FINS3616 International Corporate Finance - Week 8 Topic

A. Conceptual questions

1. Explain how equity is a residual claimant in the flow-to-equity approach to capital budgeting.

2. Explain what is meant by the weighted average cost of capital.

3. Explain how to calculate the rate of return on invested capital.

4. With respect to project value, what is meant by the underinvestment problem?

B. True or False questions

1. A good starting place to forecast demand for a project is to project the expected market share.

2. When forecasting the price at which products can be sold in the foreign country, domestic prices
should be used as the most likely estimate.

3. Because funds rest with the subsidiary and are therefore a part of the MNC, fund-transfer
restrictions are irrelevant in multinational capital budgeting.

4. The required rate of return used to discount the relevant cash flows from a foreign project may differ
from the MNCs cost of capital because of that particular projects risk.

5. In multinational capital budgeting, depreciation is treated as a cash flow.

6. Because inflation is only one of many factors that influence exchange rates, there is no guarantee
that a currency will depreciate when the local inflation rate is relatively high.

7. If partial financing is provided by the foreign subsidiary, including foreign interest payments in the
cash flow analysis may avoid overstatement of the estimated foreign cash flows.

8. Blocked funds always penalize a foreign project.

9. The greater the uncertainty about a projects forecast cash flows, the larger should be the discount
rate applied to cash flows, other things being equal.

C. MCQ

1. Which of the following is not true regarding multinational capital budgeting?

a. The capital budgeting analysis should always be conducted from the subsidiarys perspective,
since it will be responsible for administering the project.
b. If the parent is financing the project, then it should probably be evaluating the project from its
point of view.
c. The feasibility of a project can vary with the perspective because the after-tax net cash flows to
the parent of not necessarily equal to the after-tax net cash flows of the subsidiary.
d. All of the above are true.

2. Which of the following is not a factor that can cause the parents after-tax net cash flows to
differ from the after-tax net cash flows of the subsidiary per se?
a. Withholding taxes.
b. Blocked funds.
c. The earnings before interest and taxes (EBIT) of the subsidiary.
d. All of the above can cause net after-tax cash flows to differ.

3. ___________ is an input required for a multinational capital budgeting analysis, given that it is
conducted from the parents viewpoint.
a. Salvage value.
b. Price per unit sold.
c. Initial investment.
d. Consumer demand.
e. All of the above are inputs required for capital budgeting analysis.

4. Which of the following is true regarding the inputs of a multinational capital budgeting analysis?
a. Fixed costs are not normally sensitive to changes in demand.
b. The salvage value can almost always be estimated with perfect accuracy.
c. Forecasting demand in a foreign country is relatively simple due to the abundance of
historical data.
d. Variable costs of the lifetime of the project generally remain constant and can easily be
estimated.

5. An Australian-based MNC has just established a subsidiary in Algeria. Shortly after the plant was
built, the MNC determined that its exchange rate forecasts, which had previously indicated a slight
appreciation in the Algerian dinar (DZD), were probably false. Instead of a slight appreciation, the
MNC now expects that the dinar will depreciate substantially due to political turmoil in Algeria. This
new development would likely cause the MNC to _____________ its estimate of the previous
computed net present value.
a. lower.
b. increase.
c. lower, but not necessarily if the MNC invests enough in Algeria to offset the decrease in NPV.
d. increase, but not necessarily if the MNC reduces its investment in Algeria by an offsetting
amount.
e. use none of the above.

6. Unlike domestic capital budgeting projects, and especially if a foreign subsidiary partially finances a
foreign project, ______________should probably be explicitly included in the cash flow analysis.
a. inflation adjustments.
b. salvage values.
c. tax savings from depreciation.
d. interest payments.