Question

Lone Star Co. has an existing business in Thailand that it is trying to sell. It receives one offer today from Anada Co. for $25 million (after capital gains taxes are paid). Another Thai company, Bun Ma Co., also wants to buy the business, but will not have the funds to make the acquisition until 2 years from now. Bun Ma Co. is meeting with Lone Star Co. today to negotiate the acquisition price that it will pay for Lone Star’s subsidiary in two years. If Lone Star Co. retains the business for the next two years, it expects that the business would generate 150 million Thai Baht per year in cash flows (after taxes are paid) at the end of each of the next two years, which would be remitted to the U.S. The Thai Baht is presently valued at $0.03 and that rate can be used as a forecast of future spot rates. Lone Star would only retain the business if it could earn a rate of return of at least 25% by keeping the firm for the next two years rather than selling it to Anada Co. now. Determine the minimum price in dollars for which Lone Star should be willing to sell its business (after accounting for capital gains taxes paid) to Bun Ma Co. in order to satisfy its required rate of return. In other words, what is the minimum price they must be willing to sell in two years.

a.            $7,200,000

b.            $5,760,000

c.             $12,960,000

d.            $18,812,500

e.            None of the above

Answer 1

To make sure that 25% return is available, the PV of total amount received in 2 years is as same as the current selling price i.e. $ 25 million.
Calculation of NPV		25%
Year	Annual free cashflow	PV factor, 1/(1+r)^time	Total * PV factor
0	$(25.00)	1.00000	$ (25.00)
1	$    4.50	0.80000	$     3.60
2	$    4.50	0.64000	$     2.88
		NPV	$ (18.52)
So the year 2 cashflow discounted @ 25% should be equal to 18.52 in today's terms.
Year 2 cashflow * 0.64=	$ 18.52
Year 2 cashflow=	18.52/0.64
Year 2 cashflow=	$ 28.94
So the minimum price should be equal to $ 28.94.