Question

Windhoek Mines, Ltd., of Namibia, is contemplating the purchase of equipment to exploit a mineral deposit on land to which the company has mineral rights. An engineering and cost analysis has been made, and it is expected that the following cash flows would be associated with opening and operating a mine in the area:

Cost of new equipment and timbers	$	410,000
Working capital required	$	135,000
Annual net cash receipts	$	150,000	*
Cost to construct new roads in year three	$	47,000
Salvage value of equipment in four years	$	72,000

*Receipts from sales of ore, less out-of-pocket costs for salaries, utilities, insurance, and so forth.

The mineral deposit would be exhausted after four years of mining. At that point, the working capital would be released for reinvestment elsewhere. The company’s required rate of return is 18%.

Click here to view Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using tables.

Required:

a. What is the net present value of the proposed mining project?

b. Should the project be accepted?

Answer 1

a
	Now	1	2	3	4
Cost of new equipment and timbers	-410000
Working capital required	-135000
Annual net cash receipts		150000	150000	150000	150000
Cost to construct new roads in year three				-47000
Recovery of working capital					135000
Salvage value of equipment in four years					72000
Total net cash flows	-545000	150000	150000	103000	357000
PV factor 18%	1	0.847	0.718	0.609	0.516
Present value of net cash flows	-545000	127050	107700	62727	184212
Net present value	-63311
b
No, the project should not be accepted as Net present value is negative