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Category > Business & Finance Posted 03 Jun 2017 My Price 8.00

Present-Worth Comparison: A Case where the Analysis Period Coincides

Present-Worth Comparison: A Case where the Analysis Period Coincides with the Project with the Longest Life in the Mutually Exclusive Group

The family-operated Foothills Ranching Company (FRC) owns the mineral rights to land used for growing grain and grazing cattle. Recently, oil was discovered on this property. The family has decided to extract the oil, sell the land, and retire. The company can lease the necessary equipment and extract and sell the oil itself, or it can lease the land to an oil-drilling company:

• Drill option. If the company chooses to drill, it will require $300,000 leasing expenses up front, but the net annual cash flow after taxes from drilling operations will be $600,000 at the end of each year for the next five years. The company can sell the land for a net cash flow of $1,000,000 in five years, when the oil is depleted.

• Lease option. If the company chooses to lease, the drilling company can extract all the oil in only three years, and FRC can sell the land for a net cash flow of $800,000 at that time. (The difference in resale value of the land is due to the increasing rate of land appreciation anticipated for this property.) The net cash flow from the lease payments to FRC will be $630,000 at the beginning of each of the next three years. All benefits and costs associated with the two alternatives have been accounted for in the figures listed. Which option should the firm select at i = 15%?

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Status NEW Posted 03 Jun 2017 12:06 PM My Price 8.00

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