Question

Tesla. has a unique opportunity to invest in a two-year project in Australia. The project is expected to generate 1,700,000 Australian dollars (A$) in the first year and A$2,700,000 in the second. Tesla would have to invest $3,000,000 in the project. Tesla has determined that the cost of capital for similar projects is 16 percent. What is the net present value of this project if the spot rate of the Australian dollar for the two years is forecasted to be $.65 and $.70, respectively (5 Points)?

Answer 1

Solution :

> Concept

- Net present value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows over a period of time. NPV is used in capital budgeting and investment planning to analyze the profitability of a projected investment or project.

- If the cash inflows are given in foreigh currency then the same is converted into home currency using expected spot rates. Then NPV is calculated.

> Formula

- NPV = Present Value of cash inflow (PVCI) - Present Value of cash outflow (PVCO)

> Calculation

1) PVCO = Project Cost at t = 0

               = $ 3000000

2) PVCI

Year	Cash Flow (A$)	Expected Spot Rates	Cash Flow ($)	PV Factor @ 16%	Present Value
1	1700000	0.65	1105000	1/1.16 = 0.8621	952586.21
2	2700000	0.70	1890000	1/1.162 = 0.7432	1404577.88
				PVCI	2357164.09

3) NPV = 2357164.09 - 3000000

            = - $ 642835.91 Answer

Hope you understand the solution

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