1. Net Present Value The USEPA is considering a requirement that 5 municipal sewage treatment plants in a large metropolitan area purchase and install a new pollution control technology. The purchase and installation of the devices will cost $750,000,000. Additionally, annual maintenance costs will be $2,500,000 which are incurred starting the second year of operation. Assume these costs grow at 2% annually. Fifteen years from beginning operations, the technology will require an upgrade that amounts to $25,000,000. During this year, the abatement technology will not be operational. In the first year that the program is operational, USEPA estimates that these devices will result in a reduction in premature mortality risk of 1/100,000 through drinking water exposure. The affected cities estimate that 600,000 people are potential users of the drinking water. From now (2019) until 2029, the population will grow at 1%, annually. Because of water quality improvement, from 2029 to 2039, the population is expected grow at 3%, and after 2039 at 5%, all annually. The technology has an effective lifetime of 30 years once operational. Assume that the VSL is $7.4 million. a. Compute the net present value of the project with r = 0.05. b. Please produce a graph of benefits and costs in present value terms over the lifetime of the project. c. Solve for the value of (r) that results in NPV equal to zero. Note that this is equivalent to finding the Internal Rate of Return (IRR) for the project. d. Would you recommend that the USEPA undertake the project? e. If you had to argue for an alternative discount rate to evaluate this project, what would it be? Why would you choose that rate? (Please use or cite empirical evidence for your answer.) 1. Net Present Value The USEPA is considering a requirement that 5 municipal sewage treatment plants in a large metropolitan area purchase and install a new pollution control technology. The purchase and installation of the devices will cost $750,000,000. Additionally, annual maintenance costs will be $2,500,000 which are incurred starting the second year of operation. Assume these costs grow at 2% annually. Fifteen years from beginning operations, the technology will require an upgrade that amounts to $25,000,000. During this year, the abatement technology will not be operational. In the first year that the program is operational, USEPA estimates that these devices will result in a reduction in premature mortality risk of 1/100,000 through drinking water exposure. The affected cities estimate that 600,000 people are potential users of the drinking water. From now (2019) until 2029, the population will grow at 1%, annually. Because of water quality improvement, from 2029 to 2039, the population is expected grow at 3%, and after 2039 at 5%, all annually. The technology has an effective lifetime of 30 years once operational. Assume that the VSL is $7.4 million. a. Compute the net present value of the project with r = 0.05. b. Please produce a graph of benefits and costs in present value terms over the lifetime of the project. c. Solve for the value of (r) that results in NPV equal to zero. Note that this is equivalent to finding the Internal Rate of Return (IRR) for the project. d. Would you recommend that the USEPA undertake the project? e. If you had to argue for an alternative discount rate to evaluate this project, what would it be? Why would you choose that rate? (Please use or cite empirical evidence for your answer.)
