Your Task: Calculate the NPV of the investment at REAL discount rates of 4% and 8%.
'Exxon' and a marine equipment firm, 'Marine Conglomerated', have merged to form a new marine exploration and mineral extraction company, known as 'Exxonerated'. Exxonerated is exploring for sulfide mineral deposits along a mid-ocean ridge in the South Pacific Ocean. Mid-ocean ridges are known for their accumulation of mineral deposits, brought there by hot hydrothermal waters, which then precipitated out when the hot waters came into contact with the cold, oxygen-poor waters of the ocean floor. Exxonerated is expecting to have to invest a healthy sum of money just into the exploration part of the venture. Deep-sea exploration is costly and hazardous, so there will be high initial capital costs.
Once a suitable site is located, extraction of the mineral will commence, with transportation to the surface and thence to a shore processing and distribution facility.
It is estimated that two years of exploration will be needed before a sufficiently rich site is located. You can consider the first year as period zero, and the second year as period 1. Hence, the second year exploration cost must be discounted 1 period. It takes one year to construct the mine. That occurs in year 3, (which is period 2, again assuming the project horizon is starts at period 0.) Mining will commence in the 4th year (period 3), and continue for 30 years. That is, mining operations go from year 4 (period 3) until the end of year 33 (period 32). The mine will be exhausted after this interval, and operations will stop. The remaining mining equipment will have no salvage value.
NOTE THAT ALL VALUES ARE IN NOMINAL TERMS, AND EXPECTED RATE OF INFLATION OVER THE ENTIRE PROJECT HORIZON IS 3.5%.
Value of minerals extracted: 100 million per year beginning at the end of year 4 (period 3)
Cost of Exploration: 75 million per year in year 1 and 2 (period 0 and 1). This includes all exploration costs, labor, equipment, etc.).
Capital Cost: 400 million initial investment --incurred at the end of year 3 (period 2).
Maintenance Costs: Beginning at the end of year 4 (period 3), 500,000 per year.
Mining Labor Costs: Beginning at the end of year 4 (period 3), 3 million per year.
Energy Costs: Beginning at the end of year 4 (period 3), 6 million per year.
Transportation and Processing Costs: Beginning at the end of year 4 (period 3). 4.5 million per year.