Question

Consider the following international investment opportunity. It involves a gold mine that can be opened at a cost, then produces a positive cash flow, but then requires environmental clean-up.The current exchange rate is $1.55 = €1.00. The inflation rate in the U.S. is 6 percent and in the euro zone 2 percent. The appropriate cost of capital to a U.S.-based firm for a domestic project of this risk is 8 percent.What is the euro-denominated IRR of this project?What is the euro-denominated IRR of this project? Find the dollar cash flows to compute the dollar-denominated NPV of this project. Please note that your answer is worth ZERO POINTS if it does not contain currency symbols.Find the euro-zone cost of capital to compute is the dollar-denominated NPV of this project.?

Answer 1

Answer and Explanation:

Let's first start with exchange rates. Year 0: 1 euro = 1.55 dollars

1-year later, 1 euro = 1.55*1.06/1.02

                               = 1.6 dollars

2-years later, 1 euro = 1.6*1.06/1.02

                                 = 1.7 dollars

IRR for euros = IRR(- 64,160,-100)

                      = 25.0%

Cash flows in USD: Year 0 - 64,000 / 1.6 = -40,000, Year 1 - 160,000 / 1.6 = 96,226, Year 2 - -100 / 1.7 = -57,872

IRR for dollars = IRR(-40000, 96226, -57872)

                        = 20.3%

NPV for dollars = NPV(8%, 96226, -57872) - 40000

                         = -$517