Question 1

Benson Manufacturing has an after-tax cost of debt of 7% and a cost of equity of 12%.If Benson is in a 30% tax bracket,and finances 40% of assets with debt,what is the firm's wacc?

Accepted Answer

The answer of Benson Manufacturing has an after-tax cost of...

Question 2

Use the information for the following question(s).
The Wheel Deal Inc., a company that produces scooters and other wheeled non-motorized recreational equipment is considering an expansion of their product line to Europe. The expansion would require a purchase of equipment with a price of euro 1,200,000 and additional installation of euro 300,000 (assume that the installation costs cannot be expensed, but rather, must be depreciated over the life of the asset). Because this would be a new product, they will not be replacing existing equipment. The new product line is expected to increase revenues by euro 600,000 per year over current levels for the next 5 years, however; expenses will also increase by euro 200,000 per year. (Note: Assume the after-tax operating cash flows in years 1-5 are equal, and that the terminal value of the project in year 5 may change total after-tax cash flows for that year.)The equipment is multipurpose and the firm anticipates that they will sell it at the end of the five years for euro 500,000. The firm's required rate of return is 12% and they are in the 40% tax bracket. Depreciation is straight-line to a value of euro 0 over the 5-year life of the equipment, and the initial investment (at year 0)also requires an increase in NWC of euro 100,000 (to be recovered at the sale of the equipment at the end of five years). The current spot rate is $0.95/euro , and the expected inflation rate in the U.S. is 4% per year and 3% per year in Europe.
-Refer to Instruction 16.1.What is the IRR of the Wheel Deal expansion?

Accepted Answer

The answer of Use the information for the following question(s).
The...

Question 3

Generally speaking a firm's cost of ________ capital is greater than the firm's ________.

Accepted Answer

The cost of equity represents the return required by equity investors, who expect higher returns to compensate for the higher risk of owning equity. The weighted average cost of capital (WACC) takes into account the cost of both equity and debt capital, but weights them according to their relative proportion in the firm's financing structure. Since debt is generally less risky than equity, it typically has a lower cost than equity. Therefore, the cost of equity capital is typically higher than the firm's WACC.

Question 4

TABLE 16.1
Use the information to answer the following question(s).
Jensen Aquatics Inc., which manufactures and sells scuba gear worldwide, is considering an investment in either Europe or Great Britain. Consider the following cash flows for each project, assume a 12% wacc, and consider these to be average risk projects for the firm. Answer the questions that follow.
 
-Refer to Table 16.1.Which of the following best summarizes the preliminary results of the investment analysis for the two prospective investments?

Accepted Answer

The preliminary results indicate that both investments meet the criteria for acceptance, suggesting that both are acceptable.

Question 5

Use the information for the following question(s).
The Wheel Deal Inc., a company that produces scooters and other wheeled non-motorized recreational equipment is considering an expansion of their product line to Europe. The expansion would require a purchase of equipment with a price of euro 1,200,000 and additional installation of euro 300,000 (assume that the installation costs cannot be expensed, but rather, must be depreciated over the life of the asset). Because this would be a new product, they will not be replacing existing equipment. The new product line is expected to increase revenues by euro 600,000 per year over current levels for the next 5 years, however; expenses will also increase by euro 200,000 per year. (Note: Assume the after-tax operating cash flows in years 1-5 are equal, and that the terminal value of the project in year 5 may change total after-tax cash flows for that year.)The equipment is multipurpose and the firm anticipates that they will sell it at the end of the five years for euro 500,000. The firm's required rate of return is 12% and they are in the 40% tax bracket. Depreciation is straight-line to a value of euro 0 over the 5-year life of the equipment, and the initial investment (at year 0)also requires an increase in NWC of euro 100,000 (to be recovered at the sale of the equipment at the end of five years). The current spot rate is $0.95/euro , and the expected inflation rate in the U.S. is 4% per year and 3% per year in Europe.
-Refer to Instruction 16.1.In euros,what is the NPV of the Wheel Deal expansion?

Accepted Answer

The NPV of the expansion is negative, which means it is not a good investment. So the best choice is not to expand. The NPV calculation is: 
-Initial Investment: -1,600,000 (1,500,000+100,000) 
-Annual Operating Cash Flow: 400,000 (600,000-200,000) 
-Tax: 40% 
-Depreciation: 240,000 (1,200,000/5) 
-Terminal Value: 467,960 (500,000*(1-0.4)/(1+0.03)^5*(0.95) ) 
-Discount rate: 12% 
-NPV: -75,310 (CF0: -1,600,000; CF1-5: 400,000; CF5: 967,960)

Question 6

Which is NOT considered a shortcoming of the parent simply adjusting discount rates to account for the additional risk that stems from a project's foreign location?

Accepted Answer

The answer of Which is NOT considered a shortcoming of...

Question 7

The only proper way to estimate the NPV of a foreign project is to discount the appropriate cash flows first and then convert them to the domestic currency at the current spot rate.

Accepted Answer

The appropriate way to estimate the NPV of a foreign project is to first convert the cash flows to the domestic currency using the appropriate exchange rate, and then discount them at the appropriate discount rate. This is because currency exchange rates are subject to fluctuations, and estimating the NPV in domestic currency using the current spot rate may not reflect the actual cash flows and risks involved in the project.

Question 8

Which of the following is NOT an example of political risk?

Accepted Answer

All of the options listed are examples of political risk.

Question 9

If a firm undertakes a project with ordinary cash flows and estimates that the firm has a positive NPV,then the IRR will be ________.

Accepted Answer

If a project has positive net present value (NPV), it means that the project's cash inflows exceed its cash outflows, and the discount rate used to calculate the NPV is less than the project's internal rate of return (IRR). Therefore, the IRR must be greater than the cost of capital. Choice A is incorrect because the IRR must be higher than the discount rate used to calculate the NPV. Choice C is incorrect because the IRR is a percentage rate of return, whereas the cost of the project is a cash outflow. Choice D is incorrect because the question provides enough information to make a determination about the relationship between the project's NPV and its IRR.

Question 10

TABLE 16.1
Use the information to answer the following question(s).
Jensen Aquatics Inc., which manufactures and sells scuba gear worldwide, is considering an investment in either Europe or Great Britain. Consider the following cash flows for each project, assume a 12% wacc, and consider these to be average risk projects for the firm. Answer the questions that follow.
 
-Refer to Table 16.1.The NPV for the British investment is estimated at ________.

Accepted Answer

The answer of TABLE 16.1
Use the information to answer the...

Question 11

When dealing with international capital budgeting projects,the value of the project is NOT sensitive to the firm's cost of capital.

Accepted Answer

The value of the project is highly sensitive to the firm's cost of capital, as it influences the discount rate used to calculate the project's net present value. A higher cost of capital leads to a higher discount rate, resulting in a lower present value and vice versa.

Question 12

________ is the risk that a foreign government will place restrictions such as limiting the amount of funds that can be remitted to the parent firm,or even expropriation of cash flows earned in that country.

Accepted Answer

Political risk refers to the risk of changes in government policies, regulations, or laws that may adversely affect the business operations and financial performance of a company operating in a foreign country. This includes the possibility of restrictions on remittances or even expropriation of cash flows earned in that country.

Question 13

Use the information for the following question(s).
The Wheel Deal Inc., a company that produces scooters and other wheeled non-motorized recreational equipment is considering an expansion of their product line to Europe. The expansion would require a purchase of equipment with a price of euro 1,200,000 and additional installation of euro 300,000 (assume that the installation costs cannot be expensed, but rather, must be depreciated over the life of the asset). Because this would be a new product, they will not be replacing existing equipment. The new product line is expected to increase revenues by euro 600,000 per year over current levels for the next 5 years, however; expenses will also increase by euro 200,000 per year. (Note: Assume the after-tax operating cash flows in years 1-5 are equal, and that the terminal value of the project in year 5 may change total after-tax cash flows for that year.)The equipment is multipurpose and the firm anticipates that they will sell it at the end of the five years for euro 500,000. The firm's required rate of return is 12% and they are in the 40% tax bracket. Depreciation is straight-line to a value of euro 0 over the 5-year life of the equipment, and the initial investment (at year 0)also requires an increase in NWC of euro 100,000 (to be recovered at the sale of the equipment at the end of five years). The current spot rate is $0.95/euro , and the expected inflation rate in the U.S. is 4% per year and 3% per year in Europe.
-Refer to Instruction 16.1.The European expansion would have a greater NPV in dollar terms if the euro appreciated in value over the five-year life of the project and the project had a positive NPV,other things equal.

Accepted Answer

If the euro appreciates against the dollar, the future cash flows in euros would convert to more dollars, increasing the NPV in dollar terms, assuming the project has a positive NPV.

Question 14

TABLE 16.1
Use the information to answer the following question(s).
Jensen Aquatics Inc., which manufactures and sells scuba gear worldwide, is considering an investment in either Europe or Great Britain. Consider the following cash flows for each project, assume a 12% wacc, and consider these to be average risk projects for the firm. Answer the questions that follow.
 
-Refer to Table 16.1.If the euro was forecast to remain constant at $1.00/euro throughout the investment period,how would the investment decision now be characterized?

Accepted Answer

The answer of TABLE 16.1
Use the information to answer the...

Question 15

Calculate the cost of equity for Boston Industries using the following information: The cost of debt is 7%,the corporate tax rate is 40%,the rate on Treasury Bills is 4%,the firm has a beta of 1.1,and the expected return on the market is 12%.

Accepted Answer

The cost of equity for Boston Industries can be calculated using the Capital Asset Pricing Model (CAPM) as follows:

Cost of equity = Risk-free rate + (Beta x Market risk premium)

Risk-free rate = Rate on Treasury Bills = 4%
Market risk premium = Expected return on the market - Risk-free rate = 12% - 4% = 8%
Beta = 1.1

Cost of equity = 4% + (1.1 x 8%) = 12.8%

Therefore, the best choice is A) 12.8%, which is the calculated cost of equity.

Question 16

Projects that have ________ are often rejected by traditional discounted cash flow models of capital budgeting.

Accepted Answer

Projects with long lives or cash flow returns in later years may not meet the criteria of traditional discounted cash flow models, which typically focus on short-term returns. Additionally, projects with high risk levels may be deemed too risky to invest in. Therefore, all of the above factors can lead to rejection by traditional capital budgeting methods.

Question 17

When estimating a firm's cost of equity capital using the CAPM,you need to estimate

Accepted Answer

To estimate a firm's cost of equity capital using the CAPM, you need to estimate all of the above: the risk-free rate of return, the expected return on the market portfolio, and the firm's beta. The risk-free rate represents the rate of return an investor would earn on a riskless investment, such as a Treasury bill. The expected return on the market portfolio is the return investors expect to earn on a broadly diversified portfolio of investments. The firm's beta measures the sensitivity of the firm's returns to the returns on the overall market. All of these inputs are necessary to estimate the cost of equity capital using the CAPM.

Question 18

When a foreign project is analyzed from the parent's point of view,the additional risk that stems from it's "foreign" location is typically measured by ________ or ________.

Accepted Answer

The additional risk arising from a foreign project's location is most typically measured by adjusting either the discount rates or the cash flows. Adjusting the discount rate reflects changes in the cost of capital, while adjusting cash flow measures reflects changes in exchange rates and political risks. Option A, adjusting the timing, may also be a factor, but it is not as significant as adjusting the discount rates or cash flows. Option B, adjusting the cash flows or timing, is partially correct, but it doesn't cover the full extent of the adjustments required for a foreign project. Therefore, option C is the best choice.

Question 19

TABLE 16.1
Use the information to answer the following question(s).
Jensen Aquatics Inc., which manufactures and sells scuba gear worldwide, is considering an investment in either Europe or Great Britain. Consider the following cash flows for each project, assume a 12% wacc, and consider these to be average risk projects for the firm. Answer the questions that follow.
 
-Refer to Table 16.1.The NPV for the European investment is estimated at ________.

Accepted Answer

The answer of TABLE 16.1
Use the information to answer the...

Question 20

Generally speaking,a firm wants to receive cash flows in a currency that is ________ relative to their own,and pay out in currencies that are ________ relative to their home currency.

Accepted Answer

A firm wants to receive cash flows in a currency that is appreciating relative to their own, as this means they will receive more of their own currency in exchange when they convert the foreign currency. Conversely, they want to pay out in currencies that are depreciating relative to their home currency, as this means they will have to pay out less of their own currency when converting foreign currency for payments.

Quiz 16: Multinational Capital Budgeting and Cross-Border Acquisitions

Benson Manufacturing has an after-tax cost of debt of 7% and a cost of equity of 12%.If Benson is in a 30% tax bracket,and finances 40% of assets with debt,what is the firm's wacc?

Generally speaking a firm's cost of capital is greater than the firm's .

Which is NOT considered a shortcoming of the parent simply adjusting discount rates to account for the additional risk that stems from a project's foreign location?

The only proper way to estimate the NPV of a foreign project is to discount the appropriate cash flows first and then convert them to the domestic currency at the current spot rate.

Which of the following is NOT an example of political risk?

If a firm undertakes a project with ordinary cash flows and estimates that the firm has a positive NPV,then the IRR will be ________.

When dealing with international capital budgeting projects,the value of the project is NOT sensitive to the firm's cost of capital.

________ is the risk that a foreign government will place restrictions such as limiting the amount of funds that can be remitted to the parent firm,or even expropriation of cash flows earned in that country.

Calculate the cost of equity for Boston Industries using the following information: The cost of debt is 7%,the corporate tax rate is 40%,the rate on Treasury Bills is 4%,the firm has a beta of 1.1,and the expected return on the market is 12%.

Projects that have ________ are often rejected by traditional discounted cash flow models of capital budgeting.

When estimating a firm's cost of equity capital using the CAPM,you need to estimate

When a foreign project is analyzed from the parent's point of view,the additional risk that stems from it's "foreign" location is typically measured by or .

Generally speaking,a firm wants to receive cash flows in a currency that is relative to their own,and pay out in currencies that are relative to their home currency.