Whats Special about International Finance?

Goals for International Financial Management

Globalization of the World Economy
Multinational Corporations
Summary
Chapter One Outline


Why study International Finance?
We are now living in highly integrated and
globalized world economy
Continued Liberalization of international trade is
certain to further lnternationalize consumption
patterns
MNCs have played their due role in
internationalization by moving production of
goods and services in the international markets
Financial markets also have become integrated
and globalized




Whats Special about
International Finance?
Financial management in concerned with how to
optimally make financial decisions to achieve
corporate objectives.
Foreign Exchange Risk
Political Risk
Market Imperfections
Expanded Opportunity Set


Whats Special about
International Finance?
Foreign Exchange Risk
The risk that foreign currency profits may evaporate in
dollar terms due to unanticipated unfavorable exchange
rate movements.
Political Risk
Sovereign governments have the right to regulate the
movement of goods, capital, and people across their
borders. These laws sometimes change in unexpected
ways. MNCs should be aware of the political risk when
investing in countries w/o tradition of rule of law.


Market Imperfections
Legal restrictions on movement of goods,
people, and money
Transactions costs
Shipping costs
Tax arbitrage
All these imperfections will affect MNCs to
locate production overseas.
Whats Special about
International Finance?


Nestl used to issue two different classes of
common stock bearer shares and registered
shares.
Foreigners were only allowed to buy bearer shares.
Swiss citizens could buy registered shares.(voting diff.)
The bearer stock was more expensive.
On November 18, 1988, Nestl lifted restrictions
imposed on foreigners, allowing them to hold
registered shares as well as bearer shares
Nestles Example of Market
Imperfection


Nestles Example of Market
Imperfection

12,000
10,000
8,000
6,000
4,000
2,000
0
11 20 31 9 18 24
Source: Financial Times, November 26, 1988 p.1. Adapted with permission.
S
F

Bearer share
Registered share


Nestles Example of Market
Imperfection
Following this, the price spread between the two
types of shares narrowed dramatically.
This implies that there was a major transfer of wealth
from foreign shareholders to Swiss shareholders.
Foreigners holding Nestl bearer shares were
exposed to political risk in a country that is widely
viewed as a haven from such risk.
The Nestl episode illustrates both the importance
of considering market imperfections and the peril
of political risk.


Expanded Opportunity Set
Firms can locate production in any country or region of
the world to maximize their performance and raise
funds in any capital market where the cost of capital is
the lowest .
They also benefit from greater economies of scale.
It doesnt make sense to play in only one corner of the
sandbox.
True for corporations as well as individual investors.
(International diversification)
Whats Special about
International Finance?


The focus of the text is to equip the reader with
the intellectual toolbox of an effective global
managerbut what goal should this effective
global manager be working toward?
Maximization of shareholder wealth?
or
Other Goals?
Goals for International Financial
Management


Maximize Shareholder Wealth
Long accepted as a goal in the Anglo-Saxon
countries, but complications arise.
Who are and where are the shareholders?
In what currency should we maximize their
wealth?


Other Goals
In other countries shareholders are viewed as merely one
among many stakeholders of the firm including:
Employees
Suppliers
Customers
In Japan, managers have typically sought to maximize the
value of the keiretsua family of firms to which the
individual firms belongs.


An Example of keiretsu
Namee Bank Major group companies
Mitsubishi
Mitsubishi Bank (until 1996)
Bank of Tokyo-
Mitsubishi(19962005)
Bank of Tokyo-Mitsubishi
UFJ (2006 )
Mitsubishi Corporation, Kirin
Brewery, Mitsubishi
Electric, Mitsubishi
Fuso, Mitsubishi
Motors, Nippon Yusen,Nippon
Oil, Tokio Marine and Fire
Insurance, Nikon, Mitsubishi
Chemical, Mitsubishi
Estate, Mitsubishi Heavy
Industries, Mitsubishi Rayon
Co., Ltd., Mitsubishi Materials
Corp., Mitsubishi Paper Mills
Ltd., Pacific Consultants
International Ltd.



Other Goals
As shown by a series of recent corporate scandals at
companies like Enron, WorldCom, and Parmalat, managers
may pursue their own private interests at the expense of
shareholders when they are not closely monitored.
These calamities have painfully reinforced the importance
of corporate governance i.e. the financial and legal
framework for regulating the relationship between a
firms management and its shareholders. (agency
problem)


Other Goals
These types of issues can be much more serious in
many other parts of the world, especially emerging
and transitional economies, such as Indonesia,
Korea, and Russia, where legal protection of
shareholders is weak or virtually non-existing.
No matter what the other goals, they cannot be
achieved in the long term if the maximization of
shareholder wealth is not given due consideration.




Globalization of the World Economy:
Recent Trends

Emergence of Globalized Financial Markets
Emergence of Euro as trade currency
Trade Liberalization and Economic Integration
Privatization



Deregulation of Financial Markets
coupled with
Advances in Technology
have greatly reduced information and
transactions costs, which has led to:
Financial Innovations, such as
Currency futures and options
Multi-currency bonds
Cross-border stock listings
International mutual funds
Emergence of Globalized
Financial Markets


Tokyo Stock Exchange(1985), LSE (1986) began admitting
foreign firms as full members to their capital markets.
Major changes allowed London to be the financial center
namely elimination of fixed brokerage commission etc.
Glass Steagall Act, in the USA, abolished restrictions on
commercial banks from investment banking activities.
Developing countries started to allow foreigners to directly
invest in their financial markets.
Technology allowed cross border listing, facilitating
international invesment at low cost. (order processing and
settlement internationally)
Emergence of Globalized
Financial Markets


Currently more than 300 million Europeans in 17
countries are using the common currency on a daily basis
since its advent in 1999.
Advent of Euro has resulted in EuroNext, continent wide
capital market comparable to US markets (depth, liquidity)
The adoption of Euro results in the countries shunning
their right to independent monetary policy, which are
formulated by European Central Bank.
The dominant global currency status of US$ conferred
special privileges such as ability to run trade deficits w/o
holding much FX reserves, no exchange risks will now
have to be shared with Euro, as its domain is increasing.
Emergence of Euro as Global Currency


Emergence of Euro as Global Currency


Economic Integration
Over the past 50 years, international trade
increased about twice as fast as world GDP.
There has been a sea change in the attitudes of
many of the worlds governments who have
abandoned mercantilist views and embraced free
trade as the surest route to prosperity for their
citizenry.


Liberalization of
Protectionist Legislation
The General Agreement on Tariffs and Trade (GATT) a
multilateral agreement among member countries has
reduced many barriers to trade.
WTO replaced GATT
The World Trade Organization has the power to enforce
the rules of international trade.
On January 1, 2005 the end of the era of quotas on
imported textiles ended.
This is an event of historic proportions (dimensions)


NAFTA
The North American Free Trade Agreement calls
for phasing out impediments (barriers) to trade
between Canada, Mexico and the United States
over a 15-year period beginning in 1994.
For Mexico, the ratio of export to GDP has
increased dramatically from 2.2% in 1973 to 29%
in 2006.
The increased trade has resulted in increased
numbers of jobs and a higher standard of living
for all member nations.


Privatization

The selling off state-run enterprises to investors is
also known as Denationalization.
Often seen in socialist economies in transition to
market economies.
By most estimates this increases the efficiency of
the enterprise.
Often spurs a tremendous increase in cross-border
investment.
Benefits: brings hard currency to pay debts +
increase in the productivity



Multinational Corporations

A firm that has incorporated on one country and
has production and sales operations in other
countries.
There are about 60,000 MNCs in the world.
Many MNCs obtain raw materials from one
nation, financial capital from another, produce
goods with labor and capital equipment in a third
country and sell their output in various other
national markets.


Top 10 MNCs
Find out!