Suppose that you are working for a U.S. company that is considering
investing in a project in Malaysia. The investment would cost US $30
million. The investment involves buying a factory that already exists, and
using it to make a product that that would be sold in Malaysia. The product
has been a success elsewhere in Asia, and a marketing research study shows
that the product will be a success in Malaysia. The investment would be $24
million for the factory and $6 million for working capital. Production would
begin immediately after your company buys the factory. Annual sales
would be 10 million units the first year and would increase 20% per year.
The selling price per unit would be 12 Malaysian ringgit per unit. All
production costs would be local and would be equal to 5 Malaysian ringgit
per unit. The selling price per unit would rise 6% each year and costs would
rise 5% each year. The Malaysian government will allow your company to
depreciate the factory over three years, although it will not wear out that fast.
The corporate tax rate in Malaysia is 50% and in the U.S. is 30%. The
Malaysian government will apply a tax of 15% on all remittances. Your
company will remit all the cash flow from the project each year. Assume
that there is a local buyer who will pay 60 million Malaysian ringgit for the
going concern, including the factory and the working capital, at the end of
the third year. The exchange rate of the Malaysian ringgit is I ringgit =
US$ 0.28. The Malaysian ringgit is expected to strengthen versus the U.S.
dollar, so that after one year it will be worth US$ 0.30. After two years it
will be worth US$ 0.32, and after three years it will be worth US$0.34.
a. Using traditional cross border capital budgeting, what is the NPV of
this project? Assume that your company uses a discount rate of 22% for
projects of this risk category.