Question

Montana Mining Co. (MMC) paid $200 million for the right to explore and extract rare metals from land owned by the state of Montana. To obtain the rights, MMC agreed to restore the land to a suitable condition for other uses after its exploration and extraction activities. MMC incurred exploration and development costs of $60 million on the project.

MMC has a credit-adjusted risk free interest rate is 7%. It estimates the possible cash flows for restoring the land, three years after its extraction activities begin, as follows: (PV of $1, PVA of $1) (Use appropriate factor(s) from the tables provided.)

Cash Outflow				Probability
$	16	million			50	%
$	48	million			50	%

The asset retirement obligation (rounded) that should be recognized by MMC at the beginning of the extraction activities is:

Multiple Choice

• $26.1 million.

• $19.6 million.

• 29 Million
• 41 million

Answer 1

Ans:

Asset retirement obligation:

Expected cost after 3 years :

50% : $48M

50% : $16M

Estimated cost : $48M*50% + $16M*50% = $32M

Discount rate : 7%

PV factor @7% for 3 years : 1/(1.07)^3 = 0.8163

Obligation value : $32M * 0.8163 = $26.1M

So corrcet answer is option A.

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