Academic Integrity: tutoring, explanations, and feedback — we don’t complete graded work or submit on a student’s behalf.

evercd are considering the purchase of an apartment complex. The following assum

ID: 2794735 • Letter: E

Question

evercd are considering the purchase of an apartment complex. The following assumptions are made: . The purchase price is SI million. , Potential gross income (PGI) for the first tions is projected to be $171,000. , PGl is expected to increase 4 percent per year. , No vacancies are expected. , Operating expenses are estimated at 35 percent of effec- tive gross income. Ignore capital expenditures. , The market value of the investment is expected to increase 4 percent per year. . Selling expenses will be 4 percent. . The holding period is four years. The appropriate unlevered rate of return to discount pro- jected NOls and the projected NSP is 12 percent.

Explanation / Answer

g.

Solution:

Principal reduction in year 1 = $700,000 - $694,152 = $5,848

Principal reduction in year 2 = $694,152 - $687,820 = $6,332

Principal reduction in year 3 = $687,820 - $680,961 = $6,859

Principal reduction in year 4 = $680,961 - $673,533 = $7,428

h.

Solution:

Interest paid in year 1 = $61,636 - $5,848 = $55,788

Interest paid in year 2 = $61,636 - $6,332 = $55,304

Interest paid in year 3 = $61,636 - $6,859 = $54,777

Interest paid in year 4 = $61,636 - $7,428 = $54,208

i.

           

Solution:

Loan amount (0.70 x $1,000,000) = $700,000

Up-front financing costs (0.02 x $700,000) = $14,000

Equity investment = $1,000,000 - $700,000 + $14,000 = $314,000

j.   

Solution:

Item

1

2

3

4

NOI

$111,150

$115,596

$120,220

$125,029

less: Debt Service

61,636

61,636

61,636

61,636

BTCF

$49,514

$53,960

$58,584

$63,393

k.

Solution:

Item

Amount

Net selling price

$1,123,065

less: Remaining mortgage balance in year 4

673,533

Before-tax equity reversion

$449,532

l.

Solution:

Item

Cash Flow

Present Value at 14%

BTCF Yr.1

$49,514

$43,433

BTCF Yr.2

53,960

41,520

BTCF Yr.3

58,584

39,543

BTCF Yr.4

63,392

37,534

Reversion Yr. 4

449,532

266,159

Total

$428,189

NPV = Present value of the cash flows less the equity investment:

                        $428,189 - $314,000 = $114,189.

Decision: Purchase the property because the NPV > 0; wealth will increase by $114,189.

m.   

Solution: Levered IRR = 25.02 percent; Decision: Purchase the property because IRR > 14 percent, the required return.

n.

(1)Overall cap rate = NOI / Market price = $111,150 / $1,000,000 = 11.12%

(2)Equity dividend rate = BTCF / equity = $49,514 / $314,000 = 15.8 percent

(3)Gross income multiplier = Market price / EGI = $1,000,000 / $171,000 = 5.85

(4)Debt coverage ratio = NOI / Debt service = $111,150 / $61,636 = 1.8

Item

1

2

3

4

NOI

$111,150

$115,596

$120,220

$125,029

less: Debt Service

61,636

61,636

61,636

61,636

BTCF

$49,514

$53,960

$58,584

$63,393