The Wheel Deal Inc., a company which manufactures scooters and other wheeled non-motorized recreational equipment is considering the expansion of their product line to Europe. The expansion would need a purchase of equipment with a price of euro 1,200,000 and additional installation of euro 300,000. The new product line is anticipated to raise net revenues by euro 300,000 for the next 10 years. The equipment is multipurpose and the firm anticipates which they will sell it at the end of the 10th year for euro 500,000. The initial investment (at year 0) also needs a raise in Net Working Capital of euro 100,000 (to be recovered at the end of 10th year). The current spot rate is $0.95/euro, and the anticipated inflation rate in the U.S. is 2% per year and 5% per year in Europe.
Use Spreadsheet to carry out the following computations (show your formulas in each cell):
a). Based on the relative version of purchasing power parity relationship, calculate the expected appreciation/depreciation in euro and forecast the expected exchange rate for the next 10 years.
b). Create the timeline of cash flows (years 0 – 10) in euro
c). Use the spot exchange rate and your forecasted exchange rate to compute the timeline of future cash flows (years 0-10) in dollar terms.
d). Compute the IRR of project
e). Compute the NPV of project at discount rates of (a) 8% (b) 9% (c) 11% (d) 12%.
f). Plot in graph (you can use scatter with smooth lines option) the Net Present Values at above mentioned discount rates and demonstrate the IRR in the graph.
g). Based on IRR and NPV computations, comment if the project is acceptable or not at the above discount rates.