Hilly Mines, Inc., owns the mining rights to a large tract of land in a mountain

Question

Hilly Mines, Inc., owns the mining rights to a large tract of land in a mountainous area. The tract contains a mineral deposit that the company believes might be commercially attractive to mine and sell. 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:

     

The mineral deposit would be exhausted after eleven years of mining. At that point, the working capital would be released for reinvestment elsewhere. The company’s required rate of return is 19%. (Ignore income taxes.)

   

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

   

Determine the net present value of the proposed mining project. (Negative amount should be indicated by a minus sign. Use the appropriate table to determine the discount factor(s), other intermediate calculations and final answer to the nearest whole dollar.)

  Cost of equipment required $ 800,000      Annual net cash receipts $ 305,000*   Working capital required $ 225,000      Cost of road repairs in ten years $ 66,000      Salvage value of equipment in eleven years $ 200,000   

Explanation / Answer

Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 Year 10 Year 11 Cost of equipment       (800,000) Working capital Invstment       (225,000)          225,000 Salvage          200,000 Annual net cash receipts     305,000       305,000       305,000       305,000       305,000       305,000    305,000        305,000 305,000       305,000          305,000 Cost of road repair       (66,000) Net Cash Flow (1,025,000)     305,000       305,000       305,000       305,000       305,000       305,000    305,000        305,000 305,000       239,000          730,000 Discount factor @19%                      1          0.840            0.706            0.593            0.499            0.419            0.352         0.296            0.249        0.209            0.176              0.148 PV of Cash Flows (1,025,000)     256,303       215,380       180,992       152,094       127,810       107,403      90,255          75,845     63,735          41,969          107,722 NPV         394,508 Based on positive NPV, the project can be accepted.

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