Problem 10.20 Archer Daniels Midland Company is considering buying a new farm th

Question

Problem 10.20 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 $12.2 million. This investment will consist of $2.1 million for land and $10.10 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 $5.2 million, which is $2.1 million above book value. The farm is expected to produce revenue of $2.04 million each year, and annual cash flow from operations equals $1.94 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 to 4 decimal palces, e.g. 0.5275 and final answer to 2 decimal places, e.g. 15.25.) NPV The project should be, Click if you would lil rejected ork for this question: Open Show Work

Explanation / Answer

Archer Daniels Cash flow of investment in year 0 is: $(12,200,000) 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 Annual cashflow from operations = $ 1940000 Present value for cashflow = $ 1940000 x 6.144567 = $ 11920460.18 PV of salvage value and tax on capital gain in year 10 is: (5,200,000-[2,100,000*0.35]) = 4465000 x 0.385543 = 1721450.78 Therefore, NPV of the farm = $(12,200,000) + $11,920,460.18 +1,721,450.78 = $1,441,911

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