A U.S. multinational company is considering a new project in Germany which re- quires an initial outlay of 3 million DM and generates 2 million DM in the first year of operations and 2 million DM in the second year of operations. The project would then be terminated without any salvage value. The current spot exchange rate is $0.60/DM. The risk-free interest rate in the United States is 7 percent and the risk-free interest rate in Germany is 4 percent. The managers of the multinational consult German investment bankers who think that the required rate of return on the U. S. market portfolio is 10 percent and that the project under consideration has a beta of about 1.1

NOTE: consider this firm to be financed with 100 % equity.

1. Compute the cost of capital for this project in U.S. dollars.
2. Compute the cost of capital in DM Determine the Net Present Value of the project in DM
3. Determine the Net Present Value in U.S. Dollars
4. Assume that the U.S. multinational firm has forecast exchange rates, with an expected spot exchange rate on $0.55/DM in one year, and $0.46/DM in two years. Determine the Net Present Value of the Project in both DM and US Dollars. Should the project be accepted?
5. Assume that one and two year forward exchange rates are $0.61/DM and $0.62/DM, 6. respectively. Determine the U.S. dollar NPV of the project assuming that the firm hedges its exchange rate risk.