Lakonishok Equipment has an investment opportunity in Europe. The project costs
ID: 2730153 • Letter: L
Question
Lakonishok Equipment has an investment opportunity in Europe. The project costs €15 million and is expected to produce cash flows of €2.8 million in Year 1, €3.4 million in Year 2, and €3.9 million in Year 3. The current spot exchange rate is $1.43 / €; and the current risk-free rate in the United States is 2.9 percent, compared to that in Europe of 2.2 percent. The appropriate discount rate for the project is estimated to be 11 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 €9.8 million. Use the exact form of interest rate parity in calculating the expected spot rates. What is the NPV of the project in U.S. dollars? (Do not round intermediate calculations and round your answer to 2 decimal places, e.g., 32.16. Enter your answer in dollars, not in millions, e.g., 1,234,567.) NPV $
Explanation / Answer
Particulars
US
Europe
Risk free rate
2.90%
2.20%
Discount rate
11.00%
10.24%
Risk Premium
7.87%
7.87%
Year
Cashflow (EURO)
DF @ 11.46%
Present Value
0
(15.00)
1.00
(15.00)
1
2.80
0.907
2.54
2
3.40
0.823
2.80
3
13.70
0.746
10.22
NPV in Euro Millions
0.56
Exchange Rate 1Euro
1.43
NPV in Dollar Millions
0.80
NPV in Dollars thousand
803.40
Particulars
US
Europe
Risk free rate
2.90%
2.20%
Discount rate
11.00%
10.24%
Risk Premium
7.87%
7.87%
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