Question

A piece of land on the Griswold Scout Reservation has been clear-cut, and the property owner is deciding whether to replant. It costs $20,000 to do the initial tree replanting and an additional maintenance cost of $5,000 both one year later and two years later. Alternatively, GSR can earn 3% on its investments. The optimal harvest time for the planted trees is known to be 40 years of growth. At that time, GSR will receive $100,000.

a) Calculate the profitability of replanting.

b) GSR’s deed requires this piece of land to have a conservation easement within 50 years. If they replant, they will still receive harvest revenue as in part a), and now will also incur $5,000 of costs for site preparation 5 years after harvesting and then 5 years after that receive $10,000 payment from the Lakes Region Conservation Trust for granting the easement. Alternatively, GSR can choose not to replant now, incur the site prep costs 5 years from today and receive the easement revenue from LRCT 5 years after that. Show the profitability of each alternative.

Answer 1

Assuming profitability is return on investment in current terms.

The cashflows and NPV, based on a 3% rate, for the cashflows is shown below.

Year	Cashflow
0	-20000
1	-5000
2	-5000
3	0
4	0
5	0
6	0
7	0
8	0
9	0
10	0
11	0
12	0
13	0
14	0
15	0
16	0
17	0
18	0
19	0
20	0
21	0
22	0
23	0
24	0
25	0
26	0
27	0
28	0
29	0
30	0
31	0
32	0
33	0
34	0
35	0
36	0
37	0
38	0
39	0
40	100000
NPV	$1,088

The NPV has been calculated by the formula =NPV(rate,cashflow). Alternatively, it can be manually calculated by

NPV=-20000-5000/1.03-5000/1.032+100000/1.0340

Both will give the same answer.

Profitability=return/investment=1088/20000=5.44%

B. If they replant, the cashflow would be

Year	Cashflow
0	-20000
1	-5000
2	-5000
3	0
4	0
5	0
6	0
7	0
8	0
9	0
10	0
11	0
12	0
13	0
14	0
15	0
16	0
17	0
18	0
19	0
20	0
21	0
22	0
23	0
24	0
25	0
26	0
27	0
28	0
29	0
30	0
31	0
32	0
33	0
34	0
35	0
36	0
37	0
38	0
39	0
40	100000
41	0
42	0
43	0
44	0
45	-5000
46	0
47	0
48	0
49	0
50	10000
NPV	$2,047

Since NPV is 2047, profitability=2047/20000=10.235%

If they do not replant, the cashflow would be

Year	Cashflow
0	0
1	0
2	0
3	0
4	0
5	-5000
6	0
7	0
8	0
9	0
10	10000
NPV	3127.90

But since the investment is after 5 years, to calculate profitability we also need its NPV today. NPV of 5000 after 5 years is

NPV=-5000/1.035

=4313

Hence, profitability=3127.90/4313=72.52%