MF0015 – International Financial Management
Q.1. How does International Financial management helps in maximizing the wealth of shareholders?
Ans: Other than earning profit one of the main goal of any business is to maximize shareholder’s
wealth .Shareholders is a critical aspect of the business as their capital is invested and they are the
primary risk takers for the business.
To analyse the returns of shareholder's and maximizing their returns to investment it is important to
review different concepts in business to determine the risk-return model, profits, return on assets and
equity. Thus with the analysis of various profitability measures and financial return and what they mean
to shareholders, the primary role of business to increase profits and improve returns of shareholders in
addition of creation of wealth to make sure that the shareholder's trust is maintained towards business and
managers. Further as conflicts may arise when deciding on to the business goals which sometimes
neglects the shareholder's wealth maximization aim due to various economic conditions.
Maximizing shareholder's wealth would mean to create a balance between all the aspect of business and
the participants of business which includes; Management who ignores short term volatility in stock prices
and aims at the long-term goals of shareholders of wealth creation, the board of directors who are
responsible for undertaking various decisions of business which impacts business and shareholder's value
in both medium and long term, Investors and trade analysts who drill down the business performance to
project the short, medium and long term state of a business and finally the customers and employees who
always have long term interest with the business for mutually benefitting associations.
Q.2. Explain the major accounts and sub categories of BOP statement.
Ans: The measurement of all international economic transactions between the residents of a country and
foreign residents is called the balance of payments. The BOP is divided into three main categories:
the current account, the capital account and the financial account. Within these three categories are sub-
divisions, each of which accounts for a different type of international monetary transaction.
The Current Account:
The current account is used to mark the inflow and outflow of goods and services into a country.
Earnings on investments, both public and private, are also put into the current account. This account
includes all international economic transactions with income or payment flows occurring within the
Within the current account are credits and debits on the trade of merchandise, which includes goods such
as raw materials and manufactured goods that are bought, sold or given away. Services refer to receipts
from tourism, transportation, engineering, business service fees and royalties from patents and copyrights.
When combined, goods and services together make up a country's balance of trade (BOT). The BOT is
typically the biggest bulk of a country's balance of payments as it makes up total imports and exports. If a
country has a balance of trade deficit, it imports more than it exports, and if it has a balance of trade
surplus, it exports more than it imports.
It consists of four subcategories:
This account is typically dominated by Goods Trade.
The Capital Account:
The capital account is where all international capital transfers are recorded. This refers to the acquisition
or disposal of non-financial assets and non-produced assets, which are needed for production but have not
been produced, like a mine used for the extraction of diamonds.
The capital account is broken down into the monetary flows branching from debt forgiveness, the transfer
of goods, and financial assets by migrants leaving or entering a country, the transfer of ownership on
fixed assets , the transfer of funds received to the sale or acquisition of fixed assets, gift and inheritance
taxes, death levies, and, finally, uninsured damage to fixed assets.
The Financial Account:
In the financial account, international monetary flows related to investment in business, real estate, bonds
and stocks are documented.
Also included are government-owned assets such as foreign reserves, gold, special drawing rights (SDRs)
held with the International Monetary Fund, private assets held abroad, and direct foreign investment.
Assets owned by foreigners, private and official, are also recorded in the financial account.
Q.3. Define what do you mean by Forward markets. Discuss differences between Future Options and
Ans. Market dealing in commodities, currencies, and securities for future delivery at prices agreed-upon
the date of making the contract. In commodity and currency markets, forward trading is used as
a means of hedging against sharp fluctuations in their prices.
The spot market is for foreign exchange traded within two business days. However, some transactions
may be entered into on one day but not completed until sometime in the future. For example, a French
exporter of perfume might sell perfume to a US importer with immediate delivery but not require
payment for 30 days. The US importer has an obligation to pay the required francs in 30 days, so he or
she may enter into a contract with a trader to deliver dollars for francs in 30 days at a forward rate – the
rate today for future delivery.
Thus, the forward rate is the rate quoted by foreign exchange traders for the purchase or sale of foreign
exchange in the future. There is a difference between the spot rate and the forward rate known as the
spread in the forward market. In order to understand how spot and forward rates are determined, we
should first know how to calculate the spread between the spot and forward rates.
Q.4.Define cost of capital. Discuss the approaches that are employed to calculate cost of equity capital.
Ans: The required return necessary to make a capital budgeting project, such as building a new factory,
worthwhile. The cost of capital is a term used in the field of financial investment to refer to the cost of a
company's funds .From an investor's point of view "the shareholder's required return on a portfolio
company's existing securities". It is used to evaluate new projects of a company as it is the minimum
return that investors expect for providing capital to the company, thus setting a benchmark that a new
project has to meet, the cost of debt and the cost of equity.
The approaches that are used to calculate cost of equity capital:
a)Dividend price approach
According to dividend price approach, we can calculate cost of capital just dividing dividend per share
with market value of per share. This cost shows direct relationship between price of equity shares and
price of dividend. Its % value shows what amount, we are giving per $ 100 share.
Ke = D/P
This model assumes that dividends shall be paid at a constant rate to perpetuity. It ignores taxation.
b) The earning/price approach
This approach tells that we should not co-relate dividend per share with market value per share but we
should use total earning and try to co-relate it with market value of shares. We have to just write earning
per share of company instead writing dividend per share. It will be helpful to void the effect of dividend
policy on calculation of working capital.
c)Realised yield approach
This approach is improvement in dividend price approach for calculating cost of capital. In this approach,
we calculate cost of capital after analysis past payments of dividends. After this, we add some rate of
growth % in basic formula of cost of equity capital. In realised yield approach, dividend on per share will
be real value not expected value.
Q.5.Explain the technique adopted by MNC’s to reduce country risk.
Ans: Country risk represents the potentially adverse impact of a country’s environment on an MNC’s
cash flows. A macro assessment of country risk is an overall risk assessment of a country without
considering the MNC’s business. A micro assessment of country risk is the risk assessment of a country
with respect to the MNC’s type of business. The overall assessment thus consists of macro political risk,
macro financial risk, micro political risk, and micro financial risk. There is clearly a degree of
subjectivity in identifying the relevant political and financial factors, determining the relative importance
of each factor, and predicting the values of factors that cannot be measured objectively.
The techniques to reduce country risk are as follows:
The checklist approach involves rating and weighting all the macro and micro political and financial
factors to derive an overall assessment of country risk.
The Delphi technique involves collecting various independent opinions and then averaging and measuring
the dispersion of those opinions.
Quantitative analysis techniques like regression analysis can be applied to historical data to assess the
sensitivity of the business to various risk factors.
Inspection visits involve traveling to a country and meeting with government officials, firm executives,
and consumers to clarify uncertainties.
Often, firms use a variety of techniques for making country risk assessments. For example, they may use
the checklist approach to develop an overall country risk rating, and some of the other techniques to
assign ratings to the factors.
Q.6.Define benefits of FDI. State the cost of FDI to the home country.
Ans: FDI means Foreign Direct Investment which is mainly dealings with monetary matters and using
this way they acquires standalone position in the Indian economy. Their policy is very simple to remove
rivals. In beginning days they sell products at low price so other competitor shut down in few months.
And then companies like Wall-Mart will increase prices than actual product price.
One of the advantages of foreign direct investment is that it helps in the economic development of the
particular country where the investment is being made.
This is especially applicable for developing economies. During the 1990s, foreign direct investment was
one of the major external sources of financing for most countries that were growing economically. It has
also been noted that foreign direct investment has helped several countries when they faced economic
Integration into global economy - Developing countries, which invite FDI, can gain access to a wider
global and better platform in the world economy.
Economic growth - This is one of the major sectors, which is enormously benefited from foreign direct
investment. A remarkable inflow of FDI in various industrial units in India has boosted the economic life
Trade - Foreign Direct Investments have opened a wide spectrum of opportunities in the trading of
goods and services in India both in terms of import and export production. Products of superior quality
are manufactured by various industries in India due to greater amount of FDI inflows in the country.
Technology diffusion and knowledge transfer – FDI apparently helps in the outsourcing of knowledge
from India especially in the Information Technology sector. Developing countries by inviting FDI can
introduce world-class technology and technical expertise and processes to their existing working process.
Foreign expertise can be an important factor in upgrading the existing technical processes.
Increased competition - FDI increases the level of competition in the host country. Other companies will
also have to improve on their processes and services in order to stay in the market. FDI enhanced the
quality of products, services and regulates a particular sector. Linkages and spillover to domestic firms-
Various foreign firms are now occupying a position in the Indian market through Joint Ventures and
collaboration concerns. The maximum amount of the profits gained by the foreign firms through these
joint ventures is spent on the Indian market.
Human Resources Development - Employees of the country which is open to FDI get acquaint with
globally valued skills.
Employment - FDI has also ensured a number of employment opportunities by aiding the setting up of
industrial units in various corners of India.
There are three primary ways in which one can study potential costs to a home country of FDI:
· Adverse effect on home manufacturers
· Adverse effects on BOP
· National sovereignty is at stake
With the inflow of international trade and international companies, development of the home company
can be hampered. The manufacturers of that country are affected by competition. This includes new
management practices and technological advances that might make foreign countries winners and
therefore effect their bottom line. The nation is also besieged by international companies that might give a
new twist to the ethics and functioning of a country.