Do problem 20 in Ch 16 with a scenario analysis in the adjustment of the discount rate by 1% increments from 12% to 17% and problem 22 in Ch 17 by adjusting the exchange rate of the Singapore dollar from .60 +/- .05. Make your recommendation and Evaluate how this affects your recommendation. Complete the Blades Inc case in Ch 20 by adjusting the current spot rate of the baht +/- .005 and the yen by +/- .50 tHB. Evaluate all scenarios.
#20: How Country Risk Affects NPV: In the previous question, assume that instead of adjusting the estimated cash flows of the project, Monk had decided to adjust the discount rate from 12 to 17 percent. Reevaluate the NPV of the project’s expected scenario using this
adjusted discount rate.
(Previous question)
19. How Country Risk Affects NPV Monk, Inc., is considering a capital budgeting project in Tunisia. The project requires an initial outlay of 1 million Tunisian dinars; the dinar is currently valued at $.70. In the first and second years of operation, the project will generate
700,000 dinars in each year. After two years, Monk will terminate the project, and the expected salvage value is 300,000 dinars. Monkhas assigned a discount rate of 12 percent to this project. The following additional information is available:
■ There is currently no withholding tax on remit-
tances to the United States, but there is a 20 percent
chance that the Tunisian government will impose a
withholding tax of 10 percent beginning next year.
■ There is a 50 percent chance that the Tunisian gov-
ernment will pay Monk 100,000 dinar after two
years instead of the 300,000 dinars it expects.
■ The value of the dinar is expected to remain
unchanged over the next two years.
a. Determine the net present value of the project in
each of the four possible scenarios.
b. Determine the joint probability of each scenario.
c. Compute the expected NPV of the project and make
a recommendation to Monk regarding its feasibility.
#22: Integrating Cost of Capital and Capital: Budgeting Zylon Co. is a U.S. firm that provides technology software for the government of Singapore. It will be paid S$7 million at the end of each of the next five years. The entire amount of the payment represents earnings because Zylon created the technology software years ago. Zylon is subject to a 30 percent corporate income tax rate in the United States. Its other cash inflows(such as revenue) are expected to be offset by its other cash outflows (due to operating expenses) each year, so its profits on the Singapore contract represent its expected annual net cash flows. Its financing costs are not considered within its estimate of cash flows. The Singapore dollar (S$) is presently worth $.60, and Zylon uses that spot exchange rate as a forecast of future exchange rates. The risk-free interest rate in the United States is 6 percent while the risk-free interest rate in Singapore is 14 percent. Zylon’s capital structure is 60 percent debt and 40 percent equity. Zylon is charged an interest rate
of 12 percent on its debt. Zylon’s cost of equity is based on the CAPM. It expects that the U.S. annual market return will be 12 percent per year. Its beta is 1.5. Quiso Co., a U.S. firm, wants to acquire Zylon and offers Zylon a price of $10 million.
CH 20: Blades Inc Case
Use of Foreign Short-Term Financing
Blades, Inc., just received a special order for 120,000
pairs of Speedos, its primary roller blade product. Ben
Holt, Blades’ chief financial officer (CFO), needs short-
term financing to finance this large order from the time
Blades orders its supplies until the time it will receive
payment. Blades will charge a price of 5,000 baht per
pair of Speedos. The materials needed to manufacture
these 120,000 pairs will be purchased from Thai
suppliers. Blades expects the cost of the components
for one pair of Speedos to be approximately 3,500
baht in its first year of operating the Thai subsidiary.
Because Blades is relatively unknown in Thailand,
its suppliers have indicated that they would like to
receive payment as early as possible. The customer
that placed this order insists on open account transac-
tions, which means that Blades will receive payment for
the roller blades approximately three months subse-
quent to the sale. Furthermore, the production cycle
necessary to produce Speedos, from purchase of the
materials to the eventual sale of the product, is approx-
imately three months. Because of these considerations,
Blades expects to collect its revenues approximately six
months after it has paid for the materials, such as rub-
ber and plastic components, needed to manufacture
Holt has identified at least two alternatives for satisfy-
ing Blades’ financing needs. First, Blades could borrow
Japanese yen for six months, convert the yen to Thai
baht, and use the baht to pay the Thai suppliers. When
the accounts receivable in Thailand are collected, Blades
would convert the baht received to yen and repay the
Japanese yen loan. Second, Blades could borrow Thai
baht for six months in order to pay its Thai suppliers.
When Blades collects its accounts receivable, it would
use these receipts to repay the baht loan. Thus Blades
will use revenue generated in Thailand to repay the
loan, whether it borrows the money in yen or in baht.
Holt’s initial research indicates that the 180-day
interest rates available to Blades in Japan and in Thai-
land are 4 and 6 percent, respectively. Consequently,
Holt favors borrowing the Japanese yen, as he believes
this loan will be cheaper than the baht-denominated
loan. He is aware that he should somehow incorporate
the future movements of the yen-baht exchange rate in
his analysis, but he is unsure how to accomplish this.
However, he has identified the following probability
distribution of the change in the value of the Japanese
yen with respect to the Thai baht and of the change in
the value of the Thai baht with respect to the dollar
over the six-month period of the loan:
Holt has also informed you that the current spot
rate of the yen (in Thai baht) is THB.347826, while
the current spot rate of the baht (in dollars) is
As a financial analyst for Blades, you have been
asked to answer the following questions for Holt:
1. What is the amount, in baht, that Blades needs to
borrow to cover the payments due to the Thai suppli-
ers? What is the amount, in yen, that Blades needs to
borrow to cover the payments due to the Thai
2. Given that Blades will use the receipts from the
receivables in Thailand to repay the loan and that the
subsidiary plans to remit all baht-denominated cash
flows to the U.S. parent whether it borrows in baht or
yen, does the future value of the yen with respect to the
baht affect the cost of the loan if Blades borrows in