NPV question help

Submitted by NSB on Tue, 03/01/2016 - 18:57

Your company is considering buying a building worth $1 million. If the company buys this building and rents it out for the next five years, it will get $100,000 per year as rent (receivable by the end of each year). At the end of the fifth year, the company will resell the building at $1.1 million. What is the NPV of this investment at 10% per annum discount rate?

 

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NSB

Tue, 03/01/2016 - 19:58

I think this is the solution:

 

NPV = discounted inflows – discounted outflows Since the full investment, i.e. $1 million, needs to be made now, we don’t have to discount the outflows.

However, we need to discount all the inflows by 10% per annum.

The discount formula is: Present Value (PV) = Future Value / (1 + discount rate)^period

For year 1: PV1 = 100,000 / 1.1^1 = 90,909

For year 2: PV1 = 100,000 / 1.1^2 = 82,645

For year 3: PV1 = 100,000 / 1.1^3 = 75,131

For year 4: PV1 = 100,000 / 1.1^4 = 68,301

For year 5: PV1 = 1,200,000 / 1.1^5 = 745,106

Hence the total PV of the inflows = 1,062,092

NPV = 1,062,092 – 1,000,000 = $62,092