Question

Your firm is considering buying an old office building with a remaining service life of 25...

Your firm is considering buying an old office building with a remaining service life of 25 years. Tenants have recently signed long term leases providing rental income of $250,000 / year for the next 5 years, increasing by 10% in 5 year increments. You estimate operating expenses, including taxes, will be $85,000 the first year, increasing by $5,000 each subsequent year. The salvage value after 25 years you estimate will be $50,000. If your next best alternative offers an ROI of 12%, what would be the maximum you would be willing to pay to buy this building?

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Answer #1

Value of an asset is the present value of future cash inflows

Taxation effect is ignored as que do not contain such information.

year lease rental (inflow) expense (outflow) net inflow present value factor @12% present value
1-5 $250,000.00 $85,000.00 $165,000.00 3.6048 $594,792.00
6-10 $275,000.00 $90,000.00 $185,000.00 2.0451 $378,343.50
11-15 $302,500.00 $95,000.00 $207,500.00 1.1604 $416,177.85
16-20 $332,750.00 $100,000.00 $232,750.00 0.6585 $457,795.64
21-25 $366,025.00 $105,000.00 $261,025.00 0.3738 $503,575.20

maximum amount that will be paid to acquire the land

 $2,350,684.18
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