Sonja and Sons, Inc., owns and operates a group of apartment buildings. Manageme

Question

                    Sonja and Sons, Inc., owns and operates a group of apartment buildings. Management wants to sell one of its older four-family buildings and buy a new building.                     The old building, which was purchased 25 years ago for $100,000, has a 40-year estimated life. The current market value is $80,000, and if it is sold, the cash                     inflow will be $67,675. Annualnet cash                     inflowsfrom the old building are expected to average $16,000 for the remainder of its estimated useful life.                 

                

                    The new building will cost $300,000. It has an estimated useful life of 25 years. Net cash inflows are expected to be $50,000 annually.                 

                

                    Assume that (1) all cash flows occur at year end, (2) the company uses straightline depreciation, (3) the buildings will have a residual value equal to 10                     percent of their purchase price, and (4) the minimum rate of return is 14 percent. UseTable 1andTable 2in the appendix onpresent valuetables.                 

                

                    
                

                

                    
                

                

                    a. Compute the present value of future cash flows from the old building.
                                     

                

                    b. What will the net present value of cash flows be if the company purchases the new building?
                                     

                                     c. Should the company keep the old building or purchase the new one?

Sonja and Sons, Inc., owns and operates a group of apartment buildings. Management wants to sell one of its older four-family buildings and buy a new building. The old building, which was purchased 25 years ago for $100,000, has a 40-year estimated life. The current market value is $80,000, and if it is sold, the cash inflow will be $67,675. Annualnet cash inflowsfrom the old building are expected to average $16,000 for the remainder of its estimated useful life. The new building will cost $300,000. It has an estimated useful life of 25 years. Net cash inflows are expected to be $50,000 annually. Assume that (1) all cash flows occur at year end, (2) the company uses straightline depreciation, (3) the buildings will have a residual value equal to 10 percent of their purchase price, and (4) the minimum rate of return is 14 percent. UseTable 1andTable 2in the appendix onpresent valuetables. Compute the present value of future cash flows from the old building. What will the net present value of cash flows be if the company purchases the new building? Should the company keep the old building or purchase the new one?

Explanation / Answer

Sonja and Sons, Inc. Pesent Value Assessment 1. PV of future cashflows from old building Year Net cash inflows 14% Factor Present Value 1-15 16000 6.142 98272 Residual Value 10000 0.14 1400 99672 2. NPV of cashflows based on new building purchase Year Net cash inflows 14% Factor Present Value Bitmap Bitmap Bitmap 1-25 50000 6.873 343650 Residual value 30000 0.038 1140 Total present value of cashflows 344790 Less Purchase price -300000 44790 Cash from Sale of old Building 67675 Net Present Value 112465 3. Analysis The company should purchase the new building, because the purcahse of the new, including cash inflows from the sale of the old, presents a nearly $13,000 increase in value.

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