A foreign project generates a negative cash flow in year 1 and positive cash flows in years 2 through 5. The NPV for this project will be higher if the foreign currency ____ in year 1 and ____ in years 2 through 5.

Question

Quizplus · Accepted Answer

If the foreign currency depreciates in year 1, the negative cash flow will be lower when converted to the domestic currency, resulting in a higher NPV. If the currency appreciates in years 2 through 5, the positive cash flows will be higher when converted back to the domestic currency, resulting in a higher NPV. Therefore, the best option is for the currency to depreciate in year 1 and appreciate in years 2 through 5.

A Foreign Project Generates a Negative Cash Flow in Year