Question

The Sheridan Inc., a manufacturer of low-sugar, low-sodium, low-cholesterol TV dinners, would like to increase its market share in the Sunbelt. In order to do so, Sheridan has decided to locate a new factory in the Panama City area. Sheridan will either buy or lease a site depending upon which is more advantageous. The site location committee has narrowed down the available sites to the following three very similar buildings that will meet their needs.

Building A: Purchase for a cash price of $612,100, useful life 26 years.
Building B: Lease for 26 years with annual lease payments of $71,490 being made at the beginning of the year.
Building C: Purchase for $655,200 cash. This building is larger than needed; however, the excess space can be sublet for 26 years at a net annual rental of $6,850. Rental payments will be received at the end of each year. The Sheridan Inc. has no aversion to being a landlord.
In which building would you recommend that The Sheridan Inc. locate, assuming a 11% cost of funds?

Answer 1

Present value of Building A = $612,000

Present value of Building B = $71,490 + $71,490*Present value of Annuity for n=25,i=11% = $71,490 + $602,070.53 = $673,560.53

Present value of Building C = $655,200 - $6,850*Present value of Annuity for n=26,i=11% = $655,200 - $58,143.20 = $597,056.80

Net Present Value

Building A $612,000

Building B $673,560.53

Building C $597,056.80

Conclusion: The Sherdian Inc. should locate itself in Building C as it has least Net Present Value