Hi-Rider, Inc., is considering the development of a subsidiary in Malaysia that would manufacture and sell motorized mountain bikes locally. The subsidiary would be wholly owned by the parent and created to enhance the value of the parent.

Hi-Rider's financial managers have asked the manufacturing, marketing, and financial departments to provide them with relevant input so they can apply a capital budgeting analysis to this project. In addition, some Hi-Rider executives have met with government officials in Malaysia to discuss the proposed subsidiary.

The project would end in 3 years. All relevant information follows.

Initial investment: MYR 10 million (MYR = Malaysia ringgit)

Price and consumer demand:

Year 1: 2,000 units @ MYR 12,000/unit

Year 2: 3,000 units @ MYR 13,000/unit

Year 3: 4,000 units @ MYR 14,000/unit

Costs

Variable costs: Year 1 MYR 5,000/unit, Year 2 MYR 6,000/unit, Year 3 MYR 7,000/unit

Leasing office space: MYR 400,000 per year. Other Fixed costs: MYR 1.6 million per year

Malaysian government allows a maximum of MYR5 million in depreciation per year for plant and equipment. Hi-Rider plans to use the maximum allowed.

Tax laws: 25% income tax

Remitted funds: 10% withholding tax on remitted funds. Any amount can be remitted, and the funds remitted back to the US will not be taxed by the US government.

Exchange rates: Spot exchange rate of $4 for Malaysian ringgit ($0.25 for MYR1). Initially, Hi-Rider assume the exchange to be stable at this rate for the next three years.

Salvage values: MYR 8 million that can be sold to any local firm with any restrictions. One local firm willing to buy it from Hi-Rider at that time.

Required rate of return: 10%

COMPLETE THE REST OF THE TABLE BELOW AND THEN ANSWER THE QUESTION 29.

YEAR 0 YEAR 1 YEAR 2 YEAR 3 1. Demand 2,000 3,000 4,000 2. Price per unit MYR12,000 MYR13,000 MYR14,000 3. Total revenue = (1) x (2) MYR24,000,000 MYR39,000,000 MYR56,000,000 4 Variable cost per unit MYR5,000 MYR6,000 MYR7,000 5. Total variable cost = (1) x (4) MYR10,000,000 MYR18,000,000 MYR28,000,000 6. Annual lease expense MYR400,000 MYR400,000 MYR400,000 7. Other fixed annual expenses MYR1,600,000 MYR1,600,000 MYR1, 600,000 8 Noncash expense MYR5,000,000 MYR5,000,000 MYR5,000,000 (depreciation) 9. Total expenses = (5) + (6) + MYR17,000,000 MYR25,000,000 MYR35,000,000 (7) + (8 10. Before-tax earnings of MYR7,000,000 MYR14,000,000 MYR21,000,000 subsidiary = (3) - (9) 11 Host government tax (20%) MYR1, 400,000 MYR2,800,000 MYR4,200,000 12 After-tax earnings of MYR5,600,000 MYR11, 200,000 MYR16,800,000 subsidiary = (10) - (11) 13 Net cash flow to subsidiary MYR10,600,000 MYR16,200,000 MYR21,800,000 = (12) + (8) 14. MYR remitted by subsidiary MYR10,600,000 MYR16,200,000 MYR21,800,000 (100% of net cash flow) 15 Withholding tax on remitted MYR1,060,000 MYR1,620,000 MYR2, 180,000 funds (10%) 16. MYR remitted after withholding tax = (14) - (15) 17. Salvage Value 18. Exchange rate 0.25 0.25 0.25 19 Cash flows to parent = [(16) + (17)] x (18 20. PV of parent cash flows (10 discount rate) 21. Initial Investment by parent (convert to $) - 10M x 0.25 22. Cumulative NPV