You are evaluating a proposed expansion of an existing subsidiary located in Swi

Question

You are evaluating a proposed expansion of an existing subsidiary located in Switzerland. The cost of the expansion would be SF 15 million. The cash flows from the project would be SF 4.3 million per year for the next five years. The dollar required return is 14 percent per year, and the current exchange rate is SF 1.08. The going rate on Eurodollars is 6 percent per year. It is 4 percent per year on Euroswiss. Use the approximate form of interest rate parity in calculating the expected spot rates. a. Convert the projected franc flows into dollar flows and calculate the NPV. (Enter your answer in dollars, not in millions of dollars, e.g., 1,234,567. Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16.) NPV $ b-1. What is the required return on franc flows? (Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16. Do not round intermediate calculations.) Return on franc flows % b-2. What is the NPV of the project in Swiss francs? (Enter your answer in francs, not in millions of francs, e.g., 1,234,567. Round your answer to 2 decimal places, e.g., 32.16. Do not round intermediate calculations.) NPV SF b-3. What is the NPV in dollars if you convert the franc NPV to dollars? (Enter your answer in dollars, not in millions of dollars, e.g., 1,234,567. Round your answer to 2 decimal places, e.g., 32.16. Do not round intermediate calculations.) NPV $

Explanation / Answer

a.
Ex rate SF 1.06
Cost of expansion = SF 15 Millions
Cash flow each year for 5 yeras = SF 4.3 Million
NPV of project in dollars cost of expansion = (15,000,000 *1.08) = 16,200,000
Cash flow each year = 4,100,000 *1.08 = 4,428,000
Required rate of return = 14%
NPV in US dollars
Cost of expansion = 16,200,000
Cash flows = 4428000 * 3.43308 (1/1.14^1 + 1/1.14^2 + 1/1.14^3 + 1/1.14^4 + 1/1.14^5 )= 15201678.2
NPV = Present value of cash Inflow - Present value of cash outflow
= 15201678.2 - 16,200,000
= -998321.76

b=1
Required return on franc flows
Cost of expansion = 15,000,000
Cash flow each year for 5 years = 4,300,000
Total cash flow= 21,500,000
profit= 6,500,000
Total return (ignoring time value) = 43.33 %
Required return on franc flows (with time value) (NPV = 0) 13.34%

b-2 Euroswiss 4%
Euro dollar 6%
Swiss Dollar (6/4) = 1.5%
Francs requied rate (14% * (1+ 1.5%))= 14.21%
NPV of project in swiss francs
cost of of expansion = SF 15 Millions
Cash flow each year for 5 yeras = SF 4.3 Million
Required rate of return = 14.21%
NPV of project in SF cost of expansion = SF 4.3 million * 3.41582457
= 14762244
NPV = 14762244 - 15000000 = -237756

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