Capital Budgeting for Multinationals

Nobody can really guarantee the future. The best we can do is to size up the chances, calculate the risks involved, estimate our ability to deal with them and make our plans with confidence. – HENRY FORD II

MNCs evaluate a direct foreign investment proposal using capital budgeting process but this Capital budgeting is different stand from domestic capital budgeting.

Once a firm has compiled a list of prospective investments, the next objective is to select that combination of projects that maximises the company’s value to its shareholders.

Multinationals usually find their analysis complicated by a variety of problems that are rarely, if ever, encountered by domestic firms. Several such problems include:

A framework has to be developed that allows measuring, and reducing to a common denominator, the consequences of these complex factors on the desirability of the foreign investment opportunities. This helps in comparing and evaluating projects on a uniform basis.

Proper capital budgeting for the MNC is necessary for all long-term projects that deserve consideration. The projects may range from a small expansion of a subsidiary to creation of a new subsidiary.

The basic question to be answered is “should capital budgeting be addressed by the parent company or by the subsidiary?”

Capital Budgeting involves a thorough analysis of decision criteria and application of rules that enable managers to arrive at a decision. The rule of thumb is “given an investment opportunity, should a project be accepted or not?”

The value of foreign investments to the parent company considers the difference between project and parent cash flow. Hence, capital budgeting also considers this.

Managers need to understand the options available; to adjust the scope of a project, failing which, the project cash flow might be negatively biased. The options include:

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