- License fees.
- Interest on parent-supplied debt.
- Principal repayment of parent-supplied debt.
- Liquidating dividends.
- Transfer prices paid on goods supplied by the parent.
- Transfer prices paid on goods sent to the parent.
- Overhead charges.
- Recovery of assets at project end (i.e., terminal value).
Note that depreciation is not a cash flow to the parent.
(c) Foreign Exchange Forecasts Needed. An explicit forecast is needed for future
exchange rates. Future cash flows in a foreign currency have value to the parent
only in terms of the exchange rates existing at the time funds are repatriated, or val-
ued if they are not repatriated. Hence, an exchange rate forecast is necessary. In ad-
dition, the investment decision must consider the possibility, if not the probability,
of unanticipated deviations between actual ending exchange rates and the original
forecast.
(d) Long-Range Inflation Must Be Considered. Over the extended period of years an-
ticipated by most investments, inflation will have three effects on the value of the op-
eration: (1) inflation will influence the amount of local currency cash flows, both in
terms of the amount of local money received for sales and paid for expenses and in
terms of the impact local inflation will have on future foreign competition: (2) infla-
tion will influence the future foreign exchange rates used to measure the parent com-
pany’s value of local currency cash flows; and (3) inflation will influence the real cost
of financing choices between domestic and foreign sources of capital.
(e) Subsidized Financing Must Be Explicitly Treated. Subsidized financing available
from the host government must be explicitly treated. If a host country provides sub-
sidized financing at a rate below market rates, the value of that subsidy must be con-
sidered. If the lower rate is built into a cost-of-capital calculation, the firm is making
an implicit assumption that the subsidy will continue forever. It is preferable to build
subsidized interest rates into the analysis by adding the present value of the subsidy
rather than by changing the cost of capital.
(f) Political Risk Must Be Considered. The host government may change its attitude
towards foreign influence or control over some segments of the local economy. This
may be through sudden revolution, or it may result from a gradual evolution in the
political objectives of the host goverment. Political risk is also important in deter-
mining the terminal value, because politics may impose a specific ending date which
negates use of an infinite horizon for valuation purposes. If a specific ending date is
mandated, the value received on that date may be extremely difficult to anticipate. In
the context of premiums for political risk, diversification among countries may cre-
ate a portfolio effect such that no single country need bear the higher return that
would otherwise be imposed if that country were the only location of a foreign in-
vestment.
4.3 INTERNATIONAL COMPLEXITIES 4 • 7