Capital Budgeting and Financing Cantoon Co. is considering the acquisition of a unit from the French government. Its initial outlay would be $4 million. Cantoon will reinvest all the earnings in the unit. It expects that at the end of eight years, it will sell the unit for 12 million euros after capital gains taxes are paid. The spot rate of the euro is $1.20 and is used as the forecast of the euro in the future years. Cantoon has no plans to hedge its exposure to exchange rate risk. The annualized U.S. risk-free interest rate is 5 percent regardless of the maturity of the debt, and the annualized risk-free interest rate on euros is 7 percent, regardless of the maturity of the debt. Assume that interest rate parity exists. Cantoon’s cost of capital is 20 percent. It plans to use cash to make the acquisition.
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