Cintas is a U.S. corp. and currently has no existing business in Australia but is considering establishing a subsidiary there. The following information has been gathered to assess the project: The initial investment required is A$50 million. Given the existing spot rate of $.50 per Australian dollar, the initial investment in U.S. dollars is $25 million. In addition to the A$50 million initial investment for plant and equipment, A$20 million is needed for working capital and will be borrowed by the subsidiary from an Australian bank. The Australian subsidiary will pay interest only on the loan each year, at an interest rate of 14 percent. The loan principal is to be paid in 10 years. The project will be terminated at the end of Year 3, when the subsidiary will be sold. The price, demand, and variable cost of the product in Australia are as follows: Year 1 2 3 Price A$500 A$511 A$530 Demand 40.000 units 50.000 units 60,000 units Variable Cost A$30 A$35 A$40 The fixed costs, such as overhead expenses, are estimated to be A$6 million per year. The exchange rate of the Australian dollar is expected to be $.52 at the end of Year 1, $.54 at the end of Year 2, and $.56 at the end of Year 3. The Australian government will impose an income tax of 30 percent on income. In addition, it will impose a withholding tax of 10 percent on earnings remitted by the subsidiary. The U.S. government will allow a tax credit on the remitted earnings and will not impose any additional taxes. All cash flows generated by the subsidiary are to be sent to the parent at the end of each year. The subsidiary will use its working capital to support ongoing operations. The plant and equipment are depreciated over 10 years using the straight-line depreciation method. Since the plant and equipment are initially valued at A$50 million, the annual depreciation expenses is A$5 million. In three years, the subsidiary is to be sold. Cintas plans to let the acquiring firm assume the existing Australian loan. The working capital will not be liquidated but will be used by the acquiring firm when Cintas sells the subsidiary. To breakeven, what should Cintas expect to receive after subtracting capital gains taxes? Assume that this amount is not subject to a withholding tax. The firm requires a 20 percent rate of return on this project. 1-1. Carefully organize and show all the steps using the cash flow analysis sheet in the next page. (15 pts.) Question: What should be the breakeven salvage value
