A mining company is considering a new project. Because the mine has received a p

Question

A mining company is considering a new project. Because the mine has received a permit, the project would be legal; but it would cause significant harm to a nearby river. The firm could spend an additional $10.66 million at Year 0 to mitigate the environmental Problem, but it would not be required to do so. Developing the mine (without mitigation) would cost $66 million, and the expected net cash inflows would be $22 million per year for 5 years. If the firm does invest in mitigation, the annual inflows would be $23 million. The risk adjusted WACC is 12%.

Calculate the NPV and IRR with mitigation.

Explanation / Answer

NPV and IRR with mitigation:

NPV

Present value of an annuity of one dollar at 12% for 5 years is 3.605

Therefore, present value of an annuity of $ 23 million is 23 x 3.605 = $82.915 million

Present value of cash outflows is $ (10.66+66) million = 76.66 million

Hence net present value of the project is $(82.915 - 76.66) =$ 6.252 million

IRR

Fake payback value is calculated as Initial cash outlays/ Average cash inflows.

Therefore, fake payback value is 76.66/23 = 3.333

The PV factor closest to 3.333 against 5 years is between 15% and 16%

Therefore, IRR is 15.24% approx

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