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Part I Environment of International Financial Management
CHAPTER 1 INTRODUCTION: MULTINATIONAL ENTERPRISE AND MULTINATIONAL FINANCIAL MANAGEMENT
Chapter Learning Objectives
Key Terms
1.1 The Rise of the Multinational Corporation
Evolution of the Multinational Corporation
Search for Raw-Materials
Market Seeking
Cost Minimization
Knowledge Seeking
Keeping Domestic Customers
Exploiting Financial Market Imperfections
The Process of Overseas Expansion
Exporting
Overseas Production
Licensing
Trade-offs Between Alternative Modes of Overseas Expansion
A Behavioral Definition of the Multinational Corporation
The Global Manager
1.2 The Internationalization of Business and Finance
Political and Labor Union Concerns about Global Competition
Consequences of Global Competition
1.3 Multinational Financial Management: Theory and Practice
Criticisms of the Multinational Corporation
Functions of Financial Management
Theme
Relationship to Domestic Financial Management
Arbitrage
Market Efficiency
Capital Asset Pricing
The Importance of Total Risk
The Global Financial Marketplace
The Role of the Financial Executive in an Efficient Market
1.4 Outline of the Book
Environment of International Financial Management
Foreign Exchange and Derivatives Markets
Foreign Exchange Risk Management
Financing the Multinational Corporation
Foreign Investment Analysis
Multinational Working Capital Management
Questions
Internet Resources
Internet Exercises
APPENDIX 1A
THE ORIGINS AND CONSEQUENCES OF INTERNATIONAL TRADE
The Gains from Trade
Specialized Factors of Production
Monetary Prices and Exchange Rates
Tariffs
Questions
CHAPTER 2 THE DETERMINATION OF EXCHANGE RATES
Chapter Learning Objectives
Key Terms
2.1 Setting the Equilibrium Spot Exchange Rate
Demand for a Currency
Supply of a Currency
Factors that Affect the Equilibrium Exchange Rate
Relative Inflation Rates
Relative Interest Rates
Relative Economic Growth Rates
Political and Economic Risk
Calculating Exchange Rate Changes
2.2 Expectations and the Asset Market Model of Exchange Rates
The Nature of Money and Currency Values
Central Bank Reputations and Currency Values
Price Stability and Central Bank Independence
Currency Boards
Dollarization
Expectations and Currency Values
2.3 The Fundamentals of Central Bank Intervention
How Real Exchange Rates Affect Relative Competitiveness
Foreign Exchange Market Intervention
Mechanics of Intervention
Sterilized versus Unsterilized Intervention
The Effects of Foreign Exchange Market Intervention
2.4 The Equilibrium Approach to Exchange Rates
Disequilibrium Theory and Exchange Rate Overshooting
The Equilibrium Theory of Exchange Rates and Its Implications
2.5 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 3 THE INTERNATIONAL MONETARY SYSTEM
Chapter Learning Objectives
Key Terms
3.1 Alternative Exchange Rate Systems
Free Float
Managed Float
Target-Zone Arrangement
Fixed-Rate System
The Current System of Exchange Rate Determination
3.2 A Brief History of the International Monetary System
The Classical Gold Standard
How the Classical Gold Standard Worked in Practice: 1821-1914
The Gold Exchange Standard and Its Aftermath: 1925-1944
Competitive Devaluations
Bretton Woods Conference and the Postwar Monetary System
Role of the IMF
Role of the World Bank
Role of the Bank for International Settlements
The Bretton Woods System: 1946-1971
Lessons and Red Flags from Bretton Woods
The Post-Bretton Woods System: 1971 to the Present
Assessment of the Floating Rate System
Currency Volatility Has Increased
Requirements for Currency Stability
3.3 The European Monetary System and Monetary Union
The Exchange Rate Mechanism
Lessons from the European Monetary System
The Currency Crisis of September 1992
The Catalyst
The High Cost of Intervention
The Exchange Rate Mechanism Is Abandoned in August 1993
The Catalyst
Governments Surrender to the Market
A Postmortem on the EMS
European Monetary Union
Maastricht Convergence Criteria
Launch of the Euro
EMU and the European Welfare State
Consequences of EMU
Performance of the Euro
Optimum Currency Area
Cracks in the Eurozone the Periphery States Fracture
The Catalyst Divergences in Prices
Euro Structural Flaws
Disparate Growth Rates Heightened Tensions
Lessons from EMU and the Euro
Exchange Rate Regimes Today
3.4 Emerging Market Currency Crises
Transmission Mechanisms
Trade Links
Financial System
Debt Policy
Origins of Emerging Market Crises
Moral Hazard
Fundamental Policy Conflict
Policy Proposals for Dealing with Emerging Market Crises
Currency Controls
Freely Floating Currency
Permanently Fixed Exchange Rate
Better Information
3.5 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 4 PARITY CONDITIONS IN INTERNATIONAL FINANCE AND CURRENCY FORECASTING
Chapter Learning Objectives
Key Terms
4.1 Arbitrage and the Law of One Price
4.2 Purchasing Power Parity
The Lesson of Purchasing Power Parity
Expected Inflation and Exchange Rate Changes
The Monetary Approach
Empirical Evidence
4.3 The Fisher Effect
Empirical Evidence
Adding Up Capital Markets Internationally
4.4 The International Fisher Effect
Empirical Evidence
4.5 Interest Rate Parity Theory
Empirical Evidence
4.6 The Relationship Between the Forward Rate and the Future Spot Rate
Empirical Evidence
4.7 Currency Forecasting
Requirements for Successful Currency Forecasting
Market-Based Forecasts
Forward Rates
Interest Rates
Model-Based Forecasts
Fundamental Analysis
Technical Analysis
Model Evaluation
Forecasting Controlled Exchange Rates
4.8 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 5 THE BALANCE OF PAYMENTS AND INTERNATIONAL ECONOMIC LINKAGES
Chapter Learning Objectives
Key Terms
5.1 Balance-of-Payments Categories
Current Account
Capital Account
Financial Account
Balance-of-Payments Measures
The Missing Numbers
5.2 The International Flow of Goods, Services, and Capital
Domestic Saving and Investment and the Financial Account
The Link Between the Current and Financial Accounts
Government Budget Deficits and Current-Account Deficits
The Current Situation
5.3 Coping with the Current-Account Deficit
Currency Depreciation
Lagged Effects
J-Curve Theory
Devaluation and Inflation
U.S. Deficits and the Demand for U.S. Assets
Protectionism
Ending Foreign Ownership of Domestic Assets
Boosting the Saving Rate
External Policies
Current-Account Deficits and Unemployment
The Bottom Line on Current-Account Deficits and Surpluses
5.4 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
CHAPTER 6 COUNTRY RISK ANALYSIS
Chapter Learning Objectives
Key Terms
6.1 Measuring Political Risk
Political Stability
Economic Factors
Subjective Factors
Political Risk and Uncertain Property Rights
Capital Flight
6.2 Economic and Political Factors Underlying Country Risk
Fiscal Irresponsibility
Monetary Instability
Controlled Exchange Rate System
Wasteful Government Spending
Resource Base
Country Risk and Adjustment to External Shocks
Market-Oriented versus Statist Policies
Why Capitalism Works
Statist Policies Constrain Growth
Why Statist Policies Persist
Key Indicators of Country Risk and Economic Health
Market-Oriented Policies Work
Market-Oriented Reform in Latin America
Obstacles to Economic Reform
6.3 Country Risk Analysis in International Banking
The Mathematics of Sovereign Debt Analysis
Country Risk and the Terms of Trade
The Government's Cost/Benefit Calculus
Lessons from the International Debt Crisis
Onset of the Crisis
Reform Takes Hold
Debt Relief
The Crisis Ends
Lessons from Successful Economic Reform
6.4 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
Part II Foreign Exchange and Derivatives Markets
CHAPTER 7 THE FOREIGN EXCHANGE MARKET
Chapter Learning Objectives
Key Terms
7.1 Organization of the Foreign Exchange Market
The Participants
The Clearing System
Electronic Trading
Size
7.2 The Spot Market
Spot Quotations
Transaction Costs
Cross Rates
Currency Arbitrage
Settlement Date
Exchange Risk
The Mechanics of Spot Transactions
7.3 The Forward Market
Forward Quotations
Exchange Risk
Cross Rates
Forward Contract Maturities
7.4 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 8 CURRENCY FUTURES AND OPTIONS MARKETS
Chapter Learning Objectives
Key Terms
8.1 Futures Contracts
Forward Contract versus Futures Contract
Advantages and Disadvantages of Futures Contracts
Arbitrage Between the Futures and Forward Markets
8.2 Currency Options
Market Structure
Using Currency Options
Currency Spread
Knockout Options
Option Pricing and Valuation
Using Forward or Futures Contracts versus Options Contracts
Futures Options
8.3 Reading Currency Futures and Options Prices
8.4 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
APPENDIX 8A: Option Pricing Using Black-Scholes
APPENDIX 8B: Put-Call Option Interest Rate Parity
CHAPTER 9 SWAPS AND INTEREST RATE DERIVATIVES
Chapter Learning Objectives
Key Terms
9.1 Interest Rate and Currency Swaps
Interest Rate Swaps
The Classic Swap Transaction
Cost Savings Associated with Swaps
Currency Swaps
Interest Rate/Currency Swaps
Dual Currency Bond Swaps
Economic Advantages of Swaps
9.2 Interest Rate Forwards and Futures
Forward Forwards
Forward Rate Agreement
Eurodollar Futures
9.3 Structured Notes
Inverse Floaters
Callable Step-Up Note
Step-Down Coupon Note
9.4 Credit Default Swaps
9.5 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
Part III Foreign Exchange Risk Management
CHAPTER 10 MEASURING AND MANAGING TRANSLATION AND TRANSACTION EXPOSURE
Chapter Learning Objectives
Key Terms
10.1 Alternative Measures of Foreign Exchange Exposure
Translation Exposure
Transaction Exposure
Operating Exposure
10.2 Alternative Currency Translation Methods
Current/Noncurrent Method
Monetary/Nonmonetary Method
Temporal Method
Current Rate Method
10.3 Transaction Exposure
10.4 Designing a Hedging Strategy
Objectives
Costs and Benefits of Standard Hedging Techniques
Costs of Hedging
Benefits of Hedging
Exposure Netting
Centralization versus Decentralization
Managing Risk Management
Accounting for Hedging and FASB 133
10.5 Managing Translation Exposure
Funds Adjustment
Evaluating Alternative Hedging Mechanisms
10.6 Managing Transaction Exposure
Forward Market Hedge
The True Cost of Hedging
Money-Market Hedge
Risk Shifting
Pricing Decisions
Exposure Netting
Currency Risk Sharing
Currency Collars
Cross-Hedging
Foreign Currency Options
Using Options to Hedge Bids
Using Options to Hedge Other Currency Risks
Options versus Forward Contracts
10.7 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
APPENDIX 10A Statement of Financial Accounting Standards No. 52
Application of FASB No. 52
CHAPTER 11 MEASURING AND MANAGING ECONOMIC EXPOSURE
Chapter Learning Objectives
Key Terms
11.1 Foreign Exchange Risk and Economic Exposure
Real Exchange Rate Changes and Exchange Risk
Importance of the Real Exchange Rate
Inflation and Exchange Risk
Competitive Effects of Real Exchange Rate Changes
11.2 The Economic Consequences of Exchange Rate Changes
Transaction Exposure
Operating Exposure
11.3 Identifying Economic Exposure
Aspen Skiing Company
Petróleos Mexicanos
Toyota Motor Company
11.4 Calculating Economic Exposure
Spectrum's Accounting Exposure
Spectrum's Economic Exposure
Case Analysis
11.5 An Operational Measure of Exchange Risk
Limitations
11.6 Managing Operating Exposure
Marketing Management of Exchange Risk
Market Selection
Pricing Strategy
Product Strategy
Production Management of Exchange Risk
Input Mix
Shifting Production Among Plants
Plant Location
Raising Productivity
Planning for Exchange Rate Changes
Financial Management of Exchange Risk
11.7 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
Part IV Financing the Multinational Corporation
CHAPTER 12 INTERNATIONAL FINANCING AND NATIONAL CAPITAL MARKETS
Chapter Learning Objectives
Key Terms
12.1 Corporate Sources and Uses of Funds
Financial Markets versus Financial Intermediaries
Financial Systems and Corporate Governance
Globalization of Financial Markets
12.2 National Capital Markets as International Financial Centers
International Financial Markets
Foreign Access to Domestic Markets
The Foreign Bond Market
The Foreign Bank Market
The Foreign Equity Market
Globalization of Financial Markets Has Its Downside
12.3 Development Banks
The World Bank Group
IBRD
IFC
IDA
Regional and National Development Banks
Regional Development Banks
National Development Banks
Private-Sector Alternatives
12.4 Project Finance
12.5 Summary and Conclusions
Questions
Problem
Internet Resources
Internet Exercises
Bibliography
CHAPTER 13 THE EUROMARKETS
Chapter Learning Objectives
Key Terms
13.1 The Eurocurrency Market
Modern Origins
Eurodollar Creation
Eurocurrency Loans
Terms
Multicurrency Clauses
Relationship Between Domestic and Eurocurrency Money Markets
Interest Differentials
Eurocurrency Spreads
Euromarket Trends
13.2 Eurobonds
Swaps
Links Between the Domestic and Eurobond Markets
Placement
Currency Denomination
Interest Rates on Fixed-Rate Eurobonds
Interest Rates on Floating-Rate Eurobonds
Eurobond Retirement
Ratings
Rationale for Existence of Eurobond Market
Eurobonds versus Eurocurrency Loans
13.3 Note Issuance Facilities and Euronotes
Note Issuance Facilities versus Eurobonds
Euro-Medium-Term Notes
Reasons for Success
Costs of a Euro-MTN Program
Characteristics
Risks
13.4 Euro-Commercial Paper
13.5 The Asiacurrency Market
13.6 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 14 THE COST OF CAPITAL FOR FOREIGN INVESTMENTS
Chapter Learning Objectives
Key Terms
14.1 The Cost of Equity Capital
14.2 The Weighted Average Cost of Capital for Foreign Projects
14.3 Discount Rates for Foreign Investments
Evidence from the Stock Market
Key Issues in Estimating Foreign Project Discount Rates
Proxy Companies
Local Companies
Proxy Industry
Adjusted U.S. Industry Beta
The Relevant Base Portfolio
The Impact of Globalization on the Cost of Capital
Empirical Evidence
A Recommendation
The Relevant Market Risk Premium
Recommendations
14.4 The Cost of Debt Capital
Annual Exchange Rate Change
Using Sovereign Risk Spreads
14.5 Establishing a Worldwide Capital Structure
Foreign Subsidiary Capital Structure
Political Risk Management
Currency Risk Management
Leverage and Foreign Tax Credits
Leasing and Taxes
Cost-Minimizing Approach to Global Capital Structure
Joint Ventures
14.6 Valuing Low-Cost Financing Opportunities
Taxes
Zero-Coupon Bonds
Debt versus Equity Financing
Government Credit and Capital Controls
Government Subsidies and Incentives
14.7 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
Part V Foreign Investment Analysis
CHAPTER 15 INTERNATIONAL PORTFOLIO INVESTMENT
Chapter Learning Objectives
Key Terms
15.1 The Risks and Benefits of International Equity Investing
International Diversification
Correlations and the Gains from Diversification
Recent Correlations
Investing in Emerging Markets
Barriers to International Diversification
15.2 International Bond Investing
15.3 Optimal International Asset Allocation
15.4 Measuring the Total Return from Foreign Portfolio Investing
Bonds
Stocks
15.5 Measuring Exchange Risk on Foreign Securities
Hedging Currency Risk
15.6 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 16 CORPORATE STRATEGY AND FOREIGN DIRECT INVESTMENT
Chapter Learning Objectives
Key Terms
16.1 Theory of the Multinational Corporation
Product and Factor Market Imperfections
Financial Market Imperfections
16.2 The Strategy of Multinational Enterprise
Innovation-Based Multinationals
The Mature Multinationals
The Senescent Multinationals
Foreign Direct Investment and Survival
Cost Reduction
Economies of Scale
Multiple Sourcing
Knowledge Seeking
Keeping Domestic Customers
16.3 Designing a Global Expansion Strategy
1. Awareness of Profitable Investments
2. Selecting a Mode of Entry
3. Auditing the Effectiveness of Entry Modes
4. Using Appropriate Evaluation Criteria
5. Estimating the Longevity of a Competitive Advantage
16.4 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 17 CAPITAL BUDGETING FOR THE MULTINATIONAL CORPORATION
Chapter Learning Objectives
Key Terms
17.1 Basics of Capital Budgeting
Net Present Value
Incremental Cash Flows
Cannibalization
Sales Creation
Opportunity Cost
Transfer Pricing
Fees and Royalties
Getting the Base Case Right
Accounting for Intangible Benefits
Alternative Capital-Budgeting Frameworks
An Adjusted Present Value Approach
17.2 Issues in Foreign Investment Analysis
Parent versus Project Cash Flows
A Three-Stage Approach
Estimating Incremental Project Cash Flows
Tax Factors
Political and Economic Risk Analysis
Adjusting the Discount Rate or Payback Period
Adjusting Expected Values
Exchange Rate Changes and Inflation
17.3 Foreign Project Appraisal: The Case of International Diesel Corporation
Estimation of Project Cash Flows
Initial Investment Outlay
Financing IDC-U.K.
Interest Subsidies
Sales and Revenue Forecasts
Production Cost Estimates
Projected Net Income
Additions to Working Capital
Terminal Value
Estimated Project Present Value
Estimation of Parent Cash Flows
Loan Payments
Remittances to IDC-U.S.
Earnings on Exports to IDC-U.K.
Estimated Present Value of Project to IDC-U.S.
Lost Sales
17.4 Political Risk Analysis
Expropriation
Blocked Funds
17.5 Growth Options and Project Evaluation
17.6 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
APPENDIX 17A: MANAGING POLITICAL RISK
Part VI Multinational Working Capital Management
CHAPTER 18 FINANCING FOREIGN TRADE
Chapter Learning Objectives
Key Terms
18.1 Payment Terms in International Trade
Cash in Advance
Letter of Credit
Online Alternatives
Draft
Consignment
Open Account
Banks and Trade Financing
Collecting Overdue Accounts
18.2 Documents in International Trade
Bill of Lading
Commercial Invoice
Insurance Certificate
Consular Invoice
18.3 Financing Techniques in International Trade
Bankers' Acceptances
Creating an Acceptance
Terms of Acceptance Financing
Evaluating the Cost of Acceptance Financing
Discounting
Factoring
Evaluating the Cost of Factoring
Forfaiting
18.4 Government Sources of Export Financing and Credit Insurance
Export Financing
Export-Import Bank
Private Export Funding Corporation
Trends
Export-Credit Insurance
Foreign Credit Insurance Association
Taking Advantage of Government-Subsidized Export Financing
Export Financing Strategy
Import Financing Strategy
18.5 Countertrade
18.6 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 19 CURRENT ASSET MANAGEMENT AND SHORT-TERM FINANCING
Chapter Learning Objectives
Key Terms
19.1 International Cash Management
Organization
Collection and Disbursement of Funds
Payments Netting in International Cash Management
Bilateral and Multilateral Netting
Information Requirements
Foreign Exchange Controls
Analysis
Management of the Short-Term Investment Portfolio
Portfolio Guidelines
Optimal Worldwide Cash Levels
Evaluation and Control
Cash Planning and Budgeting
Multinational Cash Mobilization
Bank Relations
19.2 Accounts Receivable Management
Credit Extension
19.3 Inventory Management
Production Location and Inventory Control
Advance Inventory Purchases
Inventory Stockpiling
19.4 Short-Term Financing
Key Factors in Short-Term Financing Strategy
Short-Term Financing Objectives
Short-Term Financing Options
Intercompany Financing
Local Currency Financing
Bank Loans
Commercial Paper
Calculating the Dollar Costs of Alternative Financing Options
Case 1: No Taxes
Case 2: Taxes
19.5 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
CHAPTER 20 MANAGING THE MULTINATIONAL FINANCIAL SYSTEM
Chapter Learning Objectives
Key Terms
20.1 The Value of the Multinational Financial System
Mode of Transfer
Timing Flexibility
Value
20.2 Intercompany Fund-Flow Mechanisms: Costs and Benefits
Tax Factors
Transfer Pricing
Tax Effects
Tariffs
Exchange Controls
Joint Ventures
Disguising Profitability
Evaluation and Control
Reinvoicing Centers
Fees and Royalties
Leading and Lagging
Shifting Liquidity
Advantages
Government Restrictions
Intercompany Loans
Back-to-Back Loans
Parallel Loans
Dividends
Tax Effects
Financing Requirements
Exchange Controls
Joint Ventures
Equity versus Debt
20.3 Designing a Global Remittance Policy
Prerequisites
Information Requirements
Behavioral Consequences
20.4 Summary and Conclusions
Questions
Problems
Internet Resources
Internet Exercises
Bibliography
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