Indiana University Bloomington Finance Accounting Worksheet

BASE CASE: MULTICAPITAL BUDGETINGPartridge & Askar Inc. (ticker: PAA) recently patented a proprietary soft drink that is capturing the
nation. Classic Zero is a zero-sugar soft drink that comes in a variety of flavors and they recently
signed major contracts and endorsements with sports teams, including Major League Baseball. PAA is
considering establishing a subsidiary in Singapore that would manufacture and sell Classic Zero.
PAA’s financial managers have asked the manufacturing, marketing, and financial departments to
provide them with relevant input so they can apply a capital budgeting analysis to this project. In
addition, some PAA executives have met with government officials in Singapore to discuss the
proposed subsidiary. The project would end in four years. All relevant information follows.
1. Initial investment. The project would require an initial investment of 25 million Singapore
dollars (S$), which includes funds to support working capital. Given the existing spot rate
of $0.75 per Singapore dollar, the U.S. dollar amount of the parent’s initial investment is S$ 25
million x $0.75
2. Price and consumer demand. The estimated price and demand schedules during each of the
next four years are shown here:
Price per case of Classic Zero
Demand in Singapore
YEAR 1
YEAR 2
YEAR 3
YEAR 4
S$300
S$300
S$320
S$330
60,000 units
60,000 units
80,000 units
85,000 units
3. Costs. The variable costs (for materials, labor, etc.) per unit have been estimated and
consolidated as shown here:
Variable costs per case of Classic Zero
YEAR 1
YEAR 2
YEAR 3
YEAR 4
S$150
S$150
S$200
S$200
4. The expense of leasing extra office space is S$ 1 million per year. Other annual overhead
expenses are expected to total S$1 million per year.
5. Tax laws. The Singapore government will allow PAA’s subsidiary to depreciate the cost of the
plant and equipment at a maximum rate of S$1.5 million per year, which is the rate that the
subsidiary will use.
The Singapore government will impose a 20% percent tax rate on income. In addition, it will
impose a 10% percent withholding tax on any funds remitted by the subsidiary to the parent.
The earnings remitted by the subsidiary in Singapore to the U.S. parent will not be taxed by
the U.S. government, and therefore represent cash inflows for the U.S. parent.
6. Remitted funds. The PAA subsidiary plans to send all net cash flows received back to the parent
firm at the end of each year. The Singapore government promises no restrictions on the cash
flows to be remitted to the parent firm, but does impose a 10% percent withholding tax on any
funds sent to the parent, as mentioned previously.
7. Exchange rates. The spot exchange rate of the Singapore dollar is $0.75. PAA uses the spot rate
as its forecast for all future periods.
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8. Salvage value. The Singapore government will pay the parent S$15 million to assume
ownership of the subsidiary at the end of four years. Assume that there is no capital gains tax
on the sale of the subsidiary.
9. Required rate of return. PAA, Inc., requires an 18 percent return on this project.
PART 1: THE BASE CASE
Prepare a spreadsheet that allows you to calculate NPV, IRR, and MIRR for the above scenario. Would you
recommend this project to PAA’s executive team? Why or why not? Please fill in your answer in the table
below.
PART 2: WHAT IF EXCHANGE RATE PROJECTIONS ARE STRONG?
Using the base case, suppose exchange rates are expected to be as follows. Again, calculate NPV, IRR, and
MIRR. Would you recommend this project to PAA’s executive team? Why or why not? Please fill in your
answer in the table below.
Exchange rate of S$
$0.75
$0.80
$0.85
$0.90
PART 3: WHAT IF EXCHANGE RATE PROJECTIONS ARE WEAK?
Please return to the base case. Suppose exchange rates are expected as follows. Again, calculate NPV, IRR, and
MIRR. Would you recommend this project to PAA’s executive team? Why or why not? Please fill in your
answer in the table below.
Exchange rate of S$
$0.75
$0.70
$0.65
$0.55
PART 4: WHAT IF THE SALVAGE VALUE CHANGES?
Please return to the base case. Suppose the executive team is concerned that the salvage value estimate is too
high. Again, calculate NPV, IRR, and MIRR. Assume a salvage value of S$ 0. Would you recommend this
project to PAA’s executive team? Why or why not? Please fill in your answer in the table below.
PART 5: CONCLUSION
Summarize your answers below. Write a short paragraph indicating whether you would recommend developing
this subsidiary in Singapore.
Scenario
Base Case
Strong Exchange Rate
Weak Exchange Rate
Salvage Value = 0
NPV
IRR
MIRR
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