Question

D Question 10 10 pts An investor is considering the purchase of a rental house for $120,000. The house generates monthly rent of $1,150 per month with no expected vacancy, and annual operating expenses are expected to be $4,800. The investor expects to hold the property for five years and then hopes to sell for $140,000. Based on these assumptions, what is the expected overall return on this investment? 9.27% 10.22% 10.69% 11.48% 12.40% MacBook Pro

Answer 1

So basically we need to use the given option of interest rates as the discount rate in the NPV analysis to figure out which one make the NPV = 0 and that is the rate of return that we have generated:

Particulars	Remark	0	1	2	3	4	5
Annual rent	1150 x 12		13800	13800	13800	13800	13800
Annual expenses	Given		4800	4800	4800	4800	4800
Annual Profit	Annual rent -Annual Expenses		9,000.00	9,000.00	9,000.00	9,000.00	9,000.00
Cost of home	Given	-1,20,000.00
Sale value	Given						$      1,40,000.00
FCF	Cost of home +Annual Profit +Sale Value	-1,20,000.00	9,000.00	9,000.00	9,000.00	9,000.00	1,49,000.00
Discount factor Formula	at 10.22 %	1/(1+0.1022)^0	1/(1+0.1022)^1	1/(1+0.1022)^2	1/(1+0.1022)^3	1/(1+0.1022)^4	1/(1+0.1022)^5
Discount factor	Calculated using above formula	1.00	0.91	0.82	0.75	0.68	0.61
DCF	FCF x Discount Factor	-1,20,000.00	8,165.49	7,408.35	6,721.42	6,098.19	91,597.63
NPV = sum of all DCF	0

• Annual rent = 1150 x 12
• Therefore we see that at 10.22% (rounded to two decimal places), we get the NPV = 0 so this is the return that we have generated, so the correct option is the second one.