Question

Nestle, the Swiss foods conglomerate is as multinational as a company can be. About 98% of its sales takes place oversea, and the group’s diversified operations span 150 countries. Nestle’s numerous (and generally wholly owned) subsidiaries are operationally decentralized. However, finances are centralized in Vevey, Switzerland. Staffed by only 12 people, the finance department makes all subsidiary funding decisions, manages the resulting currency exposures, determines subsidiary dividends amounts, sets the worldwide
debt/equity structure, and evaluates subsidiary performance.

Nestle’s centralized finance function plays the pivotal role in the firm’s intricate web of subsidiary-to-headquarters profit remittances and headquarters-to-subsidiary investment flows. Profits and excess cash are collected by the treasury department in Vevey and then channeled back to overseas subsidiaries in the form of equity and debt investments. Nestle considers this approach to be the best possible investment for the group’s wealth.

When a subsidiary is first established, its fixed assets – which form about half of the total investment – are financed by the Nestle group, generally with equity. Later on, the group may supply long-term debt as needed to support operations. The local subsidiary manager handles all the marketing and production decisions, but decisions regarding long-term debt and equity funding are managed solely by Vevey headquarters.

The other half of the investment – working capital – is then acquired locally, usually via bank credit or commercial paper. However, Nestle varies this general approach to suit each country. In certain countries – those that permit free transfers of funds – Nestle finances part of the working capital from Vevey instead of using local bank credits.

Central control over affiliate capital structures is facilitated by the policy of forcing local managers to dividend out almost 100% of their profits to Switzerland. The particular capital structure chosen for an affiliate depend son various considerations, including taxes, political risk, and currency risk.

To ensure that it borrows at the lowest possible cost, Nestle takes considerable care to structure its capital base to keep a top credit rating. The desire for a low-risk capital structure is also consistent with Nestle’s business strategy. According to Senior Vice President, Finance, Daniel Regolatti, “Our basic strategy is that what are an industrial company. We have a lot of risks in a lot of countries, so we should not add high financial risks.  

Required:

Nestle as a parent company, what perspectives or factors to be considered on a subsidiary relative to the capital budgeting?

Why Nestle finances part of the working capital from Vevey instead of using local bank credits? Elaborate the advantage and/or disadvantages from the above statement.

Answer 1

Working Capital Finance by Nestle

Working capital means the part of investment in an organisation which i mainly invested in inventory, account receivables and short term securities. Working capital finance may be of two types

1) Long term working capital finance

2) Short term working capital finance

Long term finance is required throughout the year and it quantum is generally not flactuating in nature while short term working capital is fluctuating in nature and it depends on the current working operations levels, keeping this aspect in view, this could be one of the reason for which like fixed assets investment, M/s Nestle finance a part of wokring capital also centrally.

The strategy of financing working capital centrally may have advantage of getting lower rate of interest on account of better credit rating. Further negotiating power of the company also increases when it negotiate for the group as a whole rather than as a company. This may also enrail some disadvantages in form of high transaction and compliance cost.