CHAPTER 1 4

Funding The
Multinational
Firm
Members list
Students ID Name

31231025575 Nguyen Ngoc Thanh Mai

31231025751 Hoang Tran Khai Nhi

31231023932 Le Vu Lam Nhi

31231026011 Nguyen Quynh Yen Nhi

Overview

01 Designing a Strategy to
Source Capital Globally
05 Private Placement
02 Optimal Financial
Structure
06 Raising Debt Globally

03 Raising Equity Globally

07 Financing Foreign
Subsidiaries
04 Depositary Receipts
 01
Designing a Strategy to
Source Capital Globally
Alternative Paths to Globalize the Cost
and Availability of Capital

• Domestic Financial Markets:

raising capital domestically.
• Debt Markets: Starting with an
international bond issue.
• Equity Markets: Listing or
issuing equity in a smaller or
target foreign market.
• Global Financial Markets:
Issuing Euroequity.

• Ultimate Objective: attaining a global cost and availability of capital.

• Requires management to agree upon a long-run objective -> selects
among the various alternative paths to get there.
Alternative Paths to Globalize the Cost
and Availability of Capital
Roles of Investment Bank
• Prepare the required • Advising if, when, and
prospectus if an equity where a cross-listing
or debt issue is desired. should be initiated.
• Help to price the issue. • In touch with foreign
investors and their
• Maintain an current requirements.
aftermarket to prevent
the share price from • Help navigate the
falling below its initial numerous institutional
price. and regulatory
barriers in place.
The decision-making process is aided by an early appointment of an
investment bank as official advisor to the firm
Alternative Paths to Globalize the Cost
and Availability of Capital

• In practice: Most firms that start raising capital in domestic markets

before expanding globally are not well known enough to attract
foreign investors.
• They are tempted to skip all the intermediate steps along the pathway
to an equity issue in a target market or a euroequity issue in global
markets.
• Good investment bank advisor will offer a “reality check.” Firms only
raised capital in their own domestic market are not sufficiently well
known to attract foreign investors.
 02
Optimal Financial Structure
 Optimal Financial Structure
• The optimal financial structure: the mix of debt and equity -> minimizes the
firm’s cost of capital for a given level of business risk.
• Balance depends on trade-offs between business risk and financial risk.
• The cost of capital: initially
decreases as the firm employs
more debt due to the tax-
deductibility of interest payments,
but rises again when the risk of
insolvency increases.

• This relationship implies that the

optimal debt ratio lies within a
broad, relatively flat range (30% ~
50%), depending on the industry, the
volatility of sales, and the collateral
value of assets.
 Optimal Financial Structure and the
Multinational

The domestic theory of optimal financial structures needs to be modified

by 4 more variables in order to accommodate the case of the
multinational enterprise. These variables are:
1. Availability of Capital
2. Diversification of Cash Flows
3. Foreign Exchange Risk
4. Expectations of International Portfolio Investor
Avalanility of Capital

• MNEs can access global capital markets, lowering their cost of equity
and debt.
• They can maintain desired debt ratios even when raising large
amounts of funds.
• Small domestic firms lack such access and must rely on internal funds
or bank loans.
 Diversification of Cash Flows

• Multinational firms are theoretically in a better position than domestic

firms to support higher debt ratios because their cash flows are
diversified internationally.
• By diversifying cash flows across countries, MNEs can reduce cash flow
variability in much the same way portfolio investors benefit from global
diversification.
• However, empirical evidence shows that MNEs often have lower debt
ratios than domestic firms due to higher agency costs, political risks,
foreign exchange risks, and asymmetric information.
Foreign Exchange Risk and the Cost of
Debt

• When a firm issues foreign currency denominated debt, its effective

cost equals the after-tax cost of repaying the principal and interest in
terms of the firm’s own currency.

• This amount includes the nominal cost of principal and interest in

foreign currency terms, adjusted for any foreign exchange gains or
losses.
Foreign Exchange Risk and the Cost of
Debt
If a U.S.-based firm borrows SF1,500,000 • At maturity, the repayment is the
for one year at 5.00% interest, and SF1,500,000 principal plus 5.00%
during the year the Swiss franc interest, or a total of SF1,575,000; must
appreciates from an initial rate of be made at an ending spot rate of
SF1.5000/$ to SF1.4400/$. SF1.4400/$:
What is the dollar cost of this debt [Principal x (1 + interest)]/Ending spot
(kd$)? rate
• The dollar proceeds of the initial = [SF1,500,000 (1 + 5.00%)]/(SF1,4400/$)
borrowing: at the current spot rate = $1,093,750
of SF1.5000/$:
• The dollar cost of the loan’s
Dollar Proceeds repayment is not the nominal 5.00%
= Foreign Currency Amount paid in Swiss franc interest, but 9.375%:
Borrowed/Spot Exchange Rate
= SF 1,500,000/(SF 1.5000/$) = (Repayment in USD/Dollar proceeds) - 1
$1,000,000 = ($1,093,750/$1,000,000) - 1
= 0.09375 = 9.375%
Foreign Exchange Risk and the Cost of
Debt
• The dollar cost is higher than • The total expense, combining the
expected due to appreciation of the nominal interest rate and the
Swiss franc against the U.S. dollar. percentage change in the exchange
dollar. This total home-currency rate, is
cost is the combined percentage kd$ = [(1 + kdSF )] x (1 + s)] - 1
cost of debt and percent change in = [(1 + 5.00%) x (1 + 4.1667%)] - 1
= 0.09375 = 9.375%
the foreign currency’s value:
• The after-tax cost of this Swiss
[(S1 - S2)/S2]/100 franc-denominated debt, when the
={[(SF1.500/$)- U.S. income tax rate is 34%, is:
(SF1.4400)]/($SF1.4400)}/($ 100) kd$* (1 - t) = 9.375% * 0.66 = 6.1875%
= +4.1667%
 Expectations of International Portfolio
Investors
• The key to gaining global cost and availability of capital is attracting and
retaining international portfolio investors.
• These investors’ expectations for a firm’s debt ratio and overall financial
structure are based on global norms established mainly in the most
liquid and unsegmented capital markets, such as the United States and
the United Kingdom.
• Therefore, firms seeking to raise capital globally must adopt financial
norms close to those prevailing in the U.S. and U.K. markets.
=> MNEs benefit from better capital access, diversified cash flows, and
global investor confidence, but also face foreign exchange risk.
 03
Raising Equity Globally
Three key considerations

Equity Issuance - Selling shares to raise funds.

• Initial Public Offering (IPO) - the initial sale of shares to the public
of a private company. IPOs raise capital and typically use
underwriters.
• Seasoned Public Offering (SPO) - a subsequent sale of additional
shares in the publicly traded company, raising additional equity
capital.
• Euroequity Issue - the initial sale of shares in two or more markets
and countries simultaneously.
• Directed Issue - the sale of shares by a publicly traded company to
a specific target investor or market, public or private, often in a
different country.
Three key considerations

Equity Listing

• Shares of a publicly traded firm are listed for purchase or sale

on an exchange. An investment banking firm is typically retained
to make a market in the shares.
• Cross-listing is the listing of a company’s shares on an exchange in
a different country's market. It is intended to expand the
potential market for the firm’s shares to a larger universe of
investors.
• Depositary receipt (DR) - a certificate of ownership in the
shares of a company issued by a bank, representing a claim on
underlying foreign securities. In the United States they are termed
American Depositary Receipts (ADRs), and when sold globally,
Global Depositary Receipts (GDRs).
Three key considerations

Private Placement

• The sale of a security (equity or debt) to a private investor. The

private investors are typically institutions such as pension funds,
insurance companies, or high net worth private entities.
• SEC Rule 144A private placement sales are sales of securities to
qualified institutional buyers (QIBs) in the United States without
SEC registration. QIBs are non-bank firms that own and invest in
$100 million or more on a discretionary basis.
• Private Equity – equity investments in firms by large limited
partnerships, institutional investors, or wealthy private investors,
with the intention of taking the subject firms private, revitalizing
their businesses, and then selling them publicly or privately in one
to five years.
Four major equity alternatives to
multinational firms today
 Four major equity alternatives to
multinational firms today
Initial Public Offering (IPO)

• A private company sells shares to the public for the first time.
• Organized by underwriters and syndicate banks.
• Firm issues a prospectus describing operations, results, risks, and
plans.
• IPO typically offers 15–25% ownership; later Follow-on Offerings
(FOs) may increase public float.
• Once public, firm faces greater disclosure & scrutiny, increasing
costs.
• Capital is raised only at issuance – price changes later affect
investors, not company capital.
 Four major equity alternatives to
multinational firms today
Euroequity Issue

• IPO on multiple exchanges across countries, underwritten by

international syndicates.
• “Euro” = international, not related to Europe or the euro.
• Reach more investors and raise larger capital.
• Ensure post-issue global liquidity.

The model began with the Thatcher government’s privatization of

British Telecom in 1984, which sold tranches to both domestic and
foreign investors to raise funds and ensure post-issue worldwide
liquidity.
“Tranche - a portion of shares allocated to investors in specific
regions or markets, ensuring broad international participation.”
 Four major equity alternatives to
multinational firms today
Directed Public/Private Issue

• Shares issued to investors in one specific country, underwritten by

local institutions.
• Usually combined with cross-listing on that country’s exchange.
• Finance acquisitions or major investments in target markets.
• Especially valuable for firms from smaller capital markets.
 Four major equity alternatives to
multinational firms today
Private Placement

• Sale of shares directly to a small group of private investors (e.g.,

funds, insurance firms).
• Advantages: faster, cheaper, and simpler than IPO; helps maintain
ownership control.
• Disadvantages: Low liquidity – shares not traded publicly.
• Suitable for firms needing quick capital or seeking strategic
partners.
 04
Depositary Receipts
 What are Depositary Receipts?

• Depositary receipts (DRs) are negotiable certificates issued by a

bank.
• They represent the ownership of underlying shares that are kept in
trust at a foreign custodian bank.
• DRs make it possible for foreign stocks to be traded in international
markets.
Depositary Receipts
Two main types:
• American Depositary Receipt (ADR): refer to certificates traded in
the U.S. and denominated in U.S. dollars.
→ Foreign companies use ADRs when they want to be listed in the U.S.

• Global Depositary Receipt (GDR): refer to certificates traded

outside of the U.S.
→ Companies anywhere in the world can use a GDR program to list in
foreign markets.

Why do we need DRs?

→ DRs remove most of barriers: exchange rate risks, legal differences,
and complicated payment systems.
→ DRs make buying foreign stocks almost as easy as buying local
ones.
 ADRs

ADRs: the main way for non-U.S. companies to list in the U.S.
• Bought, sold, registered, and transferred like U.S. stocks
• Each ADR = multiple or fraction of a foreign share
• Price adjusted to the U.S. market (usually under $20 per share)
ADR Mechanics
ADR Mechanics

Once created, ADRs trade freely in the U.S. market through simple
transfers between investors (intra-market trading).

Can be exchanged with the underlying foreign shares, and arbitrage

keeps their prices aligned after transfer costs.

Advantages for U.S. investors: dividends are automatically converted

into U.S. dollars, transactions follow U.S. law, and settlement is faster and
cheaper.
ADR Program Structures
ADR programs can differ by who starts them (sponsorship) and how official
they are (level).

Sponsorship:
• Sponsored ADRs: initiated by the foreign company, which registers with the
SEC and cooperates with a U.S. depositary bank. These are transparent
and reliable.
• Unsponsored ADRs: initiated by U.S. banks or brokers without the foreign
firm’s involvement. These are less common.

Certification Levels:
• Level I: traded OTC, no SEC registration, low cost, but cannot raise new
capital.
• Level II: listed on major U.S. exchanges (NYSE, NASDAQ); full SEC
compliance; higher cost but greater prestige.
• Level III: allows issuing new shares to raise capital in the U.S.; full SEC
reporting required; most expensive but most effective.
DR Markets Today: Who, What, and Where

Who: mostly multinational

firms, though recently more
from industrialized countries.

What: IPOs and follow-on

offerings dominate, with IPOs
leading the market.

Where: New York and London

remain the top DR trading
centers.
 Global Registered Shares (GRSs)

Global Registered Shares (GRSs) are ordinary shares traded across

multiple markets without conversion; 1 share home = 1 share abroad
(same real value).

No depositary bank or intermediary needed.

Traded electronically in local currencies → convenient & transparent.

 Global Registered Shares (GRSs)

GRS vs ADR
German firm → €4/share in Frankfurt & spot rate is $1.20/€
→ $4.8/share in New York.

U.S. investors prefer prices $10-$20 → ADR may represent 4 shares

→ $4.8 x 4 = $19.2/share.

⇒ GRS keeps identical value, while ADR adjusts for market

preferences.

* GRS function like ordinary shares → easy comparison & full voting
rights.
 Global Registered Shares (GRSs)

Supporters of GRSs believe that as global financial markets continue

to integrate, two trends will become more evident:

1. Investors and markets will prefer globally standardized securities

that differ only by currency.
2. Trading rules among countries will gradually become unified,
reducing the need for separate adjustments for each local market.
 05
Private placement
3 key considerations:

• A private placement is the sale of a security to a small set

of qualified institutional buyers (QIBs)

• the securities are not registered for sale to the public, investors have typically followed a
“buy and hold” policy

• In the case of debt, terms are often custom-designed on a negotiated basis.

 SEC Rule 144A

• Allowing large institutional investors to buy and sell privately

placed securities more easily, without the need for SEC registration

• Only “qualified” investors (≥ USD 100 million in assets) can

participate.

• Banks must also have ≥ USD 25 million in shareholders’ equity to

qualify as QIBs (Qualified Institutional Buyer).

• Around 4,000 QIBs exist — mainly investment advisors, investment

companies, insurance firms, pension funds, and charities.
 SEC Rule 144A

• The SEC later allowed foreign issuers to access the U.S. private
placement market via Rule 144A (no SEC registration required).

• A trading system called PORTAL was created to distribute and

trade these issues, enhancing secondary market liquidity.
 Private Equity Funds
• Private equity funds are equity investments in firms, typically
structured as limited partnerships of institutional and wealthy
investors (endowment college endowment funds - raise capital
in the most liquid capital markets)

• These funds are often large and may use significant debt to
finance takeovers.

• Although mature family-owned firms resident in emerging

markets might be consistently profitable and growing, they are
still too small, unlikely to qualify for a global cost → private
equity funds may be a solution.
 Private Equity Funds

Private Equity Venture Capital (VC)

Global, including emerging
Main markets Mainly developed countries
markets
Established or public
Target Startups and early-stage firms
companies

Buy control of publicly owned

firms ⟶ Take them private ⟶
Improve management and
firm performance ⟶ Resell They usually invest in startups
Exit strategy after 1–3 years by: and aim to exit through an IPO
+ Selling to another company, in liquid markets.
+ Selling to another PE fund, or
+ Retaking the firm public
(IPO).

TIme horizon Longer (1–3 years or more) Shorter

Cross-listing attempts to accomplish one or more
of many objectives:

Increase • Helps the company gain trust

Increase • Increase liquidity: shares share from customers, suppliers, and
become easier to buy and price
liquidity the host country’s government.
sell.

Establish • Making it easier to use shares

Increase • Because shares may be a
share secondary for acquiring other companies
valued higher in foreign
price market or compensating employees in
markets. for that country
shares
 06
Raising debt globally
 Raising debt globally

• The ability of firms to raise debt globally—outside their home

country markets.

• Borrowers gain access to more diverse maturities, repayment

terms, and currency options in international debt markets than at
home.

• These features make international debt less risky to investors

compared to equities.

• International debt markets vary by: Source of funding, Pricing

structure and Maturity, Subordination or linkage to other
debt/equity instruments.
 International Debt Markets and Instruments

• Three basic forms of international debt: bank loans (including

syndicated bank loans), euronotes, and international bonds.

• These three debt pools provided MNCs and governments with

access to markets and instruments previously limited only to
major developed economies.
International Debt Markets and
Instruments
 International Debt Markets and Instruments
1. Bank Loans and Syndications (floating-rate, short to medium term)
a) International Bank loans
• Similar to traditional loans.
• Enjoys a narrow interest rate spread of 1% or less between deposit and
loan rates.
b) Eurocredits
• Bank loans extended to MNEs, sovereign governments, and
international institutions in a currency different from that of the lender.
For example: A bank in France lends USD to the government of Brazil
→ This is a Eurocredit because the currency (USD) is not the domestic
currency of France (EUR).
• Typically, maturities of 6 months or less, priced at LIBOR plus a spread
 International Debt Markets and Instruments
1. Bank Loans and Syndications (floating-rate, short to medium term)

c) Syndicated Credits
• Large loans are spread over several lenders, led by a lead bank
For example: Toyota wants to borrow USD 500 million to build a factory in
Europe.
→ A lead bank (e.g., HSBC) forms a syndicate with other banks like A, B, C
Bank.
→ Each bank lends a portion of the total amount to share the risk.
• Pricing is typically at LIBOR plus a spread.
 International Debt Markets and Instruments
2. Euronote Market (short to medium term) - that can be issued either
with or without underwriting support.
a) Euronotes and Euronote Facilities - short-term
• Short-term debt instruments that become a useful alternative to
syndicated loans.
• Issues with underwriters.
b) Eurocommercial Paper (ECP) - short-term
• Non-underwritten: company issues notes directly, no bank guarantee for
unsold portion.
• Short-term debt obligation of an MNE or bank.
• Typical maturities of 1, 3, and 6 months.
 International Debt Markets and Instruments

c) Euro Medium-Term Notes (EMTNs)

• Nonunderwritten facilities
• Bridges the maturity gap between ECP and longer-term obligations
like bonds
• Followed the forms of U.S. shelf registrations, allowing a company to
issue multiple tranches under a single pre-registered framework.
• Same attributes as bonds.
 International Debt Markets and Instruments
3. International bonds: (fixed and floating-rate, mid to long term)
a) A Eurobond
• A type of bond that is underwritten by a group of international
banks and securities firms, and sold in countries other than the
country whose currency the bond is denominated in.
For example, A Eurodollar bond issued by a German company,
denominated in U.S. dollars, and sold outside the United States, is an
example of a Eurobond.
• Straight fixed-rate issue
• Floating-rate note (FRN)
• Equity-related issue
 International Debt Markets and Instruments
3. International bonds: (fixed and floating-rate, mid to long term)

b) Foreign Bond
• Foreign bonds are bonds issued in a domestic market by a foreign
entity and denominated in the currency of that country.
• Same attributes as traditional bonds
• Yankee bonds (foreign issue in the U.S.), Samurai bonds (foreign
issue in Japan), Bulldogs (foreign issue in the U.K.), etc
 Unique Characteristics of Eurobond Markets:
• Absence of Regulatory Interference
→ Governments impose fewer restrictions on foreign currency–denominated
securities. Eurobond issues typically fall outside any single country’s regulatory
authority, allowing greater flexibility for issuers.

• Less Stringent Disclosure

→ Lighter disclosure rules than U.S. SEC; lower costs & faster issuance. SEC Rule
144A relaxed disclosure for private placements, making U.S. markets more
attractive again.

• Favorable Tax Treatment

→ Interest often exempt from withholding tax & not reported to tax authorities.
Typically issued in bearer form (owner’s name not recorded).

• Ratings & Access Factors

→ Ratings assess issuer’s repayment ability in the bond’s currency. Access
depends on legal, tax, and societal factors; well-known firms have an advantage.
 07
Financing Foreign Subsidiaries
Financing Foreign Subsidiaries
The foreign subsidiary of a multinational enterprise is
funded from sources that are:
All potential sources of funds arising from the MNE - parent

Internal company, other subsidiaries and affiliates, and funds

financing: generated over time from the subsidiary itself.

Debt - from any source that is not the MNE itself + equity from
potential partners, local or global.
External - A minimum amount of equity capital from the parent company
financing:
is required initially, MNEs often strive to minimize their amount
of equity in foreign subsidiaries -> reduce capital risk.
 Financing Foreign Subsidiaries
Figure 14.9: Internal financing sources for the foreign subsidiary
 Financing Foreign Subsidiaries
Internal financing sources for the foreign subsidiary
- Equity investment can take the form of cash or kind (real goods such
as machinery, equipment, inventory, …).
* If multinationals need additional equity, they can retain earnings in
the subsidiaries.
- Subsidiaries if they don't have a history of proven operational and
debt service capability, they can borrow from parent companies or
unrelated parties with a parental guarantee.
 Financing Foreign Subsidiaries
Figure 14.10: External financing sources for the
foreign subsidiary

Include 3 categories:
(1) debt from the parent’s
country
(2) debt from countries
outside the parent’s
country
(3) local or global equity.
 Financing Foreign Subsidiaries
External financing sources for the foreign subsidiary

• Lenders in the parent’s country often provide funds based on trust

and familiarity with the parent company — no explicit guarantee
required.
• Local currency debt is valuable when the subsidiary earns local
currency revenues, helping reduce exchange rate risk.
• In emerging markets, local currency loans are often limited for
both local and foreign borrowers.
 Financing Foreign Subsidiaries

Host Country Norms and Debt

• Financial structure norms differ • MNEs prefer to fund foreign
across countries but are similar subsidiaries with debt. => The resulting
within each country. debt service obligations (principal and
• Host governments generally interest) would serve as a contractual
prefer foreign investments structure for remittance of cash flow
financed with equity and expect returns to the parent company.
profits to be reinvested locally, => Reduce equity capital at risk.
not returned to the parent • If subsidiaries cannot issue local
company via an intracompany shares, they rely on bonds or bank
dividend. loans, increasing the overall cost of
capital.
 Financing Foreign Subsidiaries

Foreign Exchange
Concerns
• Foreign exchange risk can be a burden on a startup
subsidiary because debt obligations or intracompany
purchases for products and services, currency can place an
undue burden of foreign exchange risk management on a
startup.
• If the subsidiary has debt service obligations to the parent
company, a startup subsidiary would prefer to make debt
service payments in local currency.
 Financing Foreign Subsidiaries

Tax
Concerns
• Minimize tax obligations in high-tax environments
=> to maximize the debt obligations of the foreign subsidiary.

• Host governments are well aware of this principle and have long
instituted maximum levels of debt in subsidiary financial structures.
 Subsidiary Financing Over Time

The financial structure and

financing of any individual
subsidiary will reflect the MNE’s
own business structure and the
local norms of the markets in
which the subsidiaries are
operating.

Figure 14.11: how a foreign subsidiary’s financing needs,

concerns, and sources change as it passes through
three fundamental stages of its business life cycle.
 Subsidiary Financing Over Time

1. Startup Stage
• Firms need sufficient
funding to commence and
sustain operations.
- Ways:
+ Access to some debt
provided by its parent
company: debt is largely
minimized to prevent imposing
cash flow burdens on the
startup.
+ The subsidiary’s financing is
largely equity during this stage.
.
 Subsidiary Financing Over Time

2. Growth Stage
Experience grows => capital
needs may grow rapidly:
+ For manufacturing business:
capital-intensive is large and
depends on fixed assets.
Growing sales => need growth
in working capital => require
financing.
+ For services business: low
capital requirements, growth
may not require significant new
financing. Firms create more sustained cash flow from operating
activities => find local debt increasingly attractive and
available.
 Subsidiary Financing Over Time
3. Maturing Stage
• Business growth slows and the
need for additional financing
slows.
• Sustained profits => change the
financial structure
=> Retained earnings for equity
capital and for repatriated earnings
to the parent company.
• Debt structure: more diversified,
maturities, rate structures, and
currency of denomination
=> Gains access to more debt sources
locally and globally.
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