Question

An investment property has a purchase value of € 140,000 and generates annual surpluses of € 21,650. The minimum interest rate set in the company is 15%. The investment object is 15 Years usable. Determine whether it is beneficial or not. Would you change your assessment if the fixed interest rate is 8%? Justify your answer!

Answer 1

Solution:

We can evaluate purchase decision on the basis of Net present value as follow:

Net Present value=Present value of annual surpluses-Purchase value of Property

Present value of annual surpluses=Annual surplus-Present Value annuity factor@15% for 15 years

=€ 21,650*5.84737

=€ 126,595.56

Net Present Value=€ 126,595.56-€ 140,000=-€ 13,404.44

Since the present value of annaul surpluses(Benefit) is less the purchase price of investment property(Cost),hence it is not beneficial to purchase the  investment property.

b)Now we have the required rate(discount rate) of 8%.

Present value of annual surpluses=Annual surplus-Present Value annuity factor@8% for 15 years

=€ 21,650*8.559479

=€ 185,312.72

Net Present Value=€ 185,312.72-€ 140,000=€ 45,312.72

Since Since the present value of annaul surpluses(Benefit) exceeds the purchase price of investment property(Cost),hence it is beneficial to purchase the  investment property when the interest rate is 8%.