Lecture Multinational financial management: Lecture 14 - Dr. Umara Noreen

Lecture

14

Multinational Capital Budgeting


Chapter Objectives


To compare the capital budgeting
analysis of an MNC’s subsidiary with that
of its parent;



To demonstrate how multinational capital
budgeting can be applied to determine
whether an international project should be
implemented; and



To explain how the risk of international
projects can be assessed.
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Subsidiary versus Parent
Perspective
• Should the capital budgeting for a multinational project be conducted from the

viewpoint of the subsidiary that will
administer the project, or the parent that
will provide most of the financing?

• The results may vary with the perspective
taken because the net after-tax cash
inflows to the parent can differ
substantially from those to the subsidiary.
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Subsidiary versus Parent
Perspective
• Such differences can be due to:
¤

Tax differentials
What is the tax rate on remitted funds?

¤

Regulations that restrict remittances

¤

Excessive remittances
The parent may charge its subsidiary very
high administrative fees.

¤

Exchange rate movements
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Remitting Subsidiary Earnings to the Parent
Cash Flows Generated by Subsidiary

Corporate Taxes
Paid to Host
Government

After-Tax Cash Flows to Subsidiary
Retained Earnings
by Subsidiary
Cash Flows Remitted by Subsidiary
After-Tax Cash Flows Remitted by Subsidiary

Withholding Tax
Paid to Host
Government

Conversion of Funds
to Parent’s Currency
Cash Flows to Parent
Parent
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Subsidiary versus Parent

Perspective
• A parent’s perspective is appropriate
when evaluating a project, since any
project that can create a positive net
present value for the parent should
enhance the firm’s value.

• However, one exception to this rule
occurs when the foreign subsidiary is not
wholly owned by the parent.
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Input for Multinational
Capital Budgeting
The following forecasts are usually required:
1.
2.
3.
4.
5.
6.
7.

Initial investment
Consumer demand over time
Product price over time
Variable cost over time
Fixed cost over time
Project lifetime

Salvage (liquidation) value
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Input for Multinational
Capital Budgeting
The following forecasts are usually required:
8.
9.
10.
11.

Restrictions on fund transfers
Tax payments and credits
Exchange rates
Required rate of return

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Multinational
Capital Budgeting
• Capital budgeting is necessary for all
long-term projects that deserve
consideration.

• One common method of performing the
analysis involves estimating the cash
flows and salvage value to be received by
the parent, and then computing the net

present value (NPV) of the project.
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Multinational
Capital Budgeting
• NPV = – initial outlay
n

+
t =1

+

cash flow in period t
(1 + k )t

salvage value

(1 + k )n
k = the required rate of return on the project
n = project lifetime in terms of periods

• If NPV > 0, the project can be accepted.
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• Source: Adopted from SouthWestern/Thomson Learning © 2006

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