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BUSINESS GUARDIAN guardian.co.tt JANUARY 19 • 2017
When she was 26 years
old, Natasha pur-
chased a 10,000
square foot lot of land
in a housing develop-
ment. At the time of
purchase, her bank offered 100 per cent financ-
ing repayable over 15 years and at an interest
rate of nine per cent.
All that she was required to pay was the legal
costs of $19,000 and bank fees of $4,875.
Every year she would pay a contractor $2,500
to cut the grass and keep the drains clear of
On the seventh anniversary of the purchase,
Natasha sold the property to her cousin Dennis
for $700,000; $375,000 more than the price
she paid for it. Whilst she knows she may have
made a profit she cannot precisely gauge by
Further, she also wants to know if her returns
kept pace with her inflation assumption of five
per cent annually.
Ostensibly Natasha made a profit of $375,000
from the sale of the land but this is only if she
had purchased it with cash of $325,000 and
sold it at $700,000. On the contrary, she did
not even make a downpayment because the
bank financed 100 per cent of the cost.
The loan was for 15 years but Natasha only
paid instalments for seven years, so it means
she would have had a balance outstanding at
the point of sale.
From our estimation and based on the var-
iables given Natasha should have owed about
$225,005, which means that after the debt was
cleared she ended up with $474,995 cash in
hand ($700,000 - $225,005).
Was this her real profit figure?
The simple calculation for profit is:
Sale Price - Cost of Goods Sold = Gross Profit
less Expenses, equals Net Profit.
The formula requires us to firstly ask: what
was the actual cost of goods sold and, sec-
ondly, what were the expenses related to the
investment? The cost of goods, in this case,
was indeed the purchase price of $325,000.
However, it was actually split between the
cumulative principal payments on the loan
of $99,995 and the pay off figure of $225,005
leaving a gross profit of $375,000 ($700,000
The next step would be to tally up all of the
expenses involved so we could arrive at the
net profit figure. The first item would be to
estimate the interest cost paid to date.
Based on a monthly loan payment of
$3,296.37 over the 7-year period the total
instalments made to the bank were $276,895.
If the principal paid were $99,995 then the
interest expense would have been $176,900
($276,895 - $99,995).
The total expense for maintenance was
$17,500 ($2,500 x 7 years) and the legal and
bank expenses were $19,000 and $4,875 re-
spectively. This brings our total expense figure
up to $218,275 which when subtracted from
the gross profit of $375,000 equals $156,725.
Cash in hand
Out of the $474,995 of cash in hand only
$156,725 was actually net profit, the remaining
$318,270 was a recovery of her cumulative prin-
cipal payments and all other expenses incurred
over the life of the investment.
Return on investment
Whilst Natasha made a decent profit in terms
of dollars, it does not take into account the
passage of time and the impact of inflation
on the value of her investment.
Up until the sale, Natasha has been sinking
money into the deal and with any such venture
there is always the hope of a full recovery of
the original investment and an acceptable rate
of return as well. Her hurdle was five per cent
annually so anything above this would have
exceeded her expectation.
For all payments including legal fees, bank
charges, loan instalments (principal and in-
terest) and maintenance fees, we applied the
annualised hurdle rate of five per cent taking
into account the varying amounts invested and
the timing of each cash flow.
She paid out a total of $318,270 so she should
have in hand at least $384,670 after the sale.
Truth and in fact, she ended up with $474,995
which was $90,325 more than planned.
Taking into account her hurdle rate, indi-
vidual cash flows, their direction (in or out, +/
-), timing and reinvestment rates, we estimate
that Natasha's venture would have yielded an
internal rate of return (IRR) of 10.2 per cent
and a modified internal rate of return (MIRR)
of about 8.1 per cent.
Nicholas Dean (CertFa) is a certified
independent financial adviser and is the
managing director of The Financial Coaching
Centre Limited. If you have any questions or
need advice on today's subject please email:
firstname.lastname@example.org or visit website: www.
returns on your
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