A contractor is constructing a project for which he will be paid in one lump sum upon satisfactory completion of the project. The contractor needs cash to finance the construction and opens a line of credit at their bank (the loan would be repaid at the end of the project). The construction project is expected to last 16 months, and the contractor expects to borrow $100,000 at the beginning of the first month, and at the end of each of the first six months, making a total borrowing of $700,000. The contractor then needs to borrow $250,000 per month at the end of month 7 through 16, for an additional $2,500,000. The owner agrees to pay the contractor the lump sum payment for the project at EOM 20, at which time the contractor will repay the bank. Interest on the contractors outstanding loan balance is 1.5% per month for the first 10 months and then 2% per month until EOM 20. Given this scenario, please answer the following questions. a. What is the minimum contract price for this project to be profitable? b. How would this number change if the interest rates were variable between 1-3% for the first 3 months and 1-5% for the remainder of the project? c. What is a reasonable rate of return for this project? d. How will your answers in a. and b. would change if the rate of return is what is described in c.?
1. A contractor is constructing a project for which he will be paid in one lump sum upon satisfactory completion of the project. The contractor needs cash to finance the construction and opens a line of credit at their bank (the loan would be repaid at the end of the project). The construction project is expected to last 16 months, and the contractor expects to borrow $100,000 at the beginning of the first month, and at the end of each of the first six months, making a total borrowing of $700,000. The contractor then needs to borrow $250,000 per month at the end of month 7 through 16, for an additional $2,500,000. The owner agrees to pay the contractor the lump sum payment for the project at EOM 20, at which time the contractor will repay the bank. Interest on the contractors outstanding loan balance is 1.5% per month for the first 10 months and then 2% per month until EOM 20. Given this scenario, please answer the following questions.
a. What is the minimum contract price for this project to be profitable?
b. How would this number change if the interest rates were variable between 1-3% for the first 3 months and 1-5% for the remainder of the project?
c. What is a reasonable
d. How will your answers in a. and b. would change if the rate of return is what is described in c.?
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