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1、1,Chapter 9,International Cash Management,2,Objectives,This chapter emphasizes the decisions involved in management of cash by an MNC.The additional opportunities and risks of cash management for an MNC versus a domestic firm should be stressed.The specific objectives are:,3,Objectives,to explain th
2、e difference between a subsidiary perspective and a parent perspective in analyzing cash flows;to explain the various techniques used to optimize cash flows;to explain common complications in optimizing cash flows;andto explain the potential benefits and risks of foreign investments.,4,Cash Flow Ana
3、lysis:Subsidiary Perspective,The management of working capital has a direct influence on the amount and timing of cash flow:inventory managementaccounts receivable managementcash management,5,Cash Flow Analysis:Subsidiary Perspective,Subsidiary ExpensesInternational purchases of raw materials or sup
4、plies are more likely to be difficult to manage because of exchange rate fluctuations,quotas,etc.a larger inventory is thus required by MNC compared with domestic firms.If the sales volume is highly volatile,larger cash balances may need to be maintained in order to cover unexpected demands.,6,Cash
5、Flow Analysis:Subsidiary Perspective,Subsidiary RevenueInternational sales are more likely to be volatile because of exchange rate fluctuations,business cycles,etc.Looser credit standards may increase sales(accounts receivable),though often at the expense of slower cash inflows.,7,Cash Flow Analysis
6、:Subsidiary Perspective,Subsidiary Dividend PaymentsForecasting cash flows will be easier if the dividend payments and fees(royalties and overhead charges)to be sent to the parent are known in advance and denominated in the subsidiarys currency.,8,Cash Flow Analysis:Subsidiary Perspective,Subsidiary
7、 Liquidity ManagementAfter accounting for all cash outflows and inflows,the subsidiary must either invest its excess cash or borrow to cover its cash deficiencies.If the subsidiary has access to lines of credit and overdraft facilities,it may maintain adequate liquidity without substantial cash bala
8、nces.,9,Centralized Cash Management,While each subsidiary is managing its own working capital,a centralized cash management group is needed to monitor,and possibly manage,the parent-subsidiary and intersubsidiary cash flows.(Exhibit 9.1)International cash management can be segmented into two functio
9、ns:optimizing cash flow movements,andinvesting excess cash.,10,Exhibit 9.1 Cash Flow of the Overall MNC,parent,Short-term Securities,Long-termProjects,Sources of Debt,Stockholders,Subsidiary“1”,Subsidiary“2”,Interest and Principal on Excess Cash Invested by Subsidiary,Loans or Investment,Fees and Pa
10、rt of Earnings,Excess Cash to be Invested,Excess Cash to be Invested,Fees and Part of Earnings,Loans or Investment,Interest and principal on Excess Cash Invested by Subsidiary,Funds for Supplies,Funds for Supplies,Purchase of Securities,Funds Received fromSales of Securities,Long-term Investment,Ret
11、urn on Investment,Loans,Repayment on Loans,Funds Received from New Stock Issues,Cash Dividends,11,Centralized Cash Management,The centralized cash management division of an MNC cannot always accurately forecast the events that may affect parent-subsidiary or intersubsidiary cash flows.It should,howe
12、ver,be ready to react to any event by consideringany potential adverse impact on cash flows,andhow to avoid such adverse impact.,12,Techniques to OptimizeCash Flows,Accelerating Cash InflowsThe more quickly the cash inflows are received,the more quickly they can be invested or used for other purpose
13、s.Common methods include the establishment of lockboxes around the world(to reduce mailing time)and preauthorized payments(direct charging of a customers bank account),13,Techniques to OptimizeCash Flows,Lockboxes is a service offered by banks to companies in which the company receives payments by m
14、ail to a post office box and the bank picks up the payments several times a day,deposits them into the companys account,and notifies the company of the deposit.This enables the company to put the money to work as soon as its received,but the amounts must be large in order for the value obtained to e
15、xceed the cost of the service.,14,Techniques to OptimizeCash Flows,Minimizing Currency Conversion CostsNetting reduces administrative and transaction costs through the accounting of all transactions that occur over a period to determine one net payment.A bilateral netting system involves transaction
16、s between two units,while a multilateral netting system usually involves more complex interchanges.,15,Techniques to OptimizeCash Flows,Note that MNCs commonly monitor the cash flows between their subsidiaries with the use of an intersubsidiary payment matrix.Example:Exhibit 9.2 Exhibit 9.3,16,Exhib
17、it 9.2 Intersubsidiary Payments Matrix,Payments Owed U.S.$Value(in Thousands)Owed by Subsidiary to Subsidiary Located in:Located in:Canada France Japan Switzerland U.S.Canada 40 90 20 40 France 60 30 60 50 Japan 100 30 20 30 Switzerland 10 50 10 50 U.S.10 60 20 20,17,Exhibit 9.3 Netting Schedule,Net
18、 Payments Net U.S.Dollar Value(in Thousands)to be made owed to Subsidiaryby Subsidiary Located in:Located in:Canada France Japan Switzerland U.S.Canada 0 0 10 30 France 20 0 10 0 Japan 10 0 10 10 Switzerland 0 0 0 30 U.S.0 10 0 0,18,Techniques to OptimizeCash Flows,Managing Blocked FundsA government
19、 may require that funds remain within the country in order to create jobs and reduce unemployment.The MNC should then reinvest the excess funds in the host country,adjust the transfer pricing policy(such that higher fees have to be paid to the parent),borrow locally rather than from the parent,etc.,
20、19,Techniques to OptimizeCash Flows,Managing Intersubsidiary Cash TransfersA subsidiary with excess funds can provide financing by paying for its supplies earlier than is necessary.This technique is called leading.Alternatively,a subsidiary in need of funds can be allowed to lag its payments.This te
21、chnique is called lagging.,20,Complicationsin Optimizing Cash Flows,Company-Related CharacteristicsWhen a subsidiary delays its payments to the other subsidiaries,the other subsidiaries may be forced to borrow until the payments arrive.Government RestrictionsSome governments may prohibit the use of
22、a netting system,or periodically prevent cash from leaving the country.,21,Complicationsin Optimizing Cash Flows,Characteristics of Banking SystemsThe abilities of banks to facilitate cash transfers for MNCs may vary among countries.The banking systems in different countries usually differ too.,22,I
23、nvesting Excess Cash,Excess funds can be invested in domestic or foreign short-term securities,such as Eurocurrency deposits,treasury bills,and commercial papers.Sometimes,foreign short-term securities have higher interest rates.However,firms must also account for the possible exchange rate movement
24、s.,23,Investing Excess Cash,Centralized Cash ManagementCentralized cash management allows for more efficient usage of funds and possibly higher returns.When multiple currencies are involved,a separate pool may be formed for each currency.The investment securities may also be denominated in the curre
25、ncies that will be needed in the future.,24,Investing Excess Cash,Determining the Effective YieldThe effective rate for foreign investments rf=(1+if)(1+ef)1where if=the quoted interest rate(deposit rate)on the investment ef=the%D in the spot rateIf the foreign currency depreciates over the investmen
26、t period,the effective yield will be less than the quoted rate.*(Example:P503-504),25,Investing Excess Cash,Implications of Interest Rate Parity(IRP)A foreign currency with a high interest rate will normally exhibit a forward discount that reflects the differential between its interest rate and the
27、investors home interest rate.However,short-term foreign investing on an uncovered basis may still result in a higher effective yield.,26,Investing Excess Cash,Use of the Forward Rate as a ForecastIf IRP exists,the forward rate can be used as a break-even point to assess the short-term investment dec
28、ision.The effective yield will be higher if the spot rate at maturity is more than the forward rate at the time the investment is undertaken,and vice versa.The key implications of IRP and the forward rate as a predicator of future spot rate for foreign investing are summarized in the following:,27,C
29、onsiderations When Investing Excess Cash,IRP holds?Scenario Type of investment Investment yield Yes Covered Similar Yes Forward rate accurately Uncovered Similar predicts future spot rate Yes Forward rate forecasts future Uncovered Similar on spot rate with no bias average Yes Forward rate overestim
30、ates Uncovered Lower future spot rate Yes Forward rate underestimates Uncovered Higher future spot rate No Forward premium(discount)Covered Higher exceeds(is less than)interest rate differential No Forward premium(discount)Covered Lower is less than(exceeds)interest rate differential,28,Investing Ex
31、cess Cash,Use of Exchange Rate ForecastsGiven an exchange rate forecast,the expected effective yield of a foreign investment can be computed,and then compared with the local investment yield.(Example:P506)It may be useful to use probability distributions instead of point estimates,or to compute the
32、break-even exchange rate that will equate foreign and local yields.(Example:P507-508),29,Investing Excess Cash,Diversifying Cash Across CurrenciesIf an MNC is not sure of how exchange rates will change over time,it may prefer to diversify its cash among securities that are denominated in different c
33、urrencies.The degree to which such a portfolio will reduce risk depends on the correlations among the currencies.,30,Investing Excess Cash,Use of Dynamic Hedging to Manage CashDynamic hedging refers to the strategy of hedging when the currencies held are expected to depreciate,and not hedging when t
34、hey are expected to appreciate.The overall performance is dependent on the firms ability to accurately forecast the direction of exchange rate movements.,31,Topics for Class Discussion,Should international cash management be conducted at the subsidiary level or at the centralized level?Elaborate.Wha
35、t is the use of netting to an MNC?How can firm deal with blocked funds?Assume that as a treasurer of a U.S.corporation,you believe that the British pounds forward rate is an accurate forecast of the pounds future spot rate.What does this imply about your decision of whether to invest cash in the U.S
36、.or in the U.K.?,32,Questions and Applications,*1.Discuss the general functions involved in International Cash Management.*2.What is“netting”and how can it improve an MNCs performance?*3.How can an MNC implement leading and lagging techniques to help subsidiaries in need of funds?,33,Questions and A
37、pplications,*4.How can a centralized cash management system be beneficial to the MNC?5.Evansville,Inc.,has$2 million in cash available for 90 days.It is considering the use of covered interest arbitrage,since the euros 90-day interest rate is higher than the U.S.interest rate.What will determine whe
38、ther this strategy is feasible?,34,Questions and Applications,6.Dallas Co.Has determined that the interest rate on euros is 16 percent while the U.S.interest rate is 11 percent for one-year treasury bills.The one-year forward rate of the euro has a discount of 7 percent.Does interest rate parity exi
39、st?Can Dallas achieve a higher effective yield by using covered interest arbitrage than by investing in U.S.Treasury bills?Explain.,35,Questions and Applications,7.Fort Collins,Inc.,has$1 million in cash available for 30 days.It can earn 1 percent on a 30-day investment in the United States.Alternat
40、ively,if it converts the dollar to Mexican pesos,it can earn 1 percent on a Mexican deposit.The spot rate of the Mexican Peso is$.12.The spot rate 30 days from now is expected to be$.10.Should Fort Collins invest its cash in the United States or in Mexico?Substantiate your answer.,36,Questions and A
41、pplications,8.Assume that the one-year U.S.interest rate is 10 percent and the one-year Canadian interest rate is 13 percent.If a U.S.firm invests its funds in Canada,by what percentage will the Canadian dollar have to depreciate to make its effective yield the same as the U.S.interest rate from the
42、 U.S.firms perspective?,37,Questions and Applications,9.Pittsburgh Co.Plans to invest its excess cash in Mexican pesos for one year.The one-year Mexican interest rate is 19 percent.The probability of the pesos percentage change in value during the next year is shown below:Possible Rate of Change in
43、the Mexican Peso over Probability of the Life of the Investment Occurrence-15%20%-4%50%0 30%,38,Questions and Applications,What is the expected value of the effective yield based on this information?Given that the U.S.interest rate for one year is 7 percent,what is the probability that a one-year investment in pesos will generate a lower effective yield than could be generated if Pittsburgh Co.simply invested domestically?,
