Reference no: EM13893313
The investment question is? Should a farmer invest in and operate a 50,000 bushel grain drying and storage facility? The cost of the facility is $85,000. The economic life is about ten years. The salvage value is expected to be about $13,000. In a partial budgeting framework, one must compare the added cost per year, to the savings of eliminating the elevator charges each year.The elevator charge for drying and storage has averaged $0.55 per bushel the past few years, so the first year savings is expected to be $27,500. The farmer expects that the total elevator charge will go up about $100/yr. The operating costs of the new facility are expected to be $0.30/bu, and the repairs, insurance and taxes are expected to be an additional $800.00 a year. As the facility gets older the repair costs are expected to increase yearly as can be seen in the cost numbers below. While I have given you the costs and savings by year below, you should figure out how they were derived from the above numbers. The real interest rate is assumed to be 2%, inflation is expected to be 2% annually, and the risk factor is expected to be 3%.
SavingsCosts
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Year 1
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27500
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15800
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Year 2
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27600
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15850
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Year 3
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27700
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15900
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Year 4
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27800
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15950
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Year 5
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27900
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16000
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Year 6
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28000
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16050
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Year 7
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28100
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16100
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Year 8
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28200
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16150
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Year 9
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28300
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16200
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Year 10
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28400
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16250
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1. Explain how the Year 1 and 2 savings and costs were calculated.
2. Using the Homework 9 NPV Spreadsheet on Angel right under Homework 9, go to Sheet 5 at bottom left, print off andcomplete 0-2 years by hand and turn in with HW.
3 Than using the Homework 9 NPV Spreadsheet (Sheet 4 at bottom left), do the necessary calculations to determine if the farmer should make the investment. Print off and turn in.
4 Explain why the farmer should or should not invest in the facility.
5 Would the answer change if the real interest rate is assumed to be 4%, inflation is expected to be 2% annually, and the risk factor is expected to be 3%. Why? Do a second spreadsheet.
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