds: the assumption is that host countries are less likely to restrict the activities of international banks than MNEs. In this section we noted the term 'unbundling'.
Global money management is done most efficiently by centralised depositories and one of the techniques used is multilateral netting which keeps transaction costs to a minimum.
We looked again at managing foreign exchange risk (the first look was in Chapter 6). We noted that there are three types of exposure to risk: transaction, translation and economic exposure. Tactics which mitigate transaction and translation exposure include buying forward, currency swaps, leading and lagging payables and receivables, transfer pricing, local debt financing, accelerated dividend payments and adjusting capital budgeting to reflect foreign exchange exposure.
Finally in this part, we noted the need for a management strategy to organise foreign exchange activities. This strategy should include a central depository, good internal reporting systems, recognition of the differences between transaction and economic exposure and a system for forecasting and reporting foreign exchange changes.
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