1. Are the financial statements in Exhibit 3.7 consistent with V. Dourtan assumptions in Exhibit 3.1? 2. What’s is the most relevant valuation model, APV or Present Value? 3. How are multi-currency cash flows, currency risk and political risk being taken into account in our valuation model? 4. What is the relevant cost of capital for Jersey? For R.T. Nakit? Can they be different? Why? 5. What is the Dinar (Pound) value of the joint venture R.T. Nakit (jersey)? What are the project’s value drivers? 1- The data presented on exhibit 3.7 is, indeed following some of the assumptions stated on exhibit 3.1: minimum cash level is 10% of total assets, which was proved by dividing cash by total assets, obtaining values between 0.998 and 1. Also, dividends would be adjusted in order to debt-to-equity would equal to 1, which also happens in all periods. Exhibit 3.2 follows some other assumptions: the fabric plant will be upgraded to meet quality requirements, and the upgrade will have costs in the years between 1985 and 1987, including. Furthermore, the costs relative to three new garment plants are also included in this exhibit. There is a strong possibility that these two assumptions may be represented in the behaviour of fixed assets on exhibit 3.7, but since these assets are not discriminated it can’t be certain if exhibit 3.7 is following both assumptions, or just one. Exhibit 3.7 does not correspond to the assumption made relatively to constant depreciation, and administrative and selling costs. In exhibit 3.7 these costs grew, on average, 7.25% per year. Calculations are stated in Appendix 1. 2- The Discounted Cash Flow (DCF) and the Adjusted Present Value (APV) are the two models that can be used to valuate this project. Under DCF, the stream of the unlevered free cash flows generated by the project are discounted using WACC, which includes the effects of financing as well as other different sources of risk (such as equity). APV implies that the value of a firm is given by the sum of the discounted unlevered free cash flows as if it was financed only with equity(M&M theory), and then adds any side effects of debt and sources of risk that may exist. This last model is more flexible than DCF. APV’s power relies on the ability to add relevant factors to the valuation not incorporated on WACC, such as changes in capital structure or even the use of unusual types of debt and equity, like convertible debt. APV is then less prone to serious errors than WACC. In addition, in this model no discount rate contains anything other than time value and a risk premium. In conclusion, APV should be the method preferred in the case of a cross-border projects because it helps to understand where the value of the project comes from (not only how much is it) and how the value is created and destroyed considering financial maneuvers, currency exchange rate risk and political risk. 3- In the valuation of the project, multi-currency cash flows should not be considered a problem, since the cash flows of the project are first evaluated in the local currency (Dinar), then discounted using the appropriate rate and only in the end converted in Pounds using forward rates. Currency risk is on its own a puzzle that needs to be treated carefully. One can be tempted to consider this risk in the definition of risk premiums or in adjusting the cash flows while this is not the case. In fact, currency risk is already entitled in the forward exchange rates used to convert the expected cash flows while exchange rate volatility is expected to remain under control, as Tunisian Government has incentives to maintain it stable over time in order to further attract foreign investment. For what concerns political risk, a simple technique will be adopted to adapt the parent (Jersey) cost of capital for political instability in the host country (Tunisia): the long-term bond spread between Tunisian...
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