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An MNC considers establishing a two-year project in New Zealand with a $30 million initial investment. The firm's cost of capital is 12 percent. The required rate of return on this project is 18 percent. The project is expected to generate cash flows of NZ$12 million in Year 1 and NZ$30 million in Year 2, excluding the salvage value. Assume no taxes and a stable exchange rate of $.60 per NZ$ over the next two years. All cash flows are remitted to the parent. What is the break-even salvage value

Sagot :

Tundexi

Answer:

NZ$25 million

Explanation:

Assuming salvage value = X

Cash flow in year 1 = 12 million*0.60 = $7.2 million

Cash flow in year 2 = 30 million*0.60 = $18 million

Note: At break-even salvage value, Net Present Value = 0

So, Initial cost = Present value of inflow  (Sum of inflow*PV factor)

Initial cost = 7.2(PV 18%, 1 year) + 18(PV 18%, 2 years) + X(PV 18%, 2 years)

30 = 7.2*0.847 + 18*0.718 + X*0.718

30 = 19.02 + X*0.718

X*0.718 = 30 - 19.02

X*0.718 = 10.98

X = 10.98/0.718

X = 15.292479

X = $15.29

Stable exchange rate of $.60 per NZ$ over the next two years.

Break-even salvage value = 15.29/0.60

Break-even salvage value = NZ$25.4833

Break-even salvage value = NZ$25 million

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