Page 219 - DMGT549_INTERNATIONAL_FINANCIAL_MANAGEMENT

International Financial Management Rupesh Roshan Singh, Lovely Professional University

Notes Unit 13: Cross-border Capital Budgeting

CONTENTS
Objectives
Introduction

13.1 Problems and Issues in Foreign Investment Analysis
13.2 Techniques of Capital Budgeting
13.2.1 Net Present Value
13.2.2 Internal Rate of Return

13.2.3 Adjusted Present Value Approach
13.3 Summary
13.4 Keywords
13.5 Review Questions
13.6 Further Readings

Objectives

After studying this unit, you will be able to:

Explain the problems and issues in foreign investment analysis
Discuss the techniques of capital budgeting
Introduction

The fundamental goal of the financial manager is to maximise shareholders’ wealth. Shareholders’
wealth is maximised when the firm, out of a list of prospective investments, selects a combination
of those projects that maximise the company’s value to its shareholders. This selection process
requires the financial manager to discount the project cash flows at the firm’s weighted average
cost of capital, or the projects’ required rate of return, to determine the net present value.
Alternatively, the internal rate of return that equates project cash flows to the cost of the project
is calculated. Finance managers generally believe that the criteria of net present value is the
most appropriate in domestic capital budgeting since it will help the company to select only
those investments which maximise the wealth of the shareholders.

Capital budgeting for multinational firms uses the same framework as domestic capital budgeting.
However, multinational firms engaged in evaluating foreign projects face a number of
complexities, many of which are not there in the domestic capital budgeting process.

Foreign Complexities: Multinational capital budgeting encounters a number of variables and
factors that are unique for a foreign project and are considerably more complex than their
domestic counterparts. The various factors are:
1. Parents cash flows are different from project cash flows.
2. All cash flows from the foreign projects must be converted into the currency of the parent
firm.

3. Profits remitted to the parent are subject to two taxing jurisdictions – the parent country
and the host country.

214 LOVELY PROFESSIONAL UNIVERSITY