Bethseda Mining Case Study

Bethseda Mining
The details of the project are as follows:
1. The company has a four year contract encompassing 500,000 tons of coal every year at $82 for every ton
2. The production level in the four respective years include: 620,000 tons, 680,000 tons, 730,000 tons and 590,0000 tons
3. Fixed costs amounts to $4.1 million each year
4. The variable costs amount to $31 for every ton
5. Net working capital is 5 percent of the sales. This will be built up in the year before the sales
6. Spot sales of excess coal are $77 for every ton
7. Land: Purchase cost is $4 million. The land is held for ten years, after/tax sale currently $6.5 million
8. $2.7 million is necessitated for reclamation at year 5
9. Donation of land for $6 million deduction
10. Equipment cost of $95 million, 7 year MACRS depreciation
11. Equipment sale is at 60% of purchase price after completion of contract
12. Tax rate is 38 percent
13. Rate of return is 12 percent
Taking into consideration that the net working capital is built up ahead of sales, it implies that the initial cash flow will be reliant party on this particular cash flow. With respect to sales, every year the company will sell 500,000 tons under contract and the rest done on the spot market. Therefore the sales for every year will be as follows:

Year


Year 1
Year 2
Year 3
Year 4

Contract
500,000
500,000
500,000
500,000

Spot
120,000
180,000
230,000
90,000

Total
620,000
680,000
730,000
590,000




Year


Year 1
Year 2
Year 3
Year 4

Contract
43,000,000
43,000,000
43,000,000
43,000,000

Spot
9,240,000
13,860,000
17,710,000
6,930,000

Total
52,240,000
56,860,000
60,710,000
49,930,000



The existing after-tax value of the land is considered to be opportunity cost. The initial expenditure for net working capital is calculated as the percentage necessary net working capital multiplied by the sales of the year.
Initial net working capital = 0.05 × ($52,240,000) = $2,612,000
Therefore, the cash flow in the present day is calculated as follows:


$

Equipment

95,000,000

Land

4,000,000

Net Working Capital

2,612,000

Total

101,612,000






Variable costs are calculated as follows:
Year
1
2
3
4

Tons
620,000
680,000
730,000
590,000

Variable Cost per Unit
33
33
33
33

Total Variable Costs
20460000
22440000
24090000
19470000



Taking this into consideration, it is possible to calculate the operating cash flow:

Year


1
2
3
4

Annual Revenue
$52,240,000
$56,860,000
$60,710,000
$49,930,000

Less: Variable Costs
$20,460,000
$22,440,000
$24,090,000
$17,470,000

Less: Fixed Costs
$4,100,000
$4,100,000
$4,100,000
$4,100,000

Less: Depreciation
$13,575,500
$23,265,500
$16,615,500
$11,865,500

EBIT
$14,104,500
$7,054,500
$15,904,500
$16,494,500

Tax @ 38%
$5,359,710
$2,680,710
$6,043,710
$6,267,910

Net Income
$8,744,790
$4,373,790
$9,860,790
$10,226,590

Add: Depreciation
$13,575,500
$23,265,500
$16,615,500
$11,865,500

OCF
$22,320,290
$27,639,290
$26,476,290
$22,092,090



The net present value of the project is positive and therefore the project should be accepted.
The payback period is calculated as follows:
= 3 + (18,564,130 / 22,092,090)
= 3.84 years


Profitability index = = 1.005
The equation for IRR is:


The IRR is 15.6 percent
Taking into account the calculations undertaken above, the project should be undertaken since it has a positive Net Present Value, an IRR that is higher than the required rate of return, a payback period that is less than 4 years, and finally a Profitability Index that is higher than 1.