4 • 1

CHAPTER

4

FOREIGN INVESTMENT ANALYSIS

David K. Eiteman

University of California, Los Angeles

CONTENTS

4.1 Introduction 1
4.2 General Methodology for One-
Country Capital Budgeting 2
(a) Project Cash Outflows (Costs) 2
(b) Project Cash Inflows 3
(c) Cost of Capital 5
(d) Combining Cash Outflows,
Cash Inflows, and the Cost
of Capital 5
4.3 International Complexities 6
(a) Project versus Parent Cash
Flows 6
(b) Parent Cash Flows Tied to
Financing 6
(c) Foreign Exchange Forecasts
Needed 7
(d) Long-Range Inflation Must Be
Considered 7
(e) Subsidized Financing Must Be
Explicitly Treated 7
(f) Political Risk Must Be
Considered 7
4.4 Accounting Implications for the
Methodology 8
(a) Asset Cost Allocation to
Income Periods 8
(i) Fixed Asset Depreciation 8
(ii) Inventory Costing 8
(iii) Amortization of Purchased
Goodwill 8
(iv) Asset Revaluation 8

(b) Nonallocation of Current

Operating Costs 8

(i) Charges of Expenses to

Reserves 8

(ii) Deferred Taxes Shown as

a Liability 9

(iii) Flow Through of

Translation Gains 9

(iv) Severance Pay If the

Foreign Affiliate Is Closed 9

(c) Debt Changes Not Matched by

Cash Payments 9

(i) Foreign Exchange

Translation Gains or

Losses on Long-Term Debt 9

(ii) Noncapitalization of

Financial Leases 9

(d) Other 10

(i) Changes in Accounting

Principles and Methods

Without Prior Year

Change 10

(ii) Treatment of

Unconsolidated

Subsidiaries 10

(iii) Blocked Funds 10

4.5 Summary 10

APPENDIX A: ILLUSTRATIVE

INTERNATIONAL CAPITAL

BUDGETING EXAMPLE 11

4.1 INTRODUCTION. Foreign investment analysis is the procedure for analyzing
expected cash flows for a proposed direct foreign investment to determine if the po-
tential investment is worth undertaking. In finance literature, foreign investment
analysis is also called capital budgeting. Foreign investment analysis is concerned