INTERNATIONAL
CORPORATE FINANCE
2021-2022
Professor: James Thewissen
, Class 1 – Introduction and motivation
1. International finance or the existence of borders
Globalization
”What is the truest definition of globalization? Princess Diana’s death.”
“An English princess with an Egyptian boyfriend crashes in a French tunnel, driving a German car with a Dutch
engine, driven by a Belgian who was drunk on Scottish whisky, followed closely by Italian Paparazzi, on Japanese
motorcycles; treated by an American doctor, using Brazilian medicines.”
Borders still matter in finance
− Typical economic models: closed economy
o There are no interrelationships with the rest of the world.
− Today, we live and do business in a world with distinct countries more or less independent.
− Closed economy Global integrated entity
− The world is becoming increasingly globalized.
o Globalization: increasing connectivity and integration of countries and corporations and the people
within them in terms of their economic, political, and social activities.
o The international scope of business creates new opportunities for firms.
o Example: COVID-19
▪ What happened in China had an impact in Europe.
▪ The production is China was delayed, so Europe didn’t receive the goods.
▪ We used to travel from here to Spain without trouble. Today: PLF, PCR…
Growth of international trade
− 1960: only about 20% of countries were open to trade
o US, UK, Western Europe
o The world was dominated by the western culture. 10% of the world’s population has access to 80% of
the resources, while the rest of the world was underdeveloped.
− Early 1980s: belief in free markets leads to worldwide deregulation.
− 1990: fall of the Iron Curtain and trade liberalizations.
o Result: the world becomes more open.
− By 2000 more than 70% of countries are open to trade.
→ Result: growing trade flows between countries.
Globalisation of financial markets
Financial openness
In the 1980s many developed countries began liberalizing their capital markets. Countries allow foreigners to
invest in their capital markets and allow their citizens to invest abroad.
China: they are strict in what can come in and what can go out. Their currency is pretty fixed over time. This
means that everything that relates to their monetary policy needs to be under control.
Advantages for multinational corporations (MNC’s):
− Access to foreign capital
− Ability to reduce financing costs
Globalization and the MNC
Growing trade flows between countries = growing opportunities for MNC’s
MNC’s are moving their production capacity to underdeveloped countries, minimizing labor costs, and reexport
these goods to the west where they are sold.
1
International Corporate Finance: Class 1 – Introduction and motivation
,Result of globalization
Foreign Direct Investment (FDI)
Starting in the 1990s, it starts to substantially
increase. It follows more or less what the economy
is doing. The volume FDI substantially increases.
This means that there are more foreign investments
in the country. We need to deal with this, so we
need to know what the motives and risks of these
investments are.
Risks of investing abroad: currency fluctuations,
geopolitical instability, government regulations,
credit risk…
Result of globalisation
− Highly globalized and integrated world economy.
o Example: financial crisis in 2007 starting in the US housing market, leading to a global recession.
− Continued liberalization of international trade
− Globalized production
− Integrated financial markets
→ Important to understand the international setting in which firms are operating and how corporate financial
decisions are made. We need to include globalisation and the risks in our decision-making process.
Return/Risk in an international setting
− Multinational firms: operations beyond domestic national border.
− Risk and return opportunities outside the domestic market.
− How can we maximize the return on firm’s investment, given an acceptable level of risk?
o It is more difficult to estimate the risk of a foreign country.
2. Borders complicate the job of the CFO
The job of a CFO is much more difficult if you trade internationally then if you
are just trading in Belgium.
1. Existence of national currencies
→ Exchange rates and exchange risks
2. Segmentation of goods markets along national lines
3. Existence of separate judicial systems
2
International Corporate Finance: Class 1 – Introduction and motivation
, 4. Sovereign autonomy of countries
→ Political risk
5. Separate (incompatible?) tax systems
→ Double or triple taxation
Exchange rate risk
What is the impact of boarders on the potential profitability?
If you invest in the US and the currency depreciates substantially, then the investment also depreciates. How can
you estimate this? How do you know how the currency will evolve in the future?
You can’t predict exchange rates. You can develop models, but there are too many parameters you need to
introduce. The more parameters you introduce, the less accurate the model will be. They are totally
unpredictable. The best estimate for tomorrow is the rate of today. If you predict it, it’s worse than just taking
todays exchange rate.
What do you need to do as an investor? You are going to hedge, to protect the investment. You need to protect
yourself from changes in the exchange rate.
Why do most countries have their own money?
− Printing bank notes is a positive NPV activity.
o If you print your own money, you make money out of it. This is called seignorage.
− National pride: Pound, Danes
− The monetary policy is tailored to the local situation.
Definition
The exchange-rate risk is the uncertainty about the value of an asset or liability and is denominated in a foreign
currency.
Segmentation of consumer-goods markets
3 key features of prices
− Prices are not homogeneous internationally, even if labelled into a common currency.
o How are the prices set internationally?
o The law of one price: basis of the theories we’re going to introduce later.
▪ What is the point of a theory? They are never right. You need to defend assumptions that do never
hold in reality. The point is to have a basis, to understand things. They are there to help us to
understand things better.
o Purchasing-power parity (PPP)
▪ You need to look at what you can buy with the money you get. It can seem as if you make a lot
more in Switzerland, but the products are more expensive there.
o Short term vs long term
o Common feature: prices rise with GDP per capita
− Within a country: prices are more homogeneous
− Sticky prices (price elasticity)
o Prices don’t adjust immediately to exchange rates.
Short-run exchange rate fluctuations
− This has little to do with the international prices in the countries involved.
− Appreciation of a currency does not lead to falling prices abroad or soaring prices at home to keep good
prices similar in both countries.
− However, two main consequences:
o Affects the competitiveness and attractiveness of a country on the export or import market.
o 2 How do you value investments? Cfr. capital budgeting decisions
3
International Corporate Finance: Class 1 – Introduction and motivation
CORPORATE FINANCE
2021-2022
Professor: James Thewissen
, Class 1 – Introduction and motivation
1. International finance or the existence of borders
Globalization
”What is the truest definition of globalization? Princess Diana’s death.”
“An English princess with an Egyptian boyfriend crashes in a French tunnel, driving a German car with a Dutch
engine, driven by a Belgian who was drunk on Scottish whisky, followed closely by Italian Paparazzi, on Japanese
motorcycles; treated by an American doctor, using Brazilian medicines.”
Borders still matter in finance
− Typical economic models: closed economy
o There are no interrelationships with the rest of the world.
− Today, we live and do business in a world with distinct countries more or less independent.
− Closed economy Global integrated entity
− The world is becoming increasingly globalized.
o Globalization: increasing connectivity and integration of countries and corporations and the people
within them in terms of their economic, political, and social activities.
o The international scope of business creates new opportunities for firms.
o Example: COVID-19
▪ What happened in China had an impact in Europe.
▪ The production is China was delayed, so Europe didn’t receive the goods.
▪ We used to travel from here to Spain without trouble. Today: PLF, PCR…
Growth of international trade
− 1960: only about 20% of countries were open to trade
o US, UK, Western Europe
o The world was dominated by the western culture. 10% of the world’s population has access to 80% of
the resources, while the rest of the world was underdeveloped.
− Early 1980s: belief in free markets leads to worldwide deregulation.
− 1990: fall of the Iron Curtain and trade liberalizations.
o Result: the world becomes more open.
− By 2000 more than 70% of countries are open to trade.
→ Result: growing trade flows between countries.
Globalisation of financial markets
Financial openness
In the 1980s many developed countries began liberalizing their capital markets. Countries allow foreigners to
invest in their capital markets and allow their citizens to invest abroad.
China: they are strict in what can come in and what can go out. Their currency is pretty fixed over time. This
means that everything that relates to their monetary policy needs to be under control.
Advantages for multinational corporations (MNC’s):
− Access to foreign capital
− Ability to reduce financing costs
Globalization and the MNC
Growing trade flows between countries = growing opportunities for MNC’s
MNC’s are moving their production capacity to underdeveloped countries, minimizing labor costs, and reexport
these goods to the west where they are sold.
1
International Corporate Finance: Class 1 – Introduction and motivation
,Result of globalization
Foreign Direct Investment (FDI)
Starting in the 1990s, it starts to substantially
increase. It follows more or less what the economy
is doing. The volume FDI substantially increases.
This means that there are more foreign investments
in the country. We need to deal with this, so we
need to know what the motives and risks of these
investments are.
Risks of investing abroad: currency fluctuations,
geopolitical instability, government regulations,
credit risk…
Result of globalisation
− Highly globalized and integrated world economy.
o Example: financial crisis in 2007 starting in the US housing market, leading to a global recession.
− Continued liberalization of international trade
− Globalized production
− Integrated financial markets
→ Important to understand the international setting in which firms are operating and how corporate financial
decisions are made. We need to include globalisation and the risks in our decision-making process.
Return/Risk in an international setting
− Multinational firms: operations beyond domestic national border.
− Risk and return opportunities outside the domestic market.
− How can we maximize the return on firm’s investment, given an acceptable level of risk?
o It is more difficult to estimate the risk of a foreign country.
2. Borders complicate the job of the CFO
The job of a CFO is much more difficult if you trade internationally then if you
are just trading in Belgium.
1. Existence of national currencies
→ Exchange rates and exchange risks
2. Segmentation of goods markets along national lines
3. Existence of separate judicial systems
2
International Corporate Finance: Class 1 – Introduction and motivation
, 4. Sovereign autonomy of countries
→ Political risk
5. Separate (incompatible?) tax systems
→ Double or triple taxation
Exchange rate risk
What is the impact of boarders on the potential profitability?
If you invest in the US and the currency depreciates substantially, then the investment also depreciates. How can
you estimate this? How do you know how the currency will evolve in the future?
You can’t predict exchange rates. You can develop models, but there are too many parameters you need to
introduce. The more parameters you introduce, the less accurate the model will be. They are totally
unpredictable. The best estimate for tomorrow is the rate of today. If you predict it, it’s worse than just taking
todays exchange rate.
What do you need to do as an investor? You are going to hedge, to protect the investment. You need to protect
yourself from changes in the exchange rate.
Why do most countries have their own money?
− Printing bank notes is a positive NPV activity.
o If you print your own money, you make money out of it. This is called seignorage.
− National pride: Pound, Danes
− The monetary policy is tailored to the local situation.
Definition
The exchange-rate risk is the uncertainty about the value of an asset or liability and is denominated in a foreign
currency.
Segmentation of consumer-goods markets
3 key features of prices
− Prices are not homogeneous internationally, even if labelled into a common currency.
o How are the prices set internationally?
o The law of one price: basis of the theories we’re going to introduce later.
▪ What is the point of a theory? They are never right. You need to defend assumptions that do never
hold in reality. The point is to have a basis, to understand things. They are there to help us to
understand things better.
o Purchasing-power parity (PPP)
▪ You need to look at what you can buy with the money you get. It can seem as if you make a lot
more in Switzerland, but the products are more expensive there.
o Short term vs long term
o Common feature: prices rise with GDP per capita
− Within a country: prices are more homogeneous
− Sticky prices (price elasticity)
o Prices don’t adjust immediately to exchange rates.
Short-run exchange rate fluctuations
− This has little to do with the international prices in the countries involved.
− Appreciation of a currency does not lead to falling prices abroad or soaring prices at home to keep good
prices similar in both countries.
− However, two main consequences:
o Affects the competitiveness and attractiveness of a country on the export or import market.
o 2 How do you value investments? Cfr. capital budgeting decisions
3
International Corporate Finance: Class 1 – Introduction and motivation
