Windhoek Mines, Ltd., of Namibia, is contemplating the purchase of equipment to exploit a mineral deposit on land to which the company has mineral rights. An engineering and cost analysis has been made, and it is expected that the following cash flows would be associated with opening and operating a mine in the area: Cost of new equipment and timbers $ 370,000 Working capital required $ 115,000 Annual net cash receipts $ 130,000 * Cost to construct new roads in year three $ 43,000 Salvage value of equipment in four years $ 68,000 *Receipts from sales of ore, less out-of-pocket costs for salaries, utilities, insurance, and so forth. The mineral deposit would be exhausted after four years of mining. At that point, the working capital would be released for reinvestment elsewhere. The company’s required rate of return is 18%. Click here to view Exhibit 12B-1 and Exhibit 12B-2, to determine the appropriate discount factor(s) using tables. Required: a. What is the net present value of the proposed mining project? b. Should the project be accepted?

Windhoek Mines, Ltd., of Namibia

a. The net present value (NPV) of the proposed mining project is:

= -$117,258

b. No. The project should be rejected.  It has a negative NPV.

Explanation:

a) Data and Calculations:

Cost of new equipment and timbers = $370,000

Working capital required = $115,000

Cost to construct new roads in year three = $43,000

Annual net cash receipts = $130,000

Salvage value of equipment in four years = $68,000

Company's  required rate of return = 18%

Mining duration = 4 years

Annuity factor for 4 years at 18% = 2.1690

Relevant discount factors at 18%:

Year 3 = 0.712

Year 4 = 0.636

Present values of Cash Flows:

Transaction                                             Cash Flows  PV Factor  PV Amount

Cost of new equipment and timbers      $370,000    1.000       -$370,000

Working capital required                             115,000    1.000          -115,000

Cost to construct new roads in year three 43,000    0.712            -30,616

Annual net cash receipts                           130,000    2.169           281,970

Salvage value of equipment in four years 68,000   0.636             43,248

Working capital released                           115,000    0.636             73,140

Net present value                                                                         -$117,258

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