Incremental Cash Flow Analysis

in Financial management / No Comments

The most important and also the most difficult part of an investment analysis is to calculate the cash flow associated with the project; the cost of funding the project; the cash inflow during the life of the project; and the terminal, or ending value of the project. Shareholders are interested in how many additional rupees they will receive in future for the rupees they lay out today. Hence, what matters is not the project’s total cash flow per period, but the incremental cash flow for a variety of reasons. They include;

  • Cannibalization: When a new product is introduced it may take away the sales of existing products. Cannibalization also occurs when a firm builds a plant overseas and winds up substituting foreign production for parent company exports. In this case company may lose exports because it is supplying from its overseas production center. To the extent that sales of a new product or plant just replace other corporate sales, the new project’s estimated profits must be reduced by the earnings on the lost sales. However, it is difficult to assess the true magnitude of cannibalization because of the need to determine what would have happened to sales in the absence of the new product or plant. The incremental effect of cannibalization – which is the relevant measure for capital budgeting purposes – equals the lost profit on lost sales that would not otherwise have been lost had the new project not been undertaken.…
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    Centralized Cash Management Operations of Multinational Corporations

    in International Finance / No Comments

    International money managers attempt to attain on a worldwide basis the traditional domestic objectives of cash management: (1) bringing the company’s cash resources within control as quickly and efficiently as possible and (2) achieving the optimum conservation and utilization of these funds.

    Accomplishing the first goal requires establishing accurate, timely forecasting and reporting systems, improving cash collections and disbursements, and decreasing the cost of moving funds among affiliates. The second objective is achieved by minimizing the required level of cash balances, making money available when and where it is needed, and increasing the risk-adjusted return on those funds that can be invested. Restrictions and typical currency controls imposed by governments inhibit cash movements across national boundaries. These restrictions are different from one country to other. Managers require lot of foresight, planning, and anticipation. Other complicating factors in international money management include multiple tax jurisdictions, multiple currencies, and relative absence of internationally integrated interchange facilities for moving cash quickly from one place to other. However, by adopting advanced cash management techniques MNCs are able to take advantage of various opportunities available in different countries. By considering all corporate funds as belonging to a central reservoir or ‘pool’ and managing it as such, overall returns can be increased while simultaneously reducing the required level of cash and marketable securities worldwide.…

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    Inventory Management Practices in Multinational Corporations

    in International Business / No Comments
    Inventory Management

    Inventory in the form of raw materials, work in process or finished goods is held;

    1. to facilitate the production process by both ensuring that supplies are at hand when needed and allowing a more even rate of production and
    2. to make certain that goods are available for delivery at the time of sale.

    Although, conceptually, the inventory management problems faced by multinational firms are not unique, they may be exaggerated in the case of foreign operations. For instance, MNCs typically find it more difficult to control their overseas inventory and realize inventory turnover objectives. There are a variety of reasons: long and variable transit times if ocean transportation is used, lengthy customs proceedings, dock strikes, import controls, higher duties, supply disruption, and anticipated changes in currency values.

    Advanced Inventory Purchases

    In many developing countries, forward contracts for foreign currency are limited in availability or the nonexistent. In addition, restrictions often preclude free remittances, making it difficult, if not impossible, to convert excess funds into a hard currency. One means of hedging is to engage in anticipatory purchases of goods, especially imported items. The trade-off involves owning goods for which local currency prices may be increased, thereby maintaining the dollar value of the asset even devaluation occurs, versus forgoing the return on local money market investments.…

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    Multinational Corporations and Accounts Receivable Management

    in International Business / No Comments

    Multinational Corporations (MNC’s) grant trade credit to customers, both domestically and internationally, because they expect the investment in receivables to be profitable, either by expanding sales volume or by retaining sales that otherwise would be lost to competitors. Some companies also earn a profit on the financing charges they levy on credit sales.

    The need to scrutinize credit terms is particularly important in countries experiencing rapid rates of inflation. The incentive for customers to defer payment, liquidating their debts with less valuable money in the future, is great. Furthermore, credit standards abroad are often more relaxed than in the home market, especially in countries lacking alternative sources of credit for small customers. To remain competitive, MNCs may feel compelled to loosen their own credit standards. Finally, the compensation system in many companies tends to reward higher sales more than it penalizes an increased investment in accounts receivable. Local managers frequently have an incentive to expand sales even if the MNC overall does not benefit. Two key credit decisions to be made by a firm selling abroad are the amount of credit to extend and the currency in which credit sales are to be billed.

    The following five-step approach enables a firm to compare the expected benefits and costs associated with extending credit internationally:

    1. Calculate the current cost of extending credit.
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    Definition of Forfaiting

    in International Finance / No Comments
    Forfaiting Process

    Forfaiting is a specialized form of trade finance that allows the exporter to offer extended credit to the importer. Under this mechanism, the importer gives the exporter a bundle of bills of exchange or promissory notes covering the principal amount as well as the interest. Each tranche of the notes fall due at different points of time in the future, e.g. every six months, extending up to several years. The notes are backed by an aval or guarantee provided by a reputed bank in the importer’s country. The exporter can then discount these notes without recourse with banks who specialize in the forfaiting business to generate an immediate cash flow. This means that if either the importer or the guaranteeing bank fails to pay when notes fall due, the forfaiter cannot ask the exporter for reimbursement. The credit risk is assumed entirely by the forfaiter. The forfaiter in turn, may hold the notes in its own portfolio or sell different tranches in the secondary market (obviously at a discount smaller than what was charged to the exporter). Forfaiting tends to be a specialized business because each underlying export-import transaction generally has unique features.

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  • Forfaiting in Export Finance
  • Export Bills of Exchange
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    Buyers Credit and Suppliers Credit

    in International Finance / No Comments

    Buyer’s Credit

    Buyer’s Credits are a form of Eurocurrency loans designed to finance a specific transaction involving import of goods and services. Under this arrangement, lending bank(s) pay the exporter on presentation of shipping documents. The importer works out a deferred payment arrangement with the lending bank, which the bank treats as a loan. Large loans are club loans or syndicated loans. Many provisions in the loan agreement are quite similar to a general purpose syndicated credit. However, a number of formalities have to be completed before the exporter can draw funds. The interest rate of the loan is linked to a market index such as LIBOR. In some cases, a state Export Credit Agency from the exporter’s country may pay a subsidy to the banks so that an attractive funding cost can be offered to the importer.

    Another aspect is the Line of Credit. Lines of Credit are like buyers credits but are much wider in scope. A typical buyer’s credit involves one transaction between one supplier and one buyer. A line of credit covers several purchase transactions with the buyer importing different items from different suppliers. Many buyers can also be involved provided the ultimate credit risk is that of a single buyer or guarantor.

    Supplier’s Credit

    In a supplier’s credit, the exporter extends credit to the importer by allowing it to pay on a deferred payment basis.…

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