A real-estate developer seeks to determine the most economical height for a new office building, which will be sold after five years. The developer uses an interest rate of i for its evaluation. The relevant net revenues and salvage values on after-tax basis are given below: 2 floors 3 floors 4 floors 5 floors Building Cost $500,000 $750,000 $1,250,000 $2,000,000 Annual Lease Revenue $199,100 $169,200 $149,200 $378,150 Resale Value $600,000 $900,000 $2,000,000 $3,000,000 (a) The developer is uncertain about the exact interest rate i, but is certain that it is in the range from 10% to 25%. For each value of i ∈ {10%, 15%, 20%, 25%}, determine which building option is the most economical. (b) Suppose that the developer’s interest rate turns out to be 15%. If the the resale costs are 30% overestimated for each height plan (i.e., the resale value turns out to be 70% of $600,000 for the 2 floors, 70% of $900,000, and so on), how does that scenario affect the PW values for the floor options?
A real-estate developer seeks to determine the most economical height for a new office building, which will be sold after five years. The developer uses an interest rate of i for its evaluation. The relevant net revenues and salvage values on after-tax basis are given below: 2 floors 3 floors 4 floors 5 floors Building Cost $500,000 $750,000 $1,250,000 $2,000,000 Annual Lease Revenue $199,100 $169,200 $149,200 $378,150 Resale Value $600,000 $900,000 $2,000,000 $3,000,000 (a) The developer is uncertain about the exact interest rate i, but is certain that it is in the range from 10% to 25%. For each value of i ∈ {10%, 15%, 20%, 25%}, determine which building option is the most economical. (b) Suppose that the developer’s interest rate turns out to be 15%. If the the resale costs are 30% overestimated for each height plan (i.e., the resale value turns out to be 70% of $600,000 for the 2 floors, 70% of $900,000, and so on), how does that scenario affect the PW values for the floor options?
Chapter9: Capital Budgeting And Cash Flow Analysis
Section: Chapter Questions
Problem 15P
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A real-estate developer seeks to determine the most economical height for a new
office building, which will be sold after five years. The developer uses an interest rate of i for its
evaluation. The relevant net revenues and salvage values on after-tax basis are given below:
2 floors 3 floors 4 floors 5 floors
Building Cost $500,000 $750,000 $1,250,000 $2,000,000
Annual Lease Revenue $199,100 $169,200 $149,200 $378,150
Resale Value $600,000 $900,000 $2,000,000 $3,000,000
(a) The developer is uncertain about the exact interest rate i, but is certain that it is in the range
from 10% to 25%. For each value of i ∈ {10%, 15%, 20%, 25%}, determine which building
option is the most economical.
(b) Suppose that the developer’s interest rate turns out to be 15%. If the the resale costs are 30%
overestimated for each height plan (i.e., the resale value turns out to be 70% of $600,000 for
the 2 floors, 70% of $900,000, and so on), how does that scenario affect the PW values for the
floor options?
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