Final Exam Flashcards
(39 cards)
17.1 Define corporate governance. Why is it important in international finance?
Corporate governance refers to the way in which major stakeholders influence and control the modern corporation. Typically, there is a supervisory board (e.g., the Board of Directors in the U.S.) that represents the most influential stakeholders (debtholders in bank-based systems and equity in market- based systems). The supervisory board monitors the management team which manages the day-to-day operations of the corporation. The form of corporate governance determines the particular stakeholders that are represented on the board and has a major influence on top executive turnover and the market for corporate control.
17.2 In what ways can one firm gain control over the assets of another firm?
Direct means of acquiring control over another firm’s assets include an outright purchase of those assets, a purchase of equity, and through merger or consolidation. Indirect means include joint ventures or other collaborative alliances.
17.3 What is synergy?
When the whole is greater than the sum of the parts in a corporate acquisition.
Describe several differences in the role of commercial banks in corporate governance in China, Germany, Japan, and the United States.
The largest commercial banks in China are partially-privatized state owned enterprises (SOEs) in which the Chinese government maintains a controlling interest. The four largest banks account for nearly half of Chinese banking assets, and these banks and the government have a strong voice in the boardrooms of other partially privatized SOEs. Firms in China’s private sector are less reliant on the government and on the large state-owned commercial banks. Banks in Germany have few constraints on their participation in corporate boardrooms. They are major investors of equity capital, and also serve as brokers and investment bankers. Banks in Japan cannot own more than 5% of the equity of any single company, but are in a prominent role in corporate boardrooms through their interactions with other keiretsu members. Commercial banks in the U.S. have a more limited role in corporate boardrooms than in many other countries because of historical constraints on their banking activities including equity ownership, brokerage, and investment banking activities.
17.5 Describe four ways that banks can influence corporate boardrooms in countries – such as Germany – that offer universal banking?
Universal banking refers to a financial system in which banks offer a full range of banking and financial services. They can influence corporate boardrooms in four ways: 1) supply debt capital via commercial loans, 2) invest in equity, 3) actively vote the shares of their trust (pension fund) and brokerage customers, and 4) serve as investment bankers for debt and equity issues to the public.
17.6 How does the legal environment affect minority investors? Include a description of tunneling n your answer.
Minority investors in countries with poor legal protections are exposed to tunneling, which is the expropriation of corporate assets from minority shareholders by controlling shareholders, management, or both. Because of this risk, countries with poor legal protections for minority investors experience lower industrial growth and less efficient capital allocation than countries with enforceable legal protections.
Why are hostile acquisitions less common in Germany and Japan than in the United Kingdom and the United States?
Corporate governance in Germany and Japan is characterized by debt and equity ownership that is concentrated in the hands of one or more major stakeholders. Management in Germany and Japan is much more closely tied to this major stakeholder than their counterparts in the U.K. and the U.S. Consequently, acquisitions in Germany and Japan are difficult to accomplish without the consent a nd cooperation of this major stakeholder or stakeholders. The relatively dispersed equity ownership in the U.K. and U.S. allow hostile suitors to appeal directly to the public markets through a tender offer. Tender offers in the U.K. and U.S. may or may not be in cooperation with current management.
17.8 How is turnover in the ranks of top executives similar in China, Germany, Japan and the United States? How is it different?
The why and when of top executive turnover is similar in these countries. Top executives in non- performing companies are likely to be replaced. The how of top executive turnover differs, however. Top executive turnover is initiated and executed by the lead bank in Germany, by the keiretsu (perhaps by the main bank) in Japan, and by the public market for corporate control in China and the United States. State-owned companies in China are an exception, in that politically-connected CEOs in state-owned enterprises are more entrenched than similar CEOs in the private sector.
17.9 Who are the likely winners and losers in domestic mergers and acquisitions that involve two firms incorporated in the same country? How are the returns to acquiring firm shareholders related to the method of payment (cash versus stock) and the acquiring firm’s free cash flow or profitability?
In the United States, target shareholders gain while acquiring firm shareholders may or may not win. Acquiring shareholders are more likely to win than lose in non-U.S. domestic markets. Bidding firm shareholders are more likely to win: a) when cash is offered rather than stock, and b) when the firm does not have a lot of free cash flow.
17.10 In what ways are the winners and losers in cross-border mergers and acquisitions different than in domestic U.S. mergers and acquisitions?
Shareholders of the bidding firm are more likely to win in a cross-border merger or acquisition. Target firm shareholders win in either case.
17.11 How are gains to bidding firms related to exchange rates?
Empirical studies find that a strong domestic currency leads to both more foreign acquisitions and to higher bidder returns.
18.1 What are the characteristics of a domestic bond? an international bond? a foreign bond? a Eurobond? a global bond?
Domestic bonds are issued and traded within a single country’s interna lmarket and are denominated in that country’s currency. International bonds are traded outside the country of the issuer. The two kinds of international bonds are foreign bonds and Eurobonds. Foreign bonds are issued in a domestic market by a foreign borrower, denominated in domestic currency, marketed to domestic residents, and regulated by the domestic authorities. Eurobonds are denominated in one or more currencies but are traded in external markets outside the borders of the countries issuing those currencies. A global bond trades in the Eurobond market as well as in one or more national bond markets.
18.2 List the various ways in which you might invest in foreign securities.
a) investment in MNCs, b) direct investment in individual foreign securities (through direct purchase in the foreign market, direct purchase in the domestic market through ADRs or American shares, globally diversified mutual funds or funds specializing in international securities such as closed-end country funds), hedge funds, equity-linked Eurobonds (convertibles or warrants), or index futures, options or swaps.
18.3 What are the differences between passive and active investment strategies?
Passive strategies do not try to shift assets in anticipation of market shifts. Rather, they follow a ‘buy-and-hold’ philosophy that identifies the types of assets that are to be held and then take advantage of diversification to achieve optimal performance. Active strategies try to shift between asset classes or between individual securities in an effort to anticipate changes in market values.
18.4 What makes cross-border financial statement analysis difficult?
Differences in language, accounting measurement (such as accounting for cash, goodwill, discretionary reserves, pension liabilities, and inflation), and financial disclosure requirements.
18.5 What alternatives does a multinational corporation have when investors in a foreign country demand accounting and financial information?
The MNC can (1) do nothing, (2) prepare convenience translations, (3) prepare supplementary financial statements using different accounting principles.
19.1 How is portfolio risk measured? What determines portfolio risk?
Portfolio risk is measured by the standard deviation (or variance) of return. Portfolio risk depends on the variances and covariances of the assets in the portfolio.
19.2 What happens to portfolio risk as the number of assets in the portfolio increases?
As the number of assets held in a portfolio increases, the variance of return on the portfolio becomes more dependent on the covariances between the individual securities and less dependent on the variances of the individual securities.
19.3 What happens to the relevant risk measure for an individual asset when it is held in a large portfolio rather than in isolation?
The risk of an individual asset in a large portfolio depends on its return covariance with other assets in the portfolio and not on its return variance. This is called systematic risk.
19.4 In words, what does the Sharpe Index measure?
Sharpe’s measure captures the ex post return/risk performance of an asset by dividing return in excess of the risk-free rate by the asset’s standard deviation of return. In other words, it measures the asset’s “bang for the buck.”
19.5 Name two synonyms for “systematic risk.”
Systematic risk is the same as non-diversifiable risk. In the context of the CAPM, the only systematic risk is market risk (that is, risk related to the market factor).
19.6 Name two synonyms for “unsystematic risk.”
Diversifiable risk is asset-specific (company- or country-specific) or unique risk. In the context of the CAPM, diversifiable risk includes only non-market risk (i.e., risk unrelated to the market factor).
19.7 Which portfolio has the most to gain from currency hedging - a portfolio of international stocks or a portfolio of international bonds? Why?
Nearly all of the variation in bond returns within a country come from changes in interest rates in that country. Stocks have a much larger random component. Without the additional security-specific variability of stocks, the percentage of currency risk in the return variance of an international bond portfolio is much higher than in an international stock portfolio. Currency risk hedging is much more effective in reducing the variability of foreign bond investments than of foreign stock investments.
19.8 Is international diversification effective in reducing portfolio risk? Why?
International portfolio diversification can reduce risk through two avenues. (1) National (stock and bond) markets are not perfectly correlated, so portfolio diversification across countries can reduce portfolio risk. (2) The correlation between exchange rates and national market returns is low, so returns to foreign assets depend on national market returns as well as on currency returns.
