Net Present Value Method
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. Annual net cash inflows from 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 straight-line 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. Use Table 1 and Table 2.
1. Compute the present value of future cash flows from the old building.
2. What will the net present value of cash flows be if the company purchases the new building?
3. Should the company keep the old building or purchase the new one?
Select Purchase new buildingKeep the old buildingItem 3 Why?
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