LITERATURE REVIEW ON MULTINATIONAL COST OF CAPITAL

By
Students Name

Course
Tutor
Institution
Department

Literature review on Multinational Cost of Capital

Introduction
The paper analyses current evolutions in the structures that deal with
principal architectures and the outlay of capital for the multinational
enterprise. The paper addresses different issues that predicate upon the
funding resolutions of the multinational organizations that relate to the
underpinning speculative as well as experimental questions in respect to
the level of segregation or integration of global finance, principal market
and the effectiveness of the legal tender exchange market. The objective
of the paper is to investigate the principal orientation and value of
principal from some recent models that bear on the financing decision of a
multinational firm. Some of the questions that relate to principal
configuration include, is there a threshold principal outline of the
multinational company? Does subsidiary capital structure matter? Some of
the issues that relate to cost of capital include, multi nationality effect on
the parent cost of equity.
The effect of debt financing decision on the multinational firm cost of
capital. The paper will concern itself with the contribution of individual
studies in its literature review to come up with formidable solutions in the
financial policy of a multinational firm as well as realism and relevance of
the models in the theoretical constructs.
Marjorie (1981, p. 10) asserts that the Modigliani-Miller framework
addresses the question of capital structure and the valuation of the
multinational firm. Abstracting from corporate income taxes begins a
world where companies make physical investment and finance within a
2

single capital market while portfolio investors are free to make

investments in different national capital markets.
Literature Review
Marjorie questions whether a firm has similar threat category in two
diverse countrywide asset markets. The author concludes that, in a world
where legal tender is exchangeable into other forms at shifting charges
and varying scales, claimants to the tentative earnings stream of far-off
enterprises face exchange risks that result in risk/return liaisons in the
firm's domestic providers. The author argues that arbitrage process
eliminates a disparity in funding charges linked with currency rate and
repatriation threats. The result will facilitate a business to invest, as well
as finance in numerous nationwide capital markets to manipulate the cut
off pace that admits innovative capital ventures to alter its capital
composition given the condition that familial assortment patrons are not
the favoured borrowers in unfamiliar financial markets for M-M results to
hold for the multinational firm. Tax certainty of significant payment in
addition to the related repayment to the investors of the levered
enterprise when capitalized subject to favourable foreign charge provides
an inducement for the cosmopolitan company to issue liability to its
utmost debt frontier.
Marjorie (1981, p.11) suggests that the degrees of currency convertibility
and the changing exchange rates as a reason for the possible breakdown
of international arbitrage to redefine the risk classes. In similar literature,
inconvertibility seems to relegate a category of political risk excluded from
the financial models. Potential currency inconvertibility is a factor than can
3

likely influence the financial decisions of the firm and the security Investor
in ways relevant to the financial structure issue.
According to Brounen et al. (2006, p. 1402), the capital configuration
guidelines mentions the funding of business activities through securities.
The author develops a model that extends Modigliani and Miller that aims
to elaborate capital make-up resolutions of funding decisions rooted in the
speculative framework of inert trade-off conjectures of insolvency costs
and agency predicaments. In recent times, the pecking bid premise has
been established to be within the capital structure choices. Miller and
Modigliani conclude that, inconsequence under rigorous hypothesis in the
consequent work to numerous prospective accounts of capital
arrangement guidelines in the businesses.
Brouden et al. (2006, p. 1403) provides empirical literature that surveys
substantiation as to the capital configuration preference in four vast
European financial systems that include Germany, France, Holland and
The United Kingdom. Overall, the results display some fascinating models
in the capital organization options. The author documents remarkably low
discrepancies amid corporate debt policies athwart nations. The European
states sample is not in line with pecking-order theory since it supports
theory in countries. The persuasion of an excerpt on a reserve switch
provokes different dynamics on the significant public firms. The public
firms tend to time new issues based on their stock prices. The civic
organizations deem debt appropriate when it becomes an unappealing
capture objective while the management challenges do not bear any
relevance to the private companies. The stagnant trade-off conjecture
4

envisages a trade-off amid excise benefits and the of debt. Contingent

upon the theory, the companies steady valuable tax screens with
monetary distress rates that determine the proper quantity of commercial
liability. The companies running down the realms of the inert transaction
concept have an intended debt proportion.
The hierarchical replica of the funding ladder hypothesizes that firms
prefer internal financing, external funding, debt, than fairplay. The scale of
asymmetrical knowledge dictates comparative rates of every source of
funding. Companies which conform to the hierarchical bid do not boast an
objective debt proportion given that the biding determines their
inclination concerning the effusion of unique resources.
De Jong et al. (2008) analyze the significance of enterprise and nationspecific features across businesses emanating from 42 countries globally.
The scrutiny depicts that enterprise-explicit markers of influence are at
variance across countries as past investigations envision identical
implications of the markers. The authors agree that conventional direct
effect firms illustrate an oblique consequence since nation-particular
aspects affect the functions of enterprise-detailed markers of influence.
Prior research finds that a company's capital structure affects countryspecific factors. De Jong and others demonstrate that nation-specific ways
either directly or indirectly.
Chkir(2001, p. 17) scrutinizes the relationship among the capital
configurations of transnational conglomerates(MNCs) together with their
variegated strategy. Both multi-nation operations and multi-enterprise
operations facets of variegation integrate into the examination and the
5

ever-changing systems to pursue MNCs. The orientation specifies four

sorts of diversification schemes to imply that influence appreciates in
global, as well as merchandise diversification that result in low echelons of
liquidation threats. The function of the capital orientation is dependent
upon the diversification approach. Productivity and insolvency threats
harmfully relates with the liability proportions of MNCs.
Chikir (2001, p. 18) argues that global diversification of income enables
transnational enterprises (MNCs) that can uphold a high threshold of
liability than familial companies that do not necessarily increase the
default risk. Empirical evidence implies that the consequences of elevated
organizational cost of MNCs liabilities lead to the labor market and
international capital imperfections, a large proportion of intangible assets,
and complexity of international operations. The author compares the
liability proportions with a model of MNCs and DCs that consists all
enterprises that pursue comparable diversification methodologies. Each
multinational has distinct foreign subsidiary.
The fact that MNCs follow a twofold strategy of global and merchandise
diversification implies a non-linear relationship between liability
proportions and the level of global diverseness of MNCs depending on the
scheme of diversification the consequences of bureau outlays, the internal
contextual aspects include political risk, and foreign exchange on the
liability strategy of MNC varies according to the diversification approach.
According to Chikir (2001, p. 21), MNCs employ minimal control compared
to DCs during which the debt proportions of MNCs appreciate with the
level of far-off participation. The non-conformity explains a blend of
6

contrasting effects of the two facets of diverseness on the indicators of

the asset composition.
Mittoo and Zhang evidences that Canadian MNCs display high leverages
than DCs. The elevated leverage is as a result of low organizational
outlays of debts linked with MNCs operating in America than in access
have a high influence contrasted to businesses without such admittance.
The comparison with United States matched sample illustrates sensitivity
of force for organization-definitive factors in the two nations. The author
states that the pecuniary conjecture forecasts that MNCs should have an
elevated leverage contrasted with DCs since they have large size,
elevated reach to global principal markets, and lower cash volatility. Other
studies display a contrarily prediction since they find that United States
MNCs exhibit low liability proportions compared to the domestic
enterprises. Researchers such as De jong and Nguyen (2008, p. 1955)
offers reasons for such phenomenon while there is no agreement about
the aspects that coerce the mystifying evidence of the case of the United
States. Mittoo and Zhang dissect the capital composition of the Canadian
MNCs within the period of 1998 to 2002. A variety of new studies display
that nation-distinctive factors have a strong influence on the firm's
principal outlay. The influence is more mention for MNCs since they focus
on institutional settings at both domestic level and the host nations. The
Canada-United States comparison is appealing since both countries have
comparable organizational and regulatory frameworks while every nation
possesses distinct attributes. Canada and the United States share the
English basic-law provisions, the same heights of shareholder security that
7

intimately integrate principal market regulation as well as the accounting

disclosure requirements.
Deesomsak et al. (2004, p. 387) argues that the Multifaceted jurisdictional
expos scheme (MJDS) that began in 1991 permits massive Canadian
corporations to contact United States capital markets that use Canadian
exposs. Canadian businesses entail a large conglomerate of foreign
catalogues on the United States connections that elevate the debt capital
markets. The difference between Canadian multinationals from United
States peers is the international orientation where MNCs focus on high
percentages of their dealings in America.
Singh and Nejadmaleyeri (2004, p. 153) examines the relationship
between their personage and interactive connotations of liability and
fairplay of a variety of French organizations. The authors document a
positive association between internal diversification and higher enduring
liability proportions. The indications suggest that a non-conforming Ushape affiliation of short-term liability funding.
Greene et al. 2009, p.705) observe that the international diversified
enterprises sustain superior thresholds of debt funding which
unswervingly lead to a drop in the entire rate of principal while having
elevated equity threat. Even after domineering the results of the scale and
the composition of investment risk, asset structure, composition of debt
financing, as well as the greater extent of global diversification leads to
low cost of capital. Other than phenomenon, growth in the theory of
money no sole hypothetically predicted association between different
lifecycle stages attributes, symphony, and the level of funding leverage
8

and consequential cost of principal. The MNCs financial structure espouses

minimal liability in the principal configuration as compared to the DCs.
Recent evidence suggests that MNCs bear more liability compared to DCs
in their rate of liability funding. The present argument dwells on resolving
the issue as to why MNCs carry less debt than a minimal price of liability
funding. Different scholars studies on the issue which relates the worth of
rectitude to the global diverseness whereas recently the research on the
association between cost of liability capital, as well as internal
diverseness.
Doukas and Pantzalis (2003, p. 60) aims to investigate the subject by
researching a firm weighted average cost of principal in distinction to the
value of debt or charge of equity. The scheme of global diverseness and
the principal make-up of MNCs and DCs help to analyze the individual
price of principal or the value of liability. The findings of the author imply
that an elevated degree of global diverseness will certainly associate with
high cumulative and enduring U-shape relationship between and shortterm debt financing. International integrated firms anchor elevated level
of liability funding that directly leads to a decimation of the cumulative
price tag of principal while there is a high level of equity threat levels as
predicated through beta. The proof point to the fact that after
domineering the outcomes of the financing, the higher level of global
diverseness leads to minimal liability and equity hence the value of
principal.
The author suggests that higher global goings-on result into minimal
threats due to the merits of diversification to the liability proprietors whilst
9

they concurrently increase risk of equity principal as a result the swaprate fluctuation risks precise to the global dealings. Elevated liability
funding is a suitable scheme to reduce the value of liability. The elevated
influence can augment the value of equity that will counteract the profit of
appreciated control that result in a high augmented price of principal. The
international diversification can lead to the alterations in the proportions
of unpredictability.
Conclusion
In summary, the question of the extent and degree of international market
integration is a crucial factor that researchers attempt to address.
Researchers attest to the reality that if the money markets are ideal,
multinational enterprises do nothing for the shareholders that they could
actualise on their own. If markets do not have international integrated and
efficient domestic market, the multinationals will not have a valuable
function. Most of the authors in the literature review attest to the fact that
high standard proceeds for the multinational corporations are greater than
the standard proceeds of familial firms while they have considerable low
betas. That ideology suggests that some economies achieve success
through international diversification. For that reason, the allotment of
ways of haphazard risk was considerably lesser for the transnational
enterprises than the familial enterprises to support the notion that
shareholders recognize continental conglomerates as to provide notable
diversification profits. The use of a domestic market index leads to a
significant superior performance of the multinational firms than the
domestic firms. Multinational firms assist the investors to perceive
10

diversification benefits of shares. United States investors recognize the

international composition of the multinationals.
The capital flows may have a lower cost of barriers than the portfolio flows
of individual investors. Different authors in the literature review are of the
opinion that international assortment certainly connected to enduring
liability proportions. The result shows that businesses with higher
internalization exhibit an elevated degree of international diversification
and short-term debt financing depicts intercontinental diversification and
constitutional fiscal schemes. Globally diversified businesses support
higher level of debt financing which unswervingly result to a diminution
other than soaring equity threat levels delegated by beta. These findings
reflect the phenomenon of MNCs using superior foreign legal tender that
denominates liability as a prevarication tool not to increase the
percentage of cumulative liability investments and reduce the general
outlay of pecuniary resources.

11

12

Bibliography

Bishnoi, R 2012, 'Comparative Relationship Between Cost Of Equity

Capital And Leverage

In Matched Sets Of Multinational Corporations And

U.S. Domestic Firms', Journal Of Financial Management & Analysis, 25(1),

pp. 75-84.
Boubakri, N, Guedhami, O, Mishra, D, and Saffar, W 2012, 'Political
connections and the

cost of equity capital', Journal Of Corporate

Finance, 18(3), pp. 541-559.

Brounen, D, de Jong, A, and Koedijk, K 2006, 'Capital structure policies in Europe: Survey
evidence', Journal Of Banking & Finance, 30(5), pp. 1409-1442.
Chang, C, Lee, A, and Lee, C 2009, 'Determinants of capital structure
choice: A structural

equation modeling approach', Quarterly Review Of

Economics & Finance, 49(2), pp.

197-213.

Cheng, S, & Shiu, C 2007, 'Investor protection and capital structure:

International evidence',

Journal Of Multinational Financial

Management, 17(1), pp. 30-44.

Chkir, I 2001, Diversification strategy, and capital structure of multinational corporations
Da, Z, Guo, R, and Jagannathan, R 2012, 'CAPM for estimating the cost of equity capital:
Interpreting the empirical evidence', Journal Of Financial Economics, 103(1), pp.
204-220.

13

De Jong, A, Kabir, R, and Nguyen, T 2008, 'Capital structure around the

world: The roles of

firm- and country-specific determinants', Journal

Of Banking & Finance, 32(9), pp.

1954-1969.

Deesomsak, R, Paudyal, K, and Pescetto, G 2004, 'The determinants of capital structure:

evidence from the Asia Pacific region', Journal Of Multinational Financial
Management, 14(4-5), pp. 387-405.
Doukas, J, and Pantzalis, C 2003, 'Geographic diversification and agency
costs of debt of

multinational firms', Journal Of Corporate Finance, 9(1),

pp. 59-92.
Duc Hung, T 2014, 'Multiple corporate governance attributes and the cost of capital Evidence from Germany', British Accounting Review, 46(2), pp. 179-197.
El Hedi Arouri, M, Rault, C, Sova, A, Sova, R, and Teulon, F 2013, 'Market structure and the
cost of capital', Economic Modelling, 31, pp. 664-671.
Finance, 11(1), pp. 17-37.
Greene, W, Hornstein, A, & White, L 2009, 'Multinationals do it better:
Evidence on the efficiency of corporations' capital budgeting', Journal Of
Empirical Finance, 16(5),

pp. 703-720.

Hearn, B, Piesse, J, and Strange, R 2012, 'Islamic finance and market segmentation:
Implications for the cost of capital', International Business Review, 21(1), pp. 102113.
Hou, K, van Dijk, M, and Zhang, Y 2012, 'The implied cost of capital: A new approach',
Journal Of Accounting & Economics, 53(3,) pp. 504-526,
Huang, G, and Song, FM 2006, 'The determinants of capital structure: Evidence from China',
China Economic Review (1043951X), 17(1), pp. 14-36.

14

Karpaviius, S 2014, 'The cost of capital and optimal financing policy in a

dynamic setting', Journal Of Banking & Finance, 48, pp. 42-56.
Mahajan, A, and Tartaroglu, S 2008, 'Equity market timing and capital
structure:

International evidence', Journal Of Banking & Finance, 32(5),

pp. 754-766.
Marjorie, T.S., 1981. Capital structure and cost-of-capital for the multinational firm.
Journal of International Business Studies (pre-1986), 12(000001), pp. 10-121.
Mittoo, U, and Zhang, Z 2008, 'the capital structure of multinational
corporations: Canadian versus U.S. evidence', Journal Of Corporate
Finance, 14(5), pp. 706-720.
Singh, K, and Hodder, J 2000, 'Multinational capital structure and financial flexibility',
Journal Of International Money & Finance, 19(6), p. 853.
Singh, M, and Nejadmalayeri, A 2004, 'Internationalization, capital structure, and cost of
capital: evidence from French corporations', Journal Of Multinational Financial
Management, 14(2), pp. 153-169.
Vasiliou, D, and Daskalakis, N 2009, 'Institutional characteristics and
capital structure: A

cross-national comparison', Global Finance Journal,

19(3), pp. 286-306.

Venter, P, Wright, A, and Dibb, S 2015, 'Performing market segmentation: a performative
perspective', Journal Of Marketing Management, 31(1/2), pp. 62-83.
Wang, Z, and Mathur, I 2011, 'Return on capital analysis: U.S.-based multinational
corporations versus U.S. domestic corporations', Journal Of Multinational Financial
Management, 21(4), pp. 191-207.

15