AH $14-4$ Net Present Value Analysis, Least$-$Cost Decision, Uncertain Cash Flows LO $14-2,$ LO $14-4$

The owners of Annie's Homemade Ice Cream are deciding between buying land and building a $1,800$

square$-$feet ice cream shop or signing a five$-$year lease for $1,500$ square feet of retail space. If the company

decides to buy land and build an ice cream shop, the total cost of the land, building, and paved parking lot is

$$1,200,000.$ At the end of five years, the company estimates the market value of this commercial property

would be $$1,300,000.$ If the company chooses to sign a lease, it would cost $$350,000$ to transform the

unfinished leased space into an ice cream shop.

For simplicity, Annie's is assuming the following items would be the same across the five$-$year time horizon

under the buy$-$and$-$build and lease alternatives:

Annual sales

Ingredients costs

Labor costs

Equipment costs

Working capital invested and released

All other operating costs besides those mentioned below

If the company chooses the lease option, it would pay annual rent of $$36,000.$ If Annie's chooses to buy$-$and

build, some of its operating costs would be higher than the lease option. For example, under the buy$-$and$-$

build option, Annie's would pay higher property taxes, insurance premiums, and utility expenses. The annual

amount by which these operating costs exceed the lease option is $$15,000.$

Click here to view Exhibit $14$B$-1$ and Exhibit $14$B$-2,$ to determine the appropriate discount factor$($s$)$ using table.

Requirement $2$

Assuming a discount rate of $14\%$ and using a five$-$year time horizon:

a$.$ What is the net present value of the relevant cash flows associated with the lease option?

Note: Do not round intermediate calculations. Round your answer to the nearest whole dollar amount. Negative

amount should be indicated with a minus sign.

Net present value of relevant cash

flows

b$.$ What is the net present value of the relevant cash flows associated with the buy$-$and$-$build option?

Note: Do not round intermediate calculations. Round your answer to the nearest whole dollar amount. Negative

amount should be indicated with a minus sign.

Net present value of relevant cash

flows

c$.$ Which of the two options is the least$-$cost alternative?

d$.$ Given the assumed discount rate of $14\%,$ what would have to be the market value of the commercial property at the

end of five years to make Annie's indifferent when choosing between the lease and buy$-$and$-$build alternatives?

Note: Do not round intermediate calculations. Round your answer to the nearest whole dollar amount.

Market value of commercial

property