Question

Etemadi Amalgamated, a Canadian manufacturing firm, is considering a new project in Portugal. You are in Etemadi's corporate finance department and are responsible for deciding whether to undertake the project. The expected free cash flows, in EUR, are shown here:

YEAR	FREE CASH FLOW (EUR million)
0	-21
1	8
2	10
3	13
4	5

You know that the spot exchange rate is S=1.2804 CAD/EUR. In addition, the risk-free interest rate on CAD is 5.1%and the risk-free interest rate on EUR is 6.6%. Assume that these markets are internationally integrated and the uncertainty in the FCFs is not correlated with uncertainty in the exchange rate. You determine that the CAD WACC for these cash flows is 8.9%. What is the CAD present value of the project? Should Etemadi Amalgamated undertake the project?

Instructions:

The CAD present value of the project is million CAD. (Round to three decimal places.)?

Based on the NPV, Etemadi Amalgamated should or should not undertake the project?

Answer 1

Etemadi	FCF (EUR)	CAD/EUR	FCF (CAD)
0	-21	1.2804	-26.888
1	8	1.2624	10.099
2	10	1.2446	12.446
3	13	1.2271	15.952
4	5	1.2098	6.049
		NPV	$9.534

Forecast forward exchange rate using Interest Rate Parity equation

Forward Rate = Spot x (1 + CAD rate) / (1 + EUR rate)

Year 1 Rate = 1.2804 x (1 + 5.1%) / (1 + 6.6%) = 1.2624 and so on.

Convert EUR FCF to CAD FCF by multiplying them with the exchange rate.

Using NPV function in excel or calculator or manually, calculate NPV using 8.9% discount rate.

As NPV > 0, the project should be undertaken.