Chapter 9 – Management of Short-term, Intermediate, and Long-term Funds

Reviewer: Chapter 9 – Management of Short-term, Intermediate, and Long-term Funds

Overview

Managing a company’s finances involves selecting appropriate funding sources for short-term, intermediate, and long-term needs. This chapter discusses financial markets, international investment strategies, and the financing decisions of multinational corporations (MNCs).

Key Concepts & Terminologies

1. Foreign Direct Investment (FDI)

  • FDI refers to a firm's long-term investment in a foreign country, involving capital, management, and technical assets.

  • Reasons for FDI:

    • Seeking new markets.

    • Acquiring raw materials.

    • Improving production efficiency.

    • Expanding knowledge & technology.

2. Investment Cash Flows & Decisions

  • FDI projects differ in cash flow measurement based on taxes, regulations, and repatriation policies.

  • Risks associated with international projects:

    • Business & Financial Risks (competitive position, leverage).

    • Inflation & Exchange Rate Risks (currency fluctuations).

    • Political Risks (government intervention, restrictions).

3. International Capital Markets

  • Money Market: Short-term financing sources (e.g., Treasury bills, commercial paper).

  • Capital Market: Long-term financing instruments (stocks, bonds).

  • Eurocurrency Market: International financial markets for borrowing and lending foreign currencies.

4. Capital Structure in MNCs

  • MNCs structure their financing differently due to access to international markets and risk diversification.

  • Factors Affecting Capital Structure:

    • Tax Benefits: Interest payments on debt are tax-deductible.

    • Probability of Bankruptcy: High debt increases financial risk.

    • Country-Specific Factors: Legal, political, and financial conditions impact financing decisions.

5. Long-term Debt

  • International Bonds: Debt securities sold outside the borrower's country.

  • Foreign Bonds: Bonds issued by a foreign company in the investor’s local market.

  • Eurobonds: Bonds denominated in one currency but sold to investors in different countries.

6. Equity Financing

  • Multinational Companies can issue equity in international stock markets.

  • Joint Ventures: Companies form partnerships with local investors in foreign markets to reduce risk and gain local expertise.

7. Short-term Financing

  • Spontaneous Financing: Includes accounts payable and accruals that arise naturally from operations.

  • Negotiated Financing: Includes bank loans, credit lines, and commercial paper.

8. Financial Markets

  • Money Market: Short-term financial instruments, highly liquid.

    > Marketable Securities. Short-term debt instruments, such as U.S. Treasury bills, commercial paper, and negotiable certificates of deposit issued by government, business, and financial institutions, respectively.

    > Eurocurrency Market. International equivalent of the domestic money market.

  • Capital Market: Long-term investments like stocks & bonds.

  • Bond. Long-term debt instrument used by business and government to raise large sums of money, generally from a diverse group of lenders.

  • Preferred Stock. A special form of ownership having a fixed periodic dividend that must be paid prior to payment of any dividends to common stockholders.

  • Broker Market. The securities exchanges on which the two sides of a transaction, the buyer and seller, are brought together to trade securities.

  • Securities Exchanges. Organizations that provide the marketplace in which firms can raise funds through the sale of new securities and purchasers can resell securities.

  • Dealer Market. The market in which the buyer and seller are not brought together directly but instead have their orders executed by securities dealers that “make markets” in the given security.

  • Market Makers. Securities dealers who “make markets” by offering to buy or sell certain securities at stated prices.

  • Nasdaq Market. An all-electronic trading platform used to execute securities trades.

  • Over the Counter (OTC) Market. Market where smaller, unlisted securities are traded.

  • Bid Price. The highest price offered to purchase a security.

  • Ask Price. The lowest price at which a security is offered for sale.

  • Eurobond Market: International bond markets.

  • Foreign Bond. A bond that is issued by a foreign corporation or government and is denominated in the investor’s home currency and sold in the investor’s home market.

  • International Equity Market: Stock issuance across multiple countries.

Key Takeaways

  • FDI plays a crucial role in a firm's global expansion strategy.

  • International financial markets provide diverse funding opportunities.

  • Managing financial risk in multinational operations is critical for sustainability.

  • Balancing short-term vs. long-term financing impacts financial stability.