Problem
Pür Copper Corp. is considering the renovation of the haul road at one of its open pits at its Nigerian mine. Last year, Pür paid $80,000 to an engineering consultant who recommended a new type of road surface that would reduce the pit's operating cost significantly.
The new road surface requires an initial investment of $575,000. The maintenance cost of the road is estimated to be $325,000 per year. When the pit closes, 10 years from today, the site will have to be remediated and the removal cost of the haul road is estimated to be $150,000.
This new road will result in lower annual maintenance and operating costs for the hauling trucks. The consultant estimated the maintenance costs will be decreased by 22.5% and fuel consumption will be reduced by 15% per year.
Exhibit 1: Estimated Cost Savings (before tax)
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Current Costs (per year)
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Estimated Savings
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Total Cost Savings ($)
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Maintenance
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$900,000
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22.5%
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Fuel
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$1,650,000
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15%
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Total Cost Savings per year
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The construction of the new road will lead to an immediate increase of $36,000 in raw material inventories.
Given a CCA rate = 8%; a tax rate = 30% (assume no implications at the end of the project's life); and a risk adjusted discount rate = 14%, should Pür Copper Corp. undertake this project?
I. Calculate the project's Net Present Value (NPV) by components and using the Sample Proforma Assignment 4 spreadsheet. Show your work in the spaces provided hereafter. Round your final results to the next dollar.
Should Pür undertake this Project? Yes or No? Why?
Recommendation:
NPV = - CF0 + (PV of Operating Cash Flows) + (PV of CCA Tax Shield) + PV (ECFn)
Calculate -CF0 = (C0 + ?NWC0 + OC) Show your calculations
Calculate PV of Operating Cash Flows Show your calculations
Calculate PV of CCA Tax Shield Show your calculations
Calculate PV of ECFn = (SVn + ?NWCn) (assume no tax implications) Show your Calculations
II. Complete Question 6 by creating an After-Tax Cash Flow Proforma (not by components) spreadsheet and include a copy below. Calculate the project's NPV and IRR using your spreadsheet.
After Tax Cash Flow Pro Forma Format
Operating Cash Flows
i. CCA
= Taxable Income
ii. Taxes Payable
= After Tax Income
+ CCA
= After Tax Cash Flow (Net Cash Flow)
Include a copy of your Pro Forma here:
III. Instead of the incremental Income and Operating Costs being constant throughout the life of the project, assume that income will increase by 2% and the maintenance costs will decrease by 1% per year. Re-calculate the project's NPV and IRR using your spreadsheet and include a copy below. Should the project be accepted or rejected? Comment on your findings.