Chapter 1
Multinational Financial Management: An Overview
Lecture Outline
Managing the MNC
How Business Disciplines Are Used to Manage the MNC
Agency Problems
Management Structure of an MNC
Why Firms Pursue International Business
Theory of Comparative Advantage
Imperfect Markets Theory
Product Cycle Theory
Methods to Conduct International Business
International Trade
Licensing
Franchising
Joint Ventures
Acquisitions of Existing Operations
Establishing New Foreign Subsidiaries
Summary of Methods
Valuation Model for an MNC
Domestic Valuation Model
Multinational Valuation Model
Uncertainty Surrounding an MNC’s Cash Flows
How Uncertainty Affects the MNC’s Cost of Capital
Organization of the Text
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
, Multinational Financial Management: An Overview 2
Chapter Theme
This chapter introduces the multinational corporation as having similar goals to the purely domestic
corporation, but a wider variety of opportunities. With additional opportunities come potential increased
returns and other forms of risk to consider. The potential benefits and risks are introduced.
Topics to Stimulate Class Discussion
1. What is the appropriate definition of an MNC?
2. Why does an MNC expand internationally?
3. What are the risks of an MNC which expands internationally?
4. Why must purely domestic firms be concerned about the international environment?
POINT/COUNTER-POINT:
Should an MNC Reduce Its Ethical Standards to Compete Internationally?
POINT: Yes. When a U.S.-based MNC competes in some countries, it may encounter some business
norms there that are not allowed in the U.S. For example, when competing for a government contract,
firms might provide payoffs to the government officials who will make the decision. Yet, in the United
States, a firm will sometimes take a client on an expensive golf outing or provide skybox tickets to
events. This is no different than a payoff. If the payoffs are bigger in some foreign countries, the MNC
can compete only by matching the payoffs provided by its competitors.
COUNTER-POINT: No. A U.S.-based MNC should maintain a standard code of ethics that applies to
any country, even if it is at a disadvantage in a foreign country that allows activities that might be viewed
as unethical. In this way, the MNC establishes more credibility worldwide.
WHO IS CORRECT? Use the Internet to learn more about this issue. Which argument do you support?
Offer your own opinion on this issue.
ANSWER: The issue is frequently discussed. It is easy to suggest that the MNC should maintain a
standard code of ethics, but in reality, that means that it will not be able to compete in some cases. For
example, even if it submits the lowest bid on a specific foreign government project, it will not receive the
bid without a payoff to the foreign government officials. The issue is especially a concern for large
projects that may generate substantial cash flows for the firm that is chosen to do the project. Ideally, the
MNC can clearly demonstrate to whoever oversees the decision process that it deserves to be selected. If
there is just one decision-maker with no oversight, an MNC can not ensure that the decision will be
ethical. But if the decision-maker must be accountable to a department who oversees the decision, the
MNC may be able to prompt the department to ensure that the process is ethical.
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
, Multinational Financial Management: An Overview 3
Answers to End of Chapter Questions
1. Agency eProblems eof eMNCs.
a. Explain ethe eagency eproblem eof eMNCs.
ANSWER: e The eagency eproblem ereflects ea econflict eof einterests ebetween edecision-making
emanagers eand ethe eowners eof ethe eMNC. e Agency ecosts eoccur ein ean eeffort eto eassure ethat
emanagers eact ein ethe ebest einterest eof ethe eowners.
b. Why emight eagency ecosts ebe elarger efor ean eMNC ethan efor ea epurely edomestic efirm?
ANSWER: e The eagency ecosts eare enormally elarger efor eMNCs ethan epurely edomestic efirms efor
ethe efollowing ereasons. e First, eMNCs eincur elarger eagency ecosts ein emonitoring emanagers eof
edistant eforeign esubsidiaries. e Second, eforeign esubsidiary emanagers eraised ein edifferent ecultures
emay enot efollow euniform egoals, eand esome emanagers emay efocus eon esatisfying erespective
eemployees. e Third, ethe esheer esize eof ethe elarger eMNCs ewould ealso ecreate elarge eagency
eproblems.
2. Comparative eAdvantage.
a. Explain ehow ethe etheory eof ecomparative eadvantage erelates eto ethe eneed efor einternational
ebusiness.
ANSWER: e The etheory eof ecomparative eadvantage eimplies ethat ecountries eshould especialize ein
eproduction, ethereby erelying eon eother ecountries efor esome eproducts. e Consequently, ethere eis ea
eneed efor einternational ebusiness.
b. Explain ehow ethe eproduct ecycle etheory erelates eto ethe egrowth eof ean eMNC.
ANSWER: eThe eproduct ecycle etheory esuggests ethat eat esome epoint ein etime, ethe efirm ewill
eattempt eto ecapitalize eon eits eperceived eadvantages ein emarkets eother ethan ewhere eit ewas
einitially eestablished.
3. Imperfect eMarkets.
a. Explain ehow ethe eexistence eof eimperfect emarkets ehas eled eto ethe eestablishment eof
esubsidiaries ein eforeign emarkets.
ANSWER: e Because eof eimperfect emarkets, eresources ecannot ebe eeasily eand efreely
eretrieved eby ethe eMNC. e Consequently, ethe eMNC emust esometimes ego eto ethe eresources
erather ethan eretrieve eresources e(such eas eland, elabor, eetc.).
b. If eperfect emarkets eexisted, ewould ewages, eprices, eand einterest erates eamong ecountries
ebe emore esimilar eor eless esimilar ethan eunder econditions eof eimperfect emarkets? e Why?
ANSWER: eIf eperfect emarkets eexisted, eresources ewould ebe emore emobile eand ecould etherefore
ebe etransferred eto ethose ecountries emore ewilling eto epay ea ehigh eprice efor ethem. e As ethis
eoccurred, eshortages eof eresources ein eany eparticular ecountry ewould ebe ealleviated eand ethe ecosts
eof esuch eresources ewould ebe esimilar eacross ecountries.
4. International eOpportunities.
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
, Multinational Financial Management: An Overview 4
a. Do eyou ethink ethat eeither ethe eacquisition eof ea eforeign efirm eor elicensing ewill eresult ein
egreater egrowth efor ean eMNC? eWhich ealternative eis elikely eto ehave emore erisk?
ANSWER: e An eacquisition ewill etypically eresult ein egreater egrowth, ebut eit eis eriskier ebecause eit
enormally erequires ea elarger einvestment eand ethe edecision ecan enot ebe eeasily ereversed eonce ethe
eacquisition eis emade.
b. Describe ea escenario ein ewhich ethe esize eof ea ecorporation eis enot eaffected eby eaccess eto
einternational eopportunities.
ANSWER: eSome efirms emay eavoid eopportunities ebecause ethey elack eknowledge eabout eforeign
emarkets eor eexpect ethat ethe erisks eare eexcessive. e Thus, ethe esize eof ethese efirms eis enot
eaffected eby ethe eopportunities.
c. Explain ewhy eMNCs esuch eas eCoca eCola eand ePepsiCo estill ehave enumerous
eopportunities efor einternational eexpansion.
ANSWER: eCoca eCola eand ePepsiCo estill ehave enew einternational eopportunities ebecause ecountries
eare eat evarious estages eof edevelopment. e Some ecountries ehave ejust erecently eopened etheir eborders eto
eMNCs.
Many eof ethese ecountries edo enot eoffer esufficient efood eor edrink eproducts eto etheir econsumers.
5. International eOpportunities eDue eto ethe eInternet.
a. What efactors ecause esome efirms eto ebecome emore einternationalized ethan eothers?
ANSWER: eThe eoperating echaracteristics eof ethe efirm e(what eit eproduces eor esells) eand ethe erisk
eperception eof einternational ebusiness ewill einfluence ethe edegree eto ewhich ea efirm ebecomes
einternationalized. e Several eother efactors esuch eas eaccess eto ecapital ecould ealso ebe erelevant ehere.
e Firms ethat eare elabor-intensive ecould emore eeasily ecapitalize eon elow-wage ecountries ewhile efirms
ethat erely eon etechnological eadvances ecould enot.
b. Why emight ethe eInternet ehave eresulted ein emore einternational ebusiness.
ANSWER: eThe eInternet eallows efor eeasy eand elow-cost ecommunication ebetween ecountries, eso
ethat e firms ecould enow edevelop econtacts ewith epotential ecustomers eoverseas eby ehaving ea
ewebsite. eMany efirms euse etheir ewebsite eto eidentify ethe eproducts ethat ethey esell, ealong ewith ethe
eprices efor eeach eproduct. e This eallows ethem eto eeasily eadvertise etheir eproducts eto epotential
eimporters eanywhere ein ethe eworld ewithout emailing ebrochures eto evarious ecountries. e In
eaddition, ethey ecan eadd eto etheir eproduct eline eand echange eprices eby esimply erevising etheir
ewebsite, eso eimporters eare ekept eabreast eof ethe eexporter’s eproduct einformation eby emonitoring
ethe eexporter’s ewebsite eperiodically. eFirms ecan ealso euse etheir ewebsites eto eaccept eorders eonline.
e Some efirms ewith ean einternational ereputation euse etheir ebrand ename eto eadvertise eproducts eover
ethe einternet. e They emay euse emanufacturers ein esome eforeign ecountries eto eproduce esome eof
etheir eproducts esubject eto etheir especification
6. Impact eof eExchange eRate eMovements. ePlak eCo. eof eChicago ehas eseveral eEuropean
esubsidiaries ethat eremit eearnings eto eit eeach eyear. eExplain ehow eappreciation eof ethe eeuro e(the
ecurrency eused ein emany eEuropean ecountries) ewould eaffect ePlak's evaluation.
ANSWER: e Plak’s evaluation eshould eincrease ebecause ethe eappreciation eof ethe eeuro ewill
eincrease ethe edollar evalue eof ethe ecash eflows eremitted eby ethe eEuropean esubsidiaries.
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
Multinational Financial Management: An Overview
Lecture Outline
Managing the MNC
How Business Disciplines Are Used to Manage the MNC
Agency Problems
Management Structure of an MNC
Why Firms Pursue International Business
Theory of Comparative Advantage
Imperfect Markets Theory
Product Cycle Theory
Methods to Conduct International Business
International Trade
Licensing
Franchising
Joint Ventures
Acquisitions of Existing Operations
Establishing New Foreign Subsidiaries
Summary of Methods
Valuation Model for an MNC
Domestic Valuation Model
Multinational Valuation Model
Uncertainty Surrounding an MNC’s Cash Flows
How Uncertainty Affects the MNC’s Cost of Capital
Organization of the Text
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
, Multinational Financial Management: An Overview 2
Chapter Theme
This chapter introduces the multinational corporation as having similar goals to the purely domestic
corporation, but a wider variety of opportunities. With additional opportunities come potential increased
returns and other forms of risk to consider. The potential benefits and risks are introduced.
Topics to Stimulate Class Discussion
1. What is the appropriate definition of an MNC?
2. Why does an MNC expand internationally?
3. What are the risks of an MNC which expands internationally?
4. Why must purely domestic firms be concerned about the international environment?
POINT/COUNTER-POINT:
Should an MNC Reduce Its Ethical Standards to Compete Internationally?
POINT: Yes. When a U.S.-based MNC competes in some countries, it may encounter some business
norms there that are not allowed in the U.S. For example, when competing for a government contract,
firms might provide payoffs to the government officials who will make the decision. Yet, in the United
States, a firm will sometimes take a client on an expensive golf outing or provide skybox tickets to
events. This is no different than a payoff. If the payoffs are bigger in some foreign countries, the MNC
can compete only by matching the payoffs provided by its competitors.
COUNTER-POINT: No. A U.S.-based MNC should maintain a standard code of ethics that applies to
any country, even if it is at a disadvantage in a foreign country that allows activities that might be viewed
as unethical. In this way, the MNC establishes more credibility worldwide.
WHO IS CORRECT? Use the Internet to learn more about this issue. Which argument do you support?
Offer your own opinion on this issue.
ANSWER: The issue is frequently discussed. It is easy to suggest that the MNC should maintain a
standard code of ethics, but in reality, that means that it will not be able to compete in some cases. For
example, even if it submits the lowest bid on a specific foreign government project, it will not receive the
bid without a payoff to the foreign government officials. The issue is especially a concern for large
projects that may generate substantial cash flows for the firm that is chosen to do the project. Ideally, the
MNC can clearly demonstrate to whoever oversees the decision process that it deserves to be selected. If
there is just one decision-maker with no oversight, an MNC can not ensure that the decision will be
ethical. But if the decision-maker must be accountable to a department who oversees the decision, the
MNC may be able to prompt the department to ensure that the process is ethical.
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
, Multinational Financial Management: An Overview 3
Answers to End of Chapter Questions
1. Agency eProblems eof eMNCs.
a. Explain ethe eagency eproblem eof eMNCs.
ANSWER: e The eagency eproblem ereflects ea econflict eof einterests ebetween edecision-making
emanagers eand ethe eowners eof ethe eMNC. e Agency ecosts eoccur ein ean eeffort eto eassure ethat
emanagers eact ein ethe ebest einterest eof ethe eowners.
b. Why emight eagency ecosts ebe elarger efor ean eMNC ethan efor ea epurely edomestic efirm?
ANSWER: e The eagency ecosts eare enormally elarger efor eMNCs ethan epurely edomestic efirms efor
ethe efollowing ereasons. e First, eMNCs eincur elarger eagency ecosts ein emonitoring emanagers eof
edistant eforeign esubsidiaries. e Second, eforeign esubsidiary emanagers eraised ein edifferent ecultures
emay enot efollow euniform egoals, eand esome emanagers emay efocus eon esatisfying erespective
eemployees. e Third, ethe esheer esize eof ethe elarger eMNCs ewould ealso ecreate elarge eagency
eproblems.
2. Comparative eAdvantage.
a. Explain ehow ethe etheory eof ecomparative eadvantage erelates eto ethe eneed efor einternational
ebusiness.
ANSWER: e The etheory eof ecomparative eadvantage eimplies ethat ecountries eshould especialize ein
eproduction, ethereby erelying eon eother ecountries efor esome eproducts. e Consequently, ethere eis ea
eneed efor einternational ebusiness.
b. Explain ehow ethe eproduct ecycle etheory erelates eto ethe egrowth eof ean eMNC.
ANSWER: eThe eproduct ecycle etheory esuggests ethat eat esome epoint ein etime, ethe efirm ewill
eattempt eto ecapitalize eon eits eperceived eadvantages ein emarkets eother ethan ewhere eit ewas
einitially eestablished.
3. Imperfect eMarkets.
a. Explain ehow ethe eexistence eof eimperfect emarkets ehas eled eto ethe eestablishment eof
esubsidiaries ein eforeign emarkets.
ANSWER: e Because eof eimperfect emarkets, eresources ecannot ebe eeasily eand efreely
eretrieved eby ethe eMNC. e Consequently, ethe eMNC emust esometimes ego eto ethe eresources
erather ethan eretrieve eresources e(such eas eland, elabor, eetc.).
b. If eperfect emarkets eexisted, ewould ewages, eprices, eand einterest erates eamong ecountries
ebe emore esimilar eor eless esimilar ethan eunder econditions eof eimperfect emarkets? e Why?
ANSWER: eIf eperfect emarkets eexisted, eresources ewould ebe emore emobile eand ecould etherefore
ebe etransferred eto ethose ecountries emore ewilling eto epay ea ehigh eprice efor ethem. e As ethis
eoccurred, eshortages eof eresources ein eany eparticular ecountry ewould ebe ealleviated eand ethe ecosts
eof esuch eresources ewould ebe esimilar eacross ecountries.
4. International eOpportunities.
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
, Multinational Financial Management: An Overview 4
a. Do eyou ethink ethat eeither ethe eacquisition eof ea eforeign efirm eor elicensing ewill eresult ein
egreater egrowth efor ean eMNC? eWhich ealternative eis elikely eto ehave emore erisk?
ANSWER: e An eacquisition ewill etypically eresult ein egreater egrowth, ebut eit eis eriskier ebecause eit
enormally erequires ea elarger einvestment eand ethe edecision ecan enot ebe eeasily ereversed eonce ethe
eacquisition eis emade.
b. Describe ea escenario ein ewhich ethe esize eof ea ecorporation eis enot eaffected eby eaccess eto
einternational eopportunities.
ANSWER: eSome efirms emay eavoid eopportunities ebecause ethey elack eknowledge eabout eforeign
emarkets eor eexpect ethat ethe erisks eare eexcessive. e Thus, ethe esize eof ethese efirms eis enot
eaffected eby ethe eopportunities.
c. Explain ewhy eMNCs esuch eas eCoca eCola eand ePepsiCo estill ehave enumerous
eopportunities efor einternational eexpansion.
ANSWER: eCoca eCola eand ePepsiCo estill ehave enew einternational eopportunities ebecause ecountries
eare eat evarious estages eof edevelopment. e Some ecountries ehave ejust erecently eopened etheir eborders eto
eMNCs.
Many eof ethese ecountries edo enot eoffer esufficient efood eor edrink eproducts eto etheir econsumers.
5. International eOpportunities eDue eto ethe eInternet.
a. What efactors ecause esome efirms eto ebecome emore einternationalized ethan eothers?
ANSWER: eThe eoperating echaracteristics eof ethe efirm e(what eit eproduces eor esells) eand ethe erisk
eperception eof einternational ebusiness ewill einfluence ethe edegree eto ewhich ea efirm ebecomes
einternationalized. e Several eother efactors esuch eas eaccess eto ecapital ecould ealso ebe erelevant ehere.
e Firms ethat eare elabor-intensive ecould emore eeasily ecapitalize eon elow-wage ecountries ewhile efirms
ethat erely eon etechnological eadvances ecould enot.
b. Why emight ethe eInternet ehave eresulted ein emore einternational ebusiness.
ANSWER: eThe eInternet eallows efor eeasy eand elow-cost ecommunication ebetween ecountries, eso
ethat e firms ecould enow edevelop econtacts ewith epotential ecustomers eoverseas eby ehaving ea
ewebsite. eMany efirms euse etheir ewebsite eto eidentify ethe eproducts ethat ethey esell, ealong ewith ethe
eprices efor eeach eproduct. e This eallows ethem eto eeasily eadvertise etheir eproducts eto epotential
eimporters eanywhere ein ethe eworld ewithout emailing ebrochures eto evarious ecountries. e In
eaddition, ethey ecan eadd eto etheir eproduct eline eand echange eprices eby esimply erevising etheir
ewebsite, eso eimporters eare ekept eabreast eof ethe eexporter’s eproduct einformation eby emonitoring
ethe eexporter’s ewebsite eperiodically. eFirms ecan ealso euse etheir ewebsites eto eaccept eorders eonline.
e Some efirms ewith ean einternational ereputation euse etheir ebrand ename eto eadvertise eproducts eover
ethe einternet. e They emay euse emanufacturers ein esome eforeign ecountries eto eproduce esome eof
etheir eproducts esubject eto etheir especification
6. Impact eof eExchange eRate eMovements. ePlak eCo. eof eChicago ehas eseveral eEuropean
esubsidiaries ethat eremit eearnings eto eit eeach eyear. eExplain ehow eappreciation eof ethe eeuro e(the
ecurrency eused ein emany eEuropean ecountries) ewould eaffect ePlak's evaluation.
ANSWER: e Plak’s evaluation eshould eincrease ebecause ethe eappreciation eof ethe eeuro ewill
eincrease ethe edollar evalue eof ethe ecash eflows eremitted eby ethe eEuropean esubsidiaries.
© 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part, except for use as
permitted in a license distributed with a certain product or service or otherwise on a password-protected website for classroom use.
