MNE Foreign Pricing, Profits One of the Term Paper

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MNE Foreign Pricing, Profits

One of the most challenging areas of a multinational firm's business is setting target pricing and revenue for foreign markets, given the complications arising from currency denominations and exchange rates.

That is because exchange rates demonstrate the linkage between one nation and its partners in the global marketplace. They affect the relative price of goods being traded (exports and imports), the valuation of assets, and of course the final economic yield on those very assets.

In the period of fixed or constant exchange rates these prices, values, and yields were predictable over time. However, since 1973 we have been living in a world of flexible rates where foreign exchange markets determine these rates based on trade flows, interest rate differentials, differing rates of inflation, and speculation about future events.

Exchange rates can be expressed as the foreign price of a domestic currency (i.e., the Euro price of a U.S. dollar) or its reciprocal -- the domestic price of foreign currency. We will express these values using the following notation:

the Euro price of a Dollar: €P/$

or the Dollar price of a Euro: $P/€

Multinational companies compete with an array of external factors, internal considerations, and other forces and magnitudes that shift budget policies, composition, and control. Budgeting in a global business environment demands an enhanced level of coordination and communication because of the plethora of important components that influence organization performance.

Foreign currency exchange rates, interest rates, and inflation are the three critical external factors that impact multinationals and their markets. Although these factors are interrelated -- for example, higher inflation in a specific country tends to drive the value of its currency down, which impacts the exchange rate -- changes in currency exchange rates have the most effect on the budgeting process.

For a striking example, in June 2001, the value of the U.S. dollar was at a 15-year high when compared to the British pound and other currencies of the major U.S. trading partners. This caused John T. Dillon, CEO of International Paper and head of the Business Roundtable, to complain to U.S.

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Treasury Secretary Paul O'Neill that the dollar's strength made it difficult for U.S. companies to compete with imports and penetrate foreign markets.

According to Milani's recent research, "Changes in these three external factors stem from several sources, including economic conditions, government policies, monetary systems, and political risks. Each factor is a significant external variable affecting areas such as policy decisions, strategic planning, profit planning, and budget control. To minimize the possible negative impact of these factors, multinational corporate management must establish and implement policies and practices that recognize and respond to them. Other external forces such as political turmoil, competition, labor quality, and cultural or religious orientation of the local populace exist, but they tend to be related specifically to one country or particular region of the world." (Milani, 2004)

An excellent example is that of General Motors. General Motors' sales have been dropping precipitously in the United States, prompting Toyota and other market-share-appreciating foreign manufacturers of automobiles to consider temporary price increases to help rescue General Motors.

However, General Motors' sales have been very strong overseas, especially with its European Opel brand. But, how does General Motors price its cars geared at foreign markets? Generally, in order to gain market share in foreign countries, a manufacturer will 'dump' its products, relative to currency exchange rate, but in General Motors' case, it cannot afford to do that since its profitability stems from its foreign sales, not from its core United States sales.

As a result, it must maintain pricing pursuant to currency rates of exchange. If the dollar is overvalued, however, General Motors suffers as it must correspondingly increase the prices of its cars abroad -- and this will cut into profitability.

So that is why, for instance, International Paper fought the dollar's value. Fortunately for General Motors and its colleagues, the dollar has been consistently devalued since the terrorist attacks of September 11, 2001......

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