Archer Daniels Midland Company is considering buying a new farm that it plans to

Question

Archer Daniels Midland Company is considering buying a new farm that it plans to operate for 10 years. The farm will require an initial investment of $11.80 million. This investment will consist of $3.00 million for land and $8.80 million for trucks and other equipment. The land, all trucks, and all other equipment is expected to be sold at the end of 10 years at a price of $5.11 million, $2.47 million above book value. The farm is expected to produce revenue of $2.06 million each year, and annual cash flow from operations equals $1.88 million. The marginal tax rate is 35 percent, and the appropriate discount rate is 9 percent. Calculate the NPV of this investment.

Explanation / Answer

CFo = -11,800,000

annual tax expenses = [2,060,000-{11,800,000-(5,110,000-2,470,000)}/10 ]*35% = $400,400

annual cash flow for 10 years = 1,880,000 - 400,400 = 1,479,600

Post tax salage value = 5,110,000 - 2,470,000* 0.35 = 4,245,500

NPV = 1,479,600PVIFA(9%,10) + 4,245,500PVIF(9%,10) - 11,800,000

= -$511,088.58

Since NPV is negative the project is not viable

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