Smyrna 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 year three | $ | 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 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using tables.
Required:
1. What is the net present value of the proposed mining project?
__________
Answer- 1)-The net present value of the proposed mining project is =$(66122).
Explanation-
| Smyrna Mines Ltd. | |||
| Net Present Value | |||
| Particulars | Cash Flows | Present Value Factor @18% | Present value |
| (a) | (b) | (c=a*b) | |
| Net cash flow per year (For 4 years) | 135000 | 2.690 | 363150 |
| Cost of new Equipment & timbers (1st Year) | -380000 | 1 | -380000 |
| Working Capital | -120000 | 1 | -120000 |
| Cost to construct new road (in 3 years) | -44000 | 0.609 | -26796 |
| Salvage value (4th year) | 69000 | 0.516 | 35604 |
| ADD:- Working capital | 120000 | 0.516 | 61920 |
| Net Present Value | -66122 |
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