3.One year ago, an American investor bought 2000 shares of London Bridges at a p

Question

3.One year ago, an American investor bought 2000 shares of London Bridges at a price of £24 (or 24 UK pounds) per share when the exchange rate was $1.4/1£ (or $1.40 dollars = 1 pound). The investor also invested 4,000,000 Japanese Yen in a money market fund in Japan last year when the exchange rate was 110 Yen = $ 1 US.

(a) Using current exchange rates, what is today’s value of the investor’s portfolio in U.S. dollars if the UK investment decreased 10% (in local currency) and the Japan investment increased 1% (in local currency)?

(b) What is the overall rate of return on the portfolio over the last year?

4. An American firm is evaluating an investment in Mexico. The project will require purchasing equipment from a variety of sources and shipping it to Mexico. The projected cost of buying the equipment and shipping it is $4.2 million. Once the project begins operations, it is expected to last for 5 years (assume straight line depreciation). Expected sales are $2,900,000 each year in the U.S. and the costs of the project are projected to be 7 million pesos each year for the 5 years. If taxes are 35%, the appropriate discount rate is 10% and you use the current exchange rate for pesos:

(a) Calculate the NPV in U.S. dollars. (Show all calculations and ignore working capital)

(b) Calculate the NPV in Mexican pesos. (Show all calculations and ignore working capital)

Explanation / Answer

4)

1.00USD = 16.6153 MXN

The NPV in U.S. dollars

NPV = Present value of cash inflow - Present value of cash outflow

= 7841608 - 4200000 = 3641608   

Present value of cash outflow = $4.2 million * PVF at (Y =0)

=  $4.2 million * 1 =  $4.2 million

Present value of cash Inflow

Sales $2,900,000

Less- cost: 421298 (7000000/16.6153)

Less- depreciation: 840000

Cash flow before tax = 1638702

Less = tax @35% = 409676

Cash flow after tax = 1229026

Add- depreciation = 840000

Cash inflow = 2069026

PVF (5years) = 3.79

Present value of cash inflow = 2069026 * 3.79 = 7841608

1.00USD = 16.6153 MXN

The NPV in Mexican pesos

NPV = Present value of cash inflow - Present value of cash outflow

= 132313971 - 69784260 = 62529711

Present value of cash outflow (in USD) = $4.2 million * PVF at (Y =0)

Present value of cash outflow (in Mexican pesos) = $4.2 million * 1 * 16.6153 = 69.78426 MXN

Present value of cash Inflow

Sales 48184370 ($2,900,000 *16.6153)

Less- cost: 7000000

Less- depreciation: 23261420 ( 69784260 / 3)

Cash flow before tax = 17922950

Less = tax @35% = 6273032

Cash flow after tax = 11649918

Add- depreciation = 23261420

Cash inflow = 34911338

PVF (5years) = 3.79

Present value of cash inflow = 23261420 * 3.79 = 132313971

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