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Principles of Corporate Finance (11th Edition)
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Problem

Carpet Baggers, Inc., is proposing to construct a new bagging plant in a country in Europe. The
two prime candidates are Germany and Switzerland. The forecasted cash flows from the
proposed plants are as follows:

The spot exchange rate for euros is $1.3/€, while the rate for Swiss francs is SFr 1.5/$. The
interest rate is 5% in the United States, 4% in Switzerland, and 6% in the euro countries. The
financial manager has suggested that, if the cash flows were stated in dollars, a return in excess
of 10% would be acceptable.

Should the company go ahead with either project? If it must choose between them, which should
it take?

  C0 C1 C2 C3 C4 C5 C6 IRR(%)

Germany(millions of euros ) -60 +10 +15 +15 +20 +20 +20 18.8

Switzerland (millions of Swiss francs) -120 +20 +30 +30 +35 +35 +35 12.8

Step-by-step solution

Net present value (NPV) method is used to measure financial viability of a project. It compares,
total cash inflows with total cash outflows at the investor expectation rate at the beginning of the
project. Hence, if the net present value is positive project should accepted and vice-versa.

Comment

Calculate net present value for Germany cash flows using minimum required rate of
return as shown below:

(€ in millions and
$ in millions)

Year
Cash flows
in €

Cash flows in $
Present value
factor @10%

Present value of
cash flows

0 (€ 60) ($78.00) 1.0000 ($78.00)

         

Step 1 of 4

Step 2 of 4

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1 € 10 $12.88 0.9091 $11.71

         

2 € 15 $19.13 0.8264 $15.81

   

 

   

3 € 15 $18.95 0.7513 $14.24

   

 

   

4 € 20 $25.03 0.6830 $17.10

   

 

   

5 € 20 $24.80 0.6209 $15.40

   

 

   

6 € 20 $24.56 0.5645 $13.86

   

 

   

Net Present
Value

$10.11

Therefore, Net present value in dollars is 10.11 million.

Comment

Calculate net present value for Switzerland cash flows using minimum required rate of return as
shown below:

(Fr. in millions and $
in millions)

Step 3 of 4

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Year
Cash flows
in Fr.

Cash flows in $
Present value
factor @10%

Present value of
cash flows

0 Fr. 120 ($80.00) 1.0000 ($80.00)

         

1 Fr. 20 $13.46 0.9091 $12.24

         

2 Fr. 30 $20.39 0.8264 $16.85

   

 

   

3 Fr. 30 $20.58 0.7513 $15.46

   

 

   

4 Fr. 35 $24.24 0.6830 $16.56

   

 

   

5 Fr. 35 $24.48 0.6209 $15.20

   

 

   

6 Fr. 35 $24.71 0.5645 $13.95

   

 

   

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Net Present
Value

$10.25

Therefore, Net present value in dollars is 10.25 million.

Comment

Since, both the plants have positive net present values, both can be accepted. If the company
should choose one among them, Switzerland plat should be preferred as it has relatively higher
net present value.

Comment

Step 4 of 4

2 0

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Chapter 27, Problem 20PS

Carpet Baggers, Inc., is proposing to construct a
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prime candidates are…

See solution

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