Fin526 Problems In Financial Management Bethesda Mining Company Case Study (2015)

Bethesda Mining Company Case Study OverviewBethesda Mining is a midsized coal mining company with 20 mines located in Ohio, Pennsylvania,West Virginia, and Kentucky. The company operates deep mines as well as strip mines. Most of thecoal mined is sold under contract, with excess production sold on the spot market. The coal mining industry, especially high-sulfur coal operations such as Bethesda, has been hard-hitby environmental regulations. Recently, however, a combination of increased demand for coal andnew pollution reduction technologies has led to an improved market demand for high-sulfur coal. Bethesda has just been approached by Mid-Ohio Electric Company with a request to supply coal forits electric generators for the next four years. Bethesda Mining does not have enough excess capacityat its existing mines to guarantee the contract. The company is considering opening a strip mine inOhio on 5,000 acres of land purchased 10 years ago for $6 million. Based on a recent appraisal, thecompany feels it could receive $7 million on an after-tax basis if it sold the land today. Strip mining is a process where the layers of topsoil above a coal vein are removed and the exposedcoal is removed. Some time ago, the company would simply remove the coal and leave the land inan unusable condition. Changes in mining regulations now force a company to reclaim the land, thatis, when the mining is completed, the land must be restored to near its original condition. The landcan then be used for other purposes. Because it is currently operating at full capacity, Bethesda willneed to purchase additional necessary equipment, which will cost $85 million. The equipment will bedepreciated on a seven-year MACRS schedule. The contract runs for only four years. At that time thecoal from the site will be entirely mined. The company feels that the equipment can be sold for60 percent of its initial purchase price in four years. However, Bethesda plans to open another stripmine at that time and will use the equipment at the new mine. The contract calls for the delivery of 500,000 tons of coal per year at a price of $95 per ton. Bethesda Mining feels that coal production will be 620,000 tons, 680,000 tons, 730,000 tons, and590,000 tons, respectively, over the next four years. The excess production will be sold in the spotmarket at an average of $90 per ton. Variable costs amount to $31 per ton, and fixed costs are$4,300,000 per year. The mine will require a net working capital investment of 5 percent of sales. The NWC will be built up in the year prior to the sales. Bethesda will be responsible for reclaiming the land at termination of the mining. This will occur inyear 5. The company uses an outside company for reclamation of all the company’s strip mines. It isestimated the cost of reclamation will be $2. 8 million. After the land is reclaimed, the company plansto donate the land to the state for use as a public park and recreation area. This will occur in year 6and result in a charitable expense deduction of $7. 5 million. Bethesda faces a 38 percent tax rate andhas a 12 percent required return on new strip mine projects. Assume that a loss in any year will resultin a tax credit. You have been approached by the president of the company with a request to analyze the project. Calculate the payback period, profitability index, average accounting return, net present value,internal rate of return, and modified internal rate of return for the new strip mine. Should BethesdaMining take the contract and open the mine?GUIDELINES FOR ANALYSISThis is a group case project and each group member is expected to fully participate in the analysis. Thefollowing aids are permitted: You may your textbook, all posted materials (including Discussion BoardQ&amp,A), and your notes. Any other aids are unauthorized and their use constitutes a violation of academicintegrity. This includes face-to-face or electronic correspondence concerning the specific details of the casewith any other person or entity outside of your group, whether or not they have current or past affiliationwith Washington State University. The case analysis is due on the date indicated on the course schedule. Late papers may be accepted with areasonable excuse, but will be assessed a 20 grade reduction penalty. The case report should be written according to the following format: 1. Introduction2. Analysis3. ConclusionThe introduction sets the stage for the work to follow and should consist of a short paragraph of the keyproblem(s) or issue(s) that your analysis addresses. The analysis will constitute the bulk of the writtenpresentation and will be a direct response to the questions below. Use clear, concise, and completesentences. Do not use bullet points or numbered paragraphs. The conclusion should be a short paragraphthat summarizes the key points of the analysis. Your report should not exceed five pages of double-spaced text with 1 inch margins at the sides, top,and bottom of the page. This does not include exhibits of your computations. You may submit one ExcelSpreadsheet that contains all your exhibits, clearly labeled, and appropriately referenced in the text of yourreport. Your analysis should include answers to the questions below. Do not write the questions verbatim in yourreport. Instead, write a brief introductory statement that summarizes the question before you proceed withyour analysis. Note that both the $2. 8 million reclamation cost and the $7. 5 million charitable expense recognition aredeductible for tax purposes. You should assume that Bethesda has sufficient taxable income to immediatelyrecognize these tax deductions. 1. Compute the payback period, profitability index, net present value, internal rate of return, and modifiedinternal rate of return for the new strip mine. Use the template provided for your calculations, but besure to include a discussion of your computations in the text of your report and provide additionalexhibits if necessary to show any additional computations. 2. How would you make a decision using the payback period? What conceptual and practical difficultieswould you encounter? Would discounted payback alleviate these concerns? Explain why or why not. 3. Is the profitability index useful in this case? Explain why or why not. 4. Explain the meaning of the IRR. Why is a modified IRR potentially useful? What is yourrecommendation concerning the new mine using IRR or MIRR?5. Explain the meaning of the NPV. What is your recommendation using NPV? Does it align with yourdecision using IRR? Under what conditions might your recommendation using NPV differ from yourrecommendation using IRR?

FIN526 Problems in Financial Management Bethesda Mining Company Case Study (2015)

Bethesda Mining Company Case Study Overview
Bethesda Mining is a midsized coal mining company with 20 mines located in Ohio, Pennsylvania,
West Virginia, and Kentucky. The company operates deep mines as well as strip mines. Most of the
coal mined is sold under contract, with excess production sold on the spot market.
The coal mining industry, especially high-sulfur coal operations such as Bethesda, has been hard-hit
by environmental regulations. Recently, however, a combination of increased demand for coal and
new pollution reduction technologies has led to an improved market demand for high-sulfur coal.
Bethesda has just been approached by Mid-Ohio Electric Company with a request to supply coal for
its electric generators for the next four years. Bethesda Mining does not have enough excess capacity
at its existing mines to guarantee the contract. The company is considering opening a strip mine in
Ohio on 5,000 acres of land purchased 10 years ago for $6 million. Based on a recent appraisal, the
company feels it could receive $7 million on an after-tax basis if it sold the land today.
Strip mining is a process where the layers of topsoil above a coal vein are removed and the exposed
coal is removed. Some time ago, the company would simply remove the coal and leave the land in
an unusable condition. Changes in mining regulations now force a company to reclaim the land; that
is, when the mining is completed, the land must be restored to near its original condition. The land
can then be used for other purposes. Because it is currently operating at full capacity, Bethesda will
need to purchase additional necessary equipment, which will cost $85 million. The equipment will be
depreciated on a seven-year MACRS schedule. The contract runs for only four years. At that time the
coal from the site will be entirely mined. The company feels that the equipment can be sold for
60 percent of its initial purchase price in four years. However, Bethesda plans to open another strip
mine at that time and will use the equipment at the new mine.
The contract calls for the delivery of 500,000 tons of coal per year at a price of $95 per ton.
Bethesda Mining feels that coal production will be 620,000 tons, 680,000 tons, 730,000 tons, and
590,000 tons, respectively, over the next four years. The excess production will be sold in the spot
market at an average of $90 per ton. Variable costs amount to $31 per ton, and fixed costs are
$4,300,000 per year. The mine will require a net working capital investment of 5 percent of sales.
The NWC will be built up in the year prior to the sales.
Bethesda will be responsible for reclaiming the land at termination of the mining. This will occur in
year 5. The company uses an outside company for reclamation of all the company’s strip mines. It is
estimated the cost of reclamation will be $2.8 million. After the land is reclaimed, the company plans
to donate the land to the state for use as a public park and recreation area. This will occur in year 6
and result in a charitable expense deduction of $7.5 million. Bethesda faces a 38 percent tax rate and
has a 12 percent required return on new strip mine projects. Assume that a loss in any year will result
in a tax credit.
You have been approached by the president of the company with a request to analyze the project.
Calculate the payback period, profitability index, average accounting return, net present value,
internal rate of return, and modified internal rate of return for the new strip mine. Should Bethesda
Mining take the contract and open the mine?

GUIDELINES FOR ANALYSIS
This is a group case project and each group member is expected to fully participate in the analysis. The
following aids are permitted: You may your textbook, all posted materials (including Discussion Board
Q&A), and your notes. Any other aids are unauthorized and their use constitutes a violation of academic
integrity. This includes face-to-face or electronic correspondence concerning the specific details of the case
with any other person or entity outside of your group, whether or not they have current or past affiliation
with Washington State University.
The case analysis is due on the date indicated on the course schedule. Late papers may be accepted with a
reasonable excuse, but will be assessed a 20% grade reduction penalty.
The case report should be written according to the following format:
1. Introduction
2. Analysis
3. Conclusion
The introduction sets the stage for the work to follow and should consist of a short paragraph of the key
problem(s) or issue(s) that your analysis addresses. The analysis will constitute the bulk of the written
presentation and will be a direct response to the questions below. Use clear, concise, and complete
sentences. Do not use bullet points or numbered paragraphs. The conclusion should be a short paragraph
that summarizes the key points of the analysis.
Your report should not exceed five pages of double-spaced text with 1 inch margins at the sides, top,
and bottom of the page. This does not include exhibits of your computations. You may submit one Excel
Spreadsheet that contains all your exhibits, clearly labeled, and appropriately referenced in the text of your
report.

Your analysis should include answers to the questions below. Do not write the questions verbatim in your
report. Instead, write a brief introductory statement that summarizes the question before you proceed with
your analysis.
Note that both the $2.8 million reclamation cost and the $7.5 million charitable expense recognition are
deductible for tax purposes. You should assume that Bethesda has sufficient taxable income to immediately
recognize these tax deductions.
1. Compute the payback period, profitability index, net present value, internal rate of return, and modified
internal rate of return for the new strip mine. Use the template provided for your calculations, but be
sure to include a discussion of your computations in the text of your report and provide additional
exhibits if necessary to show any additional computations.
2. How would you make a decision using the payback period? What conceptual and practical difficulties
would you encounter? Would discounted payback alleviate these concerns? Explain why or why not.
3. Is the profitability index useful in this case? Explain why or why not.
4. Explain the meaning of the IRR. Why is a modified IRR potentially useful? What is your
recommendation concerning the new mine using IRR or MIRR?
5. Explain the meaning of the NPV. What is your recommendation using NPV? Does it align with your
decision using IRR? Under what conditions might your recommendation using NPV differ from your
recommendation using IRR?