Chapter 13
Assume that you wanted to expand your Learning English business to other non-U.S. countries where
some individuals may want to speak English.
a. Explain why you might be able to stabilize the profits of your total business in this manner.
Review the motives for direct foreign investment that are identified in this chapter. Which of
these motives are most important?
b. Why would a city such as Montreal be a less desirable site for your business than a city such as
Mexico City?
c. Describe the conditions in which your total business would experience weak effects even if the
business was spread across 3 or 4 countries.
d. What factors affect the probability of these conditions occurring? (In other words, explain why
the conditions could occur in one set of countries, but not another set of countries).
e. What data would you review to assess the probability of these conditions occurring?
f. Consider that the prevailing service you offer is teaching individuals in Mexico to speak English,
and your business has already created some supplemental pamphlets and CDs that translate
common Spanish terms into English. How could you expand your business in a manner that may
allow you to benefit from economies of scale (and perhaps even benefit from your existing
business reputation)? When you attempt to benefit from economies of scale, do you forgo
diversification benefits? Explain.
g. How would you come to a decision on whether to pursue business expansion that capitalizes on
economies of scale even if it would forgo diversification benefits? Do you think economies of
scale would be more important or less important than diversification for your business?
h. Is there any way to achieve economies of scale and yet still achieve diversification benefits?
ANSWER:
a. First, you must be capable of training the individuals, so it would be easier if you already knew
the language. Regarding the motives mentioned in the text, a key factor is that there must be a
b. Many people in Montreal speak English already, so there may not be sufficient demand for the
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International Cash Management 2
c. Your total business would be weak if all the countries in which you did business experienced
d. The probability that all countries where you do business experiencing weak economic conditions
e. Historical data on the growth in gross domestic product over time could be used to assess the
f. You could capitalize on economies of scale by expanding your business within Mexico. You may
g. You would have the weigh the costs and benefits. It would likely be much easier for you to
Chapter 14
a. Review the different items that are used in the multinational capital budgeting example (Spartan
Inc.). Describe the items that would be included on a spreadsheet if you were to conduct a
multinational capital budgeting analysis of investing dollars to expand your existing language
business in a different location.
b. Assume that you recognize your limitations in predicting the future exchange rate of the invoice
currency for your expanded business. You think that there are several possible exchange rate
scenarios, each with equal probability of occurrence. Explain how you could use this information
to estimate the future NPV and make a decision about whether to accept or reject the project.
c. Now assume that there is also much uncertainty about the demand for your service by individuals.
Explain how you can attempt to incorporate this uncertainty along with the uncertainty of
exchange rate movements so that you can make a decision about whether to accept or reject the
project.
d. Explain how you would derive a required rate of return for your capital budgeting analysis. What
type of information would you use to derive the required rate of return?
ANSWER:
a. Demand and price would be used to estimate total revenue. There may be a variable cost per unit
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International Cash Management 3
A salvage value can be included, assuming that someday the business could be sold. The business
b. You can use sensitivity analysis by deriving a net present value for each exchange rate scenario.
c. You can apply sensitivity analysis by allowing for possible outcomes for the demand as well as
d. Your required rate of return should represent the return that you require to invest in the project.
Thus, the first step is to determine what rate you would earn if you could invest the funds in a
Chapter 15
You have an opportunity to purchase a private competitor called Fernand in Mexico. You will use only
your funds if you decide to purchase the company.
a. When you attempt to determine the value of this company, how will you derive your required rate
of return? Specifically, should you use the U.S. or Mexico risk-free rate as a base when deriving
your required rate of return? Why?
b. Another Mexican firm called Vascon also considers the purchase of this firm. Explain why
Vascon’s required rate of return may be higher than your required rate of return? Is there any
reason why Vascon’s required rate of return may be lower than your required rate of return?
c. Assume that you and Vascon have the same expectations regarding the Mexican cash flows that
will be generated by Fernand. Fernand’s owner is willing to sell the company for 2 million
Mexican pesos. You and Vascon use a similar process to determine the feasibility of acquiring a
target. You both compare the present value of the target’s cash flows to the purchase price of the
target. Based on your analysis, Fernand would generate a positive net present value for your firm.
Based on Vascon’s analysis, Fernand would generate a negative net present value for Vascon.
How could you determine that the acquisition of Fernand is feasible, while Vascon determines
that the acquisition of Fernand is not feasible?
d. Repeat Question c, except reverse the assumptions. Based on your analysis, Fernand would
generate a negative net present value for your firm. Based on Vascon’s analysis, Fernand would
generate a positive net present value for Vascon. How could you determine that the acquisition of
Fernand is not feasible, while Vascon determines that the acquisition of Fernand is feasible?
ANSWER:
a. You should use a U.S. risk-free rate as a based since you are using U.S. funds to make the
investment.
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International Cash Management 4
b. Vascon should use the Mexican risk-free rate as a base since it would use Mexican pesos to make
the investment. Its required rate of return may be higher because the risk-free rate in Mexico is
c. Fernand may be more feasible to you than to Vascon if your required rate of return is lower than
d. Fernand may be less feasible to you than to Vascon if your required rate of return is higher than
Chapter 16
a. Review the political risk factors, and identify those that could possibly affect your business.
Explain how your cash flows could be affected?
b. Explain why any threats of terrorism due to friction between two countries could possibly your
business, even if the terrorism has no effect on the relations between the U.S. and Mexico.
c. Assume there is an upcoming election in Mexico that may result in a complete change in
government.
d. Explain why such an election can have significant effects on your cash flows.
ANSWER:
a. If the attitude of consumers in Mexico toward the U.S. or other English-speaking countries
b. If the relations between the U.S. and Mexico deteriorate, the host government may impose higher
c. Terrorism can reduce travel between all countries, and therefore reduce the interest in learning
d. A change in government can affect the cash flows of your business in the following ways. First, it
Chapter 17
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International Cash Management 5
a. Assume that your business is considering expansion within Mexico. You plan to invest a small
amount of U.S. dollar equity into this project, and finance the remainder with debt. You can
obtain debt financing for the expansion in Mexico , but the interest rates in Mexico are higher
than in the U.S. Yet, if you used mostly U.S. debt financing, you are more exposed to exchange
rate risk. Explain why.
b. If you pursue a new project in Mexico , you want to assess the feasibility of the project if you use
mostly U.S. debt financing, versus mostly Mexican debt financing. Yet, you also want to capture
possible exchange rate effects on your cash flows over time. How can you use capital budgeting
to conduct your comparison?
c. You would prefer to avoid using Mexican debt to finance your expansion in Mexico because the
interest rates are high. A consultant suggests that you seek one or more investors in Mexico who
would be willing to take an equity position in your business. You would provide them with
periodic dividends and they would be partial owners of your company. The consultant suggests
that this strategy circumvents the high cost of capital in Mexico because it uses equity financing
instead of debt financing. Is the consultant correct?
ANSWER:
a. All of your revenue is denominated in Mexican pesos, while your debt costs would be
b. You can use capital budgeting in which you assess the return on your equity investment. The
financing expenses can be counted as cash outflows. In either case, you pay your labor cost and
rent cost in Mexican pesos in each month (or whatever) before you convert the Mexican peso
c. The consultant is wrong. The cost of equity in Mexico is affected by the risk-free interest rate in
Mexico. Mexican investors will only invest in a risky project if the project pays what they could
Chapter 18
a. Recall from the previous chapter that your business is considering expansion within Mexico.
Recall that you plan to invest a small amount of U.S. dollar equity into this project, and finance
the remainder with debt. You can obtain debt financing for the expansion in Mexico , but the
interest rates in Mexico are higher than in the U.S. Today, you receive credit offers from different
banks. You can either obtain a fixed-rate loan in the U.S. at 8 percent for the life of this project, or
a floating-rate loan (rate changes each year in response to market interest rates) in Mexico at 10
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International Cash Management 6
percent. Explain how you could estimate the net present value of the project for each alternative
financing method. Include in your explanation how you would account for the uncertainty of
future interest rate movements of the Mexican debt.
ANSWER:
a. You can use capital budgeting in which you assess the return on your equity investment. The
financing expenses can be counted as cash outflows. In either case, you pay your labor cost and
rent cost in Mexican pesos in each month (or whatever) before you convert the Mexican peso
Chapter 19
Your business provides CDs on learning English that compliment the teaching that is provided by your
employees based in Mexico. Assume that you decide to capitalize on these CDs by selling them to a large
retail store based in Mexico. The CDs are not as effective without the teaching, but can be useful to
individuals who want to learn the basics of the English language. You do not want to take the risk of
sending a case of CDs to the retail store unless you can be sure of receiving payment. Explain how you
can ensure payment for the CDs.
ANSWER:
You can ask a bank to issue a letter of credit, which agrees to pay you when the retail store receives the
Chapter 20
If you decide to implement a major marketing campaign in Mexico , you will incur high expenses in
Mexican pesos. You would need to finance the cost of your marketing. You could either borrow dollars at
a low interest rate and convert them to Mexican pesos to cover the cost, or borrow Mexican pesos to
cover the cost. You would expect to pay off the loan on a monthly basis over the next year with the use of
a portion of the revenue you generate from your business in Mexico.
a. Would your business be more exposed to exchange rate risk if you borrow dollars or Mexican
pesos?
b. Explain how you would make the decision to borrow dollars versus Mexican pesos. What is the
key factor (other than the interest rate of each currency) that will determine whether you should
borrow dollars or Mexican pesos.
ANSWER:
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International Cash Management 7
a. You are more exposed to exchange rate risk if you borrow dollars, because you would need to
b. You can determine whether your present value of dollar cash flows after making the financing
Chapter 21
Assume that decide not to implement the marketing campaign that you considered in the previous chapter.
You may pursue it next year instead and will attempt to invest some of your profits this year in money
market investments, and then use this money to cover the campaign next year. You can retain your profits
earned this year by investing them in a Mexican bank where interest rates are high. Alternatively, you
could invest the profits in a dollar-denominated bank account. That is, you could convert your Mexican
peso profits to dollars periodically and accumulate the dollars over the year. At the end of the year, you
could convert the dollars back to Mexican pesos, so that you can pay for the marketing campaign. Explain
how you could decide between these two alternatives.
ANSWER:
To measure the funds that accumulate in the Mexican peso account: Estimate the amount of profits that
To measure the funds that accumulate in the Mexican peso account: Estimate the amount of dollars that
you would invest in the U.S. account, which requires conversion of the Mexican peso profits into dollars.
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