Comprehensive Pro Forma and Analysis

You have been asked to analyze the potential purchase of Regency Manor, an apartment building with the following characteristics:

Purchase Price: $2,000,000, of which 30% is allocated to the land and 70% to the building.

The building is a Class 1 (4% CCA) asset.

Initial loan: $1,300,000 mortgage at j= 6.5% with a 20-year amortization, 3-year term, and monthly payments, rounded up to the next higher dollar.

The investor's projections for the building for the upcoming year of operation are as follows:

Gross Potential Income $300,000 increasing at 2% per year

Vacancy Rate = 3% of Gross Potential Income

Operating Expenses $155,000 increasing at 2.5% per year

The investor has a 50% marginal tax rate and intends to sell the building at the end of the third year. The allocation to land and building is expected to remain at 30% and 70%, respectively.

The property value (land and building) is expected to increase 4% per year for each year of the three-year holding period.

A commission of 6% of the gross sale price is required at the time of sale.

Where appropriate, you may find it helpful to present your answers in table format.

1. Construct an after-tax cash flow pro forma for the intended holding period.
2. Calculate the after-tax equity reversion given that 50% of the capital gain is taxable and the only closing costs are the commission.
3. Calculate the effective gross income multiplier (GIM) for Year 1. (2 pts)
4. Calculate the operating expense ratio (OER) for Year 1. (2 pts)
5. Calculate the after-tax internal rate of return on equity (IRR). (2 pts)
6. Calculate the net present value (NPV) of the investment if the investor requires an after-tax return of j = 8%. (2 pts)
7. Based on the IRR and NPV measures, should the investor buy the building? Briefly explain.