Question

Net Present Value Analysis:

You have found a residential complex that has been vacated. It will cost you $5m. You decide that it will cost you $1m to repair and will take one year (payable end of year 1). At the end of year 1 you will have the complex half full giving a positive cash flow of $500,000 p.a. from year 2 (receivable from the end of year 2). And after one more year it will be full, giving you a positive cash flow of $1m p.a. from year 3 (receivable from the end of year 3 onwards). The lease expires (therefore project ends) in 10 years. Lease cost is $100,000 p.a. (payable at the end of each year).
All amounts are payable / receivable at the end of each year.
The relevant interest rate is 7% p.a.
Draw a NPV time line and put the numbers on the time line?

It's leased.

Answer 1

Dear Reader

The concept used in this question is the calculation of NPS. Along with this, the question involves complex calculations.

Hope you will understand the solution.

Solution:

Formula

NPV = Present value of the cash inflow (PVCI) - Present value of cash outflow (PVCO)

Calculation

1) PVCO

Particulars	Year	Present value
Cost of Complex	0	5000000
Repair and maintainance (1000000/1.07)	1	934579.44
	Total	5934579.44

2) PVCI

Year	Inflow	Lease Expenses	Net Inflow	Present Value @ 7%
1	0	100000	-100000	-93457.94
2	500000	100000	400000	349375.49
3	1000000	100000	900000	734668.09
4	1000000	100000	900000	686605.69
5	1000000	100000	900000	641687.56
6	1000000	100000	900000	599708
7	1000000	100000	900000	560474.77
8	1000000	100000	900000	523808.19
9	1000000	100000	900000	489540.37
10	1000000	100000	900000	457514.36
			Total	4949924.58

3) NPV

= 4949924.58 - 5934579.44

= - 984654.86

4) Timeline