FIN 389: INTERNATIONAL CORPORATE FINANCE – FALL 2020
Take-home exam, due December 10, 2020
Please show your work in detail and either use MS Word/Excel or write very legibly
BayArea Designs Inc., located in Northern California, has two international subsidiaries, one located in the Ukraine, the other in Korea. Consider the information below to answer the next two questions.
1. If BayArea pays out 50% of its earnings from each subsidiary, what are the additional U.S. taxes due on the foreign sourced income from the Ukraine and Korea respectively?
2. The additional U.S. taxes due from (or tax credit to) BayArea on the repatriation of income from the Ukraine to the United States, alone, assuming a 50% payout rate, is__________________.
Use the information to answer the following two questions.
Green Valley Exporters USA has $250,000 of before tax foreign income. The host country has a corporate income tax rate of 15% and the U.S. has a corporate income tax rate of 40%.
3. If the U.S. has no bilateral trade agreement with the host country, what is the total amount of income taxes Green Valley Exporters will pay?
4. If the U.S. has a bilateral trade agreement with the host country that calls for the total tax paid to be equal to the maximum amount that could be paid in the highest taxing country, what is the total amount of income taxes Green Valley Exporters will pay to the host country, and how much will they pay in U.S income taxes on the foreign earned income?
5. Chinglish Dirk Company (Hong Kong) exports razor blades to its wholly owned parent company, Torrington Edge (Great Britain). Hong Kong tax rates are 12% and British tax rates are 40%. Chinglish calculates its profit per container as shown as the following baseline analysis follows (all values in British pounds). Corporate management of Torrington Edge is considering repositioning profits within the multinational company. What happens to the profits of Chinglish Dirk and Torrington Edge, and the consolidated results of both if the markup at Chinglish was increased to 30% and the markup at Torrington was reduced to 10%? What is the impact of this repositioning on consolidated tax payments?
(See table next page)
Baseline Analysis
Assumptions Hong Kong Great Britain
Corporate income tax rate 12.0% 40.0%
Desired markup on transfers 20.0% 20.0%
Volume 1,000
Constructing Transfer (Sales) Chinglish Dirk Torrington Edge Consolidated
Price Per Unit (British pounds) (British pounds) (British pounds)
Direct costs £10,000 £16,800
Overhead 4,000 1,000
Total costs £14,000 £17,800
Desired markup 2,800 3,560
Transfer price (sales price) £16,800 £21,360
Income Statement (prices x volume)
Sales price £16,800,000 £21,360,000
Less total costs (14,000,000) (17,800,000)
Taxable income £2,800,000 £3,560,000
Less taxes (336,000) (1,424,000) £1,760,000
Profit, after-tax £2,464,000 £2,136,000 £4,600,000
6. Nakatomi Toyota buys its cars from Toyota Motors (U.S.), and sells them to U.S. customers. One of its customers is EcoHire, a car rental firm which buys cars from Nakatomi Toyota at a wholesale price. Final payment is due to Nakatomi Toyota in 6 months. EcoHire has bought $200,000 worth of cars from Nakatomi, with a cash down payment of $40,000 and the balance due in 6 months without any interest charged as a sales incentive. Nakatomi Toyota will have the EcoHire receivable accepted by Alliance Acceptance for a 2% fee, and then sell it at a 3% per annum discount to Wells Fargo Bank.
a. What is the annualized percentage all-in-cost to Nakatomi Toyota?
b. What are Nakatomi’s net cash proceeds, including the cash down payment?
7. Assume Nikken Microsystems has sold Internet servers to Telecom España for €800,000. Payment is due in 6 months and will be made with a trade acceptance from Telecom España Acceptance. The acceptance fee is 1.0% per annum of the face amount of the note. This acceptance will be sold at a 6% per annum discount. What is the annualized percentage all-in-cost in euros of this method of trade financing?
8. Cypress Systems Inc., of Florida, agrees to sell specialized hydroponic growing equipment to Landcaster’s of Australia. Because the two companies have never done business with each other, Cypress requires a banker’s acceptance as payment for the $1,000,000 order. The banker’s acceptance carries a 1.4% commission per annum and payment is to be received in 6 months. If Cypress Inc. chooses to discount or sell the bankers acceptance to its bank, the discount rate is 1.00% per annum.
What is the total Cypress can expect to receive if the firm takes payment today?
9. Slinger Wayne, a U.S.-based private equity firm, is trying to determine what it should pay for a tool manufacturing firm in Honduras named Carambola. Slinger Wayne estimates that Carambola will generate a free cash flow of 10 million Honduran lempiras (Lp) next year (2021), and that this free cash flow will continue to grow at a constant rate of 8.0% per annum indefinitely.
A private equity firm like Slinger Wayne, however, is not interested in owning a company for long, and plans to sell Carambola at the end of three years for approximately 12 times Carambola’s free cash flow in that year. The current spot exchange rate is Lp 24/$, but the Honduran inflation rate is expected to remain at a relatively high rate of 12.0% per annum compared to the U.S. dollar inflation rate of only 2.0% per annum. Slinger Wayne expects to earn at least a 20% annual rate of return on international investments like Carambola.
a. What is Carambola worth if the Honduran lempira were to remain fixed over the three year investment period?
b. What is Carambola worth if the Honduran lempira were to change in value over time according to purchasing power parity?
10. Natural Mosaic Company (U.S.) is considering investing Rs 70,000,000 in India to create a wholly owned tile manufacturing plant to export to the European market. After three years the subsidiary would be sold to Indian investors for Rs. 100,000,000. A pro forma income statement for the Indian operation predicts net income after tax of Rs 7,500,000 including depreciation expense of Rs 1,000,000, thus generating Rs 8,500,000 annual cash flow.
The initial investment will be made on December 31, 2020, and cash flows will occur on December 31st of each succeeding year. Annual cash dividends to Natural Mosaic from India will equal 80% of accounting income. The current exchange rate is Rs 50 per USD; but the dollar is expected to appreciate against rupee by 5% per year. The U.S. corporate tax rate is 30% and the Indian corporate tax rate is 40%. Because the Indian tax rate is greater than the U.S. tax rate, annual dividends paid to Natural Mosaic will not be subject to additional taxes in the United States. There are no capital gains taxes on the final sale. Natural Mosaic uses a weighted average cost of capital of 15% on domestic investments, but will add 5 percentage points for the Indian investment because of perceived greater risk.
What is the net present value and internal rate of return on this investment?
