Question Details

Impact of Reinvested Foreign Earnings on NPV 



1. Capital Budgeting Logic. Lehigh Co. established a subsidiary in Switzerland that was performing
below the cash flow projections developed before the subsidiary was established. Lehigh
anticipated that future cash flows would also be lower than the original cash flow projections.
Consequently, Lehigh decided to inform several potential acquiring firms of its plan to sell the
subsidiary. Lehigh then received a few bids. Even the highest bid was very low, but Lehigh
accepted the offer. It justified its decision by stating that any existing project whose cash flows are
not sufficient to recover the initial investment should be divested. Comment on this statement.
2. Impact of Reinvested Foreign Earnings on NPV . Flagstaff Corp. is a U.S.-based firm with a
subsidiary in Mexico. It plans to reinvest its earnings in Mexican government securities for the
next 10 years since the interest rate earned on these securities is so high. Then, after 10 years, it
will remit all accumulated earnings to the United States. What is a drawback of using this
approach? (Assume the securities have no default or interest rate risk.)





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