Chapter 1:
      Globalization & the Multinational Firm

Chapter Objectives
 Understand why it is important to study international finance.
 Distinguish international finance from domestic finance.

Chapter Outline
1.   What‟s Special about “International” Finance?
2.   Goals for International Financial Management
3.   Globalization of the World Economy
4.   Multinational Corporations

       What‟s Special about
     “International” Finance?

 Foreign Exchange Risk
 Political Risk
 Market Imperfections
 Expanded Opportunity Set

           What‟s Special about
         “International” Finance?

 Foreign Exchange Risk
       The risk that foreign currency profits may evaporate in home currency
        terms due to unanticipated unfavorable exchange rate movements.
       e.g. Recent surge in Canadian dollar value against US dollar

 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.
      e.g. Chinese ban on canola imports from Canada in 2002

Decomposition of Political Risk

      What‟s Special about
    “International” Finance?

 Market Imperfections
   Legal restrictions on movement of goods,

    people, and money
   Transactions costs

   Shipping costs

   Tax arbitrage

        The Example of Nestlé‟s Market
 Nestlé used to issue two different classes of common stock bearer shares
  and registered shares.
    Foreigners were only allowed to buy bearer shares (More expensive).

    Swiss citizens could buy registered shares.

 On November 18, 1988, Nestlé lifted restrictions imposed on foreigners,
  allowing them to hold registered. 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 Nestlé bearer shares were exposed to political risk in a
  country that is widely viewed as a haven from such risk. The Nestlé
  episode illustrates both the importance of considering market
  imperfections and the peril of political risk.

                  Nestlé‟s Foreign Ownership

                                      Bearer share

                                   Registered share

                       11              20             31               9             18   24
              Source: Financial Times, November 26, 1988 p.1. Adapted with permission.

        What‟s Special about
      “International” Finance?
 Expanded Opportunity Set
    It doesn‟t make sense to play in only one market.

    True for corporations as well as individual
      Investor‟s perspective
         Risk reduction through international diversification.
      Corporation‟s perspective
         Access to cheaper production inputs
         Access to consumers
         Access to capital

          Goals for International Financial
 Shareholder Wealth           Corporate Wealth Maximization
                                France, Germany
                                    All parties associated with the firm
   Predominant in North              are treated equally (shareholders,
     America, UK                     mgmt., labour, suppliers, creditors,
    Goal:
                                    Goal:
   Maximize return to
                                 Maximize long-term return for all
     shareholders                  interest groups
    “one-share-one-vote”         In Japan,Korea, managers have

    Agency theory dictates        typically sought to maximize the
     managerial behaviour          value of the keiretsu—a family of
                                   firms to which the individual firms
                    Other Goals

 As shown by recent corporate scandals at companies like Enron,
  WorldCom, managers may pursue their own private interests at
  the expense of SHs 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 firm‟s management and its
 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
   Advent of the Euro
   Trade Liberalization and Economic Integration
   Privatization
          Emergence of Globalized
            Financial Markets

 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
              Advent of the Euro

 A momentous event in the history of world financial
 Currently more than 320 million Europeans in 17 countries
  are using the common currency on a daily basis.(Belgium,
   Germany, Greece, Spain, France, Ireland, Italy, Luxembourg, the
   Netherlands, Austria, Portugal, Slovenia, Slovakia, Estonia, Finland,
   Malta, and Cyprus).
 The “transaction domain” of the euro may become larger
  than the U.S. dollar‟s in the near future.
 For more info on euro, visit the European Central Bank's Web site at

            Trade Liberalization and Economic
 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 world‟s
  governments who have abandoned mercantilist views and embraced free
  trade as the surest route to prosperity for their citizenry.
 The General Agreement on Tariffs and Trade-GATT (later replaced with
  WTO) a multilateral agreement among member countries has reduced
  many barriers to trade.
 The North American Free Trade Agreement (NAFTA) calls for phasing
  out impediments to trade between Canada, Mexico and the U.S. over a 15-
  year period.
       For Canada, the ratio of exports to GDP has increased dramatically from
        19.2% in 1973 to 45.2% in 2003.
       The increased trade will result in increased numbers of jobs and a higher
        standard of living for all member nations.


 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
 Often spurs a tremendous increase in cross-border
 It Fuels economic growth
           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.

 Advantages of the global economy for MNCs:
  1. Spreading fixed costs like R&D over global sales.
  2. Global purchasing power over suppliers
  3. Lower labor costs, maybe.
  4. Better access to capital.
  5. Greater operational efficiencies
Top 10 MNCs by Revenues 2011

1    Wallmart                   United States
2    ExxonMobile Corporation    United States
3    Royal Dutch/Shell Group    Netherlands/ UK
4    BP                         UK
5    Sinopec                    China
6    Toyota Motor Corporation   Japan
7    Petro China                China
8    TotalFina SA               France
9    Chevron                    United States
10   Japan Post Holdings        Japan

           Mini Case: Nike’s Decision
     Nike, a U.S.-based company with a globally recognized brand name, manufactures
athletic shoes in such Asian developing countries as China, Indonesia, and Vietnam
using subcontractors, and sells the products in the U.S. and foreign markets. The
company has no production facilities in the United States. In each of those Asian
countries where Nike has production facilities, the rates of unemployment and
underemployment are quite high. The wage rate is very low in those countries by the
U.S. standard; hourly wage rate in the manufacturing sector is less than one dollar in
each of those countries, which is compared with about $18 in the U.S. In addition,
workers in those countries often are operating in poor and unhealthy environments and
their rights are not well protected. Understandably, Asian host countries are eager to
attract foreign investments like Nike‟s to develop their economies and raise the living
standards of their citizens. Recently, however, Nike came under a world-wide criticism
for its practice of hiring workers for such a low pay, “next to nothing” in the words of
critics, and condoning poor working conditions in host countries.
     Evaluate and discuss various „ethical‟ as well as economic ramifications of Nike‟s
decision to invest in those Asian countries.

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