–         The process of deciding upon the financial viability of a foreign investment is the same as a domestic one; estimate expected cash flows and discount at the investment’s cost of capital.
–Â Â Â Â Â Â Â Â Â One important question is when currency translation should be done in the evaluation of an investment.
–Â Â Â Â Â Â Â Â Â Process is to use the interest rate structure of the foreign currency to estimate a risk-adjusted foreign currency discount rate, find the foreign currency NPV, and to translate the resulting foreign currency value at the spot exchange rate to find the domestic value for shareholders.
–Â Â Â Â Â Â Â Â Â Another issue is that of adjusting for the risks entailed in foreign investments per se. The tenets for financial managers to keep in mind are:
- Remember the benefits of diversification – if a company’s shareholders are not well diversified across international borders, a foreign investment may deserve a lower risk profile than a purely domestic one assuming the foreign investments cash flows are not well correlated with a comparable domestic one. If they are the consideration is neutral.
- Remember the relative uncertainties of the investment – alterations in foreign trade laws, exchange restrictions, asset confiscation, and friction repatriation can increase the risk of a foreign investment. A good analysis of these issues would wish to consider these relative to comparable domestic risks and add a foreign risk premium only if truly deserved.
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