Question 1

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 an international capital budgeting project is highly sensitive to the firm's cost of capital, as it affects the discount rate used to calculate the project's net present value. A higher cost of capital would result in a lower present value, making the project less attractive. Therefore, it is important for firms to accurately determine their cost of capital when evaluating international capital budgeting projects.

Question 2

When determining a firm's weighted average cost of capital (wacc)which of the following terms is NOT necessary?

Accepted Answer

All three components - tax rate, cost of debt, and cost of equity - are necessary to calculate WACC as it is a weighted average of the two sources of financing (debt and equity) taking into account their respective costs and proportions in the capital structure.

Question 3

When evaluating capital budgeting projects,which of the following would NOT necessarily be an indicator of an acceptable project?

Accepted Answer

An IRR greater than $0 is not necessarily an indicator of an acceptable project as it only shows that the project's returns are positive, but it doesn't consider whether those returns are enough to compensate for the project's cost of capital. Projects with an IRR greater than the cost of capital (required rate of return) are considered acceptable because they generate returns that exceed the company's cost of financing. Therefore, choice C is not enough to determine project acceptability.

Question 4

When a multinational firm invests abroad,it is common to develop two capital budgets: one from the project viewpoint,and one from the parent viewpoint.

Accepted Answer

When a multinational firm invests abroad, it is common to develop two capital budgets - one from the perspective of the project to be undertaken in the foreign country and another from the parent firm's viewpoint. This helps to evaluate the feasibility of the investment project from different angles and ensures that the investment aligns with the strategic objectives of the firm as a whole.

Question 5

Use the information to answer the following question(s).
The Velo Rapid Revolutions Inc., a company that produces bicycles, elliptical trainers, 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 18.1.What is the NPV of the European expansion if Velo Rapid Revolutions first computes the NPV in euros and then converts that figure to dollars using the current spot rate?

Accepted Answer

The answer of Use the information to answer the following...

Question 6

Because international capital budgeting is so difficult,time consuming,expensive,and uncertain,firms generally forego any type of additional sensitivity analysis after completing a base-case scenario.

Accepted Answer

Although international capital budgeting is difficult, time consuming, expensive, and uncertain, firms still typically conduct additional sensitivity analysis after completing a base-case scenario. This is because the risks and uncertainties associated with international projects require a thorough analysis of various possible scenarios in order to make informed investment decisions.

Question 7

When estimating a capital budget,it is common to separate cash flows into: 1)the initial investment,2)incremental cash flows over the life of the project,and 3)a terminal value.

Accepted Answer

This statement is true. When estimating a capital budget, it is common to separate cash flows into these three categories. The initial investment refers to the upfront costs required to start the project, while incremental cash flows refer to the expected cash inflows and outflows over the life of the project. The terminal value refers to the estimated value of the project at the end of its useful life.

Question 8

A criticism of adjusting the discount rate to account for political risk is that adjusting the discount rate for political risk penalizes early cash flows too heavily while not penalizing distant cash flows enough.

Accepted Answer

When the discount rate is adjusted for political risk, it tends to increase in the short-term, as there is usually more uncertainty and risk associated with early cash flows. However, as the political environment stabilizes over time, the discount rate may be lowered, which means that more weight is given to the distant cash flows. Therefore, it can be argued that adjusting the discount rate for political risk penalizes early cash flows too heavily while not penalizing distant cash flows enough.

Question 9

Use the information to answer the following question(s).
The Velo Rapid Revolutions Inc., a company that produces bicycles, elliptical trainers, 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 18.1.What are the annual after-tax cash flows for the Velo Rapid Revolutions project?

Accepted Answer

To calculate the annual after-tax cash flows, we need to first calculate the total cash flows for each year. The total cash flows for year 0 include the initial investment of euro 1,600,000 (euro 1,200,000 for the equipment and euro 300,000 for installation) and the increase in NWC of euro 100,000. Therefore, the total cash flows for year 0 are - euro 1,700,000.

For years 1-5, the total cash flows include the increase in revenue of euro 600,000, the increase in expenses of euro 200,000, and the depreciation expense of euro 240,000 (euro 1,200,000 divided by 5). Therefore, the total cash flows for years 1-5 are euro 160,000 ( euro 600,000 - euro 200,000 - euro 240,000).

At the end of year 5, the equipment will be sold for euro 500,000, which is considered a cash inflow. Therefore, the total cash flows for year 5 are euro 660,000 ( euro 160,000 + euro 500,000).

To calculate the after-tax cash flows, we need to multiply the total cash flows by the tax rate of 40% and subtract the taxes paid. The taxes paid are calculated as (total cash flows - depreciation expense) multiplied by the tax rate.

The after-tax cash flows for each year are as follows:

Year 0: ( euro 1,700,000 x 0.6) - [( euro 1,200,000 / 5) x 0.4] = - euro 964,000
Years 1-5: ( euro 160,000 x 0.6) - [( euro 1,200,000 / 5) x 0.4] = euro 60,000
Year 5: ( euro 660,000 x 0.6) - [ euro 1,200,000 x 0.4] = euro 84,000

The annual after-tax cash flows are calculated as the sum of the after-tax cash flows for years 1-5 divided by 5, plus the after-tax cash flow for year 5. Therefore, the annual after-tax cash flows are:

( euro 60,000 x 5 + euro 84,000) / 5 = euro 360,000

Therefore, the best choice is D, with annual after-tax cash flows of euro 360,000.

Question 10

Given a current spot rate of 8.10 Norwegian krone per U.S.dollar,expected inflation rates of 3% in Norway and 6% per annum in the U.S.,use the formula for relative purchasing power parity to estimate the one-year spot rate of krone per dollar.

Accepted Answer

According to relative purchasing power parity, the expected change in the exchange rate is equal to the difference in inflation rates between the two countries. Therefore, the expected one-year spot rate of krone per dollar can be calculated as follows:

Expected change in exchange rate = (1 + inflation rate in Norway)/(1 + inflation rate in the US) - 1
Expected change in exchange rate = (1 + 0.03)/(1 + 0.06) - 1
Expected change in exchange rate = -0.025
Expected one-year spot rate of krone per dollar = Current spot rate x (1 + Expected change in exchange rate)
Expected one-year spot rate of krone per dollar = 8.10 x (1 - 0.025)
Expected one-year spot rate of krone per dollar = 7.87 krone per dollar

Therefore, the best choice is A (7.87 krone per dollar).

Question 11

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

Accepted Answer

All three factors are required to estimate the firm's cost of equity capital using the CAPM. The risk-free rate of return is the minimum return an investor would expect for investing in a risk-free asset such as U.S. Treasury bonds. The expected return on the market portfolio represents the average return that investors expect to earn from investing in a diversified portfolio of all publicly traded securities. And the firm's beta measures the systematic risk of the firm relative to the market portfolio, and it shows how much the firm's return is expected to move in response to changes in the market.

Question 12

When assessing the additional risk that can occur from investing abroad firms may choose to account for risk via:

Accepted Answer

Adjusting for risk when investing abroad can involve modifying the cash flows to reflect potential risks such as currency fluctuations or political instability, altering the discount rates to account for the additional risk of investing in a foreign market, or a combination of both. Therefore, all of the options provided are valid methods for accounting for additional risk.

Question 13

When determining a firm's weighted average cost of capital (WACC)which of the following terms is NOT necessary?

Accepted Answer

The risk-free rate of return is not a direct component in the calculation of a firm's weighted average cost of capital (WACC). WACC is calculated using the cost of equity, the cost of debt, and their respective weights in the firm's capital structure. The risk-free rate is used in determining the cost of equity (e.g., through the Capital Asset Pricing Model), but it is not a direct input in the WACC formula itself.

Question 14

Use the information to answer the following question(s).
The Velo Rapid Revolutions Inc., a company that produces bicycles, elliptical trainers, 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 18.1.In euros,what is the NPV of the Velo Rapid Revolutions expansion?

Accepted Answer

The NPV of the expansion is -€75,310, which means that the project will not generate enough cash flows to cover the initial investment and required rate of return. Therefore, Velo Rapid Revolutions should not expand to Europe.

Question 15

Use the information to answer the following question(s).
The Velo Rapid Revolutions Inc., a company that produces bicycles, elliptical trainers, 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 18.1.What is the initial investment for the Velo Rapid Revolutions project?

Accepted Answer

The answer of Use the information to answer the following...

Question 16

Generally speaking,a firm wants to receive cash flows from 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 currency because when they exchange the received currency back to their own currency, they will receive more of their own currency than when they initially exchanged it. Additionally, the firm wants to pay out in currencies that are depreciating relative to their home currency because it will cost them less in their own currency to pay out in a depreciating currency.

Question 17

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 the project has a positive NPV, it means that the present value of the cash inflows is greater than the present value of the cash outflows. And, the IRR is the discount rate at which the NPV of the project equals zero. Therefore, if the NPV is positive, the IRR must be greater than the cost of capital, as it represents the discount rate used to calculate the present value of the cash flows.

Question 18

Use the information to answer the following question(s).
The Velo Rapid Revolutions Inc., a company that produces bicycles, elliptical trainers, 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 18.1.What is the IRR of the Velo Rapid Revolutions expansion?

Accepted Answer

The answer of Use the information to answer the following...

Question 19

________ 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 loss caused by political changes or instability in a country. This risk includes the possibility of government intervention in the economy, such as imposing restrictions or expropriating assets. Therefore, the best answer is Political risk.

Question 20

Given a current spot rate of 8.10 Norwegian krone per U.S.dollar,expected inflation rates of 6% in Norway and 3% per annum in the U.S.,use the formula for relative purchasing power parity to estimate the one-year spot rate of krone per dollar.

Accepted Answer

The relative purchasing power parity (PPP) formula is S1 = S0 * (1 + i domestic) / (1 + i foreign), where S1 is the future spot rate, S0 is the current spot rate, i domestic is the inflation rate in the domestic country (Norway), and i foreign is the inflation rate in the foreign country (U.S.). Plugging in the given values: S1 = 8.10 * (1 + 0.06) / (1 + 0.03) = 8.10 * 1.06 / 1.03 ≈ 8.34 krone per dollar.

Quiz 18: Multinational Capital Budgeting and Cross-Border Acquisitions

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

When determining a firm's weighted average cost of capital (wacc) which of the following terms is NOT necessary?

When evaluating capital budgeting projects,which of the following would NOT necessarily be an indicator of an acceptable project?

When a multinational firm invests abroad,it is common to develop two capital budgets: one from the project viewpoint,and one from the parent viewpoint.

Because international capital budgeting is so difficult,time consuming,expensive,and uncertain,firms generally forego any type of additional sensitivity analysis after completing a base-case scenario.

When estimating a capital budget,it is common to separate cash flows into: 1)the initial investment,2)incremental cash flows over the life of the project,and 3)a terminal value.

A criticism of adjusting the discount rate to account for political risk is that adjusting the discount rate for political risk penalizes early cash flows too heavily while not penalizing distant cash flows enough.

Given a current spot rate of 8.10 Norwegian krone per U.S.dollar,expected inflation rates of 3% in Norway and 6% per annum in the U.S.,use the formula for relative purchasing power parity to estimate the one-year spot rate of krone per dollar.

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

When assessing the additional risk that can occur from investing abroad firms may choose to account for risk via:

When determining a firm's weighted average cost of capital (WACC) which of the following terms is NOT necessary?

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

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

________ 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.

Given a current spot rate of 8.10 Norwegian krone per U.S.dollar,expected inflation rates of 6% in Norway and 3% per annum in the U.S.,use the formula for relative purchasing power parity to estimate the one-year spot rate of krone per dollar.