Page 68 - AFM Integrated Workbook STUDENT S18-J19

Chapter 3

Question 1

Oregon Co is a US based company. It is considering a 3 year project in
Vodland.

The project will require an initial investment of 200 million Vodland pesos (Vp)
and will have a residual value of 120 million Vp.

The project's annual pre-tax net cash inflows are expected to be 100 million
Vp in current terms. US inflation is expected to be 6% per annum, and
Vodland inflation is expected to be 3% per annum. The current exchange rate
is 20 Vp to $1.

The Vodland subsidiary will pay the US parent company a fixed 30 million Vp
royalty each year.

The Vodland tax rate is 15% and the US tax rate is 25%. In both countries, tax
is paid in the same year that profits are earned, and taxable losses are carried
forward and netted off the first available future taxable profits.

As an incentive to foreign investors, the Vodland tax authorities allow foreign
companies to claim a 100% first year tax depreciation allowance. On disposal
of an asset, a balancing charge is then calculated for tax purposes.

Oregon Co's financial director has calculated that a suitable discount rate for
the project is 20%.

Required:

Calculate the NPV of the project in $.

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