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	$	370,000
Working capital required	$	115,000
Annual net cash receipts	$	130,000	*
Cost to construct new roads in year three	$	43,000
Salvage value of equipment in four years	$	68,000

*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

Annual operating cash flows		1,30,000
Multiply: Annuity PVF at 18% for 4 yrs	2.69006
Present value of annual OCF			3,49,708
Salvage value			68000
Multiply PVF of 4th yr at 18%		0.51579
Present value of salvage			35073.72
Working capital released		115000
Multiply: PVF of 4th yr at 18%		0.51579
Present value of working capitla released		59315.85
Total present value of inflows				444097.4
less: Present value of outflows
Initial investment in project			-370000
Initial investment in working capital		-115000
Cost of construction of roads		-43000
Multiply: PVF at 18% for 3rd year	0.60863
Present value of construction of roads		-26171.1
Total present value of outflows				-511171
Net present value					-67073.6
NO, the project shall not undertaken