A firm is considering establishing a subsidiary in either the US or the UK and will invest 40% of the firm's total invested funds. The annual expected return of the prevailing business is 10% and the standard deviation of these returns is 1.10.

The firm has collected the following information

If located in US - Mean Expected Annual Return 18%

If located in US - Standard Deviation of Returns 0.08

If located in US - Correlation of Expected Returns on investment with returns of prevailing business 0.85

If located in UK - Mean Expected Annual Return 15%

If located in UK - Standard Deviation of Returns 0.05

If located in UK - Correlation of Expected Returns on investment with returns of prevailing business 0.05

Required:

i. Calculate the overall expected return and risk if the new subsidiary is established in US ii. Calculate the overall expected return and risk if the new subsidiary is established in UK iii. On the basis of your calculations which place you recommend the firm to establish a new subsidiary.

iv. Discuss the importance of country risk analysis in establishing a new subsidiary and explain its common forms.