Lecture International business (11/e) - Chapter 21: Financial management and accounting

chapter twenty­one
Financial Management and
Accounting

McGraw­Hill/Irwin
International Business, 11/e

Copyright © 2008 The McGraw­Hill Companies, Inc. All rights reserved.


Learning Objectives


Explain capital structure choices and their impact on the
MNC



Describe the process of multilateral netting and its
contribution to cash flow management



Describe the importance of leading and lagging in cash flow
management



Categorize foreign exchange risks into transaction
exposure, translation exposure, and economic exposure



Describe the basic idea of a swap transaction and its
applications
21-3


Learning Objectives


Explain a currency swap contract and its usefulness to the
financial manager



Recognize the usefulness and dangers of derivatives



Explain the role of and approaches to sales without money



Identify the major challenges faced in international
accounting



Describe the international accounting standards’

convergence process and its importance

21-4


Capital Structure of the Firm
• Retained earnings
• Debt
– Offshore financial center specializes in financing
nonresidents, low taxes and few banking
regulations

• Equity
– American depository receipts (ADRs): foreign
shares held by a custodian in the issuer’s home
market and traded in dollars on the U.S. exchange

21-5


Financial Management Decisions
• In what currency should capital be raised?
• How structured: equity, debt?
• What sources of capital?
• If capital market, which ones?
• Are other sources of money available?
• How much and for how long?

21-6

Cash Flow Management
• Multilateral Netting
– Subsidiaries transfer net intracompany cash
flows through a centralized clearing center

21-7


Cash Flow Management
• Leading and Lagging
– Timing payments early (lead) or late (lag),
depending on anticipated currency
movements, so they have the most
favorable impact

21-8


Foreign Exchange Risk Management
• Transaction exposure
– Change in the value of financial position created by
foreign currency changes between establishment
and settlement of contract

• Translation exposure
– Potential change in value of a company’s financial
position due to exposure created during
consolidation process

• Economic exposure
– Potential for value of future cash flows to be
affected by unanticipated exchange rate
movements
21-9


Transaction Exposure: Hedging
• Hedging
– process to reduce or eliminate financial risk

• Forward market hedge
– Foreign currency contract sold or bought forward in order to
protect against foreign currency movement

• Currency option hedge
– Option to buy or sell specific amount of foreign currency at
specific time to protect against foreign currency risk

• Money market hedge
– Method to hedge foreign currency exposure by borrowing and
lending in domestic and foreign money markets
21-10


Transaction Exposure: Swaps
• Swap contract
– Spot sale/purchase of asset against future
purchase/sale of equal amount in order to hedge
financial position

• Bank Swap
– Swap made between banks to acquire temporary
foreign currencies

• Currency Swap
– Exchange of debt service of loan or bond in one
currency for debt service of loan or bond in another
currency
21-11


Transaction Exposure: Swaps cont’d.
• Interest Rate Swap
– Exchange of interest rate flows to manage interest
rate exposure

• Spot and forward market swaps
– Use spot and forward markets to hedge foreign currency
exposure

• Parallel Loans
– Matched loans across currencies made to cover risk

21-12


Translation Approaches

– Current rate method

• Current assets and liabilities are valued at
current spot rates and noncurrent assets and
liabilities are translated at historic exchange
rates
– Temporal method
• Monetary accounts are valued at spot rate and
accounts carried at historical cost are translated
at historic exchange rates

21-13


Hedges and Swaps as “Derivatives”
• Contract whose value is tied to the
performance of a financial instrument or
commodity

21-14


Sales Without Money
Countertrade
– The trade of goods or services for other goods or
services (6 varieties)
• Counterpurchase
– Goods supplied do not rely on the goods imported

• Compensation
– Developing country makes payment in products
produced by use of developed country equipment

• Barter
– Direct exchange of goods or services for goods or
services

21-15


Sales Without Money, cont’d.
• Switch Trading
– Use of third party to market products
received in countertrade

• Offset
– Trade arrangement that requires portion of
the inputs be supplied by receiving country

• Clearing account arrangements
– Process to settle trading account within
specified time

21-16


Industrial Cooperation
• An exporter’s commitment to a longerterm relationship than that in a simple
export sale, in which some of the
production occurs in the receiving
country (five methods)
– Joint Venture

– Coproduction and specialization
– Subcontracting
– Licensing
– Turnkey plants
21-17


Taxation and Transfer Pricing
• Income tax
– Direct tax levied on earnings

• Value-added tax (VAT)
– Indirect tax collected from parties as they
add value to product

• Withholding tax
– Indirect tax paid by payor, usually on
passive income

21-18


Taxation and Transfer Pricing

• Transfer Price
– The cost of intracompany sale of goods or
services

21-19

International Accounting
• Accounting and Foreign Currency
– Consolidation
• Process of translating subsidiary results
and aggregating them into one financial
report
– Functional Currency
• Primary currency of a business

21-20


Cultural Differences in Measurement and
Disclosure for Accounting Systems

21-21


Convergence of Accounting
Standards
• Financial Accounting Standards Board
(FASB)
– U.S. Generally Accepted Accounting
Principles (U.S.GAAP)

• International Accounting Standards
Board (IASB)
– International Financial Reporting Standards
(IFRS)

21-22


Use of International Financial
Reporting Standards

21-23


Triple Bottom-Line Accounting
• 3BL
– A results or impact report on the
environmental, social, and financial impacts
of the business

21-24