Fin 570: International Finance Dr. Greco, Summer 2009

Fin 570: International FinanceFin 570: International FinanceDr. Greco, Summer 2009Dr. Greco, Summer 2009

Rezene A. • Calvin C. • Edward M. • Vince T. • Tiffany T. • Calvin C. • Edward M. • Vince T. • Tiffany T.

Wiley InternationalWiley International

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WIWI

• Manufacturer of motors and componentsManufacturer of motors and components

• ““Wiley Inc.” to “Wiley International”Wiley Inc.” to “Wiley International”

• Best managers assigned to foreign Best managers assigned to foreign divisionsdivisions

– Regional managers propose to HQRegional managers propose to HQ

– Made separately due to difficulties in risk Made separately due to difficulties in risk differencesdifferences

About Wiley InternationalAbout Wiley International

WIWI

Richard Esposito’s new policyRichard Esposito’s new policy

•Uniform domestic and foreign decision making process

•Regional managers to provide project’s FCFs and NPV

•Apply U.S. hurdle rate of 9% to all international projects

•New policies speed up decision making

– Consider non-quantifiable factors

About Wiley InternationalAbout Wiley International

WIWI

Purpose: Purpose: Increase production capacity

• Finance a new manufacturing plantFinance a new manufacturing plant

– Increase market share and profit marginIncrease market share and profit margin

• Gain competitive advantageGain competitive advantage

– Foreign firms who face trade barriersForeign firms who face trade barriers

– Small domestic firms with a history of Small domestic firms with a history of quality problemsquality problems

The Brazilian ProposalThe Brazilian Proposal

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Purpose of RequestPurpose of Request

• Quality of workforce and regulationsQuality of workforce and regulations

• Take advantage of incentive programs Take advantage of incentive programs from Brazilian governmentfrom Brazilian government

• Division requests – at R$2.8/US$1:Division requests – at R$2.8/US$1:


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Financial JustificationFinancial Justification

• R$6m training expensed for taxesR$6m training expensed for taxes

• R$30m will be using 5-year straight-line R$30m will be using 5-year straight-line depreciationdepreciation

ProjectProject FinancingFinancing

•Purchase equipment from Japan

•Financing 80% of project with 5-year loan denominated in Yen at 0.5%


• Project’s IRR is calculated using CFs Project’s IRR is calculated using CFs denominated in Real while U.S. hurdle denominated in Real while U.S. hurdle rate is 9%rate is 9%

• 5.5% value (NY’s 6.0% - Japan’s 0.5%) is 5.5% value (NY’s 6.0% - Japan’s 0.5%) is not an accurate measurementnot an accurate measurement

• Degree of leverageDegree of leverage

– 1.5 to 1.0 is preferred1.5 to 1.0 is preferred

– Project will result in ratio of 4.0 to 1.0Project will result in ratio of 4.0 to 1.0

Esposito’s ConcernsEsposito’s Concerns

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PoliticalPolitical

•Changes in government policy or the law

•Changes in government spending

EconomicEconomic

•Changes in inflation rate

•Exchange rate exposure

Background of BrazilBackground of Brazil

WI‘86: Plano Cruzado

Jan ’89: Summer Plan

Mar ’90: Plano Collor

Jul ‘94: Plano Real

Brazilian Inflation RatesBrazilian Inflation Rates

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Fernando Henrique Cardoso Fernando Henrique Cardoso

• Plano Real (Real Plan): Jul. 1994 – Jan. 1999

1. Created social emergency fund

2. Established Unidad Real 1:1 US dollar

3. Opened economy to foreign trade and investment

Economic Stabilization PlansEconomic Stabilization Plans

Brazilian GDPBrazilian GDP

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FHP Market ConditionFHP Market Condition

• US Shipments increased 66%

• Light vehicle FHP motors 64%

• Other uses:

– Appliance

– HVAC

– Computer

– Industrial

Source: The Freedonia Group

Market ConditionMarket Condition

U.S. Market 1993-1998U.S. Market 1993-1998

• Percentage of Imported FHP Growth 78%

• Mature Technology: Desire Low Cost Production

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North America:Demand increased 29%

Central/S. America:Demand increased 28%


Growing South American Free Growing South American Free TradeTrade

• Mercosur : Argentina, Brazil, Paraguay, Uraguay, Venezuela

• Andean Community: Bolivia, Ecuador, Peru, Columbia

• Initiated Process to form a Single Trading Bloc in 1999


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Manufacturing in Brazil and sell to:Manufacturing in Brazil and sell to:

• Brazilian domestic market

• Neighboring market

• Export to U.S.

• Takes advantage of exchange rate fluctuation


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Brazil is more attractive for Brazil is more attractive for Automotive FDIAutomotive FDI

•Potentially growing domestic automobile market

– 1:9 car per capita vs 1:2 car per capita in developed countries

•Technically advanced workforce

– Skilled in aerospace and computer

Brazilian ProposalBrazilian Proposal

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Brazil is more attractive relative to Brazil is more attractive relative to other South American countriesother South American countries

•Forecasted to be 6th largest economy by 2015

•Currently, largest economy in Latin America

•GDP per capita in 2001 is $6,500

– U.S. GDP per capita is $35,505

Brazilian Economic DataBrazilian Economic Data

ObservationsObservations

• Brazil’s growth rate is above South America’s average

• Brazil’s growth rate is lower volatility

Relative GDP Growth RateRelative GDP Growth Rate

ObservationsObservations

• Positive FDI Until 1999– Year of devaluation– Short-term capital

flight

• Negative Trade Balance

AssumptionAssumption

• As the Real depreciated, FDI opportunities increased

Balance of PaymentBalance of Payment

Chart – Source: http://www.latin-focus.com/latinfocus/countries/brazil/brabop.htm

•Costs do not change overtime

• Inflation rate will be stable between 7-9%

•Automakers will continue to produce more vehicles

•Lower tariffs will still continue to exist

AssumptionsAssumptions

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Basic IssuesBasic Issues

Hedging Risks

LowLow HighHigh

Lo

wL

ow

Hig

hH

igh

Political & Economic

Risks

Standardizing IRRs

CBRC Methodolog

y

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ImportanceImportance

Urg

en

cy

Urg

en

cy

Immediate IssuesImmediate Issues

Hedging Risks

LowLow HighHigh

Lo

wL

ow

ImportanceImportance

Urg

en

cy

Urg

en

cy

Hig

hH

igh

Financing

Political & Economic

Risks

Accept or Decline the

Project

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Cause and Effect DiagramCause and Effect Diagram

Political & Economic Stability

Exchange Rate / IRR

Determination

Equipment Financing

Industry Viability

ProjectDecision

• IRR for foreign projects > 9%

•Finance with lowest interest rate

lowest foreign exchange risk

•Steady increasing cash flows

•Potential increase in market share

•Economy with increasing:

– Growth rate

– Domestic market

– Technically advanced work force

Decision Making CriteriaDecision Making Criteria

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Alternative 1Alternative 1

Accept the proposal with the Accept the proposal with the assumption that all calculations assumption that all calculations are correct. are correct.

•Accept the project assuming that it generates an IRR of 14.2%

•Accept financing 80% of project with 5-year loan denominated in Yen at 0.5% WI


Reject the proposal.Reject the proposal.

• Reject the internal rate of return assumption

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Accept the proposal with revised Accept the proposal with revised calculations.calculations.

Break Even Inflation Rate

Apply inflation effect to IRR / NPV:

• Without Inflation Effect: 14.2% IRR & $18.874 CF

• With Inflation Effect: 10.51% IRR & $16,761 CF

Assumed Inflation Rate


Seek another foreign supplier and Seek another foreign supplier and financier.financier.

Assumptions:Assumptions:

• Inflation rates and interest rates will be around the current level for the next five years.

• PPP and IFE are at work in these markets

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Financing OptionsFinancing Options

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ConclusionConclusion

IRR:IRR: 10.51% > 9%

Financing:Financing: Real > US Dollar > Yen

Choose Alternative #3:Choose Alternative #3:

• Accept the proposal with revised calculations

• Keep the current financing option (Japanese Yen at 0.5%)

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RecommendationsRecommendations

• Look into future/forward contracts and see if it is cost effective:

$800K difference between Yen and U.S. Dollar

• Look into other financing options in other countries.

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WIWI

Thank youThank you

Fin 570: International Finance Dr. Greco, Summer 2009

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