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	$	400,000
Working capital required	$	130,000
Annual net cash receipts	$	145,000*
Cost to construct new roads in three years	$	46,000
Salvage value of equipment in four years	$	71,000

*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 11B-1 and Exhibit 11B-2, to determine the appropriate discount factor(s) using tables.

    

Required:
a.	Determine the net present value of the proposed mining project. (Any cash outflows should be indicated by a minus sign. Use the appropriate table to determine the discount factor(s).)

	Now	1	2	3	4
Purchase of equipment
Working capital investment
Annual net cash receipts
Road construction
Working capital released
Salvage value of equipment
Total cash flows
Discount factor (18%)
Present value
Net present value

Answer 1

a) Calculation of Net Present Value (Amounts in $)

Particulars	Now	1	2	3	4
Purchase of equipment	-400,000
Working capital investment	-130,000
Annual net cash receipts		145,000	145,000	145,000	145,000
Road Construction				-46,000
Working capital released					130,000
Salvage value of equipment					71,000
Total cash flows (A)	-530,000	145,000	145,000	99,000	346,000
Discount factor (18%) (B)	1	0.84746	0.71818	0.60863	0.51579
Present Value (A*B)	-530,000	122,882	104,136	60,254	178,463
Net present value	-64,265

Therefore, the net present value of the proposed mining project is negative (i.e. -64,265).