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 $12.10 million. This investment will consist of $2.50 million for land and $9.60 milion for trucks and other equipment. The land, all trucks, and other equipment is expected to be sold at the end of 10 years at a price of $5.21 million, $2.09 million above book value. The farm is expected to produce revenue of $2.05 million each year, and annual cash flow from operations equals $1.87 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 and final answer to 2 decimal places, e.g. 15.25)

Explanation / Answer

If the annual cash flow from operations includes taxes...
"CF" = cash flow
CF0 = (12.10m)
CFs 1 - 9 = 1.84m
CF10 = 1.84m + sale proceeds 5.21m - tax on gain over book (2.05m * 0.35 = 710,500)
= 6,189,500

PV of CFs 1 - 9, use Present Value ordinary annuity
PVoa = PMT [(1 - (1 / (1 + i)^n)) / i]
= 1.84m[(1 - (1 / 1.1^9)) / 0.10]
= $11,031,254.28

PV of CF#10 = 6,189,500/1.1^10 = $2,614,511.69

NPV = (12,100,000) + 11,031,254.28 + 2,614,511.69 = $1,545,765.97
[or 1,545,765.98 depending on how/when you round]

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