Chapter

20
Short-Term Financing
 Source of Short term financing

• Internal
¤ For subsidiary from parent
- Direct or indirect through lower pricing
products and services
¤ For parent from subsidiary
- Direct or indirect through higher pricing
products and services
¤ Regulatory issues are to be
considered(Transsfer pricing)
 Sources of Short-Term Financing
• External
• FC Notes/Euronotes
• FCCP/FCCB/Euro-commercial papers
• Direct loans /Eurobank loans
 Why MNCs Consider
Foreign Financing

• to offset a net receivables

position in that foreign currency.(to avoid
exchange rate and country risk)
• when the interest rates on such
currencies are attractive, so as to
reduce the costs of financing.
 Determining the
Effective Financing Rate
The actual cost of financing depends on
 the interest rate on the loan, and
 Exchange rate variation of borrowed
currency over the life of the loan.
 Criteria Considered for
Foreign Financing
• There are various criteria an MNC must
consider in its financing decision,
including
¤ interest rate parity,
¤ the forward rate as a forecast, and
¤ exchange rate forecasts.
 Financing with a
Portfolio of Currencies
• While foreign financing can result in
significantly lower financing costs, the
variance in the costs is higher.
• MNCs may be able to achieve lower financing
costs without excessive risk by financing with
a portfolio of currencies.
 Financing with a
Portfolio of Currencies-How
it leads to lower cost?
• If the chosen currencies are not highly
positively correlated, they will not be likely
to experience a high level of appreciation
simultaneously.
• Thus, the chances that the portfolio’s effective
financing rate will exceed the domestic
financing rate are reduced.
Impact of Short-Term Financing Decisions
on an MNC’s Value
Expenses Incurred from
Short-Term Financing

m
n 
 
E CFj , t  E ER j , t  
 j 1 
Value =   
t =1  1  k  t

 
E (CFj,t ) = expected cash flows in currency j to be received
by the U.S. parent at the end of period t
E (ERj,t ) = expected exchange rate at which currency j can
be converted to dollars at the end of period t
k = weighted average cost of capital of the parent