6. A U.S. company plans to lease a manufacturing facility in Canada for 2 years.

ID: 2787280 • Letter: 6

Question

6. A U.S. company plans to lease a manufacturing facility in Canada for 2 years. The company must spend 12.1 million Canadian dollars (CD) initially to refurbish the plant. The expected net cash flows from the plant for the next 2 years are: CF1 = 9.8 million CD and CF2 = 6.2 million CD. A similar project in the U.S. would have a cost of capital of 10%. In the U.S., a 1-year government bond pays 1.9% interest and a 2-year bond pays 2.5%. In Canada, a 1-year bond pays 2.1% and a 2-year bond pays 2.65%. The spot exchange rate is 1.0598 CD/US$. What is the NPV of the project?

please show your work

Explanation / Answer

Let CFE = Cash Flow Expected per duration or per period

RRR = Required Rate of Return

TP = Time Periods count or number of periods through which the project will reap returns

CI = Capital Invested = $12100000

Discount rate = 10%

Net Present Value = NPV = CFE * ( ( 1-(1+RRR)^-TP) / RRR ) - CI

Year

Cash Flow $

Present Value (PV)

Zero

-12100000

9800000

9800000/1.1= 8909090.909

8909090.909

6200000

6200000/(1.1*1.1) = 5123966.942

5123966.942

NPV = $1,933,057.851

Less the interest income that would have been received if the money was deposited in the government bonds instead of this project: