Net Present Value—Unequal Lives Gold Creek Mining Company has two competing prop
ID: 2589623 • Letter: N
Question
Net Present Value—Unequal Lives
Gold Creek Mining Company has two competing proposals: a processing mill and an electric shovel. Both pieces of equipment have an initial investment of $617,414. The net cash flows estimated for the two proposals are as follows:
The estimated residual value of the processing mill at the end of Year 4 is $240,000.
Determine which equipment should be favored, comparing the net present values of the two proposals and assuming a minimum rate of return of 10%. Use the present value table appearing above.
Which project should be favored?
Processing Mill
Electric Shovel
Processing Mill
Neither because they are equal
Net Cash Flow Year Processing Mill Electric Shovel 1 $188,000 $235,000 2 167,000 218,000 3 167,000 201,000 4 133,000 207,000 5 102,000 6 85,000 7 73,000 8 73,000Explanation / Answer
For mutually exclusive projects we calculate Net present value for both of the projects and select project with the highest Net Present Value.
Net present value = Present Value of the cash inflow - Present value of the Cash outflow
1.Processing mill :-
Present value of cash inflow = Present value factor for Y-1 * cash flow for the year 1 + Present value factor for Y-2 * cash flow for the year 2 + ......... + present value factor for year n * cash flow for the year n
=188000*.909 + 167000*.826 + 167000*.751 +133000*.683 +102000*.621 +85000*.564 +73000*.513 +73000*.467
=707912($)
Net present value = 707912 - 617414
= 90498 ($)
2.Electric Shovel
Present value of cash inflow =235000*.909 +218000*.826+201000*.751+207000*.683
= 686015 ($)
Net present value = 686015 - 617414
= 68601($)
Therefor as per Net present value processing mill should be selected.