A task force of capital budgeting analysts at Morrison Limited collected the following data concerning the drilling and production of known petroleum reserves at an offshore location: Table 6-4. Note: Use appropriate factor(s) from the table provided. Investment in rigging equipment and related personnel costs required to pump the oil Net increase in inventory and receivables associated with the drilling and production of the reserves. Assume this investment will be recovered at the end of the project Net cash inflow from operations for the expected life of the reserves, by year: 2022 2023 2024 Salvage value of machinery and equipment at the end of the well's productive life Cost of capital $4,900,000 960,000 1,600,000 2,880,000 1,360,000 800,000 12% Required: a. Calculate the net present value of the proposed investment in the drilling and production operation. Assume that the investment will be made at the beginning of 2022, and the net cash inflows from operations will be received in a lump sum at the end of each year (Ignore income taxes). b. What will the internal rate of return on this investment be relative to the cost of capital? c. Differences between estimates made by the task force and actual results would have an effect on the actual rate of return on the project. For each estimate, state the effect on the actual ROI if the estimate turns out to be less than the actual amount finally achieved.
A task force of capital budgeting analysts at Morrison Limited collected the following data concerning the drilling and production of known petroleum reserves at an offshore location: Table 6-4. Note: Use appropriate factor(s) from the table provided. Investment in rigging equipment and related personnel costs required to pump the oil Net increase in inventory and receivables associated with the drilling and production of the reserves. Assume this investment will be recovered at the end of the project Net cash inflow from operations for the expected life of the reserves, by year: 2022 2023 2024 Salvage value of machinery and equipment at the end of the well's productive life Cost of capital $4,900,000 960,000 1,600,000 2,880,000 1,360,000 800,000 12% Required: a. Calculate the net present value of the proposed investment in the drilling and production operation. Assume that the investment will be made at the beginning of 2022, and the net cash inflows from operations will be received in a lump sum at the end of each year (Ignore income taxes). b. What will the internal rate of return on this investment be relative to the cost of capital? c. Differences between estimates made by the task force and actual results would have an effect on the actual rate of return on the project. For each estimate, state the effect on the actual ROI if the estimate turns out to be less than the actual amount finally achieved.
Chapter1: Financial Statements And Business Decisions
Section: Chapter Questions
Problem 1Q
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A-1
Transcribed Image Text:A task force of capital budgeting analysts at Morrison Limited collected the following data concerning the drilling and production of
known petroleum reserves at an offshore location: Table 6-4.
Note: Use appropriate factor(s) from the table provided.
Investment in rigging equipment and related personnel costs required to pump the oil
Net increase in inventory and receivables associated with the drilling and production of the
reserves. Assume this investment will be recovered at the end of the project
Net cash inflow from operations for the expected life of the reserves, by year:
2022
2023
2024
Salvage value of machinery and equipment at the end of the well's productive life
Cost of capital
$4,900,000
960,000
1,600,000
2,880,000
1,360,000
800,000
12%
Required:
a. Calculate the net present value of the proposed investment in the drilling and production operation. Assume that the investment will
be made at the beginning of 2022, and the net cash inflows from operations will be received in a lump sum at the end of each year
(Ignore income taxes).
b. What will the internal rate of return on this investment be relative to the cost of capital?
c. Differences between estimates made by the task force and actual results would have an effect on the actual rate of return on the
project. For each estimate, state the effect on the actual ROI if the estimate turns out to be less than the actual amount finally
achieved.
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