A building is appraised at $1 million.This estimate is based on forecasted net rent of $100,000 per year discounted at a 10% cost of capital [PV = 100,000/ 0.1 = 1,000,000].The rent is the net of repair and maintenance costs and taxes.Suppose the building is currently uninhabitable.It will take one year and $250,000 of work (spent at the end of the year)to bring it into rentable condition.How much would you be willing to pay for the building today?

Question

Quizplus · Accepted Answer

Since the building is not currently rentable, the forecasted net rent of $100,000 does not apply for the first year. Therefore, the net rent for the first year would be $0. After the $250,000 in repairs, the net rent would be $100,000 per year. Using a 10% cost of capital, the present value of the future net rents would be $681,818. This is the maximum amount a rational investor would be willing to pay for the building today.

A Building Is Appraised at $1 Million