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Multinational Business Finance, 14e (Eiteman)
Chapter 18 Multinational Capital Budgeting and Cross-Border Acquisitions
18.1 Complexities of Budgeting for a Foreign Project
1) The traditional financial analysis applied to foreign or domestic projects, to determine the
project's value to the firm is called:
A) cost of capital analysis.
B) capital budgeting.
C) capital structure analysis.
D) agency theory.
2) Which of the following is NOT a basic step in the capital budgeting process?
A) Identify the initial capital invested.
B) Estimate the cash flows to be derived from the project over time.
C) Identify the appropriate interest rate at which to discount future cash flows.
D) All of the above are steps in the capital budgeting process.
3) Of the following capital budgeting decision criteria, which does NOT use discounted cash
flows?
A) net present value
B) internal rate of return
C) accounting rate of return
D) All of these techniques typically use discounted cash flows.
4) Which of the following is NOT a reason why capital budgeting for a foreign project is more
complex than for a domestic project?
A) Parent cash flows must be distinguished from project cash flows.
B) Parent firms must specifically recognize remittance of funds due to differing rules and
regulations concerning remittance of cash flows, taxes, and local norms.
C) Differing rates of inflation exist between the foreign and domestic economies.
D) All of the above add complexity to the international capital budgeting process.
5) For purposes of international capital budgeting, which of the following statements is NOT
true?
A) Managers must evaluate political risk because political events can drastically reduce the value
or availability of expected cash flows.
B) Parent cash flows must be distinguished from project cash flows. Each of these two types of
flows contributes to a different view of value.
C) An array of nonfinancial payments can generate cash flows from subsidiaries to the parent,
including payment of license fees and payments for imports from the parent.
D) All of the above are true statements.
6) Project evaluation from the ________ viewpoint serves some useful purposes and/but should
________ the ________ viewpoint.
A) local; be subordinated to; parent's
B) local; not be subordinated to; parent's
C) parent's; be subordinated to; local
D) none of the above
7) For financial reporting purposes, U.S. firms must consolidate the earnings of any subsidiary
that is over ________ owned.
A) 20%
B) 40%
C) 50%
D) 75%
8) A foreign firm that is 20% to 49% owned by a parent is called a/an:
A) subsidiary.
B) affiliate.
C) partner.
D) rival.
9) Affiliate firms are consolidated on the parent's financial statements on a ________ basis.
A) pro rated
B) 50%
C) 75%
D) 100%
10) When engaged in international capital budgeting, the analyst must identify the initial amount
of capital invested or put at risk.
11) In international capital budgeting, the appropriate discount rate for determining the present
value of the
expected cash flows is always the firm's domestic WACC.
12) For purposes of international capital budgeting, it is NOT important to distinguish between
parent and total project cash flows.
13) For purposes of international capital budgeting, parent cash flows often depend on the form
of financing. Thus, we cannot clearly separate cash flows from financing decisions, as we can in
domestic capital budgeting.
14) There are no important differences between domestic and international capital budgeting
methods.
15) It is important that firms adopt a common standard for the capital budgeting process for
choosing among foreign and domestic projects.
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16) The only proper way to estimate the NPV of a foreign project is to discount the appropriate
cash flows first and then convert them to the domestic currency at the current spot rate.
17) For purposes of international capital budgeting, evaluation of a project from the PARENT
viewpoint serves some useful purposes, but it should be subordinated to evaluation from the
LOCAL's viewpoint.
18) Multinational firms should invest only if they can earn a risk-adjusted return greater than
locally based competitors can earn on the same project.
19) The authors highlight a strong theoretical argument in favor of analyzing any foreign project
from the viewpoint of the parent. Provide at least three reasons why the parent's viewpoint is
superior to the local viewpoint and give an example of when the local viewpoint fails to
maximize the value of the firm.
Answer: A project might have a positive NPV from the local viewpoint, but fail to consider
18.2 Illustrative Case: Cemex Enters Indonesia
1) Which of the following is NOT an example of political risk?
A) Expropriation of cash flows by a foreign government.
B) The U.S. government restricts trade with a foreign country where your firm has investments.
C) The foreign government nationalizes all foreign-owned assets.
D) All of the above are examples of political risk.
2) Given a current spot rate of 8.10 Norwegian krone per U.S. dollar, expected inflation rates of
6% in Norway and 3% per annum in the U.S., use the formula for relative purchasing power
parity to estimate the one-year spot rate of krone per dollar.
A) 7.87 krone per dollar
B) 8.10 krone per dollar
C) 8.34 krone per dollar
D) There is not enough information to answer this question.
3) When evaluating capital budgeting projects, which of the following would NOT necessarily
be an indicator of an acceptable project?
A) an NPV > $0
B) an IRR > the project's required rate of return
C) an IRR > $0
D) All of the above are correct indicators.
4) Given a current spot rate of 8.10 Norwegian krone per U.S. dollar, expected inflation rates of
3% in Norway and 6% per annum in the U.S., use the formula for relative purchasing power
parity to estimate the one-year spot rate of krone per dollar.
A) 7.87 krone per dollar
B) 8.10 krone per dollar
C) 8.34 krone per dollar
D) There is not enough information to answer this question.
5) When determining a firm's weighted average cost of capital (wacc) which of the following
terms is NOT necessary?
A) the firm's tax rate
B) the firm's cost of debt
C) the firm's cost of equity
D) All of the above are necessary.
6) When determining a firm's weighted average cost of capital (WACC) which of the following
terms is NOT necessary?
A) the firm's weight of equity financing
B) the risk-free rate of return
C) the firm's weight of debt financing
D) All of the above are necessary to determine a firm's WACC.
Instruction 18.1:
Use the information to answer the following question(s).
The Velo Rapid Revolutions Inc., a company that produces bicycles, elliptical trainers, scooters
and other wheeled non-motorized recreational equipment is considering an expansion of their
product line to Europe. The expansion would require a purchase of equipment with a price of
euro 1,200,000 and additional installation of euro 300,000 (assume that the installation costs
cannot be expensed, but rather, must be depreciated over the life of the asset). Because this
would be a new product, they will not be replacing existing equipment. The new product line is
expected to increase revenues by euro 600,000 per year over current levels for the next 5 years,
however; expenses will also increase by euro 200,000 per year. (Note: Assume the after-tax
operating cash flows in years 1-5 are equal, and that the terminal value of the project in year 5
may change total after-tax cash flows for that year.) The equipment is multipurpose and the firm
anticipates that they will sell it at the end of the five years for euro 500,000. The firm's required
rate of return is 12% and they are in the 40% tax bracket. Depreciation is straight-line to a value
of euro 0 over the 5-year life of the equipment, and the initial investment (at year 0) also requires
an increase in NWC of euro 100,000 (to be recovered at the sale of the equipment at the end of
five years). The current spot rate is $0.95/euro , and the expected inflation rate in the U.S. is 4%
per year and 3% per year in Europe.
7) Refer to Instruction 18.1. What is the initial investment for the Velo Rapid Revolutions
project?
A) $1,500,000
B) €1,600,000
C) $1,600,000
D) €1,500,000
8) Refer to Instruction 18.1. What are the annual after-tax cash flows for the Velo Rapid
Revolutions project?
A) €400,000
B) €240,000
C) €120,000
D) €360,000
9) Refer to Instruction 18.1. What is the NPV of the European expansion if Velo Rapid
Revolutions first computes the NPV in euros and then converts that figure to dollars using the
current spot rate?
A) $1,520,000
B) $1,684,210
C) -$75,310
D) -$71,544
10) Refer to Instruction 18.1. In euros, what is the NPV of the Velo Rapid Revolutions
expansion?
A) €1,524,690
B) $1,611,317
C) -€75,310
D) -€111,317
11) Refer to Instruction 18.1. What is the IRR of the Velo Rapid Revolutions expansion?
A) 14.4%
B) 10.3%
C) 12.0%
D) 8.6%
12) If a firm undertakes a project with ordinary cash flows and estimates that the firm has a
positive NPV, then the IRR will be:
A) less than the cost of capital.
B) greater than the cost of capital.
C) greater than the cost of the project.
D) cannot be determined from this information
