Mill Company is evaluating the proposed acquisition of a new milling machine. The machine's base price is $150,000, and has a terminal value of $45,000. The company's cost of capital is 5%. The project has a life-time of 3 years.
The operating cash flows are as follows: Year 1 Year 2 Year 3
1. After-tax savings: $25,000 $25,000 $25,000
2. Depreciation tax savings: $12,000 $15,500 $7,200
3. Net cash flow: $37,000 $40,500 $32,200
(a) Find the net present value of this project (NPV). Should it be accepted?
Suppose Mill Company wishes to expand its operations in the UK. The exchange rate at the time of investment is £1= $1.54.
(b) Use the PPP to find the exchange rate 1 year from now, 2 years from now and 3 years from now. The inflation rate in the U.S. ($) is 3 percent and in the UK 4 percent (£)
(c) Find the NPV in pounds. Should Mill Company invest in the UK?