Question

Suppose you inherited a building from your great aunt which you now own outright (e.g., you have complete ownership without any outstanding debt). If this building is 200,000 SF, rents for $12 per square foot per year, is expected to be on average 5% vacant, and costs $5 per occupied SF per year to operate, what is the expected Before-Tax Cash Flow for the building?

answer

$1,330,000

Now, you decide to complete some renovations on the building described in question 2. If the renovation costs $2,510,006, which you can finance with a 15-year FRM mortgage with payments due annually offered at 10% annual interest, how much more would you need to charge in rent for the Before-Tax Cash Flow to remain the same as it did in question 2?

Group of answer choices

~$1.74 /sf/year more

~$2.24 /sf/year more

~$3.03 /sf/year more

~$2.09/sf/year more

Answer 1

(a) Building Size = 200000 SF and Rent = $ 12 per SF

Potential Gross Income (PGI) = 200000 x 12 = $ 2400000

Vacany Losses = 5 % of PGI = 0.05 x 2400000 = $ 120000

Effective Gross Income (EGI) = PGI - Vacancy Losses = $ 2280000

Operating Expenses Per Unit = $ 5 per SF

Total Opeating Expenses = 5 x 200000 = $ 1000000

Net Operating Income (NOI) = $ 1280000

Before Tax Cash Flow = NOI = $ 1280000

(b) Borrowing = $ 2510006 and Interest Rate = 10 %

Payment Frequency: Annual and Borrowing Tenure = 15 years

Therefore, Annual Debt Servicing = D = 2510006 / (1/0.1) x [1-{1/(1.1)^(15)}] ~ $ 330000

Let the required rental be $p per SF

Therefore, PGI = 200000p $

EGI = 200000 x 0.95 x p = $ 190000p

NOI = 190000p - 1000000

Before-Tax Cash Flow = NOI - D = 190000p - 1000000 - 330000 = $ 190000p - 1330000

Now, 190000p - 1330000 = 1280000

p = (1280000 + 1330000) / 190000 = $ 13.74

Extra Rental Required = 13.74 - 12 = $ 1.74 per SF

Hence, the correct option is (a)