Lakonishok Equipment has an investment opportunity in Europe. The project costs
ID: 2652852 • Letter: L
Question
Lakonishok Equipment has an investment opportunity in Europe. The project costs €19 million and is expected to produce cash flows of €3.6 million in Year 1, €4.1 million in Year 2, and €5.1 million in Year 3. The current spot exchange rate is $1.09 / € and the current risk-free rate in the United States is 3.1 percent, compared to that in Europe of 2.9 percent. The appropriate discount rate for the project is estimated to be 10.5 percent, the U.S. cost of capital for the company. In addition, the subsidiary can be sold at the end of three years for an estimated €12.7 million.
What is the NPV of the project?
Explanation / Answer
Answer:-
Investment = €19
Current Spot Exchange Rate = $1.09 / €
Current Risk-free Rate ($) = 3.1%
Current Risk-free Rate (€) = 2.9%
Investment converted to $ = 19 * $1.09
= $20.71
NPV = Present Value - Investment
= 23.314 - 20.71
= $2.604
Year Cash Flows converted to $ PVIF at 10.5% Present Value 1 =(3.6 * 1.09)*(1 + 3.1%)1 = 4.046 .905 3.662 2 =(4.1 * 1.09)*(1 + 3.1%)2 = 4.751 .819 3.891 3 =(5.1 * 1.09)*(1 + 3.1%)3 = 6.093 .7412 4.516 3 =(12.7 * 1.09)*(1 + 3.1%)3 = 15.172 .7412 11.245 TOTAL 23.314Related Questions
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