Reference no: EM13800978
You just bought a building for $1.5 million; it is being depreciated on a straight line basis for 30 years. You are trying to figure out what to do with it in order to create the most value for the next 15 years. You plan to rent it or to produce one of two products in it. Product A or Product B. The tax rate on all projects is 34%, and the cost of capital is 12%. No matter what choice you make for the next 15 years, if either of the products is successful, the building will be too small to continue operations, so you will restore the building to rental condition and rent it while moving operations elsewhere. For simplicity, assume all modification costs and purchases occur today, all cash flows occur at the end of the year, and the entire cost of restoration occurs at the end of year 15. Sale of the building is not an option.
Option 1: Rent the building. If you rent the building, you will receive $35,000 in rent each year.
Option 2: Product A Revenues will be $220,000, and variable costs are $135,000.You need to do $75,000 worth of improvements to the building and buy $190,000 worth of equipment to produce this product. These will be depreciated on a straight line basis for 15 years. At the end of the project, you will face another expense of $45,000 to restore the building to its original condition.
Option 3: Product B Revenues will be $275,000, and variable costs will be $173,000. You need to do $100,000 worth of building improvements and buy $245,000 in equipment for this product. These will be depreciated over 15 years on a straight line basis. At the end of the project, you will face another expense of $55,000 to restore the building to its original condition. Which is the best choice of use based upon NPV? Need to show work and calculations for each option.
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: You just bought a building for $1.5 million; it is being depreciated on a straight line basis for 30 years. You are trying to figure out what to do with it in order to create the most value for the next 15 years. You plan to rent it or to produce one..
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