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 $12.00 million. This investment will consist of $2.40 million for land and $9.60 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 $5.08 million, $2.15 million above book value. The farm is expected to produce revenue of $2.03 million each year, and annual cash flow from operations equals $1.89 million. The marginal tax rate is 35 percent, and the appropriate discount rate is 10 percent. Calculate the NPV of this investment. (Round intermediate calculations and final answer to 2 decimal places, e.g. 15.25.)

NPV $: ______________

Explanation / Answer

Cash of flow investment in year 0 is: $(12,000,000) 10 PV of annual operating cash flow from operations is found using the present value factor for an annuity:

Payment * ( 1 {1 / (1 + i)n}) / i), n = 10, i = 0.1 $1,800,000 * ( 1 {1 / (1.1)10}) / 0.1) = $11,060,220.79

PV of salvage value and tax on capital gain in year 10 is: (5,000,000-[2,000,000*0.35]) / (1.1)10 = 1,657,836.14

Therefore, NPV of the farm = $(12,000,000) + $11,060,220.79 +1,657,836.14 = $718,056.

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