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As the newly hired financial analyst for Rodgers International

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Question;As the newly hired;financial analyst for Rodgers International, you are charged with evaluating a;possible investment by the firm in Bolivia. It is the end of 2014 (year 0) and;an idle Bolivian facility is available to be purchased at a price of 25,000,000;Bolivian Boliviano (BOB).;Rodgers is currently exporting twitters to Bolivia and;expects to export 15,000 units next year (2015, or Year 1) at a price of BOB;400 per unit with future demand for exported twitters expected to grow at 5;percent per year thereafter, besides the expected growth in the number of;twitters exporter, future prices of exported;twitters are expected to increase by 2 percent per year. Export sales yield the;firm an after-tax profit margin of 14 percent. However, buying the;Bolivian facility would eliminate these export sales and replace them with new;local sales expected to be 30,000 units in 2015, maintaining the same BOB 400;sales price. Future Bolivian demand for locally-produced twitters is expected;to grow at 7 percent per year with future price increases of;domestically-produced twitters expected to average 8 percent per year in;Bolivian boliviano terms.;The variable cost of producing twitters in Bolivia is;forecasted to be BOB 200 per unit in the first year of operations (2015) with;such costs growing at an average rate of 3 percent per year thereafter. Fixed;costs, other than depreciation, are expected to be BOB 2,000,000 in 2015, with;future costs growing at the general level of inflation of 8 percent per year;thereafter. Depreciation of the facility will follow Bolivian guidelines of 5;years, straight-line of the total BOB 25,000,000 investment. (Disregard the;expected salvage value when calculating the annual depreciation expense of the;facility).;The Bolivian and U.S. tax rates are each 34 percent.;Rodgers expects to annually remit 100 percent of the cash flows generated by;the project back to the parent. Although uncertain, the firm believes that it;will be able to resell the company to local investors for an after-tax amount;of BOB 15,000,000 after five years of operations (i.e., the expected salvage;value).;The current exchange rate is BOB/USD 6.3300 with future;exchange rate changes expected to follow purchasing power parity, the inflation;rate is expected to remain at 8 percent per year over the next five years in;Bolivia and 5 percent per year in the U.S. In evaluating foreign investments;Rogers typically uses a discount rate of 15 percent. However, because of;various assurances the company has received from the Bolivian government and;the Inter-American Development Bank, a discount rate of 12 percent was deemed;to be more appropriate.;1. Should Rodgers make this investment, and explain;why or why not?;2. Assume the same facts as above except that;Rodgers is unsure about the salvage value of the investment. How much would;Rodgers need to receive from selling the operations at the end of year five to;make this a viable project? That is, what is the minimum salvage value (in BOB;terms)? How could this information be useful in the decision to invest or not;to invest?;3. Assume the same situation as in part 1;except that now there is an Argentine competitor that is planning to invest in;Bolivia, but only if Rodgers chooses not to make the investment. If the;competitor makes the investment, Rodgers is expected to lose its entire export;market in South America. All of the original information from part 1 should be;assumed to remain the same. How does this new assumption affect your analysis?;Would you recommend making the investment under these circumstances?;4. Assume the same situation as in part 3.;Despite the current inflation rate differential between the two countries the;corporate treasurer at Rodgers has made a forecast in which she expects the;Bolivian boliviano to depreciate against the U.S. dollar by 5 percent per year;over the next five years. How does this new assumption affect your analysis? Would;you recommend making the investment under these circumstances?;5. Assume the same situation as in part 3;except that the Bolivian government is politely;suggesting that Rodgers should invest the cash flows that it generates each;year from the project into a Bolivian government fund yielding an after-tax;return of 10 percent per year. After five years, the full amount of the funds;would be available for withdrawal by Rodgers, along with the salvage value;proceeds from the project itself. How would this information affect your;analysis of the project from both a quantitative and qualitative basis?;Would you recommend making the investment under these circumstances?

 

Paper#53065 | Written in 18-Jul-2015

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