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ACCA Strategic Professional · Advanced Financial Management · International investment and financing decisions

When a multinational uses APV for an overseas project, which treatment of a subsidised loan from the host government is correct?

The benefit of a subsidised loan is added as a separate financing side-effect: the present value of the after-tax interest saving compared with a market-rate loan, discounted at the market borrowing rate. It should not alter the base-case discount rate.

  1. AInclude the PV of the interest saving, after tax effects, discounted at the pre-tax cost of borrowing, as a financing side-effectCorrect
  2. BReduce the ungeared cost of equity by the amount of the subsidy
  3. CIgnore the subsidy because it is a financing item
  4. DDeduct the subsidy from the base-case cash flows and discount at WACC

Explanation

A subsidised loan is a financing side-effect. Its benefit is the difference between the market interest rate and the subsidised rate, after tax, discounted at the market (pre-tax) cost of debt. It is added to the base-case NPV rather than altering the discount rate.

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