You are a senior financial analyst with IBM in its capital budgeting division. IBM is considering expanding in Australia.
The new facility would require an initial investment in fixed assets of 5 billion Australian dollars. Capital Investment would be depreciated straight line over the five years that the facility would operate. First-year revenues from the facility are expected to be 6 billion Australian dollars and grow at 10% per year. Cost of goods sold would be 40% of revenue; the other operating expenses would amount to 12% of revenue. Net working capital requirements would be 11% of sales and would be required the year prior to the actual revenues. All net working capital would be recovered at the end of the fifth year. Assume that the tax rates are the same in the two countries, that the two markets are internationally integrated, and that the cash flow uncertainty of the project is uncorrelated with changes in the exchange rate. Your team manager wants you to determine the NPV of the project in U.S. dollars using a cost of capital of 12%.

 1.Open a spreadsheet and create a new worksheet with a timeline for the project’s expected cash flows.

a. Use 20% as IBM’s effective tax rate.

b. Determine the expected free cash flows of the project in Australian dollars.

2.Note that the free cash flows you calculated in Question 1 are in Australian dollars (AUD). To convert the cash flows to U.S. dollars (USD), you plan to use the forward exchange rate between AUD and USD for each of the five years of the project. To estimate the forward exchange rate:

a. Find the current AUD-USD exchange rate.

b. Find the current interest rates for Australia and the United States for each maturity (1-yr, 2-yr, . . . 5-yr).try searching for yield curves in Australian dollars and in U.S. dollars. Interpolate if needed for any missing years.

c. Use Eq.23.2 to estimate the forward exchange rate.

3.Convert the cash flows to U.S. dollars using the forward rates you estimated and compute the NPV using the 12% required return given by your team manager.