Sensitivity of NPV to Conditions Burton Co., based in the United States, considers a project in which it has an initial outlay of $3 million and expects to receive 10 million Swiss francs in one year. The spot rate of the Swiss franc is $0.80. Burton Co. decides to purchase put options on Swiss francs with an exercise price of $0.78 and a premium of $0.02 per unit to hedge its receivables. It has a required rate of return of 20 percent. Determine the net present value of this project for Burton Co. based on the forecast that the Swiss franc will be valued at $0.70 at the end of one year. Assume the same information as in part (a), but with the following adjustment: Although Burton expected to receive 10 million Swiss francs, assume that Switzerland unexpectedly experienced weak economic conditions after Burton initiated the project. Consequently, Burton received only 6 million Swiss francs at the end of the year. Also assume that the spot rate of the Swiss franc at the end of the year was $0.79 Determine the net present value of this project for Burton Co. if these conditions occur.

FindFind

International Financial Management

14th Edition
Madura
Publisher: Cengage
ISBN: 9780357130698
FindFind

International Financial Management

14th Edition
Madura
Publisher: Cengage
ISBN: 9780357130698

Solutions

Chapter 14, Problem 30QA
Textbook Problem

Sensitivity of NPV to Conditions Burton Co., based in the United States, considers a project in which it has an initial outlay of $3 million and expects to receive 10 million Swiss francs in one year. The spot rate of the Swiss franc is $0.80. Burton Co. decides to purchase put options on Swiss francs with an exercise price of $0.78 and a premium of $0.02 per unit to hedge its receivables. It has a required rate of return of 20 percent.

  1. Determine the net present value of this project for Burton Co. based on the forecast that the Swiss franc will be valued at $0.70 at the end of one year.
  2. Assume the same information as in part (a), but with the following adjustment: Although Burton expected to receive 10 million Swiss francs, assume that Switzerland unexpectedly experienced weak economic conditions after Burton initiated the project. Consequently, Burton received only 6 million Swiss francs at the end of the year. Also assume that the spot rate of the Swiss franc at the end of the year was $0.79 Determine the net present value of this project for Burton Co. if these conditions occur.

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