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 $11.95 million. This investment will consist of $2.70 million for land and $9.25 million for trucks and other equipment. The land, all trucks, and all other equipment are expected to be sold at the end of 10 years for a price of $5.15 million, which is $2.30 million above book value. The farm is expected to produce revenue of $2.00 million each year, and annual cash flow from operations equals $1.90 million. The marginal tax rate is 35 percent, and the appropriate discount rate is 9 percent. Calculate the NPV of this investment. (Do not round the discount factor. Round intermediate calculations and final answer to 2 decimal places, e.g. 15.25.)

Explanation / Answer

Initial investment = 11.95 million.

Salvage value = 5.15 million

Capital gain = 2.30

Cash inflow at each year = 1.90 million

Discount rate =9%

NPV formula for annuity = Payment * ( 1 – {1 / (1 + i)n}) / i) or Payment * present value factor

Present value factor for 9% at ten years = 6.4177 Payment = 1900000 million

= 12139630

PV of salvage value = 5150000 - (2300000 *0.35)/(1.09)10 = 4345000/(1.09)10

=4345000/2.36734 = 1835393

12139630 +1835393 = 13975023

Therefore NPV of the Project = 11950000   - 13975023 = -2025023

Therefore the Project will not be accepted because NPV shows negative

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