Alpha Coal is an American coal mining and processing company. The company mines, processes, and markets bituminous and sub-bituminous coal with low sulfur content in the United States. Arch Coal is the second largest supplier of coal in the U.S. behind Peabody Energy. Demand comes mainly from generators of electricity.

Alpha Coal operates 32 active mines and controls proven and probable coal reserves, located in Central Appalachia, the Powder River Basin, Illinois basin and the Western Bituminous regions. The company operates mines in Colorado, Illinois, Kentucky, Utah, Virginia, West Virginia and Wyoming, and is headquartered in St. Louis, Missouri. The company sells a substantial amount of its coal to producers of electric power, steel producers and industrial facilities.

The company is considering opening a strip mine in Ohio on 5,000 acres of land purchased 10 years ago. Based on a recent appraisal, the company feels it could receive $6.5 million on an aftertax basis if it sold the land today.

Strip mining is a process where the layers of topsoil above a coal vein are removed and the exposed coal is removed. Some time ago, the company would simply remove the coal and leave the land in an unusable condition. Changes in mining regulations now force a company to reclaim the land; that is, when the mining is completed, the land must be restored to near its original condition. The land can then be used for other purposes. Because it is currently operating at full capacity, Alpha Coal will need to purchase additional necessary equipment, which will cost $100 million. The equipment will be fully depreciated on a four-year schedule with straight-line depreciation. The company feels that the equipment can be sold for 25 percent of its initial purchase price in four years. However, Alpha plans to open another strip mine at that time and will use the equipment at the new mine.

Alpha Mining feels that coal production will be 660,000 tons, 700,000 tons, 770,000 tons, and 650,000 tons, respectively, over the next four years. The market price is $88 per ton. Variable costs amount to $31 per ton, and fixed costs are $4,500,000 per year. The mine will require a net working capital investment of 5 percent of sales. The NWC will be built up in the year prior to the sales.

Alpha faces a 38 percent tax rate and has an 11 percent required return on new strip mine projects. Assume that a loss in any year will result in a tax credit.

1. You have been approached by the president of the company with a request to analyze the project. Calculate the payback period, net present value, and internal rate of return for the new strip mine. Should Alpha Mining take the contract and open the mine?
2. Reestimate part a) assuming that the equipment can be depreciated on a five-year schedule with straight-line depreciation. Everything else stays in the same. You also need to make up a coal production number for year 5 to complete part b).