who am i?aesc 210 –global systems | butler –international finance capitalism and finance...


◦ Director, Education Abroad, Coll. of Business

◦ Faculty leader: Argentina (1), Brazil (3), Chile (1), China (3), Czech Republic (2), Hungary (2), Slovakia (2), S. Africa (2), S. Korea (3)

◦ Visiting Prof., Augsburg Universität, Germany

◦ Visiting Prof., University of Michigan, Ann Arbor

Where have I been?


The only trouble with going abroad

is that you have to leave

home to do it.

Anon

Global Systems


Global economics:International/corporate finance

by Kirt C. Butler, Department of Finance

Learning objectives

� The domain of finance

� Corporate governance

� Market entry decisions

� Investment decisions and NPV

Ethical environmental behavior

Global Systems


International BusinessIs both international &&&& business

Global Systems


Capitalism and finance

– Capitalism is an economic system in which trade, industry, and the means of production are controlled by private owners with the goal of making profits in a market economy. (Wikipedia)

– Finance provides a framework for evaluating the opportunities, costs and risks of the firm’s investments, including their financing and operation. (Butler, Multinational Finance, 6e)

The domain of finance


The objective of the firm is commonly stated as “maximize shareholder wealth”

This is not the same as “profit maximization”

◦ Profits are not the same as cash flows◦ We can’t ignore the riskiness of cash flows◦ Value depends on current and future cash flows

Of course, managers also look out for their own personal interests…



Investment strategy- Should we develop a new product or service?

- Should we enter country X or technology Y?

- How fast should the firm grow?

Financial strategy- How do we raise money for our investments?

Management strategy- Where should we source our inputs to production?

- Should we invest in that new IT system?

- How should we compensate managers, engineers…



In business, finance can help you…- persuade top management to fund a development project, refurbish a plant floor, introduce a marketing campaign, or invest in a new IT system

- acquire funds to start your own business

In your personal life, finance can help you…- make a lease-vs-buy decision on that new Corvette

- decide how-and-when to refinance your mortgage

- help you plan for and respond to life’s contingencies

- help you wisely invest your savings & plan for retirement

- avoid common financial mistakes

What Finance can do for you…


AssetsLiabilities

Owners’

equity

Balance Sheet Income statement

Revenues

- Operating expenses

- Depreciation

- Interest expense

-Taxes

Net income

Cash flows

= Cash inflows

– cash outflows

Depreciation isn’t a cash flow, but it does decrease taxes

Corporate governance


Board of Directors

Management

Share-

holders

Debt

Assets

Equity

Corporate governance refers to the way in which stakeholders exert control over the firm



Managers have many other stakeholders in addition to shareholders

- debtholders

- employees

- customers

- suppliers

- communities

- the Earth and its many inhabitants

Corporate governance systems in various countries place different emphases on these various stakeholders



The gentle reader will never, never know what a consummate ass

he can become,

until he goes abroad.

Mark Twain

Market entry decisions


Business risk Multinational business risk

Domestic business risk

Knowledge of the foreign market or country

Familiarity with a foreign market is useful in the market entry decision



Listen up, my Cossack brethren.

We’ll ride into the valley like the wind,

the thunder of our horses and

the lightning of our steel striking fear

in the hearts of our enemies!

...And remember –

stay out of Mrs. Caldwell’s garden.

Gary Larsen, The Far Side


globaledge.msu.edu


Country risk is the risk that the business environment in a host country will change unexpectedly

– Political risk is the risk that a host government will unexpectedly change the rules of the game under which businesses operate

– Financial risk refers more generally to unexpected events in a country’s financial, economic, or business life




Source: www.coface-usa.com


Intellectual property rights

– A patent is a government-approved right to make, use, or sell an invention for a period of time.

- First-to-invent (USA) v first-to-file (e.g., Japan)

– A copyright prohibits the unauthorized reproduction of a creative work.

– A trademark is a distinctive name, word, symbol, or device used to distinguish a company’s goods or services.

– A trade secret is an idea, process, formula, device, technique, or information that a company uses to its advantage.



Ways to limit exposures to loss

– Find the right partner

Develop and nurture your relationships

– Limit your exposure

Limit the scope of technology transfer, only use assets near the end of their life cycle or with limited growth options, trade one technology for another…

– Negotiate the investment & financial environmentTaxes, labor issues, access to markets, obligations & restrictions, performance assurances & remedies, arbitration of disputes



Basic principle of investment decision making

An investment is worth undertaking only if it is at least

as desirable as financial market alternatives

Net present value (NPV)

1. Identify the size & timing of all relevant cash flows

2. Identify the risk and hence the discount rate

appropriate for the cash flow stream

3. Calculate the net present value by discounting

the expected cash flows at the appropriate

discount rate

Investment decisions and NPV


It is the theory that determines

what can be observed.

Albert Einstein



Rule 1 Rule 1 Rule 1 Rule 1 –––– Only cash is relevantOnly cash is relevantOnly cash is relevantOnly cash is relevant

Profits are only useful if they are in cash

Rule 2 Rule 2 Rule 2 Rule 2 –––– Identify (only) cash flows that changeIdentify (only) cash flows that changeIdentify (only) cash flows that changeIdentify (only) cash flows that change

Incremental cash flow = (Alternative – Base)

Include anything – and everything – that changes

- First, identify a base case as a starting point

This often is ‘do nothing’, but we might be replacing an existing program

- Then, assess alternatives relative to the base case

Incremental cash flows associated with alternatives are estimated relative to the base case



Toolkit: Compounding

Suppose we invest PV = $100 at r = 10% for t = 2 years

Future value = $100 x 1.10 x 1.10

= $100 x (1.10)2 = $121

or FV = PV (1+r)t

$100 $121

0 1 2


$110


Toolkit: Discounting

Suppose we are to receive FV = $100 in t = 2 years & the required return is r = 10% per year

Present value = $121/ (1.10)2

= $100

or PV = FV / (1+i)t

$100 $121

0 1 2



NPV0 = C1 / (1+r) + C2 / (1+r)2 + …

= St E[Ct ] / (1+r )t

C0

C1 C2 C3

The general form of net present value


r

The discount rate r should be the same as that on a similar-

risk asset in the financial market


To get anywhere, or even to live a long time,

a man has to guess, and guess right,

over and over again, without enough data

for a logical answer.

Robert Heinlein, Time Enough for Love



Praxair example

Suppose Praxair, Inc. estimates the cash flows from the construction and operation of a cryogenic air separation system as follows:

Praxair requires a return of 15% on its investment.

1

0

2

+$100,000

-$200,000

+$120,000


+$80,000

3



Required return = 15%

Time 0 1 2 3

Cash flow (150,000) 100,000 120,000 80,000

PV(CF) (150,000) 86,957 90,737 52,601

Project value 80,295 => accept

Praxair example

Spreadsheet valuation


Inputs to this decision must be estimated, and can be negotiable or managed

Revenue = price * quantity

Variable costs include labor and materials

Fixed costs include administrative overhead

Taxes often are negotiable, especially in international markets


Year 1

Revenues 900,000

- Variable costs (400,000)

- Fixed costs (375,000)

Taxable income 125,000

- Taxes (20%) (25,000)

Net income 100,000


Always do right.

This will gratify some people

and astonish the rest.

Mark Twain



Capitalism

– Capitalism is an economic system in which trade, industry, and the means of production are controlled by private owners with the goal of making profits in a market economy.

Central characteristics of capitalism include capital accumulation, competitive markets, and wage labor.”

Wikipedia



Public goods are not private goods(thank goodness)

– A public good is one “which all enjoy in common in the sense that each individual's consumption of such a good leads to no subtractions from any other individual's consumption of that good...”

Paul Samuelson

– Air, water, national defense, personal safety, …



How can environmental protection laws and regulations protect the environment while promoting the competitiveness of industry?

How do you weigh the competing demands of environmental protection and economic competitiveness?

Can international agreements on the environment level the playing field?

– Are such agreements enforceable?

– Are they even feasible?



I get up every morning determined

to both change the world and

have one hell of a good time.

Sometimes this makes

planning my day difficult.

E.B. White


who am i?aesc 210 –global systems | butler –international finance capitalism and finance...

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