FINANCE FOR INTERNATIONAL BUSINESS Table of Contents Introduction:..................................................................................................................2 Discussion:...................................................................................................................2 Evaluating the investment proposal by estimating components and overall capital costs:.............................................................................................................................2 Identification of the foreign exchange risk on the international investment or project:5 Conclusion:...................................................................................................................8 References list and Bibliography:.................................................................................9
FINANCE FOR INTERNATIONAL BUSINESS Introduction: The report is prepared to critically evaluate the investment proposal made by Hatfield manufacturing system Plc which is an engineering firm specializing in the development,designing,sellingandmanufacturingof3Dprintmachines.The organization has undertaken the trail of supplying the components to the motor vehicle and aerospace industries that has been successful in terms of the production cost and durability. Due to the successful of trial, it has been proposed by the company to manufacture these components by investing in a new plant that is located in Turkey. The acceptability of the project is determined by evaluating its feasibility on the financial basis. In addition to this, the report also analyses the potential impact of the risks of foreign exchange on the proposed investment or the project undertaken. The financial analysis of the project has been done by the implementation of the techniques of capital budgeting such as payback period, net present value and internal rate of return generated by the project (Meyer and Grosse 2018). Discussion: Evaluating the investment proposal by estimating components and overall capital costs: Thefinancialviabilityoftheprojectisevaluatedbytheapplicationofthe techniques of capital budgeting such as net present value, payback period and internal rate of return (Falkner and Hiebl 2015). The evaluation of the investment proposal incorporates some assumptions relating to the costs, tax and sales growth. Such assumptions are listed below: The rate of sales growth is expected to grow at 12% after the first year of operation. Labor cost would be comprised of 35% of the total variable cost. It is further expected that there will be growth in labor cost every year by 2% and all the other variable cost will increase by 1.5% per year. It is also assumed that every year, there will be increment in the fixed cost by 1%.
FINANCE FOR INTERNATIONAL BUSINESS The corporation tax rate in Turkey is 22%, but a lower rate of taxation is applied for encouraging the DFI projects. On the other hand, the corporate tax rate of UK is 19%. The beta of HMS plc is expected to be at 1.60. The full cost of 3D machines are depreciated over the time period of ten years. Every year, the net cash flow generated by the plant would be expelled to HMS manufacturing plant as dividend. It can be observed that the total sales generated by the international project in the first year is TL15518000 which is increasing every year by 12%. Total sales generated in the third year and fifth year of operation is TL19,465,779.2000 and TL24,417,873.4285respectively.Thetotalsalesfigurehasincreasedto 38,421,996.5697 and 43,032,636.1581 in the ninth and tenth year of operation. The cost of labor is increasing year on year along with other variable cost. Furthermore, the total fixed cost of the project is also witnessing an increase with the increase in the year of operation. Total amount of depreciation changed is remaining same throughout the life of project at TL1500000. The total amount of earnings generated after tax is increasing every year that is in the first year of operation, earnings generated is at TL 11,294,870.4000 and this increased to 16,882,659.1598 and TL19,213,960.4741. The earnings after tax in the ninth and tenth year of operation has increased to TL 31,720,502.0399 and 35,844,736.6726. It is clearly observed from the table that the total cash flow generated from the international project is increasing every year with the first and second year of operation generating cash flow of TL 12,794,870.4000 and TL 14,448,689.0790. The later year of operations has also identified an increase in the earnings after tax from TL 28,040,438.0561 in the eight year of operation to TL 35,844,736.6726 in the tenth year of operation.
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FINANCE FOR INTERNATIONAL BUSINESS Table 1: (Total cashflow of Hatfeild) From the analysis of the overall cash flow, the calculated value of net present value is recorded at TL 17,526,791.1233. In accordance with the rule of net present value, it is feasible to accept the project with positive net present value. Hence, as per the acceptance criteria of net present value, the investment proposal should be accepted. The payback period of the investment proposal is 6.153 years which implies that the initial investment made by Hatfield manufacturing system plc would be recovered in the time period of six years and one and a half months. That is the initial amount invested in the business would be recovered within the life time of the project. On other hand, the figure generated by the internal rate of return helps in analyzing whether the return generated by the investment or the money made by the project is more than the actual costs that is incurred (Bussièreet al. 2018). The desirability of the investment project can be evaluated by the computation of the figure of internal rate of return. It is suggested to undertake the investment with higher internal rate of return. The internal rate of return of the investment proposal is 13.372% and the weighted average cost of capital of the project is 10.39%. It is clearly observed from the computred figures that the internal rate of return generated by the project is higher than the cost of capital. Therefore, it is advisable that the international investment project should be accepted.
FINANCE FOR INTERNATIONAL BUSINESS Table 2: (NPV, IRR and Payback period) Identification of the foreign exchange risk on the international investment or project: Foreign exchange risk is associated with the losses that might be incurred by the foreign transactions due to the fluctuations in the currency. There is a difference between making investment in the home country and making investment in the foreign country. This is because investment in the foreign country would expose the return generated from the investment to the risk of fluctuations in the currency. Since the foreign investment project would evaluate all the aspects of finance in the denomination of foreign currency, the earnings or return generated might suffer due to currency fluctuation. The investors investing in the project do not have any control over the exchange rates and therefore, they would either try to price the exchange rate risk or manage the risk. A windfall could be created for the investors or developers due to the upside or downside impact of the currency risk. Risks related to foreign exchange arises from any unanticipated changes in the rate of exchanges betweentwocurrencies(Hisrich2015).Theinternationalinvestorsareoften reluctant to make any investment in the foreign countries because of the risks related tofluctuationintheexchangeratebetweenthetwocountriesinwhichthe transactions is taking place. Total amount of investments taking place between two countries is influenced by the exchange rate. While the depreciation of the currency
FINANCE FOR INTERNATIONAL BUSINESS in which the company is investing would make the home currency attractive and increase the return generated. There are two potential implications of the impact of the fluctuation in the exchange rate on the international projects. Such implications is identified in light of appreciating and depreciating currencies. A depreciation of the currency would cause a reduction in the production cost and wages relating to the foreign counterparts. The overall return to the foreign country would improve due to depreciationintheexchangerateandthiscontemplatesthemtoundertake investment in the country. It is required to account for a number of factors when identifyingtheimpactofexchangerateontheinternationalinvestmentproject (Sadgrove 2016). The exchange rate should be linked with the change in the cost of production and the offsetting of the impact of exchange rate should not be related to increase in the cost of production and wages of the investment capital in the destination market. It is also argued that due to the imperfect capital market, the results of the overseas investments is not known to the lenders that also results in generation of risks. Thereturngeneratedfromtheinvestmentcaneitherbepositivelyor negatively impacted by the fluctuations in the currency. The fluctuations in the currency impacts the return generated from any particular investments made by the company at the international levels at various levels. The cost that is paid by the company to the suppliers in the foreign country gets impacted due to change in the currency (Kang and Mason 2016). If the local currency gain value against the foreign currency in the event of international investment, the company orthe project would be benefitted in terms of total cost savings. It is so because fall in the value of local currency would make labor less costly in the foreign as the company would be required to pay less for the labors. In addition to this, the raw materials that is sourced from the suppliers in the foreign country would also cause require the project to make less payment due to the appreciation of local currency against foreign country. That is the total cost of the international investment is expected to fall when there is appreciation of the local currency against foreign currency. The impact of fluctuation in the currency on the return generated by project is significant and there is a rapid change in earnings due to the currency rate difference (Gitmanet al. 2015).
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FINANCE FOR INTERNATIONAL BUSINESS The investment made by Hatfield manufacturing system Plc in Turkey for the manufacturing of the components is exposed to the risks of fluctuations in currency. In the addition to this, the cash flow of the firm will be denominated into different currencies such as $ Ca, Won and €. Therefore, the cash flow in terms of the sales revenue is exposed to the currency fluctuations. Hence, the total earning or the return generated by the project would be impacted by the change in exchange rate. Depreciation of the currencies from where the earnings have to be generated would impact the Hatfield in positive manner because this would increase the inflow of cash denominated in currencies of different countries. Table 3: (Volatility of exchange rate) The table presented above depicts the computation of volatility of exchange rate between Turkey and United Kingdom. Such volatility in the exchange rate can be the constant cause of concern for the business of Hatfield manufacturing Plc as they are likely to create a major impact on the total returns or the earnings generated by the project. The volatility of exchange rate between Turkey and United Kingdom is computed at 62.46%. Such volatility often reduces the gain generated from the international investment due to increase in the overall cost of transactions and
FINANCE FOR INTERNATIONAL BUSINESS therebymakingthetotalearningsoftheprojectuncertain.Nevertheless,the company can mitigate the risks associated with the foreign exchange by adopting different strategies. Risks can be hedged by using the specialized exchange traded funds that helps in offering long and short term exposures to different country’s currencies. In addition to this, the company can also enter into the forward contracts that can be used for hedging as the rate of currency can be locked in at a particular rate. Lastly, currency options can also be used for the mitigation of risks related to the exchange rate. With such option, the company has the right to sell or buy the currency of different countries at a particular rate before or on the specific date (Bekaert and Hodrick 2017). Conclusion: The report discussed above outlines the evaluation of the financial viability of the investment proposal made by Hatfield manufacturing system Plc. It has been ascertained from the overall analysis of the investment proposal using different techniques of capital budgeting that it would be worthy to undertake the project. This has been justified from the positive figure of net present value, higher rate of internal return and lower payback period. Therefore, it is advisable to the firm to accept the project on the financial basis. In addition to this, it has been found that the returns or the earnings of the project can be impacted by the exchange rate volatility. For this purpose, the organization can mitigate the risks by the implementation of different currency hedging strategies such as options contracts and exchange traded funds.
FINANCE FOR INTERNATIONAL BUSINESS
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FINANCE FOR INTERNATIONAL BUSINESS References list and Bibliography: Bekaert, G. and Hodrick, R., 2017.International financial management. Cambridge University Press. Bussière, M., Schmidt, J. and Valla, N., 2018. International financial flows in the new normal: Key patterns (and why we should care). InInternational Macroeconomics in the Wake of the Global Financial Crisis(pp. 249-269). Springer, Cham. Falkner, E.M. and Hiebl, M.R., 2015. Risk management in SMEs: a systematic review of available evidence.The Journal of Risk Finance,16(2), pp.122-144. Gitman, L.J., Juchau, R. and Flanagan, J., 2015.Principles of managerial finance. Pearson Higher Education AU. Hisrich,R.D.,2015.Internationalentrepreneurship:starting,developing,and managing a global venture. SAGE publications. Kaltenbrunner,A.,2015.ApostKeynesianframeworkofexchangerate determination: a Minskyan approach.Journal of Post Keynesian Economics,38(3), pp.426-448. Kang, D. and Mason, A. eds., 2016.Macroprudential Regulation of International Finance: Managing Capital Flows and Exchange Rates. Edward Elgar Publishing. Kinsey,S.,2017.Managingrisk.InTheInternationalBusinessArchives Handbook(pp. 356-381). Routledge. Meyer,K.E.andGrosse,R.,2018.Introductiontomanaginginemerging markets.Oxford handbook of managing in emerging markets, pp.3-34. Picciotto, S., 2017. Rights, responsibilities and regulation of international business. InGlobalization and International Investment(pp. 177-198). Routledge. Sadgrove, K., 2016.The complete guide to business risk management. Routledge. Terjesen,S.,Hessels,J.andLi,D.,2016.Comparativeinternational entrepreneurship: A review and research agenda.Journal of Management,42(1), pp.299-344.