1. Is this a good property for Laflin to acquire? 2. What assumptions has Laflin made in creating his setup for SouthPark IV? What changes, if any, would you make to his setup? What is your projected return? (Note: you can ignore the 10% Laflin is getting to put the deal together) 3. What price should Laflin offer for SouthPark IV? What conditions should be attached to his offer? How might Lonestar try to justify a higher price? What might SouthPark IV be worth in five years? 4. Why are there wide variations in the valuation of real property assets?
Added by Gregory L.
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- Analyze the location, market trends, and potential for appreciation. - Consider the current cash flow, occupancy rates, and tenant quality. - Assess the overall economic conditions and demand for commercial properties in the area. - Determine if the Show more…
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What price should Laflin offer for South Park IV? What conditions should he attach to his offer? How might Lonestar try to justify a higher price? What might South Park IV be worth in five years?
Akash M.
Lonnie Carson purchased Royal Oaks Apartments two years ago. An opportunity has arisen for Carson to purchase a larger apartment project called Royal Palms, but Carson believes that he would have to sell Royal Oaks to have sufficient equity capital to purchase Royal Palms. Carson paid $2 million for Royal Oaks two years ago, with the land representing approximately $200,000 of that value. A recent appraisal indicated that the property is worth about $2.2 million today. When purchased two years ago, Carson financed the property with a 70 percent mortgage at 10 percent interest for 25 years (monthly payments). The property is being depreciated over 27.5 years (1/27.5 per year for simplicity). Effective gross income during the next year is expected to be $350,000 and operating expenses are projected to be 40 percent of effective gross income. Carson expects the effective gross income to increase 3 percent per year. The property value is expected to increase at the same 3 percent annual rate. Carson is currently in the 36 percent tax bracket and expects to remain in that bracket in the future. Because Carson has other real estate investments that are now generating taxable income, he does not expect any tax losses from Royal Oaks to be subject to the passive activity loss limitations. If he sells Royal Oaks, selling expenses would be 6 percent of the sale price. a. How much after-tax cash flow (ATCFs) would Carson receive if Royal Oaks was sold today (exactly two years after he purchased it)? b. What is the projected after-tax cash flow (ATCFo) for the next five years if Carson does not sell Royal Oaks? c. How much after-tax cash flow (ATCFs) would Carson receive if he sold Royal Oaks five years from now? d. Using the results from (a) through (c), find the after-tax rate of return on equity (ATIRRe) that Carson can expect to earn if he holds Royal Oaks for an additional five years versus selling it today. e. What is the marginal rate of return (MRR) if Carson holds the property for one additional year (if he sells next year versus this year)? f. Why do you think the MRR in (e) is higher than the return calculated in (d)? g. Can you think of any other strategies that Carson could use to purchase Royal Palms and still retain ownership of Royal Oaks? h. What is your recommendation to Carson? i. Optional for computer users. What is the MRR for each of the next 10 years? How can this calculation be used to determine when Royal Oaks should be sold?
Waldo County Waldo County, the well-known real estate developer, worked long hours, and he expected his staff to do the same. So George Chavez was not surprised to receive a call from the boss just as George was about to leave for a long summer's weekend. Mr. County's success had been built on a remarkable instinct for a good site. He would exclaim "Location! Location! Location!" at some point in every planning meeting. Yet finance was not his strong suit. On this occasion he wanted George to go over the figures for a new $90 million outlet mall designed to intercept tourists heading downeast toward Maine. "First thing Monday will do just fine," he said as he handed George the file. "I'll be in my house in Bar Harbor if you need me." George's first task was to draw up a summary of the projected revenues and costs. The results are shown in Table 10.8. Note that the mall's revenues would come from two sources: The company would charge retailers an annual rent for the space they occupied and in addition it would receive 5% of each store's gross sales. Construction of the mall was likely to take three years. The construction costs could be depreciated straight-line over 15 years starting in year 3. As in the case of the company's other developments, the mall would be built to the highest specifications and would not need to be rebuilt until year 17. The land was expected to retain its value, but could not be depreciated for tax purposes. Construction costs, revenues, operating and maintenance costs, and real estate taxes were all likely to rise in line with inflation, which was forecasted at 2% a year. The company's tax rate was 35% and the cost of capital was 9% in nominal terms. George decided first to check that the project made financial sense. He then proposed to look at some of the things that might go wrong. His boss certainly had a nose for a good retail project, but he was not infallible. The Salome project had been a disaster because store sales Year 0 1 2 3 4 5-17 Investment: Land 30 Construction 20 30 10 Operations: Rentals 12 12 12 Share of retail sales 24 24 24 Operating and maintenance costs 2 4 4 10 10 10 Real estate taxes 2 2 3 4 4 4 TABLE 10.8 Projected revenues and costs in real terms for the Downeast Tourist Mall (figures in $ millions). had turned out to be 40% below forecast. What if that happened here? George wondered just how far sales could fall short of forecast before the project would be underwater. Inflation was another source of uncertainty. Some people were talking about a zero long-term inflation rate, but George also wondered what would happen if inflation jumped to, say, 10%. A third concern was possible construction cost overruns and delays due to required zoning changes and environmental approvals. George had seen cases of 25% construction cost overruns and delays up to 12 months between purchase of the land and the start of construction. He decided that he should examine the effect that this scenario would have on the project's profitability. "Hey, this might be fun," George exclaimed to Mr. Waldo's secretary, Fifi, who was heading for Old Orchard Beach for the weekend. "I might even try Monte Carlo." "Waldo went to Monte Carlo once," Fifi replied. "Lost a bundle at the roulette table. I wouldn't remind him. Just show him the bottom line. Will it make money or lose money? That's the bottom line." "OK, no Monte Carlo," George agreed. But he realized that building a spreadsheet and running scenarios was not enough. He had to figure out how to summarize and present his results to Mr. County. QUESTIONS 1. What is the project's NPV, given the projections in Table 10.8? 2. Conduct a sensitivity and a scenario analysis of the project. What do these analyses reveal about the project's risks and potential value?
Shu N.
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Horngren’s Cost Accounting
Cost Accounting A Managerial Emphasis
Principles of Accounting Volume 1: Financial Accounting
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