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intern
at
ionalbu
sin
ess,
5th
editio n
chapter 18international financial
management
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18-2
Chapter Objectives 1
Analyze the advantages anddisadvantages of the major forms ofpayment in international trade
Identify the primary types of foreign-exchange risk faced by internationalbusinesses
Describe the techniques used by firms tomanage their working capital
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Chapter Objectives 2
Evaluate the various capital budgeting
techniques used for international
investments Discuss the primary sources of
investment capital available to
international businesses
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Financial Issues inInternational Trade
Which currency to use for the
transaction
When and how to check credit
Which form of payment to use
How to arrange financing
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Method of Payment
Payment in
advance
Open account
Documentary
collection
Letters of credit
Credit cards
Countertrade
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Forms of Drafts Used withDocumentary Collection
Sight
draft
Time
draft
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Advantages/Disadvantages ofDocumentary Collection
Advantages
Reasonable fees
Enforceable debtinstrument
Simple collections
process Prompt payments
Disadvantages
Refusal of
shipments Decline draft
acceptance
Potential for default
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Figure 18.1 Using a Sight Draft
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Documentation forLetters of Credit
Export
licenses
Certificates of
product origin
Inspection
certificates
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Types of Letters of Credit
Advised letter of credit
Confirmed letter of credit
Irrevocable letter of credit
Revocable letter of credit
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Figure 18.2 Using aLetter of Credit
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Forms of Countertrade
Barter
Buy-back
Offset purchase
Counterpurchase
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Map 18.1 Countertrade by Marc Rich
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Foreign-Exchange Exposure
Transaction
exposure
Translation
exposure
Economic
exposure
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Transaction Exposure
A firm faces transaction exposurewhen the financial benefits and costs
of an international transaction can beaffected by exchange rate
movements that occur after the firm is
legally obligated to complete thetransaction.
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Transactions Leading toTransaction Exposure
Product purchases Product sales
Credit extensions Money borrowing
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Options for Responding toTransaction Exposure
Go naked
Buy forward currency
Buy currency option
Acquire an offsetting asset
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Go Naked
To go naked is toignore transactionexposure and assumeforeign-exchange risk.
Characteristics
Does not requireadvance capital
Offers potential forcurrency appreciation
Creates risk fordepreciation ofexchange currency
Avoids fees tointermediaries
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Buy Forward Currency
Buying the exchangecurrency forward in theforeign-exchange marketlocks in the price to be
paid.
Characteristics
Guarantees price
Protects against decline
in value of currency
No capital up front
Eliminates potential forprofits associated withcurrency appreciation
Requires fees tointermediaries
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Buy Currency Option
Buying currency optionsgives buyer theopportunity, but not theobligation to buy currency
at a given price in thefuture.
Characteristics
Guarantees price
May exercise option or
let it expire dependingupon currency values
More expensive thanother hedging choices
Allows for appreciation
benefits while avoidingrisk of depreciation
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Acquire an Offsetting Asset
Acquiring an offsetting
asset of equivalent
size denominated in
purchase currencyeliminates net
transaction exposure.
Characteristics
Eliminates exposure
Requires effort andexpense to arrange
transaction
Lost opportunity for
capital gain if homecurrency appreciates
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Political uncertainty can affecttransaction exposure.
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Translation Exposure
Translation exposure is the impacton the firms consolidated financial
statements of fluctuations inexchange rates that change the
value of foreign subsidiaries as
measured in the parents currency.
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Economic Exposure
Economic exposure is theimpact on the value of a
firms operations ofunanticipated exchange rate
changes.
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Map 18.3 Changes in CurrencyValues Relative to the U.S. $
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Corporate Financial Goals
Minimize working-capital balances
Minimize foreign-exchange risk
Minimize currency conversion costs
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Figure 18.3Payment Flows without Netting
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Minimizing Currency Conversion Costs
Bilateral
netting
Multilateral
netting
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Evaluating Investment Projects
Net
present value
Payback
period
Internal
rate of return
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Using the Net Present Value Approach
Risk adjustment
Choice of currency
Perspective
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Figure 18.4 Internal Sources of Capital
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External Sources of Funding
Investment bankers
Sale of stock
Loans
Swaps