Investing in International Markets | Finance Assignment Solutions

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Importance And Challenges Of Investing In International Markets
  • March 19, 2024

This is a finance assignment where we will be understanding some of the concepts related to investing in international markets. For the sake of convenience, we have used an example of an oil and gas exploration company – Sapphire Energy which is based in France. We will be discussing the different types of sources of funds like equity, retained profits, IPO, debt financing, and working capital loans. We will also cover the importance and challenges of investing in international markets. The merits and risks involved while investing in emerging markets and the recommendations for the best finance options.

This assignment will be very helpful for students looking forward to understanding finance and investing in international markets. This is an example of the work that we provide to students while assisting them with their management and business assignments.

 

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Introduction

Sapphire Energy is an oil and gas exploration company based in France. It was established in 2010, and since then it has created benchmarks in business operations through some successful explorations. It mainly operates in Eastern Europe and is planning to expand into African territories. Now, one of the main considerations in this decision is the financial investment in doing so. Plenty of financing options are available for the company, such as equity, retained profits, debt financing, IPO, working capital loans, etc. The problem is determining which option would be the best for the company to expand into African regions.

 

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Sources Of Funds

Equity

Equity financing is a popular way to raise capital for different purposes of the company in which the company would sell some shares to financial institutions, and public or institutional investors. Thus, in the case of equity, a company does not retain its full control of the company. The equity holder can also interfere in that process. Also, the equity holders will retain a share of the company’s profits. There may be some conflicts over these issues. However, equity is particularly helpful when the company lacks creditworthiness. Creditworthiness is the likelihood of a company repaying debt obligations, based on which a lender or bank decides whether they will provide the company with new credit or decline (VanSomeren, 2021). Also, in equity financing, the business does not need to pay any kind of monthly loan.

Retained Profits

Retained profit is the amount of profits or earnings that the company retains in its accounts rather than using it to make payments to the shareholders. Retained profits are a preferred source of finance for many businesses. Retained profits create a safety net for a business that it can use in case of any unexpected trouble. It is especially helpful when the company does not provide control to any other people. However, it is not preferred by the shareholders of businesses either. So, they might become dissatisfied with this culture. Whenever resources are distributed from one sector to another, companies must maintain shareholder value, as it has a great influence on the same (Mäenpää, 2012).

IPO

An Initial Public Offering (IPO) is a lucrative way to raise funds for a business. Sometimes it raises several hundred million, which makes it one of the most preferred ways for a business to raise finance. Also, an IPO increases the publicity of the company, and the company can make payments using the stocks. However, IPOs come with a hefty transaction cost (especially underwriter fees). A huge amount of market pressure is involved in this case too.

Debt Financing

Debt financing is the simplest form of financing, where a company borrows money from a bank or a lender, with the condition of paying it later along with the interest amount. If Sapphire embraces debt financing, it will retain full control over its business operations. Also, the company will remain assured about what amount they need to pay to the lender as the principal amount and interest. So there is no uncertainty. However, a good credit rating or creditworthiness is required in this case. The company may have to put some of its most important assets at financial risk.

Working Capital Loans

A working capital loan is used to finance a company’s ongoing operations, such as paying employees’ paychecks and taking care of accounts payable. In this case, Sapphire would receive some on-hand cash to keep the everyday operations ongoing and can retain full control over its business. However, the loan can involve a high interest rate, and the company must repay the loan quickly.

 

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Importance And Challenges Of Investing In International Markets

 

Investing in the international market is nowadays a very preferred option for businesses to expand substantially. Sapphire is planning to invest on a global scale. It will help increase its all-over revenue but it also comes with some significant risk factors. However, first, you need to know about the importance of investing offshore.

Importance Of Investing Offshore

Companies may have different purposes for expanding in the foreign market like- acquiring a worldwide reputation, increasing gainfulness, maintaining long-term development, etc. (Onyusheva, 2020). There are a lot of benefits to offshore investing.

  1. Growth opportunities: Business usually invests in different international markets as there are a lot of opportunities to thrive. Also, the business gets access to the new market and people which provides the company with new experiences.
  2. Creating a global customer base: Even if the customers of the local market lean towards your competitors when you expand in the global market, it becomes easy to grow the revenue as a new customer base is generated.
  3. Competitive advantage: Developing competitive advantage is the process of achieving some of an organization’s specific objectives by appearing or competing in a given market (Gligović, Vukasović, and Ateljević, 2021). When you expand your business to international markets, the recognition of your business increases. It provides a substantial competitive advantage to the business.
  4. Cost-effective production and service: Businesses mainly try to find an international market where labor is cheap and easily available. Also, properties are cheaper to lend or buy. Like if you are expanding in the African market from the European market, you can avail of cheaper labor and properties.

 

Challenges Of Offshore Investing

 

However, there are some potential challenges involved with investing in the international market.

  1. Cultural barriers and other country-specific factors: Lobo et al (2020) explained some country-specific factors like cultural barriers, technical standards, and trade policy, as a hindrance to internationalization. Cultural barrier is a significant disadvantage of the international expansion of some businesses. To invest offshore, a company must understand how people in the region behave, what they need, and what factors they consider when making decisions. Otherwise, the company will face a huge loss if the people don’t accept the company on their territory. Additionally, the company must take into account the nation’s technical standards and trade policies.
  2. High-cost involvement: If the company is not considering export, subsidiary, etc., a huge cost would be involved in offshore investing. The company needs to set up its firms, purchase lands, build different constructions, invest in advertising, etc.
  3. Others: Other challenges involved with investing offshore are-
    1. Language barriers
    2. Managing international employees

 

Merit And Risk Of Investing In Emerging Markets –

 

African territory is an emerging market, and there are lots of opportunities for oil and gas exploration businesses. The company can surely increase its brand recognition and gain a competitive advantage over its competitors. However, the African market comes with some potential challenges or demerits for Sapphire Energy. First, let’s explore some of the merits of investing in an African market.

First of all, Africa is the world’s second-largest continent by volume. It has a massive population, and African countries are often open to globalization. Since most African countries are struggling with poverty, their governments do not restrict foreign companies from expanding there much. Globalization can be a good solution for countries to decrease their poverty level. According to Leke, Signé, and Initiative (2019), African businesses and consumers will spend $6.66 trillion annually by 2030, up from 2015 statistics of $4 trillion. That is why countries like Nigeria are much more frank and allow foreign companies to enter easily. So opportunities are endless in the African region.

African countries are also experiencing significant population growth. It can also be considered as another opportunity for businesses like Sapphire. Although Statista (2022) mentions the population growth rate has been consistently decreasing since 2013, the total population is the second largest among all other continents. In 2022, the population is expected to reach 1.4 billion.

Sapphire can avail itself of cheap labor on the continent. African labor is much cheaper than European labor.

However, there are some significant challenges.

In the beginning, the company is going to face some severe language and cultural barriers in Africa. The literacy rate in Africa is not great. Although the southern portion of the continent has an 80.3% literacy rate, the literacy rate of western Africa is as low as 54.1% (Statista, 2021). A language barrier may hinder the growth of Sapphire.

Also, the company will face intense competition. Adeola et al (2021) mentioned that the five countries that dominate the oil production sector of Africa are Libya, Egypt, Nigeria, Algeria, and Angola. African territory has some huge oil and gas companies like Gardline, Sonatrach, Chevron, Shell, Mobil, etc. Also, most of the companies are regional and are well-accepted on the continent.

 

Recommendations Of The Best Finance Option

 

Sapphire is already famous in the Eastern European region and has brand recognition in the market.

First of all, working capital loans are not a good option because the company primarily needs large financing, not a small amount that should be paid within a few times.

For an offshore investment, equity financing may be a good option. The company is now not a small one and has significant creditworthiness. Equity financing should be embraced when the creditworthiness of the company is very low or the company is a small one, just starting its business. Hence, selling shares to a few wealthy investors may not be the best choice, even if equity financing is an option. Equity financing will not allow the company to have full control over its business either. So, it should not be the financing choice for the company.

Also, the company is not very large to use its retained profits to expand in an international region. The business might quickly go over its allotted spending.

Investing in International Markets Steps
Figure 1: Recommendations for Investing in International Markets

Debt financing would provide a company with a significant amount of money that would be helpful for the company to expand its business in an international region. According to Czarnitzki and Kraft (2009), debt financing is a relatively cost-effective option as compared to retained profits. The lender or financial institution checks the likelihood of the company paying the principal along with the interest. As the company is now large, debt financing may be a good option. However, there is a burden from high interest rates. The company always has to be worried about making the business work fast as there will be great pressure to repay the debt.

An IPO is lucrative for many businesses, as it has the potential to raise a huge amount of money. By going public (an IPO) on a global stock exchange or making use of the bond markets, the company collects a huge amount of funds. According to Statista (2021), 921 million U.S. dollars were raised from IPOs in Africa in 2021. The tendency to invest is gradually increasing around the world. So, through an IPO, the company can raise a lot of funds. However, there will be intense market pressure on the company to build a successful business. But at least the company won’t have to stress about rising interest rates over time like it would with debt financing. Furthermore, the IPO is regarded as a quick expansion aid in financing. So, an IPO can be a great choice for the company. It will increase the company’s recognition in the African market too, rather than the traditional equity financing with a few investors.

 

Conclusion

 

The market in Africa has a lot of opportunities as it is expanding. However, some large oil and gas companies in Africa can pose severe competition for the company. Also, the company will initially face a language barrier. However, many African nations make it simple for foreign businesses to enter. African labor is cheap too. That is why the decision to expand in Africa is not at all bad. The company has many options for financing but the best would be an IPO. This assignment explains the pros and cons of expanding in the international market and the state of the emerging market of Africa. That information provides a good basis for determining which financing option the company should choose.

 

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References

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