Hello, PLEASE help, I am stuck trying to solve this problem. Thank you in advanc

Question

Hello,

PLEASE help, I am stuck trying to solve this problem. Thank you in advance.

Foreign capital budgeting:

Solitaire Machinery is a Swiss multinational manufacturing company. Currently, Solitaire's financial planners are considering undertaking a 1-year project in the United States. The project's expected dollar-denominated cash flows consist of an initial investment of $1,000 and a cash inflow the following year of $1,200. Solitaire estimates that its risk-adjusted cost of capital is 15%. Currently, 1 U.S. dollar will buy 0.78 Swiss francs. In addition, 1-year risk-free securities in the United States are yielding 6.25%, while similar securities in Switzerland are yielding 5%.

If this project were instead undertaken by a similar U.S.-based company with the same risk-adjusted cost of capital, what would be the net present value and rate of return generated by this project? Round your answers to two decimal places.

A.) NPV = $ ______

Rate of return = ______%

B.) What is the expected forward exchange rate 1 year from now? Round your answer to two decimal places.

SF per U.S. $ ______

C.) If Solitaire undertakes the project, what is the net present value and rate of return of the project for Solitaire? Round your answers to two decimal places.

NPV = Swiss Francs Rate of return = _______%

Explanation / Answer

A. NPV = -1,000 + 1,200/(1.15) = $43.48
Rate of return = (1,200 - 1,000)/1,000 = 20%

B. Expected forward exchange rate can be calculated by using Interest Rate Parity(IRP). IRP holds that currency with higher interest rate will depreciate in future against the currency with the low interest rates. Thus, Swiss Franc will appreciate and $ will depreciate.
Forward rate = 0.78 x (1 + 0.0625)/(1 + 0.05) => $1 = 0.79Swiss Franc

C. Investment value in Swiss franc = 1,000 x 0.78 = $780
Cash Inflow after one year = 1,200 x 0.79 = $948

NPV = -780 + 948/(1.15) = $44.35
Rate of return = (948 - 780)/780 = 21.54%

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