NPV and IRR A store has 5 years remaining on its lease in a mall. Rent is $2,100
ID: 2685177 • Letter: N
Question
NPV and IRR A store has 5 years remaining on its lease in a mall. Rent is $2,100 per month, 60 payments remain, and the next payment is due in 1 month. The mall's owner plans to sell the property in a year and wants rent at that time to be high so that the property will appear more valuable. Therefore, the store has been offered a "great deal" (owner's words) on a new 5-year lease. The new lease calls for no rent for 9 months, then payments of $2,500 per month for the next 51 months. The lease cannot be broken, and the store's WACC is 12% (or 1% per month).************* B.)If the store owner decided to bargain with the mall's owner over the new lease payment, what new lease payment would make the store owner indifferent between the new and the old leases? (Hint: Find FV of the old lease's original cost at t = 9, then treat this as the PV of a 51-period annuity whose payments represent the rent during months 10 to 60.) Round your answer to the nearest cent. $ __________************ C,) The store owner is not sure of the 12% WACCExplanation / Answer
5 years remaining on lease; rent = $2,000/month; 60 payments left, payment at end of month. New lease terms: $0/month for 9 months; $2,600/month for 51 months.
COST OF CAPITAL = 12% annual (1% per month). a. 0 | 1% 1 | -2,000 2 | -2,000 59 | -2,000 60 | -2,000 PV cost of old lease
: N = 60; I/YR = 1;
PMT = -2000; FV = 0;
PV = ?
PV = $89,910.08. 0 1 9 10 59 60 1% | | 0 | 0 | -2,600 | -2,600 | -2,600 PV
cost of new lease:
CF0 = 0,
CF1-9 = 0;
CF10-60 = -2600
; I/YR = 1. NPV = $94,611.45.
Sharon should not accept the new lease because the present value of its cost is $94,611.45 $89,910.08 = $4,701.37 greater than the old lease
. b. At t = 9 the FV of the original lease's cost = -$89,910.08(1.01)9 = $98,333.33. Since lease payments for months 0-9 would be zero,
calculate the lease payments during the remaining 51 months as follows: N = 51; I/YR = 1; PV = 98333.33; and FV = 0. Solve for PMT = -$2,470.80.
Check: 0 | 1% 1 | 0 9 | 0 10 | -2,470.80 59 60 | | -2,470.80 -2,470.80 PV cost of new lease: CF0 = 0; CF1-9 = 0; CF10-60 = -2470.80; I/YR = 1. NPV = -$89,909.99. Except for rounding; the PV cost of this lease equals the PV cost of the old lease.
c. Period 0 1-9 10-60 Old Lease 0 -2,000 -2,000
New Lease 0 0 -2,600
Lease 0 -2,000 600
CF0 = 0;
CF1-9 = -2000;
CF10-60 = 600;
IRR = ?
IRR = 1.9113%.
This is the periodic rate. To obtain the nominal cost of capital, multiply by 12:
=12(0.019113) = 22.94%.
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