On November 14, 2021, the Wall Street Journal announced that the Trump family organization had sold its long-term federal government lease to operate the Trump International Hotel located in the Old Post Office building, Washington, D.C. The purpose of this team assignment is to evaluate the lease from the perspective of the federal government and the lessees. Please begin the assignment by reading the Wall Street Journal article, Trumps Selling Prized Washington, D.C., Hotel for $375 Million, which is available on D2L, in the Class 3 >> Team Assignment 2 folder. Additional information about the deal is available in the document Wiki Excerpts, which summarizes relevant information from Wikipedia.

When it purchased the lease, the Trump family organization partnered with Colony Capital. In real estate deals, its common to have a money partner, who provides most of the required financing, and an operating partner, who identifies a promising property, provides a modest amount of financing (typically, 5%-10% of the investment amount), and operates the property over the lease term. In this deal, the Trump family organization is the operating partner, and Colony Capital is the money partner. Typically, the contract between the money and operating partners provides the money partner with a preferred IRR. This rate of return must be paid to the money partner before the operating partner receives any profits. We do not know the terms of the Trump/Colony contract, so will be evaluating the project, rather than the return to either of the partners. We will also ignore tax considerations because the partnership is a pass-through entity.

(As an aside, Democratic Congressmen have alleged that the Trump International Hotel in D.C. was a vehicle for emoluments. Those allegations do not include the purchase or sale of the lease, so will not be considered in our analysis. In addition, the lease was purchased in late 2013, at a point in time when Trump was not expected to run for President.)

In 2011, a 60-year lease (renewable for an additional 40 years) to operate the Old Post Office Building as a hotel was offered for bid by the Obama Administration, as part of a project to generate cash flow from underutilized federal government properties. The Trump/Colony bid included a $200 million investment in redevelopment of the property and lease payments to the federal government of $3 million per year, adjusted for the Consumer Price Index (CPI). The competing bid from Monument Realty included a $116.5 million investment in redevelopment and lease payments of $5.1 million annually, adjusted for increases over time in the propertys revenue. If you were the federal official tasked with evaluating bids, which bid would you accept?

To provide an ex-post evaluation of the investment from the standpoint of Trump/Colony, youll need a discount rate to calculate the NPV of the projects cash flows. Use the following information (and any subjective assessments you think are relevant) to determine a reasonable discount rate:

The Trump/Colony bid is 100% equity financed.

Reminder from finance: Re = Rf + b*(Rm Rf)

Where: Re = cost of equity

Rf = risk-free rate

b = equity beta

Rm = return on the market

The average publicly-traded hotel company has an observed beta of 1.0 and an unlevered beta of 0.60.

The average risk-free rate of return since 1940 is 2%.

The average return on the market is 12%.

The average Aaa corporate bond yield is 3.5%, the average Baa corporate bond yield is 4.0%, and the average CCC (junk bond) rate is 9%.

Page BreakRe = 2% + 0.60*(12%-2%)

= 8%

Evaluate the actual return to Trump/Colony using a cost of capital of 8%. Specifically, what is the NPV of the actual cash flows Trump/Colony received and incurred? Was the investment profitable for Trump/Colony? (PV factors are available in Appendix A of your textbook, if you choose not to use Excel.) Assume that the following cash flows come at the end of each period:

The deal was finalized in late 2013. During negotiations, the Trump/Colony investment in redeveloping the property was reduced from $200 million to $160 million. Assume that $80 million was spent in 2014, and $80 million was spent in 2015.

The $3 million per year lease payments begin in 2015.

Analysts estimate that over the period 2016 2021, the hotel lost $70 million. Assume those losses are cash losses and are concentrated during the pandemic as follows:

2016 -$1 million

2017 -$1 million

2018 -$1 million

2019 -$22 million

2020 -$23 million

2021 -$22 million

Total -$70 million

Due to the losses, Trump/Colony invested an additional $24 million in the hotel in 2020.

At the end of 2021, Trump/Colony receive $375 million from the sale of the lease.