Multiquimica Do Brasil 1999

Multiquimica do Brasil ( Source/ Cases in International Finance pp.73-80)

Background

Managing risk involves many levels of complexity for a firm which is active in international business. This complexity is magnified by the extension of a firm’s business to direct overseas operations. The issues involved in trade are combined with the issues of international investment. Judgments are required about the prudent and equitable tradeoffs of risks and benefits for the parent company and for the overseas subsidiary. In locations in which currency instability is pronounced these questions are magnified further.

“Multiquimica do Brasil 1999” provides an excellent example of these dilemmas for a sizable American company which is active in international business. With active international sales in over 50 countries the U.S. parent company, Multichemical Industries, is a good example of the potential of trade in business expansion and of the resulting problems. The Brazilian operation represented a modest part of the company’s international business making an evaluation of the situation accessible. But modest size is not necessarily the source of simplicity in terms of management issues. The case provides a realistic understanding of the relationships and perspectives in management for a company’s head office and for the view of its offshore subsidiary.

Factors

The case focuses on three primary participants:

1. The U.S. Parent Company – Multichemical Industries

2. Subsidiary in Brazil – Multiquimica do Brasil

3. Competition in Brazil- Hoffman et Cie

Three aspects of the company’s situation are highlighted:

1. Parent/Subsidiary international relationship

2. Company exchange management programs

3. Competitive issues in Brazil

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Expectations

The discussion will address the following:

1. Situation Analysis – what were the critical factors for the company as a whole in managing its foreign exchange exposure in the Brazilian business?

All Sales and Marketing was conducted through MB in Brazil, meaning the majority of the products were overseen by the company’s managers. Sales accounted for 65 million or 6% of foreign markets. The dollar linkage billing system was advantageous to the Brazilian business.

It made the payment terms accountable to the date goods were received. The Brazilian Real due to the parent company was not due when product shipped from the US which took 30 days. Since credit terms on imports were 180 days it was customary for the Real to lose value relative to the dollar on an ongoing basis which was advantageous to the subsidiary. In addition, for further detriment to the US company, foreign exchange loss would be stated on the US books.

With MB’s profits being recorded in US terms, also furthered the impact of the constant change in Real’s value. The 90-day payment terms passed onto customers further exacerbated the translation loss back to US dollars. Central to the dilemma is the translation loss from the original US value of the Real currency sale which surpassed the US dollar value of the Real currency accounted for 90 days after fact. To provide resolve, MB introduced forward pricing, whereby Real devaluation would be analyzed over the next 90-days and which sales prices would then be based.

2. Perception of Interest – how did the priorities of the parent company and of the subsidiary align or differ?

In the mid 1900’s the corporate function encouraged MB to borrow locally in an attempt to align assets and liabilities in Real to offset translation loss on assets with a gain on liabilities. This would reduce the need to report a great amount of translation loss on the financials. The parent company tried to reduce the impact of damages from company policies. The Subsidiary took advantage of the situation in light of the Real value against the dollar.

3. Establishment of the Subsidiary – review the decision to establish the venture in Brazil and the results of its establishment versus the prior exporting approach. What did the company gain in committing itself to an overseas operation? What did it lose or what new issues emerged?

Originally, the subsidiary was established to manufacture the array of chemical products and pharmaceuticals in the county. Beforehand, it was active in the county via export sales. The company leveraged an advantage of production in Brazil. The company hedged over foreign currency exchange rates. As the Real was poorly rated by the government, yet not with inflation rates.

4. Financial Policies – review and analyze the company’s policies with respect to parent/subsidiary pricing, payment terms, foreign exchange risk and cover. Focus on the policies which were adopted and consider alternatives to these policies in terms of prior arrangements within the company or other approaches which may have been taken.

Multiquimica do Brasil (MB) is responsible for all-Brazilian manufacturing and sales of the company’s principal chemical and pharmaceutical products in Brazil. As management reviewed preliminary results in early January 1999, concern was growing that pricing, billing, and performance measurement policies were contributing to falling profits and market share of MB's primary pharmaceutical product in the Brazilian marketplace. The questions raised related subjects such as, foreign exchange accounting, impact of inflation on reported financial results, linkages between government policies and corporate competitive positioning, the advantages and disadvantages of multiple sets of corporate books, the effects of allocated costs on management performance measurement, and age-old debate of centralized versus decentralized management of multinational business operations.

MB instituted a management accounting system to work for the benefit of the Brazilian subsidiary. The system known as “dollar linkage billing” payable at the exchange rate in effect on the date of the receipt of goods. The real payment to the parent MB was set on the date of which goods were