Unit 6: Corporate Restructuring and International Finance Flashcards Preview

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Flashcards in Unit 6: Corporate Restructuring and International Finance Deck (34)
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1
Q

Mergers (Definition, types, and singularity)

A
  • Mergers:
    • As opposed to consolidation, one firm remains in business. Consolidation a new entity is formed.
    • Three types of mergers
      • Horizontal merger: same line of business
      • Vertical merger: combines a firm with one of its suppliers or customers
      • A conglomerate merger: involves two unrelated firms in different industries.
    • A merger is usually a negotiated arrangement between a single bider an the acquired firm

MERGER GENERALLY REQUIRES A FORMAL VOTE OF SHAREHOLDERS OF EACH OF THE MERGING FIRMS (ACQUISITION ONLY IF DONE VIA ACQUISITION OF FIRM’S ASSETS)

  • Payment is most frequently in stock
  • Bidder is often a cash-rich firm in a mature industry seeking growth opportunities
  • The acquired firm is usually growing and in need of cash.
2
Q

Acquisition

(Definition, Types of Acquisition by Stock Purchase or Acquisition of firm’s assets)

A
  • Is the purchase of all of another’s firms assets or controlling interest in its stock.
    • Control the direct or indirect ability to determine direction of mgmt and policies of the investee. Requires >50% of voting interests (shares of common stock).
    • An acquisition of all of a firms’ assets require a vote of that firm’s shareholders. It also entails the costly transfer of legal title, but avoids the minority interest that may arise if the acquisition is by purchase of stock.
    • An acquisition by stock purchase (TENDER OFFER INVOLVED) is advantageous because it can be effected when management and the board of directors are hostile to the combination, and it does not require a formal vote of the firm’s shareholder.
      • If the offer is rejected, a tender may be made directly to the acquiree’s shareholders to obtain a controlling interest.
      • A tender offer is a general invitation by an individual or corporation to all shareholders of another corporation to tender their shares for a specified price.

Minority shareholders are not required to tender their shares,

3
Q

Takeover: Friendly vs Hostile

A
  • Friendly: the target is usually a successful firm in a growth industry, payment may be in cash or stock, and mgmt. of the target offer has a high percentage of ownership.
  • Hostile: usually in a mature industry and is underperforming, more than one bidder may emerge, management ownership is likely low, and payment is more likely to be in cash and the initial bidder is probably a corporate raider.
4
Q

Motivation for M&As

A
  • Benefits as a whole
    • Diversification stabilizes earnings.
    • Creates a strategic position that allows for competitive advantage.
    • Greater market power (however, watch out for anti-trust regulations)
    • A disbranched business might be worth more than entirety, and acquirer can sell pieces at higher prices.
    • Synergies (AB > a + b)
      • If the avg cost of production falls as a result of production level increases, then there are economies of scale.
      • Cost of capital might be reduced because cost of issuing debt and equity is lower for bigger firms.
      • Synergy can be determined using the risk adjusted discounted rate to discount the incremental cash flows of the newly formed entity.
    • Inefficient mgmt. by be replaced.
    • Possibility of more debt financing, translates in greater tax savings (tax shield).
5
Q

Defenses Against Takeovers

(Greenmail

Staggered Elections

Golden Parachutes

Fair price provisions

Leveraged Capitalizations)

A
  • Greenmail: acquiree offers to buy acquired take over shares at a higher market value. There can also be an agreement where bidder agrees not to buy additional shares.
  • Staggered election of directors: new acquirers has to wait several years before being able to put their own people on the board. A linked strategy is to require supermajorities (>80%) for approval of a combination.
  • Golden parachutes
    • Large payments to key executives are required for their dismissal.
  • Fair price provisions
    • Assures that single minimum fair price is set for all shareholders willing to sell stock price. Also looks to protect minority interests.
  • Voting rights plan
    • Voting-rights plans contain provisions that prevent shareholders who hold a certain ownership (usually low) from voting on takeover issues.
  • Leveraged recapitalization
    • Company purposely obtains more debt to a level that it becomes less attractive to acquirer.
6
Q

LBO (also strategy against takeover)

A
  • LBO and going private
    • LBOs is a financing technique by which a company is purchased using very little equity. The cash-offer price is financed with large amounts of debt from the acquired company. An LBO is often used when a company is sold to mgmt. or some other group of employees but is also useful in hostile takeovers (management or group of key investors does so in order to avoid takeover from external bidders)
      • The company’s assets serve as a collateral for a loan to finance the purchase.
      • In addition, to greater financial leverage, the firm may benefit due to required lower saving and administrative costs from no longer being publicly traded ( also more flexibility for managers ).
      • The high degree of risk in LBOs results from the fixed charges for interest on the loan and the lack of cash for expansion.
    • Going private entails the purchase of the of the publicly owned stock by small group of private investors (including senior mgmt.). The stock is then delisted.
7
Q

Other Defense Against Takeovers

(Poison Pill - Flip in And Flip Over)

Issuing Stock

Reverse Tender

ESOP - IFRS2

White night merger

Crown Jewel Transfer

Legal Action)

A
  • Poison pill
    • Range of provisions that reduce the value of the target to potential tender offers. Two types:
      • Flip over rights: the charter of a target corporation may provide for its shareholders to acquire in exchange for their stock (in target) a relatively greater interest (twice the shares of stocks of equivalent value) in an acquiring entity. Flip over the acquisition to YOUUU BABE. You buy one of mine, I get two of yo.
      • Flip-in rights: acquisition of more than a specified ownership interest (e.g. 25%) in the target permits shareholders, except the acquirer, to purchase additional shares at a reduced price.
  • Issuing Stock: increases amount of outstanding stocks.
  • Reverse tender: target corporation might offer herself a tender to acquire control of the tender offer.
  • ESOP (IFRS2) : will probably vote the shares of the stock against a raider, who will probably destabilize the target corporation’s current structure.
  • White night merger: target arranges a tender offer with another acquirer who will be more benevolent.
  • Crown Jewel transfer: target corporation sells or otherwise disposes of one or more assets that made it a desirable target.
  • Legal action: delaying increases costs to the rather and enables further defensive action.
8
Q

Divestiture Options

(Spin-off, equity carve-out, splitup, tracking stock)

A
  • A divestiture involves the sale of an operating unit of a firm to a third party
  • A spin-off is a creation of a new separate entity from another entity, with the new entity’s shares distributed on a pro-rate basis to existing shareholders of the parent entity.
    • Ownership proportion in parent and new is the same
    • Is basically a type of dividend by stripping.
  • Reasons for spinoffs or divestiture include:
    • Governmental antitrust regulations
    • Refocusing of a firms operations
    • Raising capital for the core business.
  • An equity carve-out (SPLIT-off) involves the sale of a portion of the fir through a public offering.
    • Quick way of raising capital and bringing new management while still maintaining control
    • Similar to spin-off but shares are transferred to new shareholders.
    • HELLOFRESHGO
  • A splitup is when an entity splits in two or more entities. Shares from original are exchanged for shares in the new entities.
  • Tracking stock is stock issued in a division or segment of a parent entity. This provides investors with the opportunity to invest in only a portion of the entity. However they have no claims in the asset. Rather, the parent entity controls over the division or segment.
9
Q

Proxy Fight

A
  • A proxy fight is an attempt by dissident shareholders to control or at least influence the corporation by electing directors. A proxy is a power of attorney authorizing a specified person to vote corporate stock.
10
Q

Types of FX Markets

A
  • Fixed exchange rate (no or limited variation but is subject to government manipulation)
  • Free-float
  • Managed Float Exchange Rate (within a range)
    • Currently being used by the major trading nations
  • Pegged exchange rate
    • A government fixes the rate with respect to another country’s currency ( or to a basket of several ).
11
Q

Spot vs Forward

(Premium/Discount plus Formula)

(Cross Rate)

A
  • Spot rate
  • Forward rate
    • Forward premium when forward > spot >> Expected to gain PP
    • Forward discount when forward < spot >> Expected to lose PP
    • Calculation of premium or discount:
      • (Forward rate/spot rate -1) * days in year / days in forward period
  • Cross rate = domestic currency per US dollar / foreign currency per US dollar
12
Q

Exchange Rate Equilibrium

(Supply and Demand)

A
  • Demand curve for foreign currency is downward sloping because when that currency becomes cheaper, goods and services denominated in that currency become more affordable for domestic customers, leading them to demand more of that currency.
  • The supply for the foreign currency is upward sloping because when that currency becomes more expensive, goods and services become more affordable to the users of the foreign currency, leading them to inject more of their currency in the domestic market.
13
Q

Calculation of effective interest rate on a foreign currency loan

A
  • Calculation on effective rate due to FX impact:
    • Difference on total repayment (interest plus principal) / initial amount borrowed
14
Q

FX Factors

5 of them

A
  • 5 of them

3 are trade related factors:

Relative inflation rates

Relative income levels

Government intervention

2 financial factors:

Relative interest rates

Ease of capital flow (HAS BECOME BY FAR THE MOST IMPORTANT)

15
Q

Relative inflation, interest rates and income level

A
  • Relative Inflation rates
    • More inflation of foreign currency means lower price of it since value is lower as people dump it (less demand as supply increases).
      • Demand for foreign shifts in (contraction)
      • Supplies for foreign shifts out (expansion)
  • Relative interest rates
    • Higher foreign interest rate increases demand for its assets and foreign rate increases
      • Demand shifts right.
      • Supply shifts left as there is less of it available
  • Relative income levels
    • Higher income more you demand foreign
      • Demand shifts right, increasing price and qty.
16
Q

Methods for Simultaneous Effects on FX

(IRR

PPP

&

IFE)

A
  • Differential interest rates
    • IRP holds that exchange rates will settle an equilibrium point where the difference between the forward rate and sport rate equals the exact amount necessary to offset the difference in interest rates between two countries.
  • Differential inflation rates
    • PPP explains differences in exchange rates as the results of the differing inflation rates in two countries
  • International Fisher Effect (IFE)
    • If all investors require a given real rate of return, then differences between the currencies can be explained by each country’s expected inflation rate.
  • Aspects of the three theories
    • IRP deals with forward rate being explained by interest rates.
    • PPP deals with percentage change In spot being explained by inflation rates.
    • IFE deals with percentage change in spot being explained by interest rates
  • With regards of high inflation countries:
    • IRP suggests that they usually trade at a large forward discount (current interests are high, which means that spot is more valuable than forward).
    • PPP and IFE suggests that they will weaken over time.
    • IFE suggests that their economics will have high interest rates.
17
Q

Exchange rate fluctuations over time (determinants by time horizon)

A
  • Long term exchange rates are dictated by the PPP.
    • In the long run real prices should be the same worldwide.
    • Aka, relative price levels determine exchange rates.
  • Medium term exchange rates are dictated by the economic activity in a country.
    • US in recession, less dollars are offered since they will spend less, so supply shifts left increases fx.
    • Demand for dollars increase fx.
  • Short term exchange rates are dictated by interest rates
    • Rise in interest rate of a country leads to appreciation.
18
Q

Hedging exchange rate risk

(hedging foreign-denominated receivable (depreciation)/payable (appreciation))

A
  • Hedging a foreign-denominated receivable
    • When the downside risk is that the foreign currency will depreciate by the settlement date, the hedge is to sell the foreign currency forward to lock in a definite price.
  • Hedging a foreign-denominated payable
    • When the downside risk is that the foreign currency will appreciate the hedge is o purchase the foreign currency forward.
  • A firm can reduce its exchange rate risk by maintaining a position in each foreign currency of receivables and payables that net to near zero.
  • Large multinationals establish multinational netting centers for that purpose.
19
Q

Money Market Hedge for FX risks

A
  • A firm with a receivable denominated in a foreign currency can borrow the amount in the foreign land and convert it to its domestic currency now, then pay off the foreign loan when the receivable is collected. (borrow to pay back with receivable)
  • A firm with a payable denominated in a foreign currency can buy a money market instrument denominated in that currency that is timed to mature when the payable is due. (purchase to sell when payable)
20
Q

Currency Options

Call and Put

A
  • Two types of options:
    • A call option allowing holder to buy an specified amount of currency in the future at a given price. Used for hedge payables.
    • A sell option allowing the right to sell a specified amount of currency in a future month at a specified price. Used for hedge receivables.
21
Q

Mitigating Long Term FX Risks

(Forward contracts

Currency Swaps)

and Speculator vs Arbitrator

A
  • Forward contracts
    • Large corporations doing customized big contracts with a major bank.
    • The bank guarantees that it will make available to the firm a given qty od currency at a definite rate at some point in the future. The bank then charges a premium (price).
  • Currency swaps
    • A broker brings together 2 parties who would like to hedge exchange rate risk by swapping cash flows in each other’s currency
  • Speculator vs Arbitrageur
    • An individual who purposely accepts exchange rate risk is a speculator. Speculators buy and sell foreign currencies in anticipation of favorable changes in rates.
    • An Arbitrageur simultaneously buys foreign currency in one market and sells in the other at a slightly higher price. (LOW RISK)
22
Q

Change in Purchase Power Formula

A

CHANGE IN PURCHASING POWER:

Inflation factor (1+i) / (change in currency) – Ver questao 19 da pagina 227

23
Q

Functional Currency

A
  • Functional currency is the currency from the environment where the company primarily generates and expends cash.
  • Foreign currency transactions happen when foreign currency is involved for:
    • Buying or selling on credit
    • Borrows or lends
    • Partying to a derivative instrument
    • Acquires or disposes of assets.
24
Q

Aspects of cross-border transactions

(Recording Gains / Losses in Receivables / Payables)

A
  • Transactions are recorded at the spot rate in effect at the transaction date
  • Transactions gains and loses are recorded at each balance sheet date at the date the receivable or payable is settled. The gains or losses are ordinarily included in the determination of net income.
    • Transaction gain is recorded in a receivable is recognized when the functional currency depreciates.
    • Transaction loss is recorded in a payable if functional currency depreciates.
25
Q

FX Transaction and GAAP

A
  • Two Transaction Perspective on exchange rate fluctuations
    • Under GAAP you must have two transactions (one for the purchase of transaction and one to purchase fx).
    • One transaction requires adjustment and is incomplete until is settled.
26
Q

Accounting for transaction gains and losses

A
  • Accounting for transaction gains and losses
    • A transaction gain (loss) results from a change in exchange rates between the functional currency and the currency in which the transaction is denominated. It is the change of functional currency cash flows:
      • 1) Actually realized on settlement
      • 2) Expected on unsettled transactions
    • Transactions are recorded at the spot rate in effect at the transaction date.
    • Transaction gains and losses are recorded at each balance sheet date and at the date the receivable or payable is settled.
27
Q

Remeasurement to Functional Currency

(Temporal method:

historical for non-monetary

current for monetary)

(gain in loss from continuing operations)

A
  • If the accounting record is maintained in other than the functional currency, currency amounts must be remeasured into the functional using the temporal method. Then they should be translated into the reporting currency using the current-rate method.
  • Nonmonetray balance sheet items and related revenue, expense, gain and loss amounts are remeasured at the historical rate.
  • Monetary items are remeasured at the current rate. HELD TO MATURITY BONDS ARE INCLUDED HERE. Receivables, payables, inventories, marketable securities.
  • Any net gain or loss on remeasurement of monetary assets and liabilities is recognized in current income from continuing operations. IMPACTS NET INCOME AND CASHFLOW.
28
Q

Translation (from functional to reporting currency)

all-current/current rate method

(everything apart from equity - that uses historical - is translated using current exchange rates)

(other comprehensive income so little impact on IS ratios)

A
  • Translation is necessary when the functional currency differs from reporting currency.
    • Assets and liabilities are restated using the current exchange rate.
    • Shareholder equity items are restated at historical rates.
  • A gain or loss on foreign currency translation is a component of other comprehensive income, not earnings. DOES NOT IMPACT NET INCOME NOR CASHFLOWS. LOOK AT QUESTION 23 from page 229/
29
Q

International Trade: DFI or Stock Purchase (ADR)

AND

Why higher cost of capital?

A
  • A company planning a foreign direct investment can either purchase the stock of a foreign corporation or make a direct foreign investment (DFI). A direct foreign investment involves buying equipment and buildings for a new company.
    • Advantages of DFI:
      • Lower taxes in the foreign nation
      • Annual D&A allowances (instead of full OPEX costing) for the amount invested
      • Access to foreign capital sources
      • Avoid trade restrictions imposed on foreign companies in the customer’s market.
    • Cost of capital for foreign projects is higher because of the increased
      • Exchange rate risk and PPP
      • Sovereignty (or political) risk from possible expropriation (or other restrictions).
      • Likelihood of laws requiring financing from certain sources, such as requirement that foreign subsidiaries must be at least 51% owned by locals.
    • Ownership rights in foreign corporations = ADR. The foreign stocks are deposited with a large US bank, which in turn issues ADRs representing ownership in the foreign shares. The ADR shares then trade on a US stock exchange, whereas the company’s original shares trade in foreign stock markets. ADRs allow Americas to invest abroad and foreigners to raise capital in the US. ADRs allow foreign companies to develop a US shareholder base without being subject to many SEC restrictions.
30
Q

Multinational Corps (Home Country Impact)

A
  • Benefits to home country include:
    • Improved earnings and exports of products to foreign subsidiaries.
    • Improved ability to obtain scarce resources.
    • The typical benefits of free trade, i.e. greater product availability, a better international monetary system, and improved international understanding.
  • Adverse affects on the home country:
    • Loss of jobs and tax revenues.
    • Instability due to less flexibility on foreign operations and risk of expropriation
    • Competitive advantage of multinationals over domestic rivals.
31
Q

Impact on Host Country

A
  • Benefits to the host country
    • New investment in capital, tech and mgmt abilities.
    • Improvements in output and efficiency along with the resulting stronger balance of payments
    • Stimulation of competition, increased tax revenues and higher standard of living.
  • Adverse affects on the host country:
    • Remittance of royalties, dividends, and profits that can result in a net capital outflow.
    • Setting of transfer prices among subsidiaries so that profits will be earned where taxes are lowest or restrictions on the export of profits are least stringent.
    • Multinationals engaging in anticompetitive activities such as the formation of cartels.
32
Q

Methods of financing international trade

(Cross-border factoring)

(Letters of Credit)

(Banker’s acceptance)

(Forfaiting)

(Countertrade)

(Sight Draft or Bill of Exchange)

(Open Account Sale)

(Prepayment)

A
  • Letters of credit
    • Under a letter of credit, an issuer (usually a bank) undertakes with the account party (an import-buyer that obtains the letter of credit) to verify that the beneficiary (seller exporter) has performed under the contract.
    • Thus the issuer pays the beneficiary when it presents documents (such as bills of lading) that provide the evidence of performance. The issuer then is reimbursed by the account party. Is more like a backup contract where the bank requires from importer guarantees for performance.
  • Banker’s Acceptances
    • Are time drafts drawn on deposit in a bank. They are short term credit investments created by a nonfinancial firm with payment guaranteed (accepted) by a bank. These are essentially commercial drafts. A draft contains and order by the drawer to the drawee to pay a fixed sum of money to the payee.
    • Acceptances are traded at discounts in secondary markets. These instruments have been a popular investment for money market funds.
  • Forfaiting (factoring)
    • Forfaiting is a form of factoring that involves the sale by exporters of large, medium to long term receivables to buyers (forfaiters) who are willing and able to bear the costs and risk of credit and collections.
  • Countertrade
    • Countertrade at its simplest is a barter, the exchange of goods or services for other goods or services rather than merely for cash.
  • Sight Draft or Bill of Exchange
    • An exporter uses a sight draft to obtain payment from an importer. The exporter holds title to the shipped goods until the importer has received the shipment and paid for it. The sight draft and shipping documents are sent to the importer’s bank, which remits payment to the exporter.
  • Open Account Sale
    • A sale on open-account is risky because the exporter merely ships good to the importer who signs an invoice acknowledging receipt. Thus the exporter is not assured of payment if the importer defaults. Such an arrangement is mostly like if the parties have previously transacted business.
  • Prepayment
    • Under a prepayment arrangement, the exporter will not ship the goods until the buyer ( importer ) has wired payment to the exporter’s bank account.
33
Q

International Tax Considerations

(tax income sourced to that country)

A
  • Most countries tax only the income sourced to that country.
  • US taxes worldwide income (independently of the source) of a DOMESTIC COMPANY. Double taxation is avoided by allowing a credit for income tax paid to foreign countries or by treaty provisions.
  • In case of foreign entity, US taxes only income sourced to the US.
34
Q

Transfer Pricing

A
  • Transfer pricing (important aspect of tax calculation for multi corps that transfer inventories between countries)
    • The US tax laws have limits on the amount of profit that can be transferred from a US parent to a foreign subsidiary.
    • Thus transfer prices charged to foreign subsidiaries may differ substantially from those charged to domestic subsidiaries.
    • The existence of tariffs in a foreign country may necessitate a lower transfer price to reduce a tariff based on the inventory value.