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	$	380,000
Working capital required	$	120,000
Annual net cash receipts	$	135,000*
Cost to construct new roads in three years	$	44,000
Salvage value of equipment in four years	$	69,000

*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).)

Answer 1

1. Net present value

	Cash Flow	Present Value Factor (18%)	Present Value
Annual net cash receipts	$135,000	2.69006	$363,158
New equipment (1st year)	($380,000)	1.0000	($380,000)
Working Capital	($120,000)	1.0000	($120,000)
New Road (3rd year)	($44,000)	0.60863	($26,780)
Salvage Value (4th year)	$69,000	0.51579	$35,590
Add: Working Capital (4th Year)	$120,000	0.51579	$61,895
Net Present Value			($66,137)

Net present value = - $66,137 (Negative )

Since the Net Present Value is negative, “ The project should not be accepted “