Question

Sandrine Machinery is a Swiss multinational manufacturing company. Currently, Sandrine's financial planners are considering undertaking a 1-year project in the United States. The project's expected dollar-denominated cash flows consist of an initial investment of $2,000 and a cash inflow the following year of $2,400. Sandrine estimates that its risk-adjusted cost of capital is 8%. Currently, 1 U.S. dollar will buy 0.85 Swiss franc. In addition, 1-year risk-free securities in the United States are yielding 2.6%, while similar securities in Switzerland are yielding 1.3%.

1. If this project was instead undertaken by a similar U.S.-based company with the same risk-adjusted cost of capital, what would be the net present value and rate of return generated by this project? Round the net present value to the nearest cent and rate of return to two decimal places.

   NPV = ----------$  

   Rate of return = ------------ %

2. What is the expected forward exchange rate 1 year from now? Do not round intermediate calculations. Round your answer to two decimal places.

   ---------- Swiss franc (SF_r) per U.S. $

3. If Sandrine undertakes the project, what is the net present value and rate of return of the project for Sandrine? Do not round intermediate calculations. Round the net present value to the nearest cent and rate of return to two decimal places.

   NPV = ------------Swiss francs

   Rate of return = ------------ %

Answer 1

a)

Year	0	1
Cash outflow	-2,000
Cash inflow		2,400
Total Cash flow	-2,000	2,400
Cost of capital	0	0
Discounted Cash flow	-2,000	2,222
NPV	222
Rate of return	11.11%

b) Forward rate = Spot Rate * ((1 + price currency interest rate) / (1 + base currency interest rate))

Here base currency is USD, price currency is Swiss Franc, Spot rate = 0.85 Swiss Franc/USD, price currency interest rate = 1.3% and base currency interest rate = 2.6%

Forward rate = 0.85 * ((1 + 1.3%) / (1 + 2.6%)) = 0.85 * (1.013/1.026) = 0.85 * 0.98733 = 0.8392 = 0.84

c)

Year	0	1
Cash outflow in Swiss Franc	-1,700
Cash inflow in Swiss Franc		2,016
Total Cash flow	-1,700	2,016
Cost of capital	0	0
Discounted Cash flow	-1,700	1,867
NPV in Swiss Franc	167
Rate of return	9.80%