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 year three	$	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 13B-1 and Exhibit 13B-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

Annual net cash flows		145000
Multiply: Annuity PVf at 18% for 4 years	2.69
Present value of annual cash flows		390050
Present value of WC released (130000*0.5158)	67054
Present value of Salvage			36621.8
Total Present value of cash inflows		493725.8
Less: Outflows
Investment in project			-400000
Investment in WC				-130000
Investment after 3 yrs in construction of roads	-27995.6
	(46000*0.6086)
Net Present value				-64269.8
No, project shall not be accepted