1. Santa Clara Electronics, Inc. of California currently exports 1,000,000 electric switches per year to the Argentina under an import agreement that expires in five years. In the Argentina, the imported switches are currently sold for peso equivalent of $75 per set. Santa Clara’s costs, including shipping, are $50 per set, and its current pre-tax profit is $25 per set. Similar costs and prices would occur in Argentine production. The market for this type of switch in the Argentina is stable (neither growing nor shrinking, and Santa Clara holds the major portion of this market.

   The Argentine government has invited Santa Clara to open an assembly plant so that imported switches can be replaced by local production. If Santa Clara makes the investment, it will operate the plant for 5 years and then sell the building and equipment to Argentine investors for $5,000,000. Santa Clara will be allowed to repatriate all net income and depreciation to the US at the end of each year. Santa Clara traditionally evaluates all foreign investments in U.S. dollar terms.  

   Investment:   Santa Clara’s anticipated outlay in 2020, expressed in US dollars and sufficient for the full five years, would be:

                         Building and Equipment                          $40,000,000

                         Working Capital                                            $10,000,000

                         Total Outlay                                              $50,000,000

              All investment outlays will be made in 2020, and all operating cash flows will occur at the end of years 2021 through 2025.

   Depreciation:           Building and equipment will be depreciated over five years on a straight-line basis to a $5,000,000 salvage value. At the end of the fifth year, the $10,000,000 of net working capital may be repatriated to the United States, as may the remaining net book value (salvage value) of the plant.

   Exchange Rates:           The Argentine peso (Ps) is currently at parity (US$1 = APs1) and is expected to remain at this level for the next five years.

   Sales: Locally manufactured switches will be sold APs75 each. Sales volume will remain 1,000,000 switches per year for the next five years.  

   Operating Expenses (current peso costs):

              Materials purchased in Argentina                 Aps30 per set

              Material imported from US parent               Aps20 per set

              Total variable costs                                    Aps50 per set

   The Aps20 purchase price for components sold by Santa Clara to its Argentine subsidiary consists of Aps15 of direct costs incurred in the United States and Aps5 of pretax contribution margin to Santa Clara. These peso costs (and profits) are expected to remain constant. Other operating costs include APs 5,000,000 in annual fixed operating costs by the Argentine subsidiary.

   Taxes:           Both the Argentina and the United States have a corporate income tax rate of 40 percent.

   Concessionary Loan: The Argentine government will assist Santa Clara’s local financing by provided a subsidized loan of 50 million peso loan. The loan will be a five-year amortizing loan (with annual payments) bearing an interest rate of 5 percent. Without the loan, Santa Clara’s normal borrowing rate would be 10 percent.

   Cost of Capital:           Upstate uses a 15 percent discount rate to evaluate all domestic and foreign projects.

              Estimate the value of the project’s cash accruing to the parent.

   		-$26,935,125
   		-$12,932,540
   		-$16,672,196
   		-$34,027,351
   		-$20,662,714

Suppose US (N) and Mexico (S) both can produce soccer balls (SB) and footballs (FB). The unit labor requirements for soccer balls and footballs in the US and Mexico are: a N SB = 10; a N FB = 2; a S SB = 10; a S FB = 10

After trade, if the world relative price pW FB pW SB = 1, which product the US decides to produce? Why? Show full derivation in algebra.

Draw and show the gains from trade for the US using the PPF/CPF graph again. (Use the quanity of Football as the X-axis, draw and label PPF, before and after budget constraints, indifference curves, imports and exports)

After trade, if the US relaxed the immigration policy which increased its population to 150 workers. Which product the US decides to produce then? Does the new immigration policy affect the comparative advantage of the US? Please explain.

If the world relative price pW FB pW SB = 1, would Mexico be better off, worse off, or no change, compared with autarky. Why?

Established in 1891 in Eindhoven, the Netherlands, Koninklijke Philips NV is one of the world’s oldest multinational companies. The company began making lighting products and over time diversified into a range of businesses that included domestic appliances, consumer electronics, and health care products. From the beginning, the small Dutch domestic market created pressures for Philips to look to foreign markets for growth.

By the start of World War II, Philips already had a global presence. During the war, the Netherlands was occupied by Germany. By necessity, the company’s national organizations in countries such as Australia, Brazil, Canada, United Kingdom, and the United States gained considerable autonomy during this period. After the war, a structure based on strong national organizations remained in place. Each was in essence a self-contained entity responsible for much of its own manufacturing, marketing, and sales.

Most R&D activities, however, were centralized at Philips’ Eindhoven headquarters. Reflecting this, several product divisions were created. Based in Eindhoven, the product divisions developed technologies and products, which were then made and sold by the different national organizations. During this period, the career track of most senior managers at Philips involved significant postings in various national organizations around the world (a career development practice often seen still in multinational corporations).

For several decades this organizational arrangement worked well. It allowed Philips to customize its product offerings, sales, and marketing efforts to the conditions that existed in different national markets. By the 1970s, however, flaws were appearing in the approach. The structure involved significant duplication of activities around the world, particularly in manufacturing. When trade barriers were high, this did not matter so much, but the significance of its effect became important when trade barriers started to fall and competitors came into the marketplace. These competitors included Sony and Matsushita from Japan, General Electric from the United States, and Samsung from South Korea. They gained market share by serving increasingly global markets from centralized production facilities, where they could achieve lower costs.

Philips’ response was to try to tilt the balance of power in its structure away from national organizations and toward product divisions. International production centers were established under the direction of the product divisions. The national organizations, however, remained responsible for local marketing and sales, and they often maintained control over some local production facilities. One problem Philips faced in trying to change its structure at this time was that most senior managers had come up through the national organizations. Consequently, they were loyal to them and tended to protect their autonomy.

Despite several reorganization efforts, the national organizations remained a strong influence

at Philips until not too long ago. Former CEO Cor Boonstra famously described the company’s organizational structure as a “plate of spaghetti” and asked how Philips could compete when the company had 350 subsidiaries around the world and significant duplication of manufacturing and marketing efforts across nations.

Boonstra instituted a radical reorganization. He replaced the company’s 21 product divisions with just 7 global business divisions, making them responsible for global product development, production, and marketing. The heads of the divisions reported directly to him, while the national organizations reported to the divisions. The national organizations remained responsible for local sales and local marketing efforts, but after this reorganization they finally lost their historic sway on the company.

Philips, however, continued to underperform its global rivals. By 2008, Gerard Kleisterlee, who succeeded Boonstra as CEO in 2001, decided Philips was still not sufficiently focused on global markets. He reorganized yet again, this time around just three global divisions: health care, lighting, and consumer lifestyle (which included the company’s electronics businesses). These are also the three divisions that are in place under the most recent CEO, Frans van Houten, who became the CEO of Philips in 2011.

The three divisions are responsible for product strategy, global marketing, and shifting of production to low-cost locations (or outsourcing production). The divisions also took over some sales responsibilities, particularly dealing with global retail chains such as Walmart, Tesco, and Carrefour. To accommodate national differences, however, some sales and marketing activities remained located at the national organizations.

QUESTION: Describe how, without setting up any new subsidiaries or changing where any of the subsidiaries were headquartered or how they operated, the company might have transferred profits from subsidiaries in high tax jurisdictions to those in low tax jurisdictions in order to reduce the total amount of tax it had to pay to all of the various host countries where its 350 subsidiaries were located.

Established in 1891 in Eindhoven, the Netherlands, Koninklijke Philips NV is one of the world’s oldest multinational companies. The company began making lighting products and over time diversified into a range of businesses that included domestic appliances, consumer electronics, and health care products. From the beginning, the small Dutch domestic market created pressures for Philips to look to foreign markets for growth.

By the start of World War II, Philips already had a global presence. During the war, the Netherlands was occupied by Germany. By necessity, the company’s national organizations in countries such as Australia, Brazil, Canada, United Kingdom, and the United States gained considerable autonomy during this period. After the war, a structure based on strong national organizations remained in place. Each was in essence a self-contained entity responsible for much of its own manufacturing, marketing, and sales.

Most R&D activities, however, were centralized at Philips’ Eindhoven headquarters. Reflecting this, several product divisions were created. Based in Eindhoven, the product divisions developed technologies and products, which were then made and sold by the different national organizations. During this period, the career track of most senior managers at Philips involved significant postings in various national organizations around the world (a career development practice often seen still in multinational corporations).

For several decades this organizational arrangement worked well. It allowed Philips to customize its product offerings, sales, and marketing efforts to the conditions that existed in different national markets. By the 1970s, however, flaws were appearing in the approach. The structure involved significant duplication of activities around the world, particularly in manufacturing. When trade barriers were high, this did not matter so much, but the significance of its effect became important when trade barriers started to fall and competitors came into the marketplace. These competitors included Sony and Matsushita from Japan, General Electric from the United States, and Samsung from South Korea. They gained market share by serving increasingly global markets from centralized production facilities, where they could achieve lower costs.

Philips’ response was to try to tilt the balance of power in its structure away from national organizations and toward product divisions. International production centers were established under the direction of the product divisions. The national organizations, however, remained responsible for local marketing and sales, and they often maintained control over some local production facilities. One problem Philips faced in trying to change its structure at this time was that most senior managers had come up through the national organizations. Consequently, they were loyal to them and tended to protect their autonomy.

Despite several reorganization efforts, the national organizations remained a strong influence

at Philips until not too long ago. Former CEO Cor Boonstra famously described the company’s organizational structure as a “plate of spaghetti” and asked how Philips could compete when the company had 350 subsidiaries around the world and significant duplication of manufacturing and marketing efforts across nations.

Boonstra instituted a radical reorganization. He replaced the company’s 21 product divisions with just 7 global business divisions, making them responsible for global product development, production, and marketing. The heads of the divisions reported directly to him, while the national organizations reported to the divisions. The national organizations remained responsible for local sales and local marketing efforts, but after this reorganization they finally lost their historic sway on the company.

Philips, however, continued to underperform its global rivals. By 2008, Gerard Kleisterlee, who succeeded Boonstra as CEO in 2001, decided Philips was still not sufficiently focused on global markets. He reorganized yet again, this time around just three global divisions: health care, lighting, and consumer lifestyle (which included the company’s electronics businesses). These are also the three divisions that are in place under the most recent CEO, Frans van Houten, who became the CEO of Philips in 2011.

The three divisions are responsible for product strategy, global marketing, and shifting of production to low-cost locations (or outsourcing production). The divisions also took over some sales responsibilities, particularly dealing with global retail chains such as Walmart, Tesco, and Carrefour. To accommodate national differences, however, some sales and marketing activities remained located at the national organizations.

QUESTION: Describe how, without setting up any new subsidiaries or changing where any of the subsidiaries were headquartered or how they operated, the company might have transferred profits from subsidiaries in high tax jurisdictions to those in low tax jurisdictions in order to reduce the total amount of tax it had to pay to all of the various host countries where its 350 subsidiaries were located

On January 1, 2016, Aspen Company acquired 80 percent of Birch Company's voting stock for $424,000. Birch reported a $425,000 book value and the fair value of the noncontrolling interest was $106,000 on that date. Then, on January 1, 2017, Birch acquired 80 percent of Cedar Company for $232,000 when Cedar had a $218,000 book value and the 20 percent noncontrolling interest was valued at $58,000. In each acquisition, the subsidiary's excess acquisition-date fair over book value was assigned to a trade name with a 30-year remaining life.

These companies report the following financial information. Investment income figures are not included.   

Assume that each of the following questions is independent:

If all companies use the equity method for internal reporting purposes, what is the December 31, 2017, balance in Aspen's Investment in Birch Company account?

What is the consolidated net income for this business combination for 2018?

What is the net income attributable to the noncontrolling interest in 2018?

Assume that Birch made intra-entity inventory transfers to Aspen that have resulted in the following intra-entity gross profits in inventory at the end of each year:

What is the accrual-based net income of Birch in 2017 and 2018, respectively?

On January 1, 2016, Aspen Company acquired 80 percent of Birch Company's voting stock for $460,000. Birch reported a $470,000 book value and the fair value of the noncontrolling interest was $115,000 on that date. Then, on January 1, 2017, Birch acquired 80 percent of Cedar Company for $164,000 when Cedar had a $124,000 book value and the 20 percent noncontrolling interest was valued at $41,000. In each acquisition, the subsidiary's excess acquisition-date fair over book value was assigned to a trade name with a 30-year remaining life.

These companies report the following financial information. Investment income figures are not included.   

Assume that each of the following questions is independent:

1. If all companies use the equity method for internal reporting purposes, what is the December 31, 2017, balance in Aspen's Investment in Birch Company account?

2. What is the consolidated net income for this business combination for 2018?

3. What is the net income attributable to the noncontrolling interest in 2018?

4. Assume that Birch made intra-entity inventory transfers to Aspen that have resulted in the following intra-entity gross profits in inventory at the end of each year:

What is the accrual-based net income of Birch in 2017 and 2018, respectively?

On January 1, 2016, Aspen Company acquired 80 percent of Birch Company’s voting stock for $288,000. Birch reported a $300,000 book value, and the fair value of the noncontrolling interest was $72,000 on that date. Then, on January 1, 2017, Birch acquired 80 percent of Cedar Company for $104,000 when Cedar had a $100,000 book value and the 20 percent noncontrolling interest was valued at $26,000. In each acquisition, the subsidiary’s excess acquisition-date fair over book value was assigned to a trade name with a 30-year remaining life.

These companies report the following financial information. Investment income figures are not included.

Assume that each of the following questions is independent:

If all companies use the equity method for internal reporting purposes, what is the December 31, 2017, balance in Aspen’s Investment in Birch Company account?

What is the consolidated net income for this business combination for 2018?

What is the net income attributable to the noncontrolling interest in 2018?

Assume that Birch made intra-entity inventory transfers to Aspen that have resulted in the following intra-entity gross profits in inventory at the end of each year:

What is the accrual-based net income of Birch in 2017 and 2018, respectively?