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Lecture Fundamentals of financial management (13/e) - Chapter 24: International financial management

Learning objectives of this chapter include: Explain why many firms invest in foreign operations; explain why foreign investment is different from domestic investment; describe how capital budgeting, in an international environment, is similar to or dissimilar from that in a domestic environment; understand the types of exchange-rate exposure and how to manage exchange-rate risk exposure;. | Chapter 24 International Financial Management © 2001 Prentice-Hall, Inc. Fundamentals of Financial Management, 11/e Created by: Gregory A. Kuhlemeyer, Ph.D. Carroll College, Waukesha, WI International Financial Management Some Background Types of Exchange-Rate Risk Exposure Management of Exchange-Rate Risk Exposure Structuring International Trade Transactions Some Background Fill product gaps in foreign markets where excess returns can be earned. To produce products in foreign markets more efficiently than domestically. To secure the necessary raw materials required for product production. What is a company’s motivation to invest capital abroad? International Capital Budgeting 1. Estimate expected cash flows in the foreign currency. 2. Compute their U.S.-dollar equivalents at the expected exchange rate. 3. Determine the NPV of the project using the U.S. required rate of return, with the rate adjusted upward or downward for any risk premium effect associated with the foreign investment. How does a firm make an international capital budgeting decision? International Capital Budgeting Only consider those cash flows that can be “repatriated” (returned) to the home-country parent. The exchange rate is the number of units of one currency that may be purchased with one unit of another currency. For example, the current exchange rate might be 2.50 Freedonian marks per one U.S. dollar. International Capital Budgeting Example A firm is considering an investment in Freedonia, and the initial cash outlay is 1.5 million marks. The project has 4-year project life with cash flows given on the next slide. The appropriate required return for repatriated U.S. dollars is 18%. The appropriate expected exchange rates are given on the next slide. International project details: International Capital Budgeting Example 0 -1,500,000 2.50 -600,000 -600,000 1 500,000 2.54 196,850 166,822 2 800,000 2.59 308,880 221,833 3 700,000 2.65 264,151 160,770 4 600,000 2.72 220,588 113,777 Net Present | Chapter 24 International Financial Management © 2001 Prentice-Hall, Inc. Fundamentals of Financial Management, 11/e Created by: Gregory A. Kuhlemeyer, Ph.D. Carroll College, Waukesha, WI International Financial Management Some Background Types of Exchange-Rate Risk Exposure Management of Exchange-Rate Risk Exposure Structuring International Trade Transactions Some Background Fill product gaps in foreign markets where excess returns can be earned. To produce products in foreign markets more efficiently than domestically. To secure the necessary raw materials required for product production. What is a company’s motivation to invest capital abroad? International Capital Budgeting 1. Estimate expected cash flows in the foreign currency. 2. Compute their U.S.-dollar equivalents at the expected exchange rate. 3. Determine the NPV of the project using the U.S. required rate of return, with the rate adjusted upward or downward for any risk premium effect associated with the foreign .