The Nebraska Institute of Science (NIS) pools all of its endowment funds so that

Question

The Nebraska Institute of Science (NIS) pools all of its endowment funds so that it can obtain the benefits of a large and diverse investment portfolio. The institute recently acquired a commercial office building as an investment property. The cost was $12 million and its economic life was expected to be 15 years. Upon acquiring the building, NIS signed a 15-year lease with a tenant. The annual rent was $1.3 million, with the tenant responsible for all maintenance and other operating costs.
1. Suppose that the NIS did not charge depreciation and distributed to expendable funds the entire ‘‘income’’ earned on the office building.
      a. What would be the total amount distributed over the 15-year life of the building?
       b. Assuming that NIS’s estimate of economic life was correct, what would likely be the market value of the building when the lease expired? Would NIS have had available any cash for the acquisition of other assets that would compensate for the decline in value of the building?
2. Suppose NIS charged depreciation and distributed to expendable funds the entire ‘‘income’’ earned on the office building.
        a. What would be the total amount distributed over the 15-year life of the building?
        b. Assuming that NIS’s estimate of economic life was correct, what would likely be the market value of the building when the lease expired?
       c. Would NIS have had available any cash for the acquisition of other assets that would compensate for the decline in value of the building?
    3. Suppose NIS charged depreciation and distributed to expendable funds the entire ‘‘income’’ earned on the office building.
        a. What would be the total amount distributed over the 15-year life of the building?
        b. Assuming that NIS’s estimate of economic life was correct, what would likely be the market value of the building when the lease expired? Would NIS have had available any cash for the acquisition of other assets to compensate for the decline in value of the building?

Explanation / Answer

1A) If no deprecistion is chargedthe total amount distributed ove rhte fifteen year life of the building would be 1.3 m rent * 15 years = $19.5 million

b) the total market value of the building when the lease expires will be zero.the NID will have no cash on hand to purchas any other assets.

2a) The depreciation will be 12m/15 = .8 m

annual income will be $1.3 m - .80 = .50 per year

total amount of income over the lease period will be .50 * 15 = $7.5m

b) Market vlaue of the building will be zero .NIS will have $12 m on hand

Amount on hand will be = Amount collected as rent - amount from entire lease period

= $19.5 m - $7.5 m   = $12m

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