Question

Anderson International is interested in investing a project in Erewhon with the following projected cash flows:

Year 0--> $ -1,000,000

Year 1--> $ 250,000

Year 2--> $ 300,000

Year 3--> $ 350,000

Year 4--> $500,000

One problem is that the Erewhon government has declared that all cash flows created by a foreign company must be reinvested in Erewhon for TWO years at the rate of 4%. Anderson's required rate of return is 10%. Show all future cash flows of the project under the investment policy (in Erewhon) and calculate the NPV of the project.

Answer 1

Year	CF	Acutal CF
0	-1,000,000	-1,000,000
1	250,000	0
2	300,000	0
3	350,000	270,400
4	500,000	324,480
5		378,560
6		540,800
	NPV	($34,896.79)

As the cash flows will be invested 4% for two years, forecast the actual cash flow from the project for a foreign firm.

Actual CF = CF x (1 + 4%)^2, two years later

NPV = CF0 + CF3 / (1 + r)^3 + CF4/ (1 + r)^4 + CF5 / (1 + r)^5 + CF6 / (1 + r)^6

= -1,000,000 + 270,400 / 1.1^3 + 324,480 / 1.1^4 + 378,560 / 1.1^5 + 540,800 / 1.1^6

= -34,896.79