Question

You are the mayor of the small town of Wasilla and a landowner has offered to sell you 1,000 hectares of woodland for $2,000,000. You are very tempted because of the moose and other wildlife that lives there as well as the recreational value to your constituents. You look at the Financial Times and find that if you borrow money for this project, the interest rate will be 5% per annum, which leads you to conclude the discount rate you should use is 5%. Your Parks Department estimates that annual recreational and environmental benefits will be $100,000 a year.

a.) Looking only at the next 50 years, is buying the woodland a good idea?

b.) What is the maximum amount you would be willing to pay the landowner to lease the and for 50 years?

c.) How would your answers to (a) and (b) change if the recreational and environmental benefits increase by 3% per year, reflecting the fact that Wasilla is growing, not only in population but in income of the population?

Answer 1

Part (a)

Buying of land would be smart thought if the net present estimation of advantage is at any rate equal to or more prominent than the present estimation of cost of land.

Net present estimation of land =
`(100,000 (1-1.05^(-50)) )/(0.05)`

= $1,825,592.54

The expense of land is anyway $2,000,000. The net present expense of land is more noteworthy than the advantages. Subsequently it isn't a good thought to purchase the land.

Part (b)

The maximum sum that ought to be paid ought to be equivalent to the net present estimation of advantages, for example $1,825,592.54.

Part (c)

If the entertainment benefits increment by 3 years then the net present estimation of advantages for a long time would be:

=
`(100,000 * [ 1 - (1.03/1.05)^(50) ] )/((0.05-0.03))`

=$3088535.28

The land should be purchased since the present estimation of advantages is more prominent than cost.