Answer:
The solution the given problem is done below.
Explanation:
Building A: Purchase for a cash price of $600,000, useful life 25 years.
—PV = $600,000.
Building B: Lease for 25 years with annual lease payments of $69,000 being made at the beginning of the year.
Rent X (PV of annuity due of 25 periods at 12%)
PV =$69,000 X 8.78432
PV=$606,118.08
Building C: Purchase for $650,000 cash. This building is larger than needed; however, the excess space can be sublet for 25 years at a net annual rental of $7,000. Rental payments will be received at the end of each year.
PV of Building C—
Rent X (PV of ordinary annuity of 25 periods at 12%)
=$7,000 X 7.84314
PV=$54,901.98
Cashpurchasepriceof…………….$650,000.00
PV of rental income,……………..(54,901.98)
Net present value…………………..$595,098.02
In which building would you recommend that The Black Knights Inc. locate, assuming a 12% cost of funds?
Lease Building C since the present value of its net cost is the smallest.
