Module V: International Capital Markets. Week 13 – November 18 & 20, 2002. Objectives. Understand basics of global capital markets and recent developments for corporate financing decisions Understand how foreign firms raise capital in the United States and elsewhere
Module V:International Capital Markets Week 13 – November 18 & 20, 2002
Objectives • Understand basics of global capital markets and recent developments for corporate financing decisions • Understand how foreign firms raise capital in the United States and elsewhere • Examine factors relevant to firms’ cost of financing in using international sources of financing
International Cases: Context • The Hostile Bid for Red October • Russian equity market risks • Inflation • Liquidity problems • Reporting and transparency issues • Political risk: taxation, regulation, favoritism • Huaneng Power International • China in 1994
Example Stock Markets 1999 Source: IMF Working Paper 00/216
Emerging Market Performance Source:IFC S&P/IFCI Index, 3/28/2002 (column 2) and WSJ, 11/15/2002 (column 3)
Issues in Global Markets • Integration of capital markets • How much or how little do events in one market reflect events in other markets • Expected real returns across markets • Benefits of diversification • Risk reduction through correlations of returns • How to choose portfolio allocations • Risks of international investing
Recent Findings • Importance of global effects has increased in the “new economy” of the 1990’s • Emerging country specific risk has increased dramatically since the crises of the 1990’s while developed-country specific risk has declined • Industry factors, especially technology, probably explain higher correlations
Global Financial Management • Investment in assets • Find highest NPV or highest return projects on a risk-adjusted basis • Cash flows measured in purchasing power of owners (maximize shareholders’ wealth!) • Financing • Minimize cost of funds on a risk-adjusted basis • International finance: analysis of currency and political risks that are unique to foreign operations
Currency and Political Risk • Currency risk is variability in cash returns due to variations in exchange rates • For important currencies can be hedged in financial markets • Often can be hedged on the balance sheet by operating and financing policies (recall American Airlines and Canada and G.E. turbine sales examples • Some currencies cannot be hedged: what kind of risk is currency risk (systematic, liquidity, etc.)?
International Capital Flows • Where are highest real returns to be found in the world today? • Emerging market economies (educated, hard-working labor, low capital stocks) • The United States? (capital inflow, new economy, benign business environment) • Europe? (opening to East, Euro, restructuring) • Latin America?
Determinants of Capital Flows • Take advantage of higher returns • Japanese investments in Asian neighbors • OPEC investments in diversified economies • Benefits from diversification • Pension funds and other institutional flows • Arbitrage risk-return differentials • Temporary differentials that are expected to go away, as from political threats that can be managed by diversification
Issues in International Investing • Taxes and/or restrictions of payment of dividends or proceeds of sale • Currency related issues • Ability to hedge and/or convert cash flows • Costs of currency hedging and/or conversion • Currency risk due to economic fundamentals (devaluation/revaluation) • Liquidity and transaction costs
Emerging Market Equity Issues • Private equity versus public issues • Role played by private investors (like venture capital) • Importance of marketability for some investors • Second board markets • Examples: MOTHERS in Japan, U.S. NASDAQ Small Cap markets • Hong Kong GEMs, Korean Kosdaq, Sesdaq
Markets and Venture Capital • Emerging market economies in Asia have been active in developing venture capital industries • Most successful (like U.S.) is Taiwan • Others differ from U.S. experience, partially for cultural reasons • Organizational forms and exit possibilities • Second board markets in Asia have not represented a reliable exit strategy
Trends in Equity Trading • Global integration in equity trading • Natural economies of scale in markets: size promotes liquidity • Technology • History and legal system • Three models of future markets • Concentration, as in NYSE in U.S. • Alliances (e.g. Singapore and Australia) • Electronic markets (ECNs)
Advantages of U.S. Listing • Liquidity provided by large markets • Established market with global reputation and known and enforced rules of conduct • Prestige of listing • Attractiveness to investors • Domestic U.S. retail investors • Reporting and currency issues • Institutional investors • Liquidity and liability concerns
American Depository Receipts • American depository receipts (ADRs) are used for foreign companies to trade on U.S. markets • Shares deposited in custodial bank in firms’ home countries • ADRs have grown in popularity since 1980’s • Institutional investors wishing international diversification • Foreign firms wishing to raise funds in U.S. • Several levels of ADRs
Levels of ADRs • Level I • Simplest but unlisted and traded over-the-counter (pink sheets) • Reporting requirements are minimal (Form F-6) • Level II • Required to list on exchanges (NYSE, AMEX, NASDAQ) • Disclosure but not meeting U.S. standards • Level III • Full compliance with U.S. reporting requirements (using GAAP standards)
China • Shanghai and Szenzhen stock exchanges • A and B shares • Currency (remninbi) non-convertible but discussion of changing policies • Rapid growth in non-government sector • State-owned enterprises (SOEs) and town and village enterprises (TVEs) • Banks and trust-and-investment companies
Who Owns Chinese Corporations? • SOEs partially privatized • Shares traded in China • Ownership by a variety of institutions • Stakes in firms also owned by • Regional governments • Government ministries • TVEs • Pension funds and TICs • Goal of management?
Next Week – Nov. 25 & 27, 2002 • Review topics covered in RWJ, Chapter 13 • Read and think carefully about issues of corporate governance in xxx case for discussion on November 25 and remember that this is the last individual case write-up • Use week of December xxx to begin review for final exam by reviewing course syllabus and weekly objectives and slides