Problem 2

Assume that your friend from Problem 1 had decided to go with the floating rate option and she bought the apartment. Now three years have passed, due to the work relocation, your friend is leaving Brisbane. She decides to rent out the apartment. She will hire an agent to look after the apartment, but she would like you to help her to look at the financials of the property first.

The following are a few assumptions:

• The property is well maintained by your friend, and it is now available for move-in.

• The new tenants do not own any furniture, and your friend has agreed to provide furniture and white goods. Since your friend already have some furnitures in the apartment, it will only cost her another $400 to meet the tenants’ need. Assume that your friend could sell her old furniture for $1,200, if not needed.

• The term of the contract is two years.

• The rent is paid fortnightly at $980. And the tenant will move in and start to pay the rent in two weeks. (Assume there are 26 fortnights in a year)

• Ignore the bond payment that the tenant will lodges to RTA.

After this contract expires, the agent will go and find a new tenant. Assume he can find a new tenant and sign a contract for three years, after which your friend is going to sell the apartment. The agent, based on his experience, has provided you with the following estimations:

• After the previous tenant left, there will be some wear and tear on the furniture and the apartment. Therefore, your friend expects to spend $300 to repair them before the apartment can be rented out again.

• It is unlikely to have the new tenant move in right after the old tenants move out. Assume there is a 40% chance you can rent out the apartment in six weeks.

• In the meantime, to make your apartment look more attractive to the market, your friend would offer an incentive as 4 months free Internet to the new tenant, and it will cost $60/month.

Here are some additional assumptions:

• rent will increase by 3% yearly over the evaluation period.

• The apartment will appreciate by 2% per year.

• The agent charges a fixed rate commission of 7% of the rental income.

• Ignore tax.

• As the owner of the apartment, your friend should pay the following cost. Expenses will increase by 2% yearly over the evaluation period. 

– City council rate would be $375, paid quarterly.

– Water and Waste bill would be $239, paid quarterly.

– Body corporate rate $4,500 per year.

Required:

1. Prepare two separate spreadsheets for Problem 2. One for the "Basic Cashflow" and another one for the "Discounted Cash Flow (DCF)".

2. Discuss what discount rate you have used in your calculation in part 1.