Chapter 20 ‒ Accounting and Finance in International Business
Accounting and Finance in
International Business
Learning Objectives
• LO20-1: Discuss the national
differences in accounting standards.
• LO20-2: Explain the implications of
the rise of international accounting
standards.
• LO20-3: Explain how accounting
systems affect control systems within
the multinational enterprise.
• LO20-4: Discuss how operating in
different nations affects investment
decisions within the multinational
enterprise.
• LO20-5: Discuss the different
financing options available to the
foreign subsidiary of a multinational
enterprise.
This chapter deals with accounting and financial
management in international business. It
illustrates and explains how decisions in
accounting, investments, financing, and money
management are complicated by different
currencies, different tax regimes, different levels
of political and economic risk, and so on.
Accounting, the language of business, provides
the means for firms to communicate their
financial positions to investors, creditors, and the
government. Financial information also is used in
making resource allocations. International
businesses are confronted with a number of
accounting challenges that do not arise in the case
of domestic businesses. They must prepare reports
for international constituencies and translate and
consolidate information across countries and
currencies.
Financial managers must also account for these
factors when deciding which activities to finance,
how best to finance those activities, how best to
manage the firm’s financial resources, and how
20
Chapter 20 ‒ Accounting and Finance in International Business
OUTLINE OF CHAPTER 20: ACCOUNTING AND FINANCE IN
INTERNATIONAL BUSINESS
Opening Case: Pfizer, Novartis, Bayer, and GlaxoSmithKline
Introduction
National Differences in Accounting Standards
International Accounting Standards
Management Focus: Chinese Accounting
Accounting Aspects of Control Systems
Exchange Rate Changes and Control Systems
Transfer Pricing and Control Systems
Separation of Subsidiary and Manager Performance
Financial Management: The Investment Decision
Capital Budgeting
Project and Parent Cash Flows
Management Focus: Black Sea Oil and Gas Ltd.
Adjusting for Political and Economic Risk
Risk and Capital Budgeting
Chapter 20 ‒ Accounting and Finance in International Business
CLASSROOM DISCUSSION POINT
Ask students about the accounting system in the United States. Why is it mandatory for
companies to abide by the system? Then, ask students to take the perspective of an
investor. How does the system in the United States help investors? Try to focus on issues
OPENING CASE: Pfizer, Novartis, Bayer, and GlaxoSmithKline
Summary
The opening case explores four large pharmaceutical companies and their role in the
rising costs of healthcare particularly in the United States. The four companies, Pfizer,
Novartis, Bayer, and GlaxoSmithKline, all date back to the mid-1800s and have annual
revenues of at least $39 billion and assets of at least $77 billion. Taken together, the four
companies employ around 400,000 people and serve customers in 195 countries.
Discussion of the case can begin with the following questions:
QUESTION 1: Why have companies like Pfizer, Novartis, Bayer, and GlaxoSmithKline
recently come under so much fire in the United States? Why are prescription drug prices
so high?
ANSWER 1: The rising cost of healthcare has become a lightning rod in U.S. politics and
a rallying point for elected officials on both sides of the aisle. Hopeful presidential
candidates rail the drug companies as being major contributors to rising healthcare costs
Chapter 20 ‒ Accounting and Finance in International Business
McGraw-Hill Education.
QUESTION 2: Do U.S. politicians have it right? Should major pharmaceutical
companies like Pfizer, GlaxoSmithKline, Novartis, and Bayer be held accountable for the
rising costs of healthcare? What alternatives do you see?
ANSWER 2: This question is likely to generate significant discussion among students.
Many students will suggest that until the rise in prescription drug prices is curtailed,
healthcare costs in the United States will continue to rise. Other students, however, may
suggest that while rising prescription prices are a contributor to the overall increase in
QUESTION 3: Should Americans be worried about the cost of healthcare in the United
States as compared to other countries? How does level of care influence those prices?
What are the long-term implications if healthcare costs in the United States cannot be
contained?
ANSWER 3: Students will probably be divided on this issue. Those in favor of a more
single system healthcare program will probably agree that the United States is at a
disadvantage relative to other developed countries when it comes to healthcare costs.
Students sharing the perspective may suggest that if those costs continue to climb, the
United States may find itself in a less competitive position globally. Other students,
Chapter 20 ‒ Accounting and Finance in International Business
LECTURE OUTLINE
This lecture outline follows the Power Point Presentation (PPT) provided along with this
instructor’s manual. The following provides a brief overview of each Power Point slide
along with teaching tips and additional perspectives.
Slide 20-3 Introduction
Accounting is the language of business—it is the way firms communicate their financial
positions.
Financial management focuses on three types of decisions: investment, financing, and
money management. In international business, currencies, tax regimes, regulations on
capital flows, norms for the financing of business, and levels of economic and political
risk all influence these decisions.
Slides 20-5 – 20-6 International Accounting Standards
Because of national differences in accounting and auditing standards, comparability of
financial reports from one country to another is difficult.
There has been a substantial effort recently to harmonize accounting standards across
countries. The International Accounting Standards Board (IASB) is a major proponent of
standardization.
Chapter 20 ‒ Accounting and Finance in International Business
Activity
Students are asked to match various accounting “events” to the correct position in the timeline.
Class Discussion
It is important for international managers to understand the evolution of international accounting
standards. Which countries are leading the way towards the establishment of international
accounting standards and why?
Slides 20-7 – 20-12 Accounting Aspects of Control Systems
The control process in most firms is usually conducted annually and involves three steps:
1. Subunit goals are jointly determined by the head office and subunit management.
2. The head office monitors subunit performance throughout the year.
3. The head office intervenes if the subsidiary fails to achieve its goal and takes
corrective actions if necessary.
Exchange Rate Changes and Control Systems
Most international firms require budgets and performance data to be expressed in the
corporate currency—normally the home currency.
CONNECT
Click and Drag
Accounting Aspects of a Control System
Summary
This activity explores accounting aspects of control systems. It is important to understand control
issues and the implications of the accounting aspects of a control system.
Chapter 20 ‒ Accounting and Finance in International Business
Class Discussion
In many companies, the budget is the main instrument of financial control, yet performance can
be affected by elements beyond the control of the firm. It is essential that international managers
understand these challenges and their implications for the organization and its subunits.
Political risk is the likelihood that political forces will cause drastic changes in a
country’s business environment that hurt the profit and other goals of a business.
Economic risk is the likelihood that economic mismanagement will cause drastic changes
in a country’s business environment that hurt the profit and other goals of a business.
Risk and Capital Budgeting
The risk that stems from a location can be handled in two ways:
1. Increase the discount rate applicable to foreign projects in countries where
political and economic risks are perceived as high.
2. Revise future cash flows from the project downward to reflect the possibility of
adverse political or economic changes sometime in the future.
Chapter 20 ‒ Accounting and Finance in International Business
Slides 20-20 ‒ 20-26 Financial Management: Global Money Management
Money management decisions attempt to manage global cash resources efficiently by
minimizing cash balances, reducing transaction costs, and minimizing the corporate tax
burden.
Minimizing Cash Balances
Firms must consider the tradeoffs involved in allowing each subsidiary to hold its own
cash balances versus pooling cash at a central depository.
CONNECT
Click and Drag
Global Money Management
Summary
This activity focuses on global money management in the international business. Understanding
the firm’s goals and how those goals can be affected by outside forces is essential to successful
global money management.
Reducing Transaction Costs
Transaction costs are the cost of exchange. Every time a firm changes cash from one
currency to another, they face transaction costs. Most banks also charge a transfer fee for
moving cash from one location to another. Firms can use multilateral netting (or
bilateral netting) to reduce transactions costs.
Managing the Tax Burden
Double taxation occurs when the income of a foreign subsidiary is taxed by the host–
country government and by the home-country government.
Chapter 20 ‒ Accounting and Finance in International Business
A tax treaty between two countries is an agreement specifying what items of income will
be taxed by the authorities of the country where the income is earned.
A deferral principle specifies that parent companies are not taxed on foreign source
income until they actually receive a dividend.
The most common method of transferring funds from subsidiaries to the parent is through
dividends.
Royalties represent the remuneration paid to the owners of technology, patents, or trade
names for the use of that technology or the right to manufacture and/or sell products
under those patents or trade names.
A fee is compensation for professional services or expertise supplied to a foreign
subsidiary by the parent company or another subsidiary.
Transfer prices can be used to position funds within an international business.
Fronting loans circumvent host government restrictions on the remittance of funds and
have certain tax advantages.
CONNECT
Click and Drag
Moving Money Across Borders
Summary
This activity focuses on moving money across borders and repatriating profits. International
companies use a variety of techniques to transfer money across borders.
Chapter 20 ‒ Accounting and Finance in International Business
Class Discussion
Parent companies and local subsidiaries may not be on the same page when it comes to moving
money across borders. Discuss why moving money across borders becomes more challenging
when foreign subsidiaries are not wholly owned.
CONNECT
Case Analysis
Tesla Inc. Subsidizing Tesla Automobiles Globally
Summary
This activity focuses on Tesla’s sales of electric cars in Europe. Tesla’s sales in Europe and
especially in Denmark have been helped by government incentives.
CRITICAL THINKING AND DISCUSSION QUESTIONS
QUESTION 1: Why do the accounting systems of different countries differ? Why do
these differences matter?
ANSWER 1: Accounting systems are shaped by the environment of the country and have
evolved to meet the nature of demand for accounting information in that country. Five
QUESTION 2: Why might an accounting-based control system provide headquarters
management with biased information about the performance of a foreign subsidiary?
How can these biases best be corrected?
ANSWER 2: There are three primary reasons why accounting-based control systems may
provide headquarters management with biased information about the performance of a
Chapter 20 ‒ Accounting and Finance in International Business
subsidiary: exchange rate changes, transfer prices, and general economic conditions.
Because exchange rates can change over the course of a budget, translated financial data
QUESTION 3: You are the CFO of a U.S. firm whose wholly owned subsidiary in
Mexico manufactures component parts for your U.S. assembly operations. The subsidiary
has been financed by bank borrowings in the United States. One of your analysts told you
that the Mexican peso is expected to depreciate by 30 percent against the U.S. dollar on
the foreign exchange markets over the next year. What actions, if any, should you take?
ANSWER 3: This issue suggests that some interest and principal will have to be repaid in
U.S. dollars in the near future, but the plan was likely to pay this off out of earnings from
the Mexican subsidiary. Paying off the entire loan in advance before the peso depreciates
would be a good option. At least the peso funds could be transferred out of Mexico now
QUESTION 4: You are the CFO of a Canadian firm that is considering building a $10
million factory in Russia to produce milk. The investment is expected to produce net cash
flows of $3 million each year for the next 10 years, after which the investment will have
to close down due to technological obsolescence. Scrap values will be zero. The cost of
capital will be 6 percent if financing is arranged through the Eurobond market. However,
you have an option to finance the project by borrowing funds from a Russian bank at 12
percent. Analysts tell you that due to high inflation in Russia, the Russian ruble is
expected to depreciate against the Canadian dollar. Analysts also rate the probability of
violent revolution occurring in Russia within the next 10 years as high. How would you
Chapter 20 ‒ Accounting and Finance in International Business
incorporate these factors into your evaluation of the investment opportunity? What would
you recommend that the firm do?
ANSWER 4: In considering these investments there are three basic steps:
• Make a basic analysis.
• Adjust for economic/political risk.
There are several different ways of approaching this problem, and the method outlined
below is just one. Different assumptions would lead to different answers.
(1) Make a basic analysis of the investment:
A quick analysis of the basic problem: a $10 million investment that pays $3
million/year for 10 years shows a ROI of 27 percent, suggesting that this is a
good opportunity.
(2) Adjust for risk:
can be factored into the yearly cash flows.
(3) Determine whether it would be better to fund the project from Canada or Russia
or not at all.
(a) Russian funds: If we assume that if there is a violent revolution, we would
neither earn money nor have to pay back the bank. (Let them have the plant if
they are around to get it from the revolutionaries.) The financing in Russia
looks very good. Having a 27 percent ROI while having to pay only 12
(b) Eurobond Funds: Eurobond investors would still want to be paid even if
the plant goes out of production. They will also want to be paid most likely in
U.S. dollars or some European currency; it is unlikely that the Eurobonds
would be denominated in either rubles or Canadian dollars. Hence the
approach would be to discount the cash flows for economic/political risk,
discount them for the currency depreciation, make payments on the
Chapter 20 ‒ Accounting and Finance in International Business
Eurobonds, and then determine the net present value of the remainder. The
quick calculation shows that this is still a positive net present value option.
CLOSING CASE: Shoprite: The Financial Success of a Food Retailer in
Africa
Summary
The closing case describes the expansion and operations of South Africa’s largest food
retailer, Shoprite Group. Shoprite attributes its success to control of its supply chain, its
investment in employee skills, its investment in infrastructure, and its focus on value-
added services that complement the shopping experience. Discussion of the case can
begin with the following questions:
QUESTION 1: Some 76 percent of South Africa’s adult population shops at one of
Shoprite’s supermarket brands, and the Shoprite Group is the 94th largest retailer in the
world and the largest in Africa. Yet, Shoprite is only in Africa and the Indian Ocean
Islands. Should the company expand its global footprint? Can it be more financially
successful worldwide with the same business model it operates in Africa?
ANSWER 1: With its 2,300 stores spread across 15 countries in the region, Shoprite has
proven its success in what might be considered by competitors to be a difficult market.
Shoprite’s roots in the region are likely to be an advantage when it comes to
QUESTION 2: Shoprite measures its financial success via a large set of traditional and
nontraditional statistics. If you worked for Shoprite, how would you feel about being
evaluated on the nontraditional statistics?
Chapter 20 ‒ Accounting and Finance in International Business
QUESTION 3: Shoprite has an unwavering dedication to providing the lowest prices to
customers of all income levels across the 15 countries it serves in Africa and the Indian
Ocean Islands. Usually low-cost firms get sidestepped at some point in the future by
another company that can offer even lower costs. How can Shoprite ensure that the
company is viable in the long-term with its low-cost approach?
ANSWER 3: Shoprite’s success with its low-cost strategy is reflected in its huge market
share across the 15 countries it serves in Africa and the Indian Ocean Islands. In addition
to its focus on offering low prices, Shoprite has also committed to investing in its
QUESTION 4: The financial success of Shoprite depends as much on repeat customers
as it does on pursuing efficiency in everything that the company does. Shoprite’s
advanced distribution centers and sophisticated supply chain infrastructure provide
greater control over operations. How can the supply chain infrastructure be leveraged to
excel in financial performance?
ANSWER 4: Shoprite is Africa’s largest food retailer; however, in addition to food
products, Shoprite also sells household products, furniture, pharmaceuticals, and financial
services. Shoprite believes that by offering a range of products across different
Chapter 20 ‒ Accounting and Finance in International Business
MHE INTERNATIONAL BUSINESS VIDEO LIBRARY
Every new clip posted is supported by teaching notes and discussion questions. Please
feel free to leave comments in the library that you feel might be helpful to your
colleagues.
CONNECT
Geography
Summary
This activity is designed to test the student’s knowledge of geography. Questions related to
chapter material are asked, requiring students to understand the topics and the locations of the
countries involved.
INCORPORATING globalEDGE™ EXERCISES
Exercise 1
The inflation rate of a country can affect financial planning in multinational corporations
since the value of receivables in each country can face significant devaluation if the
inflation rates are high. Your company has operations in the following countries: Belarus,
Costa Rica, Finland, Iceland, Paraguay, Thailand, and Zimbabwe. Use the Country
Comparator on the globalEDGE™ site to rank the risk of devaluation of your company’s
receivables from highest to lowest, based on the most recent data available for each
Chapter 20 ‒ Accounting and Finance in International Business
country. What precautions can your company take in the countries at the top of this list to
minimize the risk?
Exercise 2
The top management of your company has requested information on the tax policies of
Argentina. Using the country guide for Argentina on Deloitte International Tax and
Business Guides—a resource that provides information on the investment climate,
operating conditions, and tax systems of major trading countries—prepare a short report
summarizing your findings on business taxation in Argentina.
Answers to Exercises
Exercise 1 Answer
Additional Info:
Country Comparator is a globalEDGE™ tool that allows users to generate a comparison
of countries based on a number of economic indicators. A user can first select up to five
indicators and then up to 20 countries to compare in a table format.
Exercise 2 Answer
Additional Info:
Deloitte’s International Tax and Business Guides focus on the investment climate,
operating conditions, and tax system of most major trading countries. The guides are
supplemented by country highlights, which provide a quick overview of the tax landscape
of more than 130 countries. The guides and highlights are available in PDF format.