Question

Net Present Value—Unequal Lives

Bunker Hill Mining Company has two competing proposals: a processing mill and an electric shovel. Both pieces of equipment have an initial investment of $764,101. The net cash flows estimated for the two proposals are as follows:

	Net Cash Flow
Year	Processing Mill		Electric Shovel
1	$233,000		$291,000
2	207,000		270,000
3	207,000		249,000
4	165,000		256,000
5	126,000
6	105,000
7	91,000
8	91,000

The estimated residual value of the processing mill at the end of Year 4 is $290,000.

Present Value of $1 at Compound Interest
Year	6%	10%	12%	15%	20%
1	0.943	0.909	0.893	0.870	0.833
2	0.890	0.826	0.797	0.756	0.694
3	0.840	0.751	0.712	0.658	0.579
4	0.792	0.683	0.636	0.572	0.482
5	0.747	0.621	0.567	0.497	0.402
6	0.705	0.564	0.507	0.432	0.335
7	0.665	0.513	0.452	0.376	0.279
8	0.627	0.467	0.404	0.327	0.233
9	0.592	0.424	0.361	0.284	0.194
10	0.558	0.386	0.322	0.247	0.162

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.

	Processing Mill	Electric Shovel
Present value of net cash flow total	$	$
Less amount to be invested
Net present value	$	$

Which project should be favored?

Answer 1

Solution

	Processing Mill	Electric Shoves
Present value of net cash flow total	$   849,001	$   849,386
Less amount to be invested	$   764,101	$   764,101
Net present value	$     84,900	$      85,285

Electric shoves is favorable

Working

Processing Mill
Year	Cash flows	PV factor @ 10%	Present value
1	$        233,000	0.909	$            211,797
2	$        207,000	0.826	$            170,982
3	$        207,000	0.751	$            155,457
4	$        165,000	0.683	$            112,695
4 Residual value	$        290,000	0.683	$            198,070
Present value of cash flows			$            849,001
Initial Investment			$            764,101
Net present value			$               84,900

.

Electric Shoves
Year	Cash flows	PV factor @ 10%	Present value
1	$        291,000	0.909	$            264,519
2	$        270,000	0.826	$            223,020
3	$        249,000	0.751	$            186,999
4	$        256,000	0.683	$            174,848
Present value of cash flows			$            849,386
Initial Investment			$            764,101
Net present value			$               85,285