Financial Management for Analysts

•  Foreign Direct Investment (FDI) is the investment made in physical assets like plant  and machinery in a foreign country, with the management control being retained by the domestic investor.
• FDI results in managerial control over the operations of the foreign entity.
• FDI can be done either by establishing a new corporate in the foreign country or by making further investments in an existing foreign entity or by acquiring an existing foreign business enterprise or by purchasing assets.
• Companies invest in foreign physical assets for a number of reasons. The important ones are: economies of scale, need to get around trade barriers, comparative advantage, vertical diversification, general diversification benefits, attacking foreign competition, extension of existing international operations, product life cycle, non-transferable knowledge, brand equity, and protection of brand equity.
• The economic viability of a home country project can be measured  using various tools like NPV,IRR,payback period, accounting rate of return etc.
• Certain issues like blocked funds, effect on the  cash flows of other divisions, restrictions on repatriation, taxability of cash flows, exchange rate movements and subsidized loans by the foreign government affect both the cash flows and the discount rate.
• The adjusted present value of a foreign project is given by:

      Where,

     APV =  Adjusted Present Value.

S₀ =   Current exchange rate.

C₀ =  Initial cash outlay in foreign currency terms.

A₀ = Activated funds.

S_t* = Expected exchange rate at time 't'.

n = Life of the project.

C_t* = Expected cash flow at time 't', in foreign currency terms.

E_t* = Expected  effect on the cash flows of other divisions at time 't' , expressed in domestic currency terms; can be either positive or negative.

T = Domestic or foreign tax rate, whichever is higher.

D_t = Depreciation in home currency terms at time 't'. (If the depreciation is not allowed to be set off by the parent company against its own profits, it needs to be defined in foreign currency terms with its present value being converted at S₀ into  domestic currency terms).

B₀ = Contribution of the project to borrowing capacity of the parent firm.

R = Domestic interest rate.

CL₀ = A mount of concessional loan received in foreign currency.

R_t = Repayment of concessional loan at time 't'.

P_t* = Expected savings at time 't' from inter-subsidiary transfer pricing.

I_t = Illegally repatriated cash flows at time 't'.

k_e = All-equity discount rate,  reflecting all systematic risks, including country risk and exchange-rate risk.

k_d = Discount rate for depreciation allowances.

k_b =   Discount rate for tax savings from generation of borrowing capacity

k_e = Discount rate for savings due to concessionary loans, generally the interest rate in the absence of concessionary loans.

k_p = Discount rate for savings through transfer pricing.

k_i = Discount rate for illegal transfers.

•  The economic, political, and financial aspects of a country in which the project is based are very crucial for the profitability of a project.