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 $760,000. The net cash flows estimated for the two proposals are as follows:

Net Cash Flow

Year Processing Mill Electric Shovel

1. $303,000 $340,000

2. 261,000 310,000

3. 261,000 320,000

4. 277,000 314,000

5. 179,000

6. 135,000

7. 123,000

8. 123,000

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

This information has been collected in the Microsoft Excel Online file. Open the spreadsheet, perform the required analysis, and input your answers in the questions below.

Open spreadsheet

a) Determine which equipment should be favored, comparing the net present values of the two proposals and assuming a minimum rate of return of 12%. If required, round to the nearest dollar.

Processing Mill Electric Shovel

Net present value $_______ $_______.

b) Which project should be favored? ______

Answer 1

We have prepared a statement comparing NPV of both processing mill and electric shovel

Net present value is calculated by deducting present value of cash outflows from present value of cash inflows

and PV factor is taken at 12 % interest rate

a) Net present value in case of processing mill is $264,718 while for Electric shovel is $218,024

Both projects have a positive Net present value

but,

it's clear that processing mill have higher Net present value than Electric Shovel

b) Processing Mill should be favored