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11 Operating Exposure - Exercise II ON PAST FINAL Andromeda Inc., a US based MNC, has a wholly owned subsidiary in Brazil, Rio Inc., that manufactures microchips for biometric scanners. - Rio expects 2 million sales units per year for next five years. - Rio charges 20 reais per unit (price) with the average cost per unit of 15 reais (variable cost). (All sales and costs are quoted in Brazilian real.) - Rio maintains account receivables at the level of 20% of sales and its inventory is also maintained at 15% of annual cost of goods sold. - Fixed operating expenses are expected at 1,300,000 reais per year, and annual depreciation expenses are estimated at 500,000 reais per year. - Rio's tax rate is 30%. - Current spot exchange rate is uS $0.46/ real. - Andromeda has a cost of capital of 18%. a. Compute annual operating cash flows for Rio for next five years. And, calculate PVs for cash flows (US\$) for next five years using the cost of capital given. Assume that the exchange rate stays same at the current rate of US $0.46/ real between year 1 and year 5 . b. Suppose the spot exchange rate between US\$ and Brazilian real suddenly changes to US\$.38/real. And the real depreciation results in increase in demand for Rio's products so that the company might increase its unit sales by 50% by keeping the real-denominated price at 20 reais per unit. Everything else remains same. Recalculate cash flows (US\$) and compute changes in PVs of cash flows (US\$) for next five years using the cost of capital given. Assume that the exchange rate stays at $.38/ real rate between year 1 and year 5 . Also, assume that increase in working capital is financed in year 1 and recovered in year 5