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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