Question

Answer the following using excel.

1. Barrick is comparing two gold mines.

Mine A: The mine is expected to make $3.5 billion in year 1, $4.5 billion in year 2, and $5.5 billion in years 3-6 and $4.25 billion in years 7-10. At the end of year 10, Barrick will need to spend $202 million on environmental clean-up costs and expects the residual value to be $200 billion.

Mine B: The mine is currently in operation and produces $4.1 billion per year. At the end of 10 years the residual value would be $200 billion and no environmental clean-up costs would be necessary.

Which mine should Barrick buy for $142 billion. (To simplify things, assume Net Income is earned one time per year at the end of the year.) The appropriate discount rate is 6.22% compounded quarterly.

Answer 1

EAR = [(1 +stated rate/no. of compounding periods) ^no. of compounding periods - 1]* 100

Effective Annual Rate = ((1+6.22/4*100)^4-1)*100

Effective Annual Rate% = 6.37

Mine A
Discount rate	6.370%
Year	0	1	2	3	4	5	6	7	8	9	10
Cash flow stream	-142	3.5	4.5	5.5	5.5	5.5	5.5	4.25	4.25	4.25	204.048
Discounting factor	1.000	1.064	1.131	1.204	1.280	1.362	1.448	1.541	1.639	1.743	1.854
Discounted cash flows project	-142.000	3.290	3.977	4.570	4.296	4.039	3.797	2.758	2.593	2.438	110.038
NPV = Sum of discounted cash flows
NPV Mine A =	-0.20 Bn
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

Mine B
Discount rate	6.370%
Year	0	1	2	3	4	5	6	7	8	9	10
Cash flow stream	-142	4.1	4.1	4.1	4.1	4.1	4.1	4.1	4.1	4.1	204.1
Discounting factor	1.000	1.064	1.131	1.204	1.280	1.362	1.448	1.541	1.639	1.743	1.854
Discounted cash flows project	-142.000	3.854	3.624	3.407	3.203	3.011	2.831	2.661	2.502	2.352	110.066
NPV = Sum of discounted cash flows
NPV Mine B =	-4.49 Bn
Where
Discounting factor =	(1 + discount rate)^(Corresponding period in years)
Discounted Cashflow=	Cash flow stream/discounting factor

Donot buy either mine as both have NPV less than 0