After discovering a new gold vein in the Colorado mountains, CTC Mining Corporat

Question

After discovering a new gold vein in the Colorado mountains, CTC Mining Corporation must decide whether to go ahead and develop the deposit. The most cost-effective method of mining gold is sulfuric acid extraction, a process that results in environmental damage. Before proceeding with the extraction, CTC must spend $900,000 for new mining equipment and pay $165,000 for its installation. The gold mined will net the firm an estimated $350,000 each year over the 5-year life of the vein. CTC's cost of capital is 14%. For the purposes of this problem, assume that the cash inflows occur at the end of the year.

a. What is the project's NPV? Round your answer to the nearest dollar.

  What is the project's IRR? Round your answer to two decimal places.

b.Should this project be undertaken if environmental impacts were not a consideration? yes or no

c.How should environmental effects be considered when evaluating this, or any other, project?

I. Environmental effects should be treated as sunk costs.
II. Environmental effects could be added by estimating penalties or any other cash outflows that might be imposed on the firm to help return the land to its previous state (if possible).
III. Environmental effects should be ignored since they would have no effect on the project's profitability.

Explanation / Answer

A

Cost of new mining equipment = $900000

Cost of installation = $165,000

total cost = $900000 + $165,000 = $1065000

Annual net cash inflow = $350000

Years = 5

Cost of capital = 14%

NPV = Present value of cash inflows - Present value of investment

       = 350000*(1-1/1.14^5) / .14    - 1065000  

NPV= $136578.34

IRR is the rate at which Present value of cash inflows becomes equal to Present value of investment .

at R = 19%

PV of Cash inflows = 1070172.21

at R = 20%

PV of Cash inflows = 1046714.25

as per the method of interpolation

IRR = 19% + (20% - 19%) * (1070172.21 - 1065000)/(1070172.21 - 1046714.25) = 19.22%

B.

Yes, since NPV is positive

C. How should environmental effects be considered when evaluating this, or any other, project?

II. Environmental effects could be added by estimating penalties or any other cash outflows that might be imposed on the firm to help return the land to its previous state (if possible).

as sunk cost are those cost which are already occurred in the past but cost of environmental change should be added in the cost of project as mentioned in the project.

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