Taking rent into account:

(a) In the sun state, the value is $120,000 + $11,000 = $131,000. In the tornado state, the value is

$11,000 + $20,000 = $31,000. Therefore, the expected building value is $111,000. The discounted building value today is $111,000/1.10 ≈ $100,909.09.

(b) Still the same as in the text: The lender’s $25,000 loan can still only get $20,000, so it is a promise for

$29,375. The quoted interest rate is still 17.50%.

(c) $100,909.09 − $25,000 = $75,909.09.

(d) Still $100,909.09, assuming that the owner values living in the building as much as a tenant would.

Owner-consumed rent is the equivalent of corporate dividends paid out to levered equity. Note: You can repeat this example assuming that the rent is an annuity of $1,000 each month, and tornadoes strike midyear.