Question

The Sarasota Inc, a manufacturer of low-sugar, low-sodium, low-cholesterol TV dinners, would like to increase its market share in the Sunbelt. In order to do so, Sarasota has decided to locate a new factory in the Panama City area. Sarasota will either buy or lease a site depending upon which is more advantageous. The site location committee has narrowed down the available sites to the following three very similar buildings that will meet their needs. Building A: Purchase for a cash price of $613,700, useful life 27 years. Building B: Lease for 27 years with annual lease payments of $70, 100 being made at the beginning of the year. Building C: Purchase for $659,100 cash. This building is larger than needed; however, the excess space can be sublet for 27 years at a net annual rental of $6,470. Rental payments will be received at the end of each year. The Sarasota Inc. has no aversion to being a landlord. Click here to view factor tables In which building would you recommend that The Sarasota Inc. locate, assuming a 12% cost of funds? (Round factor values to 5 decimal places, e.g. 1.25124 and final answer to 0 decimal places, eg. 458,581.) Net Present Value Building A Building B $ $ 623,585.76 Building C $

Answer 1

Solution :

Present value of Building A = Cash price of Building = $613,700

Present value of Building B = $70,100 * Cumulative PV Factor at 12% for 27 periods of annuity due

= $70,100 * 8.89566 = $623,586

Present value of Building C = Cash price- Present value of rental income = $659,100 * $6,470 * Cumulative PV Factor at 12% for 27 periods

= $659,100 - $6,470 * 7.94255 = $607,712

Sarasota Inc. should locate itself in Building C.