A hotel leases out its 1000 square feet coffee shop, although it continues to own the equipment. The lease is?

A hotel leases out it 1,000 square-foot coffee shop, although it continues to own the equipment.
The lease is due for renewal. The hotel could continue to rent the space for $2 a square-foot
per month for the next three years, and then $2.50 a square foot for the following two years.

Alternatively, the hotel could cancel this lease and take over the operation of the restaurant.
If this occurs, the hotel’s management estimates that sales revenue in the first year would be
$700,000 and that it would increase by $50,000 per year for each of the following four years.
Variable operating costs of running the restaurant (food cost, wages, supplies) would be 90%
of sales revenue. The hotel would also have to assume certain other costs currently paid by
the lessee for such items as supervision, advertising and electricity. These are estimated to be
$32,000 in year 1, increasing by $2,000 per year for each of the following four years.

If the hotel resumes operation of the restaurant, it will trade in some of the old equipment, for
which it will get $5,000 and buy $40,000 of new equipment (this will not happen if the lease is
renewed). The new equipment will have a five-year life and would be depreciated on a
straight-line basis with no scrap value.

The hotel is in a 25% tax bracket. Should the hotel operate the coffee shop itself or continue
to lease it out. Use a 10% discount rate.

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