Question

When conducting a capital budgeting analysis and attempting to account for effects of exchange rate movements for a foreign project, inflation ____ included explicitly in the cash flow analysis, and debt payments by the subsidiary ____ included explicitly in the cash flow analysis.

Answer 1

Answer:

inflation SHOULD BE included explicitly in the cash flow analysis, and debt payments by the subsidiary SHOULD BE included explicitly in the cash flow analysis.

Explanation:

A capital budgeting analysis is carried out in order to determine how a company should invest their capital assets.

The discounted cash flow method is the primary tools used in this type of analysis. Cash flows from foreign countries that have high inflation rates will be negatively affected since high inflation tends to currency depreciation which in turn leads to lower cash flows in US dollars. The same applies to debt payments made by the subsidiaries since they also reduce net cash flows. Lower net cash flows result in lower NPV and IRR.