Case Study

An investor named Shadab Khan is in search for the business opportunity in Afghanistan. After detail study and analysis, he found that massive copper reserves are available in Logar province. China is being interested in extraction copper and made one the biggest foreign direct investment in history of Afghanistan. Finally, he decided of make an investment in extraction of copper by having his own mining where he will extract copper.

His company has collected the following information about the cash inflows and outflows associated with this project:

• Equipment needed for new mine: $1,000,000
• Working capital required for new mine: $230,000
• Expected annual cash inflow from the sale of coal: $850,000

• Expected annual cash expenses associated with the new mine: $500,000
• Road repairs required after 5 years: $110,000
• Upgrading mine based on mining standard of the country: 55,000
• the coal in the mine would be exhausted after 15 years. The equipment would be sold for its salvage value of $250,000 at the end of 15-year period. The company uses straight line method of depreciation and does not take into account the salvage value for computing depreciation for tax purpose. The tax rate of the company is 30%.

Required:

1. Compute net present value (NPV) of the new coal mine assuming a 15% after-tax cost of capital.
2. On the basis of your computations in requirement 1, conclude whether the coal mine should be opened or not.
3. Discuss why net present value method is one of the most effective capital budgeting technique for the acceptance and rejection of the projects throughout globe