DTAP Homework NPV AND IRR A store has 5 years remaining on i

DTAP Homework NPV AND IRR A store has 5 years remaining on its lease in a mall. Rent is $2,000 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 $2,750 per month for the next 51 months. The lease cannot be broken, and the store\'s WACC is 12% (or 1% per month). a, Should the new lease be accepted? (Hint: Be sure to use 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 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. Do not round your C. The store owner is not sure of the 12% WACC-it could be higher or lower. At what nominal WACC would the store owner be indifferent between the two leases? (Hint Calculate the differences between the two payment streams; then find its IRR.) Round your answer to two decimal places. Do not round your intermediate calculations. Check My Work (3 remaining)

Solution

Old Lease Rent = PMT per month $2,000 Payments Remaining 60 Cost of capital 12%/12 1.00% Present value of lease = PV(1%,60,-1900) $89,910.08 New Lease Rent = PMT per month $2,750 Period = no rent for 9 months = 60-9 51 Cost of capital 12%/12 1.00% Present value of lease = calculated using NPV function in excel = NPV (1%payments) $100,069.81 $10,159.73 The store owner should not accept the new lease because the present value of its cost is $100,069.81 - $89,910.08= $10,159.73 greater than the old lease NO b) FV of first 9 months’ rent under old lease: Old Lease Rent = PMT per month $2,000 Payments Remaining 9 Cost of capital 12%/12 1.00% Future value of lease = FV(1%,60,-2000) $18,737.05 The FV of the first 9 months’ rent is equivalent to the PV of the 51-period annuity whose payments represent the incremental rent during months 10-6 New leases Present Value $18,737.05 Nper 51 Rate 1.00% New leases payment = PMT(1%,51,-18,737.05) $470.8 The new lease payment that will make her indifferent is $2000 + $470.8 $2,470.8 c) IRR (calculated using IRR function in excel) Periodic IRR = 2.82% Annual IRR = 2.82% x 12 33.81% Year Old Lease payments New Lease Payments Difference 0 0 0 0 1 -2000 0 -2000 2 -2000 0 -2000 3 -2000 0 -2000 4 -2000 0 -2000 5 -2000 0 -2000 6 -2000 0 -2000 7 -2000 0 -2000 8 -2000 0 -2000 9 -2000 0 -2000 10 -2000 -2750 750 11 -2000 -2750 750 12 -2000 -2750 750 13 -2000 -2750 750 14 -2000 -2750 750 15 -2000 -2750 750 16 -2000 -2750 750 17 -2000 -2750 750 18 -2000 -2750 750 19 -2000 -2750 750 20 -2000 -2750 750 21 -2000 -2750 750 22 -2000 -2750 750 23 -2000 -2750 750 24 -2000 -2750 750 25 -2000 -2750 750 26 -2000 -2750 750 27 -2000 -2750 750 28 -2000 -2750 750 29 -2000 -2750 750 30 -2000 -2750 750 31 -2000 -2750 750 32 -2000 -2750 750 33 -2000 -2750 750 34 -2000 -2750 750 35 -2000 -2750 750 36 -2000 -2750 750 37 -2000 -2750 750 38 -2000 -2750 750 39 -2000 -2750 750 40 -2000 -2750 750 41 -2000 -2750 750 42 -2000 -2750 750 43 -2000 -2750 750 44 -2000 -2750 750 45 -2000 -2750 750 46 -2000 -2750 750 47 -2000 -2750 750 48 -2000 -2750 750 49 -2000 -2750 750 50 -2000 -2750 750 51 -2000 -2750 750 52 -2000 -2750 750 53 -2000 -2750 750 54 -2000 -2750 750 55 -2000 -2750 750 56 -2000 -2750 750 57 -2000 -2750 750 58 -2000 -2750 750 59 -2000 -2750 750 60 -2000 -2750 750 IRR 2.82%