HomeWeb UK is a subsidiary of HomeWeb USA. The company manufactures home securit

Question

HomeWeb UK is a subsidiary of HomeWeb USA. The company manufactures home security system. HomeWeb UK has forecasted the sales and cost figures for the next three years. They are as follows:

Sales Volume = 100,000 units

Sales Price = £100 per unit

Cost = £60 per unit

UK Corporate tax rate = 25%

Spot Exchange rate = $1.50/£

Forward rate = $1.25/£

Operating Expenses = 15 percent of Sales Revenue

Depreciation = £500,000

Cost of Capital = 7 percent

Investing rate (UK) = 3 percent

Investing rate (US) = 2.5 percent.

Suppose the exchange rate changes to $1.45/£. What is the free cash flow in dollars for the next three years?

Question 36 options:

$2,568,965.51

$2,068,965.51

$3,000,000

$2,900,000

$2,568,965.51

$2,068,965.51

$3,000,000

$2,900,000

Explanation / Answer

I would like to explain the above problem in tabular form using excel:

1500000

Cash flow wil be add back depreciation therefore it would be

+1500000+500000 = 200000

Since the profit the company would have received is in pounds we will convert it in dollars and invest for 3 years at Us rate and see the free cash flow at the end of 3 years

1.2931

Therefore the correct option is 2068965

Particulars Amount/volume in pounds Sale volume 100000 units Selling price per unit 100 Cost per unit 60 Contribution (selling - cost ) 40 Operating expenses 15 Profit before depreciation and tx per unit 25 Total profit 2500000 Depreciation fixed expense 500000 EBIT 2000000 Interest 0 Tax @25% 500000 Profit after tax

1500000

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