Real Estate Terminology Matching Exercise in Your Groups Please Match the Following Terms to the the Best Possible Definition

APPENDIX

Real Estate Terminology Matching Exercise In your groups please match the following terms to the The best possible definition. terms for #27 are provided next to mortgage terms.

Terms: Business Taxes, Return on Investment (ROI), Net Rent, Anchor, Gross Building Area (GBA), Density, Annual Debt Service, Term, Capitalization and Capitalization Rate, Vacancy, Net Effective Rent , Market Value, Common Area, Common Area & Maintenance Costs (CAM), Common Retail Unit (CRU), Tenant Improvements (TI’s), Occupied Space, Debt, Discounting and Discount Rate, Renewal, Efficiency, Equity, Operating Costs, Return on Equity (ROE), Floor Area Ratio (FAR), Gross Rent, Gross Rent Multiplier (GRM), Interim Financing, Internal Rate of Return (IRR), Inducements, Lead Tenant, Rent Step, Leverage, Loan to value ratio (LTV), Management Costs, Property Taxes, Market Rent, Mortgage, Net Absorption, Net Absorption Rate, Net Operating Income, Net Present Value, Net Rentable Area, Occupancy Rate, Percentage Rent, Vacancy Rate, Sub-lease Space, Site Area

1. A large (usually retail) tenant that often pays less rent, but is used to attract other retail tenants to the complex.

2. Is the annual periodic payment of interest and principal required to amortize a mortgage loan (sometimes referred to as the carrying charge).

3. A municipal tax that is charged directly to tenants. In Calgary, it is based upon a percentage of net rent.

4. This is calculated by dividing the net operating income by the sale price. This is often used an expression of expected risk and return. The market value of a property can be estimated by dividing its net operating income by this.

5. The non-rentable areas of a building, including lobbies, hallways, elevators, stairs, loading and parking facilities, maintenance and operational areas.

6. The portion of operating costs that excludes property taxes. This is portion that is controllable by the landlord.

7. A retail unit that is designed for no particular tenant and is commonly rented to smaller tenants.

8. The amount owing to lenders, associated with the acquisition or ownership of a property.

9. This is a process through which future revenues/costs may be valued in present dollars. These are used to convert future cash flows to present dollars; they are an expression of expected risk and return.

10. The ratio of building area to site area. Commercial density is often expressed as a floor area ratio (FAR). Residential density may be expressed in units per net or gross acre.

11. Net rentable area divided by gross building area.

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12. Is the interest an owner of real property has in its total assets. It represents the total value of the property less the outstanding debt.

13. The gross building area divided by the site area.

14. The total area of a building.

15. The total rent paid by a tenant for space.

16. The sale price of an apartment building divided by the gross rent of all of its dwelling units.

17. Temporary financing required by a purchaser, when committed to completing the purchase of a property on a specific date, but not having sufficient funds until a later date.

18. Is used to determine the economic feasibility of a project. Effectively, it is the discount rate that reduces the project’s net present value to zero. This is often used to compare two projects of different duration and size.

19. Tangible items offered to tenants to attract to a space, including free rent, tenant improvements, etc.

20. A large tenant that occupies a substantial portion of space in a building.

21. The extent to which an investment is supported by debt financing. Generally speaking, the higher this is, the higher the expected return on equity.

22. The ratio of the mortgage loan to the value of the security pledged.

23. The charge added by the landlord to operating costs to cover their management of the building. This is usually expressed as a percentage of common area and maintenance costs.

24. The typical rent that a landlord would receive in the marketplace today.

25. The typical price that a vendor would receive for the sale of their asset.

26. A legal instrument for pledging a described property interest for the performance of the repayment of a loan under certain terms and conditions. This is not a loan but the security for a loan. They can be classified by priority of claims, e.g. first, second, etc.

27. Mortgage Types: Interest Only Mortgage, Conventional, Convertible Mortgage, High Ratio, Vender Take Back

a. generally refers to a mortgage arranged through a lending institution where the amount does not exceed 75% of the value of the property.

b. generally refers to a mortgage arranged through a lending institution where the amount exceeds 75% of property value.

c. a mortgage that the unpaid vendor of the property has taken from the purchaser as a part payment of the purchase money for the property.

2 APPENDIX

d. an amortizing loan in which the lender receives only interest during the term of the loan and recovers the principal in a lump sum at the time of maturity.

e. a mortgage in which the lender may choose to take an equity interest in the real estate in lieu of cash amortization payments by the borrower.

28. The change in occupied space from one period to the next.

29. The change in occupied space in a market divided by the NLA within that market. The net absorption rate is an indicator of market change.

30. The rent available to the landlord from rented space after the costs of TI’s and other inducements have been subtracted from the net rent.

31. Is the difference between a property’s revenues and expenses, excluding depreciation, interest, principal payments, and income taxes.

32. Is the sum of all revenues and costs associated with a multi-year investment, expressed in present dollars after adjusting for risk.

33. The rent paid by a tenant for space, excluding operating costs.

34. The area that the tenants pay rent on in the building.

35. The space that the tenants actually occupy in the building.

36. Net rentable space in the building under contract divided by the total net rental space in the building.

37. The costs of operating the building’s common areas, including utilities and property taxes.

38. A rent adjustment that is based upon retail sales and is usually applied when sales reach particularly high levels.

39. A municipal tax that is directly charged to building owners and usually recouped from tenants through operating costs.

40. The signing of a new lease by an existing tenant.

41. A point within the lease term when the rent changes (e.g. increases).

42. Is a measure of the income generating capacity of an investment. It is calculated by dividing a property’s net income by the value of the investment.

43. Is a measure of the income generating capacity of a property relative to the equity invested by the property owner. It is calculated by dividing a property’s net income by the equity invested.

44. The land area of the subject property.

45. Space that is under lease, but not being used by a tenant and available for rent. The amount of sub-lease space in the market is an indicator of market change. 3 APPENDIX

46. The cost of improvements to rentable space paid for by the landlord.

47. Refers either to the length of a lease; or the period within which a loan is outstanding.

48. Rentable space that is not under lease.

49. Building vacancy divided by Net Leasable Area.

4 APPENDIX 1

Real Estate Terminology

Anchor: A large (usually retail) tenant that often pays less rent, but is used to attract other retail tenants to the complex.

Annual Debt Service – is the annual periodic payment of interest and principal required to amortize a mortgage loan (some time referred to as the carrying charge).

Business Taxes: A municipal tax that is charged directly to tenants. In Calgary, it is based upon a percentage of net rent.

Capitalization and Capitalization Rate: The capitalization rate of a sale can be calculated by dividing the net operating income by the sale price. The capitalization rate is often used an expression of expected risk and return. The market value of a property can be estimated by dividing its net operating income by an assumed capitalization rate.

Common Area: The non-rentable areas of a building, including lobbies, hallways, elevators, stairs, loading and parking facilities, maintenance and operational areas.

Common Area & Maintenance Costs (CAM) – The portion of operating costs that excludes property taxes. This is portion that is controllable by the landlord.

Common Retail Unit (CRU) – A retail unit that is designed for no particular tenant and mostly commonly is rented to smaller tenants.

Debt: The amount owing to lenders, associated with the acquisition or ownership of a property.

Discounting and Discount Rate: Discounting is a process through which future revenues/costs may be valued in present dollars. Discount rates are used to convert future cash flows to present dollars; they are an expression of expected risk and return.

Density: The ratio of building area to site area. Commercial density is often expressed as a floor area ratio (FAR). Residential density may be expressed in units per net or gross acre.

Efficiency: Net rentable area divided by gross building area.

Equity: is the interest an owner of real property has in its total assets. It represents the total value of the property less the outstanding debt.

Floor Area Ratio (FAR): The gross building area divided by the site area.

Gross Building Area (GBA): The total area of a building.

Gross Rent: The total rent paid by a tenant for space.

Gross Rent Multiplier (GRM): The sale price of an apartment building divided by the gross rent of all of its dwelling units.

5 APPENDIX 2

Interim Financing –temporary financing required by a purchaser, when committed to completing the purchase of a property on a specific date, but not having sufficient funds until a later date.

Internal Rate of Return (IRR): is used to determine the economic feasibility of a project. Effectively, it is the discount rate that reduces the project’s net present value to zero. IRR is often used to compare two projects of different duration and size.

Inducements: Tangible items offered to tenants to attract to a space, including free rent, tenant improvements, etc.

Lead Tenant: A large tenant that occupies a substantial portion of space in a building.

Leverage - The extent to which an investment is supported by debt financing. Generally speaking, the higher the leverage, the high the expected return on equity.

Loan to value ratio (LTV) – the ratio of the mortgage loan to the value of the security pledged.

Management Costs: The charge added by the landlord to operating costs to cover their management of the building. This is usually expressed as a percentage of common area and maintenance costs.

Market Rent: The typical rent that a landlord would receive in the marketplace today.

Market Value: The typical price that a vendor would receive for the sale of their asset.

Mortgage: A legal instrument for pledging a described property interest for the performance of the repayment of a loan under certain terms and conditions. A mortgage is, therefore, not a loan but the security for a loan. Mortgages can be classified by priority of claims, e.g. first mortgage, second mortgage, etc.

Mortgage Types:

Conventional – generally refers to a mortgage arranged through a lending institution where the amount does not exceed 75% of the value of the property.

High Ratio – generally refers to a mortgage arranged through a lending institution where the amount exceeds 75% of property value.

Vender Take Back – a mortgage that the unpaid vendor of the property has taken from the purchaser as a part payment of the purchase money for the property.

Interest Only Mortgage – an amortizing loan in which the lender receives only interest during the term of the loan and recovers the principal in a lump sum at the time of maturity.

Convertible Mortgage – a mortgage in which the lender may choose to take an equity interest in the real estate in lieu of cash amortization payments by the borrower.

Net Absorption: The change in occupied space from one period to the next.

Net Absorption Rate: The change in occupied space in a market divided by the NLA within that market. The net absorption rate is an indicator of market change.

6 APPENDIX 3

Net Effective Rent: The rent available to the landlord from rented space after the costs of TI’s and other inducements have been subtracted from the net rent.

Net Operating Income is the difference between a property’s revenues and expenses, excluding depreciation, interest, principal payments, and income taxes.

Net Present Value: Is the sum of all revenues and costs associated with a multi-year investment, expressed in present dollars after adjusting for risk.

Net Rent: The rent paid by a tenant for space, excluding operating costs.

Net Rentable Area. The area that the tenants pay rent on in the building.

Occupied Space: The space that the tenants actually occupy in the building.

Occupancy Rate: Net rentable space in the building under contract divided by the total net rental space in the building.

Operating Costs: The costs of operating the building’s common areas, including utilities and property taxes.

Percentage Rent: A rent adjustment that is based upon retail sales and usually is applied when sales reach particularly high levels.

Property Taxes: A municipal tax that is directly charged to building owners and usually recouped from tenants through operating costs.

Renewal: The signing of a new lease by an existing tenant.

Rent Step: A point within the lease term when the rent changes (e.g. increases).

Return on Investment (ROI) is a measure of the income generating capacity of an investment. It is calculated by dividing a property’s net income by the value of the investment.

Return on Equity (ROE) is a measure of the income generating capacity of a property relative to the equity invested by the property owner. It is calculated by dividing a property’s net income by the equity invested.

Site Area: The land area of the subject property.

Sub-lease Space: Space that is under lease, but not being used by a tenant and available for rent. The amount of sub-lease space in the market is an indicator of market change.

Tenant Improvements (TI’s): The cost of improvements to rentable space paid for by the landlord.

Term: Refers either to the length of a lease; or the period within which a loan is outstanding.

Vacancy: Rentable space that is not under lease.

Vacancy Rate: Building vacancy divided by Net Leasable Area.

7 APPENDIX

CHAPTER Basic Concept of Time Value 1 of Money

1.1 INTRODUCTION

Money has time value. A rupee today is more valuable than a year hence. It is on this concept “the time value of money” is based. The recognition of the time value of money and risk is extremely vital in financial decision making. Most financial decisions such as the purchase of assets or procurement of funds, affect the firm’s cash flows in different time periods. For example, if a fixed asset is purchased, it will require an immediate cash outlay and will generate cash flows during many future periods. Similarly if the firm borrows funds from a bank or from any other source, it receives cash and commits an obligation to pay interest and repay principal in future periods. The firm may also raise funds by issuing equity shares. The firm’s cash balance will increase at the time shares are issued, but as the firm pays dividends in future, the outflow of cash will occur. Sound decision-making requires that the cash flows which a firm is expected to give up over period should be logically comparable. In fact, the absolute cash flows which differ in timing and risk are not directly comparable. Cash flows become logically comparable when they are appropriately adjusted for their differences in timing and risk. The recognition of the time value of money and risk is extremely vital in financial decision-making. If the timing and risk of cash flows is not considered, the firm may make decisions which may allow it to miss its objective of maximising the owner’s welfare. The welfare of owners would be maximised when Net Present Value is created from making a financial decision. It is thus, time value concept which is important for financial decisions. Thus, we conclude that time value of money is central to the concept of finance. It recognizes that the value of money is different at different points of time. Since money can be put to productive use, its value is different depending upon when it is received or paid. In simpler terms, the value of a certain amount of money today is more valuable than its value tomorrow. It is not because of the uncertainty involved with time but purely on account

1 8 APPENDIX

2 FINANCIAL MATHEMATICS of timing. The difference in the value of money today and tomorrow is referred as time value of money.

1.2 REASONS FOR TIME VALUE OF MONEY

Money has time value because of the following reasons: 1. Risk and Uncertainty : Future is always uncertain and risky. Outflow of cash is in our control as payments to parties are made by us. There is no certainty for future cash inflows. Cash inflows is dependent out on our Creditor, Bank etc. As an individual or firm is not certain about future cash receipts, it prefers receiving cash now. 2. Inflation: In an inflationary economy, the money received today, has more purchasing power than the money to be received in future. In other words, a rupee today represents a greater real purchasing power than a rupee a year hence. 3. Consumption: Individuals generally prefer current consumption to future consumption. 4. Investment opportunities: An investor can profitably employ a rupee received today, to give him a higher value to be received tomorrow or after a certain period of time. Thus, the fundamental principle behind the concept of time value of money is that, a sum of money received today, is worth more than if the same is received after a certain period of time. For example, if an individual is given an alternative either to receive ` 10,000 now or after one year, he will prefer ` 10,000 now. This is because, today, he may be in a position to purchase more goods with this money than what he is going to get for the same amount after one year. Thus, time value of money is a vital consideration in making financial decision. Let us take some examples: EXAMPLE 1: A project needs an initial investment of ` 1,00,000. It is expected to give a return of ` 20,000 per annum at the end of each year, for six years. The project thus involves a cash outflow of ` 1,00,000 in the ‘zero year’ and cash inflows of ` 20,000 per year, for six years. In order to decide, whether to accept or reject the project, it is necessary that the Present Value of cash inflows received annually for six years is ascertained and compared with the initial investment of ` 1,00,000. The firm will accept the project only when the Present Value of cash inflows at the desired rate of interest exceeds the initial investment or at least equals the initial investment of ` 1,00,000. EXAMPLE 2: A firm has to choose between two projects. One involves an outlay of ` 10 lakhs with a return of 12% from the first year onwards, for 9 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 3 ten years. The other requires an investment of ` 10 lakhs with a return of 14% per annum for 15 years commencing with the beginning of the sixth year of the project. In order to make a choice between these two projects, it is necessary to compare the cash outflows and the cash inflows resulting from the project. In order to make a meaningful comparison, it is necessary that the two variables are strictly comparable. It is possible only when the time element is incorporated in the relevant calculations. This reflects the need for comparing the cash flows arising at different points of time in decision-making.

1.3 TIMELINES AND NOTATION

When cash flows occur at different points in time, it is easier to deal with them using a timeline. A timeline shows the timing and the amount of each cash flow in cash flow stream. Thus, a cash flow stream of ` 10,000 at the end of each of the next five years can be depicted on a timeline like the one shown below.

As shown above, 0 refers to the present time. A cash flow that occurs at time 0 is already in present value terms and hence does not require any adjustment for time value of money. You must distinguish between a period of time and a point of time1. Period 1 which is the first year is the portion of timeline between point 0 and point 1. The cash flow occurring at point 1 is the cash flow that occurs at the end of period 1. Finally, the discount rate, which is 12 per cent in our example, is specified for each period on the timeline and it may differ from period to period. If the cash flow occurs at the beginning, rather than the end of each year, the timeline would be as shown in Part B. Note that a cash flow occurring at the end of the year 1 is equivalent to a cash flow occurring at the beginning of year 2. Cash flows can be positive or negative. A positive cash flow is called a cash inflow; and a negative cash flow, a cash outflow.

1. Chandra, Prasanna, Financial Management–Theory and Practice, Fifth edition, TMH Publishing Company Ltd., New Delhi, p. 72. 10 APPENDIX

4 FINANCIAL MATHEMATICS 1.4 VALUATION CONCEPTS

The time value of money establishes that there is a preference of having money at present than a future point of time. It means (a) That a person will have to pay in future more, for a rupee received today. For example : Suppose your father gave you ` 100 on your tenth birthday. You deposited this amount in a bank at 10% rate of interest for one year. How much future sum would you receive after one year? You would receive ` 110 Future sum = Principal + Interest = 100 + 0.10 × 100 = ` 110 What would be the future sum if you deposited ` 100 for two years? You would now receive interest on interest earned after one year. Future sum = 100 × 1.102 = ` 121 We express this procedure of calculating as Compound Value or Future Value of a sum. (b) A person may accept less today, for a rupee to be received in the future. Thus, the inverse of compounding process is termed as discounting. Here we can find the value of future cash flow as on today.

1.5 TECHNIQUES OF TIME VALUE OF MONEY

There are two techniques for adjusting time value of money. They are: 1. Compounding Techniques/Future Value Techniques 2. Discounting/Present Value Techniques The value of money at a future date with a given interest rate is called future value. Similarly, the worth of money today that is receivable or payable at a future date is called Present Value. Compounding Techniques/Future Value Technique

In this concept, the interest earned on the initial principal amount becomes a part of the principal at the end of the compounding period. FOR EXAMPLE: Suppose you invest ` 1000 for three years in a saving account that pays 10 per cent interest per year. If you let your interest income be reinvested, your investment will grow as follows: 11 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 5 First year : Principal at the beginning 1,000 Interest for the year (` 1,000 × 0.10) 100 Principal at the end 1,100 Second year : Principal at the beginning 1,100 Interest for the year (` 1,100 × 0.10) 110 Principal at the end 1210 Third year : Principal at the beginning 1210 Interest for the year (` 1210 × 0.10) 121 Principal at the end 1331 This process of compounding will continue for an indefinite time period. The process of investing money as well as reinvesting interest earned there on is called Compounding. But the way it has gone about calculating the future value will prove to be cumbersome if the future value over long maturity periods of 20 years to 30 years is to be calculated. A generalised procedure for calculating the future value of a single amount compounded annually is as follows: n Formula: FVn = PV(1 + r)

In this equation (1 + r)n is called the future value interest factor (FVIF).

where, FVn = Future value of the initial flow n year hence PV = Initial cash flow r = Annual rate of Interest n = number of years By taking into consideration, the above example, we get the same result. n FVn = PV (1 + r) = 1,000 (1.10)3

FVn = 1331 To solve future value problems, we consult a future value interest factor (FVIF) table. The table shows the future value factor for certain combinations of periods and interest rates. To simplify calculations, this expression has been evaluated for various combination of ‘r’ and ‘n’. Exhibit 1.1 presents one such table showing the future value factor for certain combinations of periods and interest rates.

12 APPENDIX

6 FINANCIAL MATHEMATICS Continued of Time Value of Money

Exhibit 1.1 Value of FVIFr, n for various combinations of r and n n/r 6% 8% 10% 12% 14% 2 1.124 1.166 1.210 1.254 1.300 4 1.262 1.360 1.464 1.574 1.689 6 1.419 1.587 1.772 1.974 2.195 8 1.594 1.851 2.144 2.476 1.853 10 1.791 2.159 2.594 3.106 3.707 12 2.012 2.518 3.138 3.896 4.817 Future Value of A Single Amount (Lumpsum)

The formula for calculating the Future Value of a single amount is as follows: n FVn = PV (1 + r) ILLUSTRATION 1: If you deposit ` 55,650 in a bank which is paying a 12 per cent rate of interest on a ten-year time deposit, how much would the deposit grow at the end of ten years? SOLUTION: n FVn = PV(1 + r) or FVn = PV(FVIF12%,10 yrs) ` 10 FVn = 55, 650 (1.12) = ` 55,650 × 3.106 = ` 1,72,848.90 1.6 MULTIPLE COMPOUNDING PERIODS

Interest can be compounded monthly, quarterly and half-yearly. If compounding is quarterly, annual interest rate is to be divided by 4 and the number of years is to be multiplied by 4. Similarly, if monthly compounding is to be made, annual interest rate is to be divided by 12 and number of years is to be multiplied by 12. The formula to calculate the compound value is mn× ⎛⎞r FVn = PV ⎜⎟1 + ⎝⎠m where, FVn = Future value after ‘n’ years PV = Cash flow today r = Interest rate per annum m = Number of times compounding is done during a year n = Number of years for which compounding is done. ILLUSTRATION 2: Calculate the compound value when ` 1000 is invested for 3 years and the interest on it is compounded at 10% p.a. semi-annually. 13 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 7 SOLUTION: The formulae is mn× ⎛⎞r FVn = PV ⎜⎟1 + ⎝⎠m 23× ⎛⎞.10 = 1000×+⎜⎟ 1 ⎝⎠2 = ` 1340 OR The compound value of Re. 1 at 5% interest at the end of 6 years is ` ` 1.340. Hence the value of 1000 using the table (FVIFr, n) will be

FVn = 1000 × 1.340 = ` 1,340 ILLUSTRATION 3: Calculate the compound value when ` 10,000 is invested for 3 years and interest 10% per annum is compounded on quarterly basis. SOLUTION: The formulae is mn× ⎛⎞r FVn = PV ⎜⎟1 + ⎝⎠m 43× ⎛⎞.10 = 10,000⎜⎟ 1 + ⎝⎠4 = 10,000 (1 + 0.025)12 = ` 13,448.89 ILLUSTRATION 4: Mr. Ravi Prasad and Sons invests ` 500, ` 1,000, ` 1,500, Rs 2,000 and ` 2,500 at the end of each year. Calculate the compound value at the end of the 5th year, compounded annually, when the interest charged is 5% per annum. SOLUTION: Statement of the compound value End of Amount Number of Years Compounded Interest Future

the Year Deposited Compounded Factor (FVIFr, n) Value from Appendix (1) (2) (3) (4) (2) × (4) 1 500 4 1.216 608.00 2 1,000 3 1.158 1,158.00 3 1,500 2 1.103 1,654.50 4 2,000 1 1.050 2,100.00 5 2,500 0 1.000 2,500.00 Amount at the end of 5th year is Future Value = 8020.50 14 APPENDIX

8 FINANCIAL MATHEMATICS 1.7 FUTURE VALUE OF MULTIPLE CASH FLOWS

The above illustration is an example of multiple cash flows. The transactions in real life are not limited to one. An investor investing money in instalments may wish to know the value of his savings after ‘n’ years. The formulae is ⎛⎞r FV = PV ⎜⎟1 + n ⎝⎠m where FVn = Future value after ‘n’ years PV = Present value of money today r = Interest rate m = Number of times compounding is done in a year.

1.8 EFFECTIVE RATE OF INTEREST IN CASE OF MULTI-PERIOD COMPOUNDING

Effective interest rate brings all the different bases of compounding such as yearly, half-yearly, quarterly, and monthly on a single platform for comparison to select the beneficial base. Now, the question is which works out highest interest amount? When interest is compounded on half-yearly basis, interest amount works out more than the interest calculated on yearly basis. Quarterly compounding works out more than half-yearly basis. Monthly compounding works out more than even quarterly compounding. So, if compounding is more frequent, then the amount of interest per year works out more. Now, we want to equate them for comparison. Suppose, an option is given as the following: Basis of Compounding Interest Rate Yearly 10% Half-yearly 9.5% Quarterly 9% Monthly 8.5% Now, the question is which basis of compounding is to be accepted to get the highest interest rate. The answer is to calculate ‘Effective Interest Rate’. The formulae to calculate the Effective Interest Rate is m ⎛⎞r EIR = ⎜⎟11+− ⎝⎠m where EIR = Effective Rate of Interest r = Nominal Rate of Interest (Yearly Interest Rate) m = Frequency of compounding per year 15 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 9 Take nominal interest rate as the base and find-out the comparable rate of interest for half-yearly, quarterly and monthly basis and select that which is most attractive. ILLUSTRATION 5: (i) A company offers 12% rate of interest on deposits. What is the effective rate of interest if the compounding is done on (a) Half-yearly (b) Quarterly (c) Monthly (ii) As an alternative, the following rates of interest are offered for choice. Which basis gives the highest rate of interest that is to be accepted? Basis of Compounding Interest Rate Yearly 12% Half-yearly 11.75% Quarterly 11.50% Monthly 11.25% SOLUTION: (i) The formula for calculation of effective interest is as below: ⎛⎞r EIR = ⎜⎟11+− ⎝⎠m (A) When the compounding is done on half-yearly basis: ⎡⎤⎛⎞2 ⎢⎥.12 EIR = ⎜⎟1 +−1 ⎣⎦⎝⎠2 = 1.1236 – 1 = 12.36% (B) When the compounding is done on quarterly basis 4 ⎡⎤.12 EIR = ⎢⎥11+− ⎣⎦4 = 0.1255 = 12.55% (C) When the compounding is done on monthly basis 12 ⎡⎤.12 EIR = ⎢⎥11+− ⎣⎦12 = 0.1268 = 12.68% 16 APPENDIX

10 FINANCIAL MATHEMATICS

Basis of Compounding Interest Rate EIR Yearly 12% 12% Half-yearly 12% 12.36% Quarterly 12% 12.55% Monthly 12% 12.68% (ii) When the compounding is done on half-yearly basis 2 ⎡⎤.1175 EIR = ⎢⎥11+− ⎣⎦2 = 0.1209 = 12.09% When the compounding is done on quarterly basis: 4 ⎡⎤0.1150 EIR = ⎢⎥11+− ⎣⎦4 = .1200 = 12% When the compounding is done on monthly basis 12 ⎡⎤0.1125 EIR = ⎢⎥11+− ⎣⎦12 = 0.1184 = 11.84% Thus, out of all interest rate, interest rate of 11.75% on half-yearly compounding works out to be the highest effective interest rate i.e., 12.09% so this option is to be accepted. ILLUSTRATION 6: Find out the effective rate of interest, if nominal rate of interest is 12% and is quarterly compounded. ⎡⎤m ⎛⎞r SOLUTION: EIR = ⎢⎥⎜⎟11+− ⎣⎦⎝⎠m ⎡⎤⎛⎞4 ⎢⎥.12 = ⎜⎟11+− ⎣⎦⎝⎠4 = [(1 + 0.03)4 – 1] = 1.126 – 1 = 0.126 = 12.6% p.a. 17 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 11 Growth Rate

The compound rate of growth for a given series for a period of time can be calculated by employing the future value interest factor table (FVIF) EXAMPLE: Years Profit (in Lakhs) 1 95 2 105 3 140 4 160 5 165 6 170 How is the compound rate of growth for the above series determined? This can be done in two steps: (i) The ratio of profits for year 6 to year 1 is to be determined i.e., 170 = 1.79 95

(ii) The FVIFr,n table is to be looked at. Look at a value which is close to 1.79 for the row for 5 years. The value close to 1.79 is 1.762 and the interest rate corresponding to this is 12%. Therefore, the compound rate of growth is 12 per cent.

1.9 DISCOUNTING OR PRESENT VALUE CONCEPT

Present value is the exact opposite of future value. The present value of a future cash inflow or outflow is the amount of current cash that is of equivalent value to the decision maker. The process of determining present value of a future payment or receipts or a series of future payments or receipts is called discounting. The compound interest rate used for discounting cash flows is also called the discount rate. In the next chapter, we will discuss the net present value calculations.

1.10 SIMPLE AND COMPOUND INTEREST

In compound interest, each interest payment is reinvested to earn further interest in future periods. However, if no interest is earned on interest, the investment earns only simple interest. In such a case, the investment grows as follows: Future value = Present value [1 + Number of years × Interest rate] For example, if ` 1,000 is invested @ 12% simple interest, in 5 years it will become 1,000 [ 1 + 5 × 0.12] = ` 1,600 18 APPENDIX

12 FINANCIAL MATHEMATICS The following table reveals how an investment of ` 1,200 grows over time under simple interest as well as compound interest when the interest rate is 12 per cent. From this table, we can feel the power of compound interest. As Albert Einstein once remarked, “ I don’t know what the seven wonders of the world are, but I know the eighth – the compound interest. You may be wondering why your ancestors did not display foresight. Hopefully, you will show concern for your posterity.” Value of ` 1,000 invested at 10% simple and compound interest Year Simple Interest Compound Interest Starting Balance + Interest Starting Balance + Interest = Ending Balance = Ending Balance 1 1,000 + 100 = 1,100 1,000 + 100 = 1,100 5 1,400 + 100 = 1,500 1,464 + 146 = 1,610 10 1,900 + 100 = 2,000 2,358 + 236 = 2,594 20 2,900 + 100 = 3,000 6,116 + 612 = 6,728 50 5,900 + 100 = 6,000 1,06,718 + 10672 = 11,7,390 100 10,900 + 100 = 11,000 1,25,27,829 + 12,52,783 = 1,37,80,612

ILLUSTRATION 7: Mr. Rahul has deposited ` 1,00,000 in a saving bank account at 6 per cent simple interest and wishes to keep the same, for a period of 5 years. Calculate the accumulated Interest. SOLUTION: S1 = P0 (I) (n) where S1 = Simple interest

P0 = Initial amount invested I = Interest rate n = Number of years ` S1 = 1,00,000 × 0.06 × 5 years ` S1 = 30,000 If the investor wants to know his total future value at the end of ‘n’ years. Future value is the sum of accumulated interest and the principal amount. Symbolically FVn = P0 + P0(I) (n) OR

S1 + P0 ILLUSTRATION 8: Mr. Krishna’s annual savings is ` 1,000 which is invested in a bank saving fund account that pays a 5 per cent simple interest. Krishna wants to know his total future value or the terminal value at the end of a 8 years time period. 19 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 13

SOLUTION: FVn = P0 + P0 (I) (n) = ` 1000 + ` 1000 (0.05) (8) = ` 14,000 Compound Interest

ILLUSTRATION 9: Suppose Mr. Jai Singh Yadav deposited ` 10,00,000 in a financial institute which pays him 8 percent compound interest annually for a period of 5 years. Show how the deposit would grow. SOLUTION: 8 FV5 = P0 (1 + I) 5 FV5 = 10,00,000 ( 1 + 0.08) = 10,00,000 (1.469) ` FV5 = 14,69,000 Note: See compound value of one rupee Table for 5 years at 8% interest. Variable Compounding Periods/Semi-annual Compounding ILLUSTRATION 10: How much does a deposit of ` 40,000 grow in 10 years at the rate of 6% interest and compounding is done semi-annually. Determine the amount at the end of 10 years. ⎛⎞24 SOLUTION: I FV = P0 ⎜⎟1 + 10 ⎝⎠2 2 ×10 ⎛⎞0.06 = Rs. 40,000⎜⎟ 1 + ⎝⎠2 = ` 40,000 (1.806) = Rs. 72,240 Alternatively, see the compound value for one rupee table for year 20 and 3% interest rate. ILLUSTRATION 11: (Quarterly compounding): Suppose a firm deposits ` 50 lakhs at the end of each year, for 4 years at the rate of 6 per cent interest and compounding is done on a quarterly basis. What is the compound value at the end of the 4th year? ⎛⎞4 × n SOLUTION: I FV = P0 ⎜⎟1 + 4 ⎝⎠4 44× ⎛⎞6 = Rs. 50,00,000⎜⎟ 1 + ⎝⎠4 = ` 50,00,000 × 1.267 = ` 63,35,000 20 APPENDIX

14 FINANCIAL MATHEMATICS Compound Growth Rate

n Formula: gr = V0 (1 + r) = Vn where, gr = Growth rate in percentages

V0 = Variable for which the growth rate is needed Vn = Variable value (amount) at the end of year ‘n’ (1 + r)n = Growth rate. ILLUSTRATION 12: From the following dividend data of a company, calculate compound rate of growth for 2003–2008. Year Dividend per Share (`) 2003 21 2004 22 2005 25 2006 26 2007 28 2008 31 SOLUTION: n gr = V0 (1 + r) = Vn = 21 (1 + r)5 = 31 31 = (1 + r)5 = = 1.476 21 Alternatively, the compound value one Rupee table for 5 years should be seen till closed value to the compound factor is found. After finding the closest value, first above it is seen to get the growth rate.

THEORETICAL QUESTIONS

1. What do you mean by time value of money? 2. What is the difference between compound and simple interest? 3. Why is the consideration of time important in financial decision-making? How can time be adjusted? Illustrate your answer. 4. Explain the meaning and importance of valuation concept. How does valuation concept help in decision making? 5. Distinguish between (a) Compounding and Discounting technique (b) Effective and Nominal rate of interest 6. “A bird in hand is more preferable than two birds in the bush.” Explain. 7. State the relationship between effective rate of interest and the nominal rate of interest. 8. What is multi-period compounding? How does it affect the annual rate of interest? Give an example. 21 APPENDIX

BASIC CONCEPT OF TIME VALUE OF MONEY 15

9. “A rational human being has a time preference for money.” Give reasons. 10. Explain the discounting and compounding technique of time value of money?

NUMERICAL PROBLEMS

1. Mr. Jitendra deposited ` 1,00,000 in a saving bank account today, at 5 per cent simple interest for a period of 5 years. What is his accumulated interest? [Ans. ` 2500] 2. Determine the future value of ` 1,00,000 if you invest in a bank for 5 years at 6% rate of interest. [Ans. ` 1,33,800] 3. Mr. Abhisekh deposits ` 5,00,000 for a period of 10 years at 10% rate of interest. What would be the value of his sum after 10 years? [Ans. ` 12,97,000] 4. Mr. Dhiraj deposits ` 1,00,000 at the end of each year for 10 years. What will be the value of his money at the end of 10 years at (a) 9%, (b) 10% and (c) 12%? [Ans. (a) ` 15,19,300; (b) ` 15,93, 700; (c) ` 17,54,900] 5. If you deposit ` 1,00,000 in a bank which provides an interest of 12% quarterly compounding is done. How much will the investment be after 5 years? [Ans. ` 1,80,611] 6. Mr. Raj deposits ` 10,00,000 and he receives ` 1,00,000 every year for the next 20 years. Find out the rate of interest being offered to the investor. [Ans. 7.6% approx.] 7. Suppose you deposit ` 1,00,000 with an investment company, which pays 10 per cent interest with semi-annual compounding. What is the total deposit amount at the end of the 5 years? [Ans. ` 1,21,900] 8. Mr. Singhania deposits at the end of each year ` 2,000, ` 3,000, ` 4,000, ` 5,000 and ` 6,000 for the consequent 5 years respectively. He wants to know his series of deposits value at the end of 5 years with 6 per cent rate of compound interest. [Ans. ` 21,893] 9. A borrower offers 16 per cent rate of interest with quarterly compounding. Determine the effective rate of interest. [Ans. 17%] 10. Mr. Gyan deposits ` 5,000 at the end of each year, at 8% per year. What amount will he receive at the end of 6 years? [Ans. ` 36,680]

22 APPENDIX

Knowledge@Wharton High School The online journal for students interested in finding out more about the world of business. Whyhttp://kwhs.wharton.upenn.edu It Pays to Save: Knowing the Time Value of Money

Date : August 23, 2011

McKenna Klein, 16, has been saving up money since the age of 11. That is when he got his first lawn-mowing job in a park near his home in suburban Denver, Col.

Klein still mows lawns and now tutors neighbors in math. He keeps part of his earnings in a savings account while also investing in stocks. It is important to save promptly, says Klein, a junior at Regis Jesuit High School in Aurora, Col. “Any money that is invested in the present is worth more than in the future because of the interest,”?Twitter notes Klein, who this summer attended an investment camp sponsored by the Future Investor Clubs of America in Orlando, Fla.

The Earlier, the Better

This rule is a basic principle of finance known as “the time value of money.” It means that “the earlier that you start saving, the better it is for your future,”?Twitter says James Roan, 17, a senior at William H. Turner Technical Arts High School in Miami, Fla., who worked as an intern at the investment camp this summer.

Savings accounts can even earn interest on interest through the power of compounding.?Twitter Twitter Twitter “Say I put $1,000 in a savings account that earns 5% a year in compound interest,” says Roan. “The next year I get interest on both the $1,000 and the 5% interest that I already paid.”?Twitter

Banks are hardly paying 5% interest in today’s weak economy. Many accounts now pay less than 1%. “Can you even consider it interest when rates are so low?” asks Nyssa Cederstrom, 15, a sophomore at George C. Marshall High School in Falls Church, Va.

Passbook interest rates for savers have been on a downward trend since the mid-1980s when they averaged just over 5%, according to bankrate.com, a site that has financial rate data and personal finance information. By 2000, this basic rate for savers had slipped to less than 2%.

But Cederstrom hasn’t given up on interest entirely. She is learning to invest in stocks and bonds and puts any profit that she makes into a savings account. “I’m still earning interest even though it’s low,” says Cederstrom, another investment camper. “It’s like rebuilding money.”

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23 APPENDIX

Knowledge@Wharton High School The online journal for students interested in finding out more about the world of business. http://kwhs.wharton.upenn.eduHere are some key points to keep in mind about the time value of money:

Compound interest versus simple interest. Most banks pay compound interest but some pay simple interest. The difference can be costly. Simple interest is paid on the money that you deposit — called the principal — but not on the interest that the deposit has earned. A $1,000 deposit in a 5% savings account would grow to $1,500 after 10 years in a bank that paid simple interest, for example. But the same $1,000 would be worth $1,628 after 10 years in a bank that compounded the 5% interest annually.

Future value. This is what money would be worth after a given number of years at a given interest rate. The future value of $1,000 is $1,500 under simple interest in the example above, and $1,628 under compound interest.

Present value. This shows what money in the future would be worth today based on a given interest rate. If you were to receive $1,000 a year from now, and the current rate of interest was 5%, the money would have a present value of just $952.38. That’s the amount that would grow to $1,000 in a year if you invested the money today at a 5% interest rate.

Discounting. This is the method for determining the present value of money received in the future based on a given interest rate. The example above found the present value of $1,000 received in a year to be $952.38 by making use of discounting.

Rule of 72. This is a quick way to estimate how long it would take to double your money at a given rate of interest. The formula calls for dividing the interest rate into 72. Doing this shows that it would take some 14 years to double an investment that paid a 5% interest rate. It would take about 70 years to double your money if the interest was only 1%.

Concepts like the time value of money and compound interest are so basic that they are easy to overlook. “Most teens don’t understand the power of compounding and are not worried about financial security,” says Klein. “But a modest investment now could result in tens of thousands of dollars — or even hundreds of thousands of dollars — 20 to 30 years from now, and that would be quite remarkable.”?Twitter

Related Links

Future Investor Clubs of America Bankrate.com Investopedia.com CBS MoneyWatch.com Blog: Get Rich Slowly Credit Card Resource The Motley Fool

This post is also available in: Spanish

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24 APPENDIX

W14403t

s TIME VALUE OF MONEY: THE BUY VERSUS RENT DECISION o

Sean Cleary and Stephen Foerster wrote this case solely to provide material for class discussion. The authors do not intend to illustrate either effective or ineffective handling of a managerial situation. The authors may have disguised certain names and other identifying information to protect confidentiality. P This publication may not be transmitted, photocopied, digitized or otherwise reproduced in any form or by any means without the permission of the copyright holder. Reproduction of this material is not covered under authorization by any reproduction rights organization. To order copies or request permission to reproduce materials, contact Ivey Publishing, Ivey Business School, Western University, London, Ontario, Canada, N6G 0N1; (t) 519.661.3208; (e) [email protected]; www.iveycases.comr . Copyright © 2014, Richard Ivey School of Business Foundation o Version: 2015-06-05 In May 2013, Rebecca Young completed her MBA and moved to Toronto for a new job in investment banking. There, she rented a spacious, two-bedroom condominium for $3,000 per month, which included parking but not utilities or cable television. In July 2014, they virtually identical unit next door became available for sale with an asking price of $620,000, and Young believed she could purchase it for $600,000. She realized she was facing the classic buy-versus-rent decision. It was time for her to apply some of the analytical tools she had acquired in businessp school — including “time value of money” concepts — to her personal life. While Young really liked the condominium unito she was renting, as well as the condominium building itself, she felt that it would be inadequate for her long-term needs, as she planned to move to a house or even to a larger penthouse condominium within five to 10 years — even sooner if her job continued to work out well. C Friends and family had given Young a variety of mixed opinions concerning the buy-versus-rent debate, ranging from “you’re throwing your money away on rent” to “it’s better to keep things as cheap and flexible as possible until you aret ready to settle in for good.” She realized that both sides presented good arguments, but she wanted to analyze the buy-versus-rent decision from a quantitative point of view in order to provide some context for the qualitative considerations that would ultimately be a major part of her decision. o

FINANCIAL DETAILS If Young purchasedN the new condominium, she would pay monthly condo fees of $1,055 per month, plus property taxes of $300 per month on the unit. Unlike when renting, she would also be responsible for repairs and general maintenance, which she estimated would average $600 per year. If sheo decided to purchase the new unit, Young intended to provide a cash down payment of 20 per cent of the purchase price. There was also a local deed-transfer tax of approximately 1.5 per cent of the Dpurchase price, and a provincial deed-transfer tax of 1.5 per cent, both due on the purchase date. (For

This document is authorized for educator review use only by Jason Jogia, University of Calgary until October 2015. Copying or posting is an infringement of copyright. [email protected] or 617.783.7860

25 APPENDIX

Page 2 9B14N024

simplicity, Young planned to initially ignore any other tax considerations throughout her analysis.) Other closing fees were estimated to be around $2,000. t

In order to finance the remaining 80 per cent of the purchase price, Young contacted several lenders and 1 s found that she would be able to obtain a mortgage at a 4 per cent “quoted” annual rate that would be locked in for a 10-year term and that she would amortize the mortgage over 25 years, with monthly payments. The money that Young was planning to use for her down payment and closing costs was presently invested and was earning the same effective monthly rate of return as she would beo paying on her mortgage. Young assumed that if she were to sell the condominium — say, in the next two to 10 years — she would pay 5 per cent of the selling price to realtor fees plus $2,000 in other closingP fees. SCENARIO ANALYSIS

In order to complete a financial analysis of the buy-versus-rent decision, Youngr realized that her first task would be to determine the required monthly mortgage payments. Next, she wanted to determine the opportunity cost (on a monthly basis) of using the lump-sum required funds for the condominium purchase rather than leaving those funds invested and earning the effectiveo monthly rate, assumed to be equivalent to the mortgage rate. She would then be able to determine additional monthly payments required to buy the condominium compared to renting, including the opportunity cost. Young wanted to consider what might happen if she chose toy sell the condominium at a future date. She was confident that any re-sell would not happen for at least two years, but it could certainly happen in five or 10 years’ time. She needed to model the amount of the outstanding principal at various points in the future — two, five or 10 years from now. She then wantedp to determine the net future gain or loss after two, five and 10 years under the following scenarios, which she had determined were possible after some due diligence regarding future real-estate prices in the Toronto condo market: (a) The condo price remains unchanged; (b) The condo price drops 10o per cent over the next two years, then increases back to its purchase price by the end of five years, then increases by a total of 10 per cent from the original purchase price by the end of 10 years; (c) The condo price increases annually by the annual rate of inflation of 2 per cent per year over the next 10 years; and (d) The condo price increases annually by an annual rate of 5 per cent per year over theC next 10 years. FINAL CONSIDERATIONS t Young realized she had a tough decision ahead of her, but she was well trained to make these types of decisions. She also recognized that her decision would not be based on quantitative factors alone; it would need to be based on anyoqualitative considerations as well. She knew she needed to act soon because condominiums were selling fairly quickly, and she would need to arrange financing and contact a lawyer to assist in any paperworkN if she decided to buy. o 1 In Canada, quoted mortgage rates are based on semi-annual compounding, compared with personal loans and most U.S. Dmortgages based on monthly compounding.

26 APPENDIX

Research & Forecast Report CANADA MULTIFAMILY

Mid-Year 2015

27 APPENDIX

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2 Research & Forecast Report | National Multifamily Report | Mid-Year 2015 | Valuation & Advisory Services | Colliers International

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MULTIFAMILY TRENDS: MID-YEAR 2015 The multifamily asset class remains the most stable asset in major Canadian cities. Vancouver, Calgary and Toronto continue to lead the Canadian markets with the highest volume of sales and average sale price. The total value of transactions in major Canadian markets increased by 21.7 percent from mid-year 2014 to mid-year 2015; this can be directly correlated with the increase in number of sales by 14.6 percent. Average price per door remained relatively stable year-over-year from $132,607 in 2014 to $131,724 in 2015.

An emerging trend across Canada is the increased number of purpose-built, condominium-quality apartment building developments. The impact of this renewed focus has not yet registered on the market, but in the long-term, could affect rental rates nationwide. Year-over-year rental rates and vacancy have remained relatively stable, with a minor increase in rental rates (2.8 percent) and vacancy (0.2 percent).

There continues to be compression of capitalization rates in the multifamily asset class across Canada, particularly in the major markets such as Vancouver and Toronto. These continued low capitalization rates, in conjunction with the drop in the Bank of Canada overnight rate, certainly allow for the multifamily asset class to be the most stable and sought after in Canada.

To see the high demand for multifamily assets across Canada, one need not look further than Northern Property REIT’s recent acquisition of True North Apartments and Starlight Investments Ltd. Portfolio. This acquisition has resulted in Northern Property REIT being speculated to become Canada’s third-largest, publicly-traded multifamily REIT. This transaction is an indication of the limited supply of product within the multifamily market across Canada.

As limited supply continues to plague the marketplace, resulting in highly compressed capitalization rates, investors are opting to look into other opportunities such as purpose-built apartment rentals.

CONDOMINIUM STYLE APARTMENT RENTALS Condominium Style Apartment Rentals – the New Multifamily Frontier?

Across Canada, a new trend in the multifamily asset class is burgeoning –condominium-quality, purpose-built apartment rentals. These rentals consist of high-end finishes, 4+ appliance kitchens, in-suite laundry and ample building amenities such as fitness facilities, social rooms and swimming pools.

In many markets oversaturated with condominium developments, these apartment rentals provide developers the opportunity to appeal to another facet of the multifamily market. The target market segment for purpose-built rental units is a stable tenant, who can afford to pay a higher rental rate, but is either not yet in a position to invest in a condominium or home, or is looking to downsize and stabilize their housing costs. This approach is also strategic for developers. By creating apartment rentals, developers are able to reduce brokerage fees for individual condominium sales. Similarly, marketing budgets are significantly lower for rental buildings versus condominiums. Apartment rentals allow for a developer to “value engineer” a building, which can lower the cost of construction of the project. For example - changing the structure of the building to lower construction costs vs. higher structural costs in order to create more efficient units, or providing only 1-2 different combinations of finishes in order to lower purchasing and administrative costs. A condominium-style apartment rental provides the developer the opportunity for longer-term cash flow. If the developer does choose to exit the investment, it is single transaction, rather than multiple condominium sales with multiple investors. This lowers the overall risk of the project as many apartment developers have been successful finding a buyer for the product prior to starting construction, with the end purchaser taking on the leasing/ renting risk in some cases.

Almost every large Canadian city is witnessing one, or multiple, developments of this nature. Although condominium developments can often be points of contention for neighbourhoods, this new approach could put community groups at ease. This is the result of the developer’s commitment to retain ownership, thus impacting his overall approach as the growth and success of both the project and neighbourhood will impact the company.

A barrier to entry in the purpose-built multifamily market is the high cost of land. Many owners are intensifying or repurposing existing sites given the relatively low returns that are possible when a land acquisition is necessary.

3 Research & Forecast Report | National Multifamily Report | Mid-Year 2015 | Valuation & Advisory Services | Colliers International

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AVERAGE PRICES PER DOOR Average sale price per door is up by 2.13 percent across the country. Vancouver continues to have the highest price-per-door compared to the other major Canadian markets at an average of $234,661, followed closely by Toronto at an average price per door of $184,135. Ottawa and Winnipeg bottom out the market, with average price-per-door below $100,000. Montreal remains at the lower end of the spectrum; however its average price per door has increased by 8 percent from mid-year 2014, increasing the average just above the $100,000 mark. Edmonton and Victoria remain in the middle of the market. Year-over-year, only Ottawa, Winnipeg and Toronto have witnessed a negative change in sale price per door, while other major markets have seen an increase. Edmonton had the most drastic positive change with a 20 percent increase in average price per door. Calgary also witnessed a positive change; however, the increased number of transactions might have skewed the results (There were only 14 transactions in 2014, compared to 39 in 2015.).

AVERAGE SALES

AVERAGE SALE PRICE PER DOOR NUMBER OF SALES MARKET 2014 2015 CHANGE 2014 2015 CHANGE Vancouver $231,000.00 $234,661.00 1.58% 52 57 9.62% Calgary $171,712.00 $190,730.00 11.08% 14 39 178.57% Edmonton $122,461.00 $147,177.21 20.18% 21 19 -9.52% Toronto $195,591.00 $184,135.00 -5.86% 74 86 16.22% Ottawa $124,531.00 $94,785.63 -23.89% 21 11 -47.62% Montreal $94,352.00 $102,028.00 8.14% 247 264 6.88% Winnipeg $91,104.00 $69,571.00 -23.64% 8 18 125.00% Victoria $160,699.00 $160,418.00 -0.17% 9 17 88.89%

SALE VOLUME With 264 transactions so far in 2015, Montreal continues to outpace all other Canadian markets: The number of completed deals increased by 6 percent from mid-year 2014. This is drastically higher than both Toronto and Vancouver, which have the second highest volume. Ottawa currently sits at the bottom for mid-year 2015, recording 11 sales. Ottawa represents the largest decline in number of sales year-over-year from 2014 to 2015. Calgary, Winnipeg and Victoria, on the contrary, saw large increases in sales volume, with Winnipeg witnessing a 128 percent increase.

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RENTAL RATES Rental rates experienced modest change across the country by mid-year in comparison with the same period in 2014, with the exception of Edmonton and Winnipeg where average rents grew by 6.27 percent and 5.65 percent, respectively. Montreal and Victoria both witnessed a decrease in average rental rates; however, the year-over-year change was minimal at 0.49 percent and 0.34 percent. Toronto has overtaken Vancouver for the title of highest average rental rates in Canada, with a mid-year average rental rate of $1,188, compared to Vancouver, which averaged $1,177. Montreal continues to have the lowest average rental rates in Canada, with an average of $717, making it the most affordable city in the Canadian multifamily rental market.

AVERAGE RENTS BACHELOR 1 BEDROOM 2 BEDROOM 3 BEDROOM AVERAGE MARKET CHANGE Q2 2014 Q2 2015 Q2 2014 Q2 2015 Q2 2014 Q2 2015 Q2 2014 Q2 2015 Q2 2014 Q2 2015 Vancouver $901 $930 $1,039 $1,062 $1,274 $1,345 $1,397 $1,369 $1,153 $1,177 2.06% Calgary $867 $894 $1,087 $1,137 $1,267 $1,319 $1,266 $1,264 $1,122 $1,154 2.83% Edmonton $798 $852 $976 $1,004 $1,180 $1,250 $1,301 $1,416 $1,064 $1,131 6.27% Toronto $857 $902 $1,050 $1,085 $1,241 $1,269 $1,444 $1,495 $1,148 $1,188 3.46% Ottawa $776 $785 $930 $941 $1,136 $1,159 $1,407 $1,482 $1,062 $1,092 2.78% Montreal $569 $546 $654 $660 $742 $742 $917 $920 $721 $717 -0.49% Winnipeg $559 $584 $751 $785 $969 $1,033 $1,135 $1,205 $854 $902 5.65% Halifax $728 $733 $788 $821 $1,010 $1,035 $1,191 $1,230 $929 $955 2.74% Victoria $696 $716 $841 $856 $1,084 $1,105 $1,439 $1,369 $1,015 $1,012 -0.34%

*Note Rental Rates taken from CMHC 2014 Rental Market Report

VACANCY

Vacancy rates have remained relatively stable year-over-year by VACANCY RATES mid-year 2015, with the most significant changes occurring in MARKET Q2 2014 Q2 2015 CHANGE Calgary, Edmonton and Victoria. Calgary and Edmonton have witnessed an increase in vacancy: 1.8 percent and 1 percent, respec- Vancouver 1.80% 1.40% -0.40% tively. This increase can be directly attributed to the change in the Calgary 1.40% 3.20% 1.80% economy that the oil market has caused. Victoria saw a 1.5 percent Edmonton 1.40% 2.40% 1.00% decrease in vacancy, which can be correlated with a modest rise Toronto 1.90% 1.80% -0.10% in employment and population growth due to immigration. Halifax, Calgary and Montreal have the highest vacancy, while Victoria, Van- Ottawa 3.20% 2.80% -0.40% couver and Toronto have the lowest. Overall, average vacancy in Montreal 2.70% 3.30% 0.60% major Canadian markets has risen from 2.36 percent at mid-year Winnipeg 2.00% 2.30% 0.30% 2014 to 2.51 percent in 2015. Halifax 4.10% 4.20% 0.10% *Note Vacancy Rates taken from CMHC 2014 Rental Market Report Victoria 2.70% 1.20% -1.50%

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VALUE OF TRANSACTIONS

Overall, 2015 saw an increase in total $ VALUE OF TRANSACTIONS transaction value across all Canadian MARKET 2014 2015 CHANGE markets. Toronto has the largest transaction value, the result of a 34 Vancouver $318,500,000.00 $368,005,401.00 15.54% percent increase from mid-year 2014, Calgary $43,443,379.00 $209,877,400.00 383.11% followed by Montreal and Vancouver. Edmonton $154,118,800.00 $155,736,887.00 1.05% Notable markets include Calgary, which GTA $523,202,180.00 $705,662,222.00 34.87% experienced a 383 percent increase from 2014 to 2015, and Winnipeg, which Ottawa $151,056,400.00 $101,704,985.00 -32.67% witnessed a 40 percent rise. Montreal $382,506,331.00 $385,560,795.00 0.80% Winnipeg $14,850,000.00 $20,802,000.00 40.08% Victoria $43,067,418.00 $37,387,302.00 -13.19%

CAPITALIZATION RATES

Capitalization rates at mid-year 2015 continued to remain low, with further compression in the major markets of Vancouver, Toronto, Winnipeg and Victoria. Bank of Canada’s announcement on July 15, 2015 lowering the overnight rate to 0.5 percent has made the multifamily asset more appealing due to perceived stability.

Nationally, the highest capitalization rates were in Montreal, in both the high and low- rise categories. It comes as no surprise that the lowest capitalization rates across the country were in Vancouver, though closely followed by Toronto. Both these markets are witnessing high demand for assets that in turn continue to compress rates. The spread between good and poor quality assets, or similarly, low and high capitalization rates, was widest in Toronto and narrowest in Ottawa and Victoria.

CAPITALIZATION RATES

MID YEAR 2014 MID YEAR 2015 MARKET HIGH RISE LOW RISE HIGH RISE LOW RISE LOW HIGH LOW HIGH LOW HIGH LOW HIGH Vancouver 3.25% 3.75% 3.75% 4.75% 3.00% 3.25% 3.25% 4.25% Calgary 4.25% 4.75% 4.50% 5.25% 4.25% 4.75% 4.50% 5.25% Edmonton 5.00% 5.50% 5.25% 6.00% 5.00% 5.50% 5.50% 6.50% Toronto 4.50% 5.00% 4.25% 5.00% 3.50% 4.75% 3.50% 4.75% Ottawa 4.50% 5.00% 5.00% 5.50% 4.50% 5.00% 5.00% 5.50% Montreal 5.00% 6.00% 6.00% 6.75% 5.00% 6.00% 6.00% 6.75% Winnipeg 5.00% 5.75% 5.25% 6.00% 4.75% 5.75% 5.00% 6.00% Halifax 5.00% 5.25% 5.25% 6.50% 5.00% 5.25% 5.25% 6.50% Victoria 4.25% 4.50% 4.50% 5.25% 4.00% 4.25% 4.25% 5.00%

6 Research & Forecast Report | National Multifamily Report | Mid-Year 2015 | Valuation & Advisory Services | Colliers International

32 APPENDIX

LOOKING FORWARD - SECOND HALF 2015

Moving into the second half of 2015, low interest rates and compressing capitalization rates will keep the multifamily asset class the most sought-after in Canada. Alberta is expected to experience some fluctuation in conjunction with the oil market. Vancouver and Toronto are projected to remain relatively stable, with capitalization rates expected to bottom out eventually. The middle markets, such as Winnipeg, Victoria, Ottawa, and Halifax are expected to continue to experience some volatility in the multifamily sector; however, as demand increases across Canada, there is potential for some spillover to these secondary markets.

About the Authors

Chris Marlyn Senior Vice President | Canada +1 403 298 0439 [email protected]

Chris Marlyn is the Senior Vice President of Colliers International Valuation and Advisory Services. In this position, Chris has provided increased efficiency, streamlined the process and improved the quality of the end user products. With Chris’ experience in valuing a variety of asset classes, he has helped position Colliers International Valuation and Advisory Services Colliers International as a preferred service provider to National and Regional institutional quality clients.

Matt Bruchkowsky Senior Director | Toronto +1 416 643 3757 [email protected]

Matthew Bruchkowsky is a Senior Director with Valuation and Advisory Services in the Toronto office. Matthew has focused his efforts on the multi- residential asset class, as the GTA team lead for the Multifamily Group. Matthew has 7 years of experience working in commercial real estate, and has the AACI designation from the Appraisal Institute of Canada,

7 Research & Forecast Report | National Multifamily Report | Mid-Year 2015 | Valuation & Advisory Services | Colliers International

33 APPENDIX

MARKET CONTACT: Chris Marlyn offices in Senior Vice President 502 Valuation & Advisory Services | Canada +1 403 298 0439 67 countries on [email protected] Matthew Bruchkowsky 6 continents Senior Associate Valuation & Advisory Services | Toronto United States: 140 +1 416 643 3757 Canada: 31 [email protected] Latin America: 24 Asia Pacific:199 CONTRIBUTORS: EMEA: 108 Oliver Tighe Managing Director, Valuation & Advisory Services | Ottawa +1 613 806 2225 [email protected]

Frannie Heeney $2.3 Market Intelligence & Communications | Ottawa billion in +1 613 683 2226 annual revenue [email protected]

Colliers International | Canada 1.7 200 Granville Street, 19th Floor billion square feet Vancouver, BC | Canada under management

16,300 professionals and staff

About Colliers International Group Inc. Colliers International Group Inc. is a global leader in commercial real estate services, with more than 16,300 professionals operating out of 502 offices in 67 countries. Colliers International delivers a full range of services to real estate occupiers, owners and investors worldwide, including global corporate solutions, brokerage, property and asset management, hotel investment sales and consulting, valuation, consulting and appraisal services, mortgage banking and insightful research. In 2014, the firm handled $97 billion in total transaction value for 84,600 leases and sales. Colliers manages more than 1.7 billion square feet of commercial properties.

Colliers International Group Inc. generates more than US$2.3 billion in annual revenues. With significant insider ownership and an experienced management team, Colliers International has a long-term track record of creating value and superior returns for shareholders – previously under the ownership of FirstService, and as of June 2015, continuously as an independently owned company. The common shares of Colliers International Group Inc. trade on the NASDAQ under the symbol “CIGI” and on the Toronto Stock Exchange under the symbol “CIG”.

collierscanada.com

Copyright © 2015 Colliers International. The information contained herein has been obtained from sources deemed reliable. While every reasonable effort has been made to ensure its accuracy, we cannot guarantee it. No responsibility is assumed for any inaccuracies. Readers are encouraged to consult their professional advisors prior to acting on any of the material contained in this report.

34 APPENDIX

National Retail Report Canada SPRING 2015 EDITION

Accelerating success.

35 APPENDIX

Report prepared by Colliers International Consulting James Smerdon Vice President and Director, Retail Consulting DIRECT +1 604 685 4808 [email protected] James is a retail consultant and market analyst with Colliers International Consulting, based in Vancouver. James has been a consultant since 1997, and has advised on hundreds of retail development projects across the country. http://www.collierscanada.com/Services/Consulting

David Bell Senior Associate, Planning and Retail Consulting DIRECT +1 604 694 7243 [email protected] David is a retail planning consultant and market analyst with Colliers International Consulting, having joined the Vancouver office in 2010. Over the past 16 years, David has consulted on hundreds of public and private sector retail and mixed-use projects throughout Canada. http://www.collierscanada.com/Services/Consulting

Colliers International Consulting (CIC) Colliers International Consulting (CIC) is an independent consulting group based in Vancouver, British Columbia. CIC specializes in strategic real estate analysis for Private and Public Sector clients both domestically and abroad. Our project experience spans a range of specializations in:

Strategic Advisory Development Management Community Consultation Acquisition/Divestiture Strategies Facilities Planning Community Workshops & Consultation Asset & Portfolio Management Project Budgeting/Scheduling Focus Groups Competitive Assessment Tenant Improvements Consolidation Advice Market Analysis Feasibility Analysis First Nation Advisory Absorption Analysis Highest & Best Use Studies Community Planning Competitive Assessment Merchandising Economic Development Demand Assessment Pro Forma Development Governance Demographic Modeling Retail Inventory Analysis Public Consultation Demographic Profiling Retail Locational Analysis Market Impact Assessment Retail Potential Analysis Urban Planning Residential & Commercial Market Revitalization/Redevelopment Studies Municipal Approval Process Analysis Site Selection and Ranking Site Planning & Concept Development Strategic Planning Strategic Positioning Trade Area Analysis

36 APPENDIX

What is Canada's Largest Retailer?

A seemingly simple question then becomes more complex as we tried to answer it. Is the largest retailer the one with the greatest global revenue? Highest sales volume in Canada alone? The largest single banner or collective of many store banners? Or is size simply a measure of floor area? We have all the answers to the one question of Canada’s largest retailer:

Global revenue: according to the Globe and Mail, the Canadian retailer boasting the greatest revenue is Alimentation Couche-Tard, with global revenue from this diverse convenience store and gas station conglomerate topping $35.5 billion in 2013. George Weston Ltd. is close behind at $33.7 billion, however, Loblaw Cos. is also listed by the Globe and Mail at $32.4 billion, and Shoppers Drug Mart (acquired by Loblaw) at $11.1 billion. If those revenues are added to the George Weston Ltd. total, it would be the largest Canadian-based retailer by a clear margin.

Canadian Sales: the Centre For the Study of Commercial Activity (CSCA) compiles a list of Canada’s leading

37 APPENDIX

retailers, which includes only domestic retail sales. The CSCA list (using 2013 data) has the Weston Largest Online: Group number one ($32.4 billion), and Shoppers Drug Mart ranking 6th with an additional $10.9 Current estimates of online sales revenue has Amazon leading for Canadians’ billion. Clearly, the Weston Group is the leading online spending with over $2 billion in sales in 2014. Walmart has made a conglomerate at selling to Canadians. Walmart strong push into online retailing. In only the last 4 years, Walmart has grown Canada ranks second at $27.1 billion (2013), but its online sales to over $1 billion in Canada. While the total sales volumes still 2015 sales will undoubtedly reflect the Target Canada closures on Walmart’s bottom line. In 2013, pale in comparison to traditional retailing, the growth rates continue to according to CSCA, Target Canada’s sales were $1.3 amaze: Walmart’s online sales are growing at an average of 165% per year, billion spread over 13,600,000 ft.². This means that and online as a whole grew by 15% last year. Target Canada’s chain wide productivity was an anemic $97 per square foot, compared to Walmart’s $492!

Single Banner: if we just look at sales through a single store brand, there is none larger than Walmart. With Canadian sales of $27.1 billion, Walmart’s national chain of almost 400 stores is truly remarkable.

Floor Area: according to CSCA’s most recent data, Walmart’s 2013 store network covered over 55,000,000 ft.² this number has certainly jumped in recent years both through the development of new stores as well as assuming some of the vacated Zellers and Target stores. However, Weston Group’s 52,600,000 ft.² plus 13,800,000 ft.² acquired with Shoppers Drug Mart means that the Westons trump the Waltons in this category too.

Economic Impact: with almost 1400 stores (rank 4), 22 different chains (1), and 250,000 employees (1, including SDM), The Weston Group is without a doubt Canada’s first family of retail. Their chains cover Canada from coast to coast and represent over 14% of all retail sales in this country.

Sales productivity: On most of the above categories, depending on the fiscal year or whether you consider multiple banners to be multiple retailers, for example, there can be some debate about the rankings. On sales productivity, however, there is no debate. Apple operates 29 stores in this country, and occupies only 203,000 ft.². Its 2013 gross sales of $1.47 billion give it an average sales productivity rate of over $7200 per square foot. Some of the more productive Apple stores in the country are estimated to have double that average productivity. Expect these numbers to rise even higher once the Apple Watch is sold through stores and not just online. As a point of reference, the top 10 retailers in CSCA’S ranking of largest retailers average sales of just $585 per square foot.

38 APPENDIX

Colliers’ 2014 Forecast versus Reality Actual 2014 retail sales by province ended up being very close to Colliers’ forecast numbers, as provided in the Fall edition of Colliers’ National Retail Report. Actual national retail sales volume of $505.56 billion just barely eclipsed expected volume of $505.38 billion.

Projections for the “Big 4” provinces, which account for 85% of Canada’s national retail sales volume, were again very close to actual performance:

> Ontario — Actual 2014 sales for Canada’s largest provincial retail market (roughly Other standout performances worthy 35% of Canada’s sales) came in at just under $176.2 billion – exceeding CIC’s of mention are those of: projection ($175.4 billion) by less than 0.5%. Ontario placed third overall in terms of > Manitoba — Manitoba continues to growth relative to 2013. place well on the national retail sales > Quebec — Canada’s second largest market, accounting for 22% of national sales, growth list, reaching fifth spot behind recorded 2014 retail sales of $109.03 billion – less than 0.3% short of CIC’s Saskatchewan and Ontario on sales projected figure of $109.35 billion. approaching $18 billion (up 3.9% over > Alberta — Canada’s third largest provincial retail market topped the year-over-year 2013). growth ranking once again in 2014, recording roughly $78.7 billion in sales – nearly > Saskatchewan — Saskatchewan 7.7% above 2013 volume. This fell short of Colliers’ projected volume of roughly $79 recorded another strong retail year on billion by about 0.4%. total retail sales of $19.1 billion - a 4.5% > British Columbia — Rounding out the “Big 4”, B.C. had a strong year, ringing up over increase over 2013, though slightly $66.4 billion in retail sales and exceeding Colliers’ anticipated volume of $66.2 billion below Colliers’ expectation of over by just over 0.3%. 5.1%.

Colliers' 2014 Projection vs. Actual Performance All Retail Categories Actual 2014 Accuracy of Projected CIC Projected Sales Performance Colliers' (Actual) Province 2013-14 2013-14 Prediction Rank 2014 ($B) 2014 ($B) YOY% YOY% (+/-%) 1 (1) Alberta $79.03 8.10% $78.71 7.65% 0.41% 2 (2) British Columbia $66.19 5.51% $66.41 5.87% -0.33% 3 (4) Saskatchewan $19.24 5.15% $19.13 4.53% 0.58% 4 (3) Ontario $175.37 4.23% $176.19 4.72% -0.47% 5 (5) Manitoba $17.62 3.60% $17.97 3.87% -1.95% 6 (6) New Brunswick $11.51 3.60% $11.51 3.63% 0.00% 7 (7) Newfoundland & $8.89 3.56% $8.88 3.42% 0.11% 8 (8) Prince Edward Island $2.00 2.89% $2.00 2.97% 0.00% 9 (9) Quebec $109.35 2.86% $109.03 2.56% 0.29% 10 (10) Nova Scotia $13.96 2.60% $13.90 2.16% 0.43%

Canada $505.38 4.63% $505.56 4.67% -0.04%

Source: Statistics Canada CANSIM database - Cat. 080-0020. Colliers International Consulting

39 APPENDIX

2015 Canadian Retail Performance to Date What a difference a year makes. With the WTI Oil price index taking a plunge in late 2014, the negative impact on consumer confidence and ultimately retail sales over the immediate term has been clear. The WTI topped $107 in June of 2014, but plunged to about $45 in mid March, 2015. Since then, prices have climbed and now stand at just over $60/barrel, but the impact on consumer confidence in part due to this dramatic drop in oil prices and related employment rationalizations over the immediate term is clear in the retail sales performance figures through March of this year.

As noted in the chart below, while Alberta and Saskatchewan started the year off especially well through the 1st quarter of the 2012-14 period, the first quarter of 2015 reflects a dramatic shift in consumer behavior relative to last year, with Alberta, Saskatchewan, and the east coast provinces all recording significant, sales declines relative to the first quarter of 2014. With oil prices now in the low $60 range, it will be interesting to see how Q2 retail sales volumes adjust.

12% 1Q Year over Year Retail Sales Growth by Province

10% (2012-2015)

2012 2013 2014 2015 8%

-2% QUEBEC ONTARIO ALBERTA -4% MANITOBA NOVA NOVA SCOTIA SASKATCHEWAN -6% NEW BRUNSWICK BRITISH COLUMBIA BRITISH PRINCE EDWARD PRINCE EDWARD ISLAND

NEWFOUNDLAND AND NEWFOUNDLAND LABRADOR

British Columbia, Meanwhile, has leapt out of the gate in 2015, with first quarter year-over-year sales growth approaching 8%. This upswing in retail sales activity matches Conference Board of Canada expectations of BC GDP growth of 2.6% for 2015, in part due to growth in exports spurred on by a strengthened U.S. economy.

Ontario's first quarter year-over-year retail growth relative to 2014 is also strong, approaching 4%. A combination of higher U.S. growth, a lower Canadian dollar, and cost savings by consumers and businesses driven by lower oil prices, is expected to generate GDP growth of 2.6% in 2015.

40 APPENDIX

Major Market Data by City The information in the following table is from a survey of expert opinions of Colliers brokers and research specialists in each market and is not represented as actual data. The information was collected to cater to the specific needs and interests of national chain retailers looking for a single source of information on lease rates, vacancy rates and recent trends for major markets across the country.

The following are top-line takeaways derived from the chart below: > Victoria is becoming more of a tenant’s > Ottawa and Montreal are also both market with all of these retail classes indicating stability across the board showing decreasing rental rates and after a reversal of recent trends. increasing vacancy rates. > Calgary and Edmonton rental rates and vacancy rates have stabilized, possibly indicating a reversal of the landlord- market prevalent in the last decade.

Retail Survey Market Data

Neighbourhood Regional Power Centre NET 6 MO. VACANCY 6 MO. NET 6 MO. VACANCY 6 MO. NET 6 MO. VACANCY 6 MO. RENT TREND RATE TREND RENT TREND RATE TREND RENT TREND RATE TREND

Victoria High $24 ↓ 4.5% ↑ $38 ↓ 6.3% ↑ $27 ↓ 1.6% ↑ Low $16 0% $30 0% $20 0% High $30 10% $200 7% $20 3% Vancouver ↓ ↑ ↔ ↔ ↑ ↔ Low $14 5% $28 3% $10 2% High $28 15% $110 10% $30 5% Kelowna* ↔ ↑ ↔ ↑ ↓ ↑ Low $22 5% $50 5% $20 0% High $32 1.5% $200 2% $80 2% Calgary ↔ ↔ ↔ ↔ ↑ ↔ Low $24 1.5% $60 1.8% $35 1% High $35 3% $35 3% $40 3% Edmonton ↔ ↔ ↔ ↔ ↔ ↔ Low $22 1% $25 1% $25 1% High $36 5% $60 25% $34 3% Saskatoon ↑ ↔ ↑ ↑ ↔ ↔ Low $26 0% $38 5% $22 0% High $32 3.5% $50 4% $48 2% Regina ↔ ↔ ↔ ↔ ↔ ↔ Low $24 1% $30 0% $26 0% High $32 6% $100 5.0% $35 4% Winnipeg ↔ ↔ ↑ ↔ ↔ ↑ Low $20 2% $40 1% $22 0% High $25 8% $130 3% $33 4% Toronto ↓ ↔ ↓ ↔ ↔ ↑ Low $12 5% $25 1% $18 2% High $25 10% $100 10% $35 10% Ottawa* ↔ ↔ ↔ ↔ ↔ ↔ Low $15 5% $50 0% $15 5% High $15 7% $18 5% $20 5% Montreal ↔ ↔ ↔ ↔ ↔ ↔ Low $10 5% $15 3% $17 3% High $25 8% $75 1.3%* $25 3.7%* Halifax ↑ ↔ ↔ ↓ ↑ ↑ Low $20 7.0% $70 1%* $18 3.4%*

Notes: Neighbourhood shopping centre lease rates are for 2,000-square-foot, in-line unit with 10 to 12 foot ceilings and ground level entrance. Enclosed regional shopping centre lease rates are for a 4,000 square foot unit. Power centre lease rates are for a 5,000 to 10,000 square foot unit, which could be on a pad site, in a cluster of CRUs or in-line in a strip *Only 2014 data is available

41 APPENDIX

Victoria + 1 250 388 6454 Nanaimo + 1 250 740 1060 Vancouver + 1 604 681 4111 Kamloops + 1 250 372 7000 Kelowna + 1 250 763 2300 Calgary + 1 403 266 5544 Edmonton + 1 780 420 1585 Saskatoon + 1 306 664 4433 Regina + 1 306 789 8300 Winnipeg + 1 204 943 1600 Toronto + 1 416 777 2200 Burlington + 1 905 333 8849 Waterloo + 1 519 570 1330 London + 1 519 438 4300 Ottawa + 1 613 567 8050 Montreal + 1 514 866–1900 Quebec City + 1 418 263–4800 Moncton + 1 506 870 2700 Halifax + 1 902 422 1422

This document/email has been prepared by Colliers International for advertising and general information only. Colliers International makes no guarantees, representations or warranties of any kind, expressed or implied, regarding the information including, but not limited to, warranties of content, accuracy and reliability. Any interested party should undertake their own inquiries as to the accuracy of the information. Colliers International excludes unequivocally all inferred or implied terms, conditions and warranties arising out of this document and excludes all liability for loss and damages arising there from. This publication is the copyrighted property of Colliers International and /or its licensor(s). © 2013. All rights reserved. This communication is not intended to cause or induce breach of an existing listing agreement. Colliers Macaulay Nicolls Brokerage Inc. (Canada).

42 APPENDIX

1.You want to buy an ordinary annuity that will pay you $4,000 a year for the next 20 years. You expect annual interest rates will be 8 percent over that time period. The maximum price you would be willing to pay for the annuity is closest to $32,000.

$39,272.

$40,000.

$80,000.

2. With continuous compounding at 10 percent for 30 years, the future value of an initial investment of $2,000 is closest to $34,898.

$40,171.

$164,500.

$328,282.

3. In 3 years you are to receive $5,000. If the interest rate were to suddenly increase, the present value of that future amount to you would fall.

rise.

remain unchanged.

cannot be determined without more information.

4. Assume that the interest rate is greater than zero. Which of the following cash- inflow streams should you prefer? Year1 Year2 Year3 Year4 $400 $300 $200 $100

43 APPENDIX $100 $200 $300 $400

$250 $250 $250 $250

Any of the above, since they each sum to $1,000.

5. You are considering investing in a zero-coupon bond that sells for $250. At maturity in 16 years it will be redeemed for $1,000. What approximate annual rate of growth does this represent? 8 percent.

9 percent.

12 percent.

25 percent.

6. To increase a given present value, the discount rate should be adjusted upward.

downward.

True.

Fred.

7. For $1,000 you can purchase a 5-year ordinary annuity that will pay you a yearly payment of $263.80 for 5 years. The compound annual interest rate implied by this arrangement is closest to 8 percent.

9 percent.

10 percent.

11 percent.

44 APPENDIX

8. You are considering borrowing $10,000 for 3 years at an annual interest rate of 6%. The loan agreement calls for 3 equal payments, to be paid at the end of each of the next 3 years. (Payments include both principal and interest.) The annual payment that will fully pay off (amortize) the loan is closest to $2,674.

$2,890.

$3,741.

$4,020.

9. When n = 1, this interest factor equals one for any positive rate of interest. PVIF

FVIF

PVIFA

FVIFA

None of the above (you can't fool me!)

10. (1 + i)n PVIF

FVIF

PVIFA

FVIFA

11. You can use to roughly estimate how many years a given sum of money must earn at a given compound annual interest rate in order to double that initial amount .

45 APPENDIX Rule 415

the Rule of 72

the Rule of 78

Rule 144

12. In a typical loan amortization schedule, the dollar amount of interest paid each period . increases with each payment

decreases with each payment

remains constant with each payment

13. In a typical loan amortization schedule, the total dollar amount of money paid each period . increases with each payment

decreases with each payment

remains constant with each payment

46 APPENDIX Name:

Real Estate Development and Finance

Quiz 2 October rd 23 2012

1. Which of the following is not considered a development cost? a. Hard Costs b. Soft Costs c. Profit d. Financing Costs

2. Which of the following is an intangible cost as described Guest by our Quantity Surveyor Speaker a. Soft Cost b. Hard Cost c. Contingency d. Financing Cost

3. Which of the following is not a type of Valuation? a. Direct Comparison method b. Income Approach method c. Property tax multiplier method d. Capitalized Value method

4. Which method of valuation would be the most appropriate for residential condominium units? a. Direct Comparison method b. Income Approach method c. Property tax multiplier method d. Capitalized Value method

5. Which method of valuation would be the most appropriate for an apartment building which you recently developed and want to sell one leased up? a. Direct Comparison method b. Income Approach method c. Property tax multiplier method d. Capitalized Value method

6. Which method of valuation would be the most appropriate for an office building which you wish to hold for a period of time then sell? a. Direct Comparison method b. Income Approach method c. Property tax multiplier method d. Capitalized Value method

47 APPENDIX Name:

7. Which of the following is not considered a stabilized expense? a. Insurance b. Property Taxes c. Management fees d. Interest costs

8. An increase to an income producing property value would be caused which of the following? a. Increase in vacancy b. Decrease in cap rate c. Decrease in rental rates d. Increase in operating expenses

9. The value of an income producing property with a triple net lease would be impacted by which of the following? a. Change in the vacancy rate b. Change in the utilities costs c. Change in the property taxes d. Change in the management fees

10. A decrease to an income producing property value with triple net leases would be caused by which of the following? a. Increase in operating costs b. Decrease in operating costs c. Increase in rental rates d. Decrease in rental rates

11. Please describe what would happen to NPV of development project if the following items changed (worth 5 marks circle your answers):

a. Hard costs increased: NPV Increase NPV Decrease b. Efficiency increased: NPV Increase NPV Decrease c. Terminal Cap rate increases: NPV Increase NPV Decrease d. Discount rate increases: NPV Increase NPV Decrease e. Lease rate decreases: NPV Increase NPV Decrease

48 APPENDIX NAME:

Quiz #1 Oct 9th 2012

1. The amount owing to lenders, associated with the acquisition or ownership of a property. a. Equity b. Leverage c. Debt d. Value

2. The typical price that a vendor would receive for the sale of their asset. a. Market Value b. Inducements c. Net Present Value d. Rent Step

3. Is a measure of the income generating capacity of an investment. It is calculated by dividing a property’s net income by the value of the investment. a. Return on Equity b. Occupancy rate c. Return on Investment d. Internal Rate of Return

4. Is the sum of all revenues and costs associated with a multi-year investment, expressed in present dollars after adjusting for risk. a. Net Operating Income b. Net Present Value c. Net Effective Rent d. Net Absorption Rate

5. This is used to determine the economic a feasibility of project. Effectively, it is the discount rate that reduces the project’s net present This value to zero. is often used to compare two projects of different duration and size. a. Gross Rent Multiplier b. Internal Rate of Return c. Net Present Value d. Net Operating Income

6. An office building is currently listed at $3,525,000. The investment package demonstrates that the stabilized net operating income is $325,000. What is the Capitalization Rate of this Asset? a. 10.29% b. 8.43% c. 9.22% d. 15.34%

49 APPENDIX NAME:

7. A 150,000 square foot office building (leasable area) is currently rented on a carefree lease (thus all expenses are for the account of the tenant) at a rate of $35.00 per square foot annum. The vacancy rate of this building is 3%. The Capitalization Rate is 7.5%. The value of the building is closest to? a. $67,900,000 b. $97,900,000 c. $6,790,000 d. $9,790,000

8. A 120,000 square foot (leasable area) industrial building costs $15,000,000 today and is vacant. The underlying cap rate for similar buildings is 8%. Assuming no vacancy and no non recoverable expenses what rent per square foot must be achieved (annually) to make this a market investment? a. $8.50 b. $10.00 c. $12.50 d. $15.00

9. A building has a gross building area of 98,000 square feet, the efficiency of the building is 94% what is leasable/saleable the building area? a. 92,120 square feet b. 88,920 square feet c. 104,255 square feet d. 102,670 square feet

10. A site measures 120 feet wide by 180 feet long. The municipal FAR is 5.0. What is the maximum buildable area above grade allowed on the site? a. 10,800 square feet b. 108,000 square feet c. 9,500 square feet d. 95,000 square feet

11. Bonus Question What is the net present value of the following series of cash flows at a discount rate of 5%: Time 0 (today): -‐ $100,000 Time 1: $50,000 Time 2: $50,000 Time 3: $50,000 a) $136,162.40 b) $36,162.40 c) $150,000 d) -‐$50,000

50 APPENDIX

APPENDIX B – Land Loan

MCAP Financial Corporation

APPLICATION PROPOSAL Note: This is not to be construed as a Commitment, but only an expression of interest

APPLICATION INFORMATION:

NAME: Mr. John Doe ABC Development s Ltd Unit 127 - 6227 – 2nd Street SE Calgary, Alberta T2H 1J5

COVENANTOR INFORMATION:

The several limited personal covenants of the principals of the Borrower covenant equal to 25% of the loan amount as per their respective interests.

PURPOSE OF FINANCING:

A non-revolving land acquisition mortgage for a 3.3 acre residential development site zoned to allow development of 440 seniors housing units.

REQUESTED FINANCING:

Loan Amount: $5,850,000 as per Financing Program below:

[email protected] www.redialberta.ca

51 APPENDIX

Land $ 7,463,000 Interest $ 500,000 Commitment Fees $ 58,500 Total Land Costs $ 8,021,500

Borrower Equity $ 2,171,500 First Mortgage $ 5,850,000 Total $ 8,021,500

Term: 12 months from the date of the initial advance of funds.

Interest Rate: Floating rate adjusted and payable monthly at Royal Bank of Canada Prime plus 7.25 (P + 7.25%) not to be less than 11.50%.

Commitment Fee: $58,500 payable as follows:

a) $10,000 as an Application Deposit (to be credited to the commitment fee payable on loan approval essentially as detailed herein). b) $48,500 deemed fully earned, but payable from the initial advance of loan proceeds. $58,500

Desired Disbursement Date: on or before March 31, 2004.

DESCRIPTION OF SECURITY:

General Project Description

An irregular shaped 3.3 acre land site which envelops the Health Centre located at 1402 8th Avenue NW, Calgary, Alberta; being the northeast corner of 14th Street and 8th Avenue.

LEGAL INFORMATION: PLEASE COMPLETE

[email protected] www.redialberta.ca

52 APPENDIX

Name of applicant’s Solicitor:______Legal Firm:______Telephone No:______

APPLICATION FEE:

An application fee of $10,000 (as detailed under section “Commitment Fee”) is attached. This deposit will be returned in full if MCAP is unable to issue a formal commitment letter substantially on the terms and conditions as outlined herein within 21 days of receipt by MCAP of the accepted copy of this proposal together with the $10,000 application deposit. In the event of an approval on terms substantially in accordance with the terms and conditions detailed herein, the deposit amount will be retained and credited towards the Commitment Fee which will be deemed to be fully earned and payable by the Borrower. With acceptance of this Application Proposal, you grant MCAP Financial Corporation the right to charge, lien and encumber the property for the amount of the Commitment Fee as payable herein.

APPLICANT SIGNATURES:

I (we) the applicant(s) declare that all statements contained herein are complete and true to the best of my (our) knowledge. I (we) understand and agree to the following terms and conditions:

1. I (we) have not been refused a loan on this security, nor are any payments of any encumbrance thereon in arrears. 2. To pay all legal and other costs of processing the loan and to execute all necessary documents. 3. To allow MCAP the right to erect a sign on the property indicating its involvement in this financing.

This Application for Mortgage Loan becomes null and void if your signed acceptance is not received by MCAP Financial Corporation by 5:00 P.M. February 20, 2004.

DATED AT______THIS_____DAY OF February, 2004

[email protected] www.redialberta.ca

53 APPENDIX

Borrower:

APPLICANT:

Somerset Development Corporation

Per: I have the authority to bind the corporation

Guarantor(s):

Per: To be determined

Per: To be determined ATTACHED TO AND FORMING PART OF THIS APPLICATION FOR MORTGAGE LOAN DATED THIS 16th DAY OF FEBRUARY, 2004.

LOAN SECURITY:

1. A First Mortgage Charge over the subject lands and improvements constructed thereon in the amount of $5,850,000 (principal rounded up for contingency).

2. A third collateral mortgage charge over the adjacent Health Centre, comprising 73,400 square feet on a 2,.07 acre site.

3. Security Agreement granting a first charge on all chattels to be registered under the Personal Property Security Act relating to the subject secured project.

4. Personal and Corporate Covenants as detailed earlier herein.

5. Joint and Several covenants from the Borrower and Covenantor(s) to fund any and all cost overruns in excess of the total approved Project Budget.

6. First General Assignment of Book Debts, Rents and Leases in respect to the Project.

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54 APPENDIX

7. Public Liability Insurance of not less than $5,000,000 per occurrence naming the Lender as an additional named insured with standard mortgage clause naming the Lender as Loss Payee as First Mortgagee and an assignment of such amounts payable under such policies.

8. Such other and further security and documentation as may be required by the Lender or its counsel to complete and perfect the security.

FUNDING CONDITIONS:

1. Receipt of satisfactory credit reports; bank references and financial statements on the Borrower and Guarantor. Specifically, MCAP must be satisfied as to the Borrower’s and Guarantor’s financial resources to fund any cost overruns and contingencies which may occur.

2. Satisfactory confirmation that the Borrower has approved Project Equity of not less than $2,171,500 of project equity as detailed under the “Financing Program” Section.

3. Zoning and Development Permit approval for the project providing all necessary evidence that the proposed and planned improvements comply with zoning regulations, building permits and restrictions and other regulations or ordinances of authorities.

4. All realty taxes, including levies, development charges, educational development charges and local improvement rates billed to the date of advance of funds are paid in full.

5. To provide a satisfactory Soils and Environmental Report(s) on the subject property as specified by the appropriate authorities.

6. An appraisal on the subject property from a firm acceptable to and instructed by MCAP is required and must be directed to MCAP for the purpose of the subject financing. The report must specify an “AS IS WHERE IS” land valuation on the subject site of not less than $7,463,000.

9. The site plan must be acceptable to the Lender and its legal counsel.

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55 APPENDIX

REPAYMENT:

As to Interest: Interest is to be calculated and payable monthly on the first day of each month from the Interest Reserve Account of $500,000. In the event the Interest Reserve Account shall become depleted, then the Borrower shall be billed directly with such payments due monthly on the first day of each month.

NOTE: The Borrower to provide detailed cash flow reports for MCAP and its cost consultant’s review & approval in support of the budgeted Interest Reserve amount.

As to Principal: The principal balance is to be repaid in installments from the proceeds of sale of the individual units and/or lots with the outstanding balance due in full at maturity.

INTEREST RESERVE:

Until the interest reserve of $500,000 is fully utilized and prior to default, MCAP will capitalize the interest accrued at the end of each month. Such capitalized interest shall be deemed advanced and will bear interest on the terms thereof. Thereafter, interest will be payable monthly

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56 APPENDIX

Lender’s Disclosure Package

Geotechnical • Test holes • Bearing capacity of soil • Pavement recommendations • Sulphate tests • Contaminants

Environmental Impact Assessment • Reviews past air photos • Reviews historical land uses on the site • Looking for detrimental past uses • Does not involve test holes • If concerns found, proceed to phase 2 which does involve drilling holes

Comprehensive Audit • Evaluates competition to your development • Pricing, product evaluation • Pace of sales, rentals etc are checked and compared • Arms length look at competing products

Project Budget • Hard costs, usually produced by engr/arch/cost consultant • Soft costs include fees/expenses, insurance, financing, furniture • Land cost, may be at market value in some cases if appraisal supported

Sales statistics • Sales comparisons to market • Uses various sources, CRHBA, brokers, appraisers

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Land Use Approval • Include a copy of the land use district for the project land • Include a write up on how you comply • Include a plan for your project showing compliance • Intent is to convey to lender that this is not an issue for you.

Development Permit Approval • Include a copy of the permit if you have it • If permit conditions, use a plan or a write up from your architect to demonstrate compliance of the project. • If you don’t have a DP, discuss the timing to obtain one and demonstrate how the project will comply to relevant rules and regs

Historical Resources Impact Assessment • Researches past land use • Looks for historically significant events which took place on the site • If indicated, may involve substantial on site work • First nations evidence, tepee rings, tools/implements, bones • Buffalo jump sites • May involve pre historic items as well

Conceptual Scheme • Required by some municipalities • Is your plan prior to land use approval of the essential components of the development • Roads, open space, density, drainage, setbacks • Requires approval by Council usually

Property Appraisal • Estimates market value at a point in time • Considers other similar properties • Takes into account zoning, other approvals, full development status • Takes into account competing developments and how they are performing

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Demographics • Research area/neighbourhood demographics • Speaks to who is the target market • Analyzes income/age/sex/work habits/children etc

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59 APPENDIX

HKU387 t s

KA FU WONG o

BOTTLENECKS IN LAND SUPPLY: P GOVERNMENT OR DEVELOPERS TO BLAME?

“Market mechanisms are not working properly in Hong Kong.r A few developers have come to dominate the market. The supply of new housing has dropped when demand is going up and prices soaring. A market with high demand usually corrects itself by inducing new supplies. This is not the case in Hong Kong because outdated regulatory rules haveo created a few dominant players who can in effect disrupt the link between supply and 1 demand.” - Christine Loh and Citizens Party y Land supply was regulated in Hong Kong, and there was a lack of competition in the supply of land. A few large developers that owned extensive land banks dominated the market [see Exhibit 1]. Developers paid the government a premiump prior to developing a given site, and this acted as a barrier to entry into the property market, as only the largest developers were able to afford paying this premium upfront. In addition, the system gave rise to speculation, as developers bought land at low prices,o and later sold the developed properties at much higher prices, which gave them the opportunity to speculate on increases in demand for land, resulting in huge profit margins.

In 2003, owing to dwindling land banks, and following forecasts of a 20% increase in prices by the end of 2004, large developersC demanded that land sales be resumed. By the end of June 2004, Sun Hung Kai (SHK), the developer with the largest share of the market, had a total land bank of 42.8 million sq ft, while Sino Land, the third largest, had 18.8 million sq ft in its land bank. Less thant half (48%) of SHK’s land bank consisted of completed projects, while the rest were still being developed. Only a third of the completed properties were residential, while 40% of it comprised shopping centres and the rest was split between industrial properties,o offices and hotels. Among its properties under development, the percentage of residential projects was higher (56%), with only 5% being utilised for shopping

1 Christine Loh and Citizens Party “Property Market Failure: Land Premiums and Other Frustrations”, May 8th 1997 [www document] http://www.citizensparty.org/housing/market.html (accessed November 4th 2004). N Carola Ramón-Berjano prepared this Case under the supervision of Dr Ka-Fu Wong for class discussion. This Case is not intended to show effective or ineffective handling of decision or business processes. This research was partially supported by a grant from the University Grants Committee of the Hong Kong Special Administrative Region, China (Project No. AoE/H-05/99). o© 2005 by The Asia Case Research Centre, The University of Hong Kong. No part of this publication may be reproduced or transmitted in any form or by any means - electronic, mechanical, photocopying, recording, or otherwise (including the Internet) - without the permission of The University of Hong Kong. Ref. 05/234C

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centres. Geographically, while developments in the New Territories accounted for 40% of all developing and completed projects; the rest was split between Hong Kong Island and Kowloon, with more developing projects in Kowloon than in Hong Kong Island 2 [see Exhibits 3A to 3C]. In the case of Sino Land, 46% of the projects were completed, with a t larger proportion of residential developments (44%), and 32% utilised for commercial purposes. In terms of geographical distribution, development in the New Territories accounted for over 50% of the total completed projects, those in Kowloon amounted to 34%, s and the rest were located in Hong Kong Island3 [see Exhibit 3D].

“When compared with other countries, the living condition of Hong Kong is o still considered below standard. The Hong Kong planning system is inevitably one of the factors leading to such situation.”4 - “Land Use Policy and Patterns in Hong Kong”, E. Hui, M. Lam and V.P Ho

The large developers supplied residential housing predominantly in the middle and top segments of the market, while the government provided low-income housing for about 50% of the Hong Kong households. The supply of residential housing wasr unrelated to price increases in the property market and was limited, while there was a sustained demand [see Exhibit 9]..5 Does the government land policy contributed to the disparity between supply and demand of land? o Government’s Land Policy “Some people say we do not have enough land.y Some say our terrain is too hilly. Some say we have too many people; therefore Hong Kong ought to be crowded. I beg to differ. I think Hong Kong is unnecessarily over-crowded because we do not use our land mass wisely.”p6 - Gordon Wu, Hopewell Holdings

In Hong Kong, the government had the power to control land use in several ways, by restricting the supply of land, deciding ono the location of deciding on the location of land to be made available regulating the way in which this land becomes available and setting the deadlines for developing sites. 7 Apart from the private housing market, the Hong Kong government also controlled the public housing market, and provided about 50% of the residential accommodation throughC subsidised home ownership programmes and public rental units. t Supply of Land The basic feature of any property market was that supply was inelastic in the short run, and therefore, changeso in demand cause a movement in prices. Moreover, in Hong Kong, given its physical limitations, the scarcity of land was even more acute. In addition, the supply was also regulated by the government, which made the market more vulnerable to price variability. New land in Hong Kong either came from reclamation or opening up of new areas. When the

2 N th Sun Hung Kai Properties Ltd. Website, http://www.com.hk/en/scripts/about/about_landbank.php (accessed October 27 2004). 3 Sino Group Limited, Website, http://www.sino-land.com/ (accessed January 20th 2005). 4 Hui, E. et al (2004) “Land Use Policy and Patterns in Hong Kong”, Paper presented at the ENHR Conference, University of Cambridge. 5 Christine Loh and Citizens Party “Property Market Failure: Land Premiums and Other Frustrations”, May 8th 1997 [www document] http://www.citizensparty.org/housing/market.html (accessed November 4th 2004). o6 Gordon Wu in Hui, E. et al (2004) “Land Use Policy and Patterns in Hong Kong”, Paper presented at the ENHR Conference, University of Cambridge. 7 Hui, E. et al (2004), “Land Use Policy and Patterns in Hong Kong”, Paper presented at the ENHR Conference, July 2nd – 6th 2004, University of Cambridge.

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Government conducted land sales, it did not quite sell the land, but leased it out [see Exhibit 2]. The lease agreements could either be of short or long term (usually renewable periods of 50 to up to 999 years). The Government also determined the number of new leases to be granted annually [see Exhibit 4]. t

The leasing system currently existing in Hong Kong followed the model that was prevalent in the United Kingdom. In fact, there were three treaties between the United Kingdom and the s Chinese Government relevant to Hong Kong. The first one, in 1842, the Treaty of Nanking ceded Hong Kong Island in perpetuity to the British. The second treaty was the Convention of Peking in 1860, which determined that the south part of the Kowloon peninsula was oalso given in perpetuity. Finally, the New Territories (which account for most of the land mass) were leased to Britain for 99 years from July 1st 1898. The end of the lease on the New Territories was the determining factor behind the British Government handing over Hong Kong to China. P

As the stipulated lease period was coming to an end, the issue of Hong Kong Government’s land leases became significant. In particular, leases in the New Territoriesr were due to expire in 1997, and the Hong Kong Government was unable to extend them beyond that date; thus affecting potential investment. In 1985, the Sino-British Joint Declaration allowed for the continuation of the system until the year 2047. According to this declaration, all leases would be allowed to reach their expiration, and could be renewed thereafter.o Most new leases, however, could only be granted for 50 years. Moreover, most leases located in the New Territories with an expiry date in 1997 were automatically extended until 2047.

In addition, land sales were limited to 50 hectares per year.y This was, however, first relaxed in 1994, and later eliminated in 1997. Following the significant increase in housing prices since 1989, the Government sought to reform the restriction on the release of land in order to be able to adjust supply when the housing market was overheated. In the period 1989-1993, housing prices had on average increased by 150%p as a result of the combined effects of excess demand, unusually low land development levels and the constraint on the amount of land released annually. o The Sino-British Land Commission agreed on the need for greater land releases and in 1994 and 1995 this amount exceeded 50 hectares. Housing prices followed suit, and decreased in 1995 (at the same time more stringent anti-speculative measures were also put in place) [see Exhibit 5]. However, prices increasedC in the following year leading towards the Handover. By 1997, housing prices were on a record high of 40% above that in the previous year. The Government then announced a five-year land sale of 380 hectares for the private sector and an additional 285 hectares for public sector housing. With the onset of the Asian Financial Crisis, housing prices tdeclined sharply by 63% from 1998 to 2003. As a result, the Government halted land sales until the end of November 2002.8

The process of lando release was as follows. The Town Planning Department defined different land zones (Outline Zoning Plan), which had to be approved by the Town Planning Board. Once this was approved, the Government put the land up for auction. A few large property developers would bid for the land, and once it was sold, this had to be registered at the Land Registry,N which followed an Ordinance from 1844. The Buildings Department would then approve the development of the site.

Before a developer started building the site, the Government required the payment of a premium, which was calculated as the difference between the values of the land before and oafter developing it. As this constituted a significant amount of money; only large developers

8 Chiu, R.L.H. (2004) “Planning and Affordable Housing in Hong Kong”, Housing Studies Association Conference 2004, Centre of Urban Planning and Environmental Management, The University of Hong Kong, September 9th – 10th 2004.

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could afford to bid at the auction. The premium was the main barrier to entry for the smaller developers as a significant sum of money was to be paid upfront.9 Given that land financing generally constituted about 50% of the total cost of the development, larger developers were better suited for bidding for the land. Over the years, they had established not only strong t business relationships with the banks, but also held good track records, which gave them an advantage over the smaller developers. 10 From 1981 to 1997, not a single new property developer supplied more that 5% of the annual new housing.11 s

Developers were not required to pay the premium until a detailed plan had been submitted and approved. Also, once a developer bought a particular site he did not have to redevelopo it immediately, instead, he could opt to wait for favourable market conditions to do so. Developers were given a five-year ‘grace’ period in which they were not required to start development work on the land [see Exhibit 2].12 Typically, a developer would wait three or four years in order to start building on a particular site, depending on demandP and price forecasts in the property market. The large developers held large land banks, and were able to affect the supply of land (see Exhibits 1 and 3). The main sources of land for developers were through bidding at public auctions and tenders, through private land sales (of existing 13 r leases) or through land exchange with Letters A/B. These developers were not hard-pressed to increase their sales in the short run, and as long as demand for housing continued to rise in Hong Kong, the value of their land would also continue to rise. o Recent Land Auctions “The government should sell more land to avoid a bubble. As Hong Kong is already facing tight supply up to 2007, furthery restrain in near-term land sales could potentially cause severe undersupply in two to three years’ time, given that land sold today will be completed only in 2008 at the earliest.”14 p- Kenny Tse, Analyst, Morgan Stanley

Following the 1997 handover, the Government announced that 690 hectares were going to be available through a five-year land sales oprogramme. The Government’s goal was to reach 85,000 units per year until 2004-2005. However, following the Asian Financial Crisis, property prices fell sharply. As a result, the Government shifted focus to prioritising the stabilisation of the property market. In 1998, land auction was stopped, and was not resumed until 1999. However, by the endC of 2002, the Government considered that land supply in private hands was still abundant, and therefore, land auctions were again interrupted.

Nevertheless, it was estimated that, by 2004, the annual land supply was at 20,000 units, which was lower than thet historical demand.15 This was expected to speed up the tender from the rail operators, which was to begin in 2005. Also, in 2004, land sales by the government

9 The land premium is estimated to make up to 50% of a project’s total cost and 80% of the project’s capital needs in Christine o th Loh and Citizens Party “Property Market Failure: Land Premiums and Other Frustrations”, May 8 1997 [www document] http://www.citizensparty.org/housing/market.html (accessed November 4th 2004). 10 Fu, Y. and S. Ching (2001) “Examining Competition in Land Market: An Application of Event Study to Land Auctions in Hong Kong”, Department of Real Estate and Urban Land Economics University of Wisconsin, February 2001. 11 Christine Loh and Citizens Party “Property Market Failure: Land Premiums and Other Frustrations”, May 8th 1997 [www document] http://www.citizensparty.org/housing/market.html (accessed November 4th 2004) 12 N Howe, C. (1998) “The Political Economy of Hong Kong since Reversion to China”, JPRI Working Paper No 52, December 1998. 13 Letters A/B were land exchange entitlements granted by the Government before 1983 in exchange for surrendering agricultural or building land in the New Territories to the Government. These entitlements proved to yield a much higher profit margin than land obtained through public auction and constitute an advantage that large developers that got hold of these in the seventies and eighties have relative to smaller developers. (Fu, Y. and Ching, S. “Examining Competition in the Land Market: An Application oof Event Study to Land Auctions in Hong Kong”, Department of Real Estate and Urban Land Economics, University of Wisconsin). 14 Eng, D. and E. Lau “No Bubble For Now, Higher Home Prices Seen”, The Standard, October 14th 2004. 15 Eng, D. and E. Lau “No Bubble For Now, Higher Home Prices Seen”, The Standard, October 14th 2004.

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were resumed, after a period of 20 months. The first auction, which took place on May 25th, was expected to be an indicator of how home prices would perform in the following years.

In May 2004, two sites were auctioned, in Ma On Shan and Sha Tin. Later, on June 15th, the t Government announced the auction of a site in San Po Road (Kowloon City).16 Finally, the last land auction of the year was held on October 12th, for two sites in Ho Ma Tin and San Po Kong. Property developers were keen to get hold of sites, as demand was expected to s increase, while a shortage of supply was predicted by 2007.17

The Ma On Shan site was 150,705 square feet, and the Tung Lo Wan Hill in Shatin owas smaller with 114,336 square feet.18 While the bidding for the Ma On Shan site was expected to be strong, the same could not be said for Tung Lo Wan Hill, given its smaller size.19 However, the auctions beat expectations with bids reaching 76% above the reserve price. Cheung Kong Holdings Ltd bought the site in Ma On Shan for HK$2.09 billion P(HK$ 2,774 per square foot), while Ka Wah International bought the Shatin plot for HK$ 865 million.20

The second auction of the year, held in June, was for three plots. Analystsr disagreed on what was to be expected from this new auction. Some argued that it would follow the same trend as the previous auction in May, while others considered that, given the particular characteristics of the sites, they were unlikely to fetch such high prices. The area for the San Po Road site was 37,900 square feet (with a maximum gross foot areao of 341,100). However, the prices exceeded the reserve price by 48%, with the resulting price matching that at the higher end of the predictions. The selling price was HK$2,961 per square foot, and it was bought by Chinachem.21 y In October, the third auction of the year took place for two sites, the first one in Ho Man Tin, which comprised an area of 191,126 square feet (with a maximum gross area of 1,433,442). The other site in San Po Kong had an area of 136,714 square feet and a maximum gross area of 1,025,346). There was strong bidding for the psite at Ho Man Tin, and it fetched the second highest price paid for a site since March 1997, at HK$5,476 per square foot, and was bought by Cheung Kong. The San Po Kong site, on the other hand, was sold to SHK for HK$ 3,920 per square foot.22 The Ho Man Tin siteo reached a price, which was 87% higher than the original bidding price, while the San Po Kong site exceeded its bidding price by 56.7%.

The record prices for the year’s auctions gave rise to speculation that the property market might be on an upward trend, andC that property prices would increase between 35% and 40% over the following two years, up to 2006 However, some analysts feared it might just be another bubble.

“Don’t count ont it. What is going on is another dead cat bounce – one of many since Hong Kong’s bubble popped in 1998. The fundamentals for a strong property market – for example strong wage increases or population growth –o are not there. If anything, the competitive pressure from Guangdong will continue to exert deflationary pressure on Hong Kong”.23 - Andy Xie, Chief of Morgan Stanley, Asia Pacific.

16 China EconomicN Net, November 8th 2004. 17 Wong, R. “Developers Replenish Land Banks While Prices Climb”, The Standard, October 11th 2004. 18 Their gross floor areas were 754,000 and 261,000 square feet respectively. 19 Louie, P., Lam, F. And Wong, E., “First Land Auction In 20 Months”, Global Equity Research, UBS Investment Research, May 18th 2004. 20 Sing, C.K. “Property Stocks Rally in Hong Kong”, The Asian Wall Street Journal, May 28th 2004. o21 Lam, F. and Wong, E. “Hong Kong Land Auction Comments”, Global Equity Research, UBS Investment Research, June 15th 2004; Sing, C.K and Wang, J. “Chinachem Wins Property Auction”, The Asian Wall Street Journal, June 16th 2004. 22 Louie, P. and Lam, F. “Hong Kong Land Auction”, Global Equity Research, UBS Investment Research, October 12th 2004. 23 Lau, E. “Dead Cat Feat Creeps In”, The Standard, October 23rd 2004.

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The Housing Market in Other Countries t Although land scarcity has often been held responsible for small spaces in Hong Kong, a city like Singapore, with similar land constraints, has larger average-sized apartments. While an s average 3-bedroom flat in Hong Kong is only 50 square metres, the same in Singapore would measure 90 square metres. Population density in Hong Kong is also extremely high, reaching 6,463 persons per square kilometre. This figure does not reflect actual overcrowding, giveno that the population is not evenly distributed in the territory. It has often been suggested that land mass is not being used wisely. In fact, it is estimated that only 21% of total land mass has been developed.24 P United Kingdom In the United Kingdom land belonged to the Crown. You could either have a freehold, which gave you rights to both, your property and the land in perpetuity; or a leasehold,r which gave rights to a property and land for a certain period of time, usually long periods (in excess of 50 years, sometimes up to 99 and even 999 years). Once the lease expired, the leaseholder had to renew the lease. The Commonhold Regulations 2004 changed this system, and offered a third option to buyers. A “commonhold” gave ownership of the individualo but interdependent freehold units and the communal areas. This system does away with having landlords, and 25 offers the tenants higher incentives to keep the communal spaces in the right conditions.

In England, from the fifties to the seventies, over 100,000y new houses were built annually in order to provide housing to lower income families. At the beginning of the nineties, this number had decreased to 30,000, and by the turn of the twenty first century, only 20,000 new houses were added. This figure fell to 13,600 by 2003. By contrast, the private housing market is predominantly in second hand rather thanp new homes. Moreover, it was suggested that developers were stocking up land rather than developing. China o With the creation of the People’s Republic of China in 1949, the government distributed, equally among the peasants, all private land previously held by landlords and wealthy peasants. They were given full ownership of these lands. However, in the mid 1990s, China commenced a period of collectivisationC of agriculture, whereby, farming households were forced to give up their land, and participate in collective farming. It was not until 1980 that, as part of the economic reform, China introduced the Household Responsibility System (HRS), whereby a land propertyt system was established, and de-collectivisation began.26

The HRS was a great success in terms of giving farmers more freedom and land rights, and enhancing their incentiveso for production. In addition, the system was significant in terms of urban development planning as well as initiating governmental management of land property and reform in urban centres. This contributed to the development of the housing market in China. However, the property market is far from fully developed. In fact, as China’s urbanisation increased rapidly, rules for seeking permission to buy, sell or build were N 27 frequently disregarded This was more evident in the commuter towns.

24 Hui, E. et al (2004), “Land Use Policy and Patterns in Hong Kong”, Paper presented at the ENHR Conference, July 2nd – 6th 2004, University of Cambridge. 25 D’Arcy, C. “A New Way to Own Property”, September 27th 2004, [www document] ohttp://uk.biz.yahoo.com/040927/35/f3dwc.html (accessed November 24th 2004). 26 Li, Ping J.D (2003) “Rural Land Tenure Reforms in China: Issues, Regulations and Prospects for Additional Reforms” in “In Land Reform, Land Settlement and Cooperatives”; Special Edition, FAO and World Bank. 27“Land Property System to Be Improved”, People's Daily, July 11th 2000.

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In 1998, the Government favoured a policy of private ownership as a way of public housing in urban centres. This, together with the increase in incomes, resulted in a property boom. It t is estimated that China's real estate industry has been increasing at an average rate of 25% over the last couple of years.28 This generated a significant amount of speculation in the market, with easily available bank loans playing a significant part in this process. Banks were s lending money to customers who did not fully meet the required conditions, and developers started selling the properties even before they were built. However, as this led to some unrest, since June 2003, developers are required by law to have most of the building finished before initiating the sale of the units.29 o

Another concern was that supply increased to more than adequately meet the increasing demand, resulting in significant number of vacant housing units. It was estimated that in July 30 P 2002, up to 120 million square metres of floor space was unoccupied. Singapore In Singapore, about 90% of the land was owned by the government. Landr was sold or leased for periods of up to 99 years. The Government conducted regular releases land for sale to the public through tender or auction. o The Housing and Development Board was established in 1960. Until 1985, the board completed development of over half a million housing apartments, which constituted a dramatic increase from that achieved by the previous government (British colonial Government), which had built only 23,000 in the period 1927 to 1959. The Government’s main goal was to promote ownership, and by 1988, y88% of Singaporeans were provided housing (constituting over two million people).31 p A shortage of supply?

In 1997, the new Hong Kong Governmento Special Administrative Region (HKSAR) Government announced the objective of increasing the supply of housing through five-year land sale programmes. However, in the wake of the 1997 Crisis and the subsequent sharp decline in housing prices, the Government stopped land auctions in 1998. This was resumed the following year. Auctions Cwere once again suspended by the end of 2002 until the beginning of 2004 because of the excess supply of land. Therefore, when the land was put up for auction, developers bid strongly in order to acquire the sites, and augment their depleting land banks as demand wast expected to increase.

It was estimated only four developers supplied about 70% of all new private housing in the period 1991-1997. Among these, there was one developer who supplied 25% of new housing. The Secretary foro Housing, Planning and Land said that smaller sites would be put on auction in order to attract smaller developers. The Government announced that 99 hectares of land were going to be put for auction – representing a ten-fold increase over the previous year.32

However,N the announcement of land auctions does not necessarily imply that supply of land in the market will increase immediately, as the developer can choose to defer development work,

28 China Plans Housing Credit Risk-prevention Mechanism People's Daily, March 28th 2003. 29 Chinese Developers Suffer Now, But Biggest Should See Revival, Charles Hutzler and Phelim Kyne, Asian Wall Street Journal, New York, N.Y.: Jul 7th 2003. o30 China Plans Housing Credit Risk-prevention Mechanism People's Daily, March 28th 2003. 31 Singapore Land Authority, [www.document]http://www.sla.gov.sg/what_we_do/what_we_do_land_sales.html (accessed December 6th 2004) 32 Kong, E. “More Sites on Offer for Smaller Developers”, SCMP, October 27th 2004.

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and wait for favourable market conditions. Therefore, the crucial issue to be considered when addressing shortage of land is that the Government’s land supply might not be perfectly correlated to housing supply, as this depends entirely on what developers decide to do with it. t s o P r o y p o C t o N o

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EXHIBIT 1: HONG KONG LANDBANK, BY DEVELOPERS

Developers Number of Housing Market Share (%) t Units (attributed) SHKP 16,461 19 Cheung Kong 7,818 9 s Sino Land 7,041 8 Henderson Land 6,887 8 Hang Lung Properties 4,531 5 o New World Development 4,305 5 Wharf Holdings 2,941 3 Hutchinson 2,601 3 P Swire Pacific 1,1841 1 K.Wah 916 1 Other 33,923 38 Total 88,608 100r

Source: Data from Lam, F. (2003) “HK Housing 2004: Shortage Increasinglyo Apparent”, UBS Securities Asia Limited y p o C t o N o

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EXHIBIT 2: LAND RELEASE PROCESS

Government s

Land Release Reclamation o

Auction/ tender P

r Developers

o Building Permission

Application (Town

Planning Board) y

Permission obtained

p Developers Pay

Premium o

Five-year grace period

Start

Building t Release Units for Sale (by Stages) o Finish Building

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EXHIBIT 3A: SUN HUNG KAI LAND BANK IN HONG KONG

In million sq.ft. t Total Land Bank 42.8 Under Development 22.3 s Completed Properties 20.5

Source: With data from Sun Hung Kai website, o http://www.shkp.com.hk/en/scripts/about/about_landbank.php (accessed November 15th 2004)

EXHIBIT 3B: SUN HUNG KAI’S LAND BANKS UNDER DEVELOPMENTP r Industrial/ Office 12% Hotel o 9% Residential Office 56% 18% y Shopping Centre 5% p o

Hong Kong Island C 5%

New Territories t42%

Kowloon o 53%

N Source: With data from Sun Hung Kai website, http://www.shkp.com.hk/en/scripts/about/about_landbank.php (accessed November 15th 2004) o

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70 APPENDIX

05/234C Bottlenecks In Land Supply: Government Or Developers To Blame? EXHIBIT 3C: SUN HUNG KAI’S LAND BANKS COMPLETED PROJECTS t Residential Industrial/ Office 5% 18% s Hotel 4% Shopping Centre 41% o

Office 32% P r o Hong Kong Island 28%

New Territories 46% y p Kowloon o 26%

Source: With data from Sun HungC Kai webpage, http://www.shkp.com.hk/en/scripts/about/about_landbank.php (accessed November 15th 2004)

t o N o

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71 APPENDIX

05/234C Bottlenecks In Land Supply: Government Or Developers To Blame?

EXHIBIT 3D: SINOLAND’S LAND BANKS BY GEOGRAPHICAL AREA AND BY USAGE

Hotel Car Park t 3% 3% Industrial s Commercial 14% 34% o

Residential P 46% r o Hong Kong Island 11% y

New Territories Kow loon 55% p 34% o

Source: With data from Sino Land website http://www.sino-land.com/ (accessed January 20th 2005) C t o N o

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72 APPENDIX

05/234C Bottlenecks In Land Supply: Government Or Developers To Blame?

EXHIBIT 4: LAND RELEASED (ANNUALLY)

(A) In Urban Areas 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 t Public auction/tender Area (sq. m.) 362,685 280,468 191,641 32,081 36,496 66,342 117,467 60,977 33,134 82,030 30,807 77,635 Realized premium($ million) 8,393.70 4,848.98 4,529.29 349.62 657.85 2,606.78 2,826.20 2,639.60 1,798 9,351.60 1,291 4,149.70 Private treaty grant Area (sq. m.) 207,425 162,363 312,101 238,044 391,904 357,394 87,982 57,384 151,982 102,639 91,333 49,898 s (B) In New Territories 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 Public auction/tender Area (sq. m.) 60,306 375,653 180,550 507,035 78,064 163,929 74,017 118,073 445,401 180,733 128,382 193,047o Realized premium($ million) 654.1 1,723.57 288.22 235.03 131.05 614.54 498.97 1,468.66 5,820.70 2,940.31 1,973 5,966.10 Letter A/B tender Area (sq. m.) 238,420 107,715 70,491 52,037 65,835 17,580 96,036 68,634 65,816 72,345 37,042 51,595 Realized premium($ million) 323.69 329.95 121.51 94.08 113.02 15.55 202.28 229.88 323.19 560.1 216.9 461.5 Private treaty grant Area (sq. m.) 103,181 1,239,750 261,082 121,879 321,443 1,611,299 221,054 353,351 172,912 753,10 5P79,131 867,063 (A) In Urban Areas 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 Public auction/tender r Area (sq. m.) 35,336 118,128 18,092 91,967 58,070 162,706 158,833 111,764 141,823 39473 33,250 17274 Realized premium($ million) 3,732.10 12,633 5,204.10 10,793 8,672 33,115 13,025 7,057 12,845 2025 2,993 463 Private treaty grant Area (sq. m.) 93,748 100,597 115,718 187,128 396,498 58,824 287,708 393,95o5 328,243 87,233 243,085 42283 (B) In New Territories 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 Public auction/tender Area (sq. m.) 193,830 89,815 150,389 155,422 834,843 139,494 159,366 91,137 154,416 48,368 30,949 3,059 Realized premium($ million) 6,222.10 4,601 10,579 7,849 9,103 9,778 2,048 2,509 2,968 998 1,073 125 Letter A/B tender Area (sq. m.) 18,408 85,515 41,520 - 1,020 -y ------Realized premium($ million) 168.4 739.5 103.4 - 4.42 ------Private treaty grant Area (sq. m.) 142,727 262,877 584,549 13,325,760 268,260 1,134,104 1,096,921 1,555,570 532,305 751,937 605,055 175,848 p Source: Data from Hong Kong Government Census and Statistics Department, Hong Kong Annual Digest of Statistics, various years o C t o N o

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73 APPENDIX

05/234C Bottlenecks In Land Supply: Government Or Developers To Blame?

EXHIBIT 5: AVERAGE RESIDENTIAL PRICES (HK$/SQ M)

90,000 80,000 t 70,000 60,000 s 50,000 40,000 30,000 o 20,000 10,000 0 P 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003

r Source: Data from Hong Kong Government Census and Statistics Department, Hong Kong Annual Digest of Statistics, various years

EXHIBIT 6: LAND RELEASED BY TENDER (SQ MILES)

1,000,000 y 900,000 800,000 p 700,000 600,000 500,000 o 400,000 300,000 200,000 100,000 C 0 1980t 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 Urban Areas New Territories TOTAL

Source: Data fromo Hong Kong Government Census and Statistics Department, Hong Kong Annual Digest of Statistics, various years

N o

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74 APPENDIX

05/234C Bottlenecks In Land Supply: Government Or Developers To Blame?

EXHIBIT 8: TOTAL LAND RELEASED BY TENDER AND RESIDENTIAL LAND SUPPLY t 40,000 1,000,000 35,000 800,000 30,000 s 25,000 600,000 20,000 15,000 400,000 o 10,000 200,000 5,000 0 0 P 1980 1983 1986 1989 1992 1995 1998 2001 Residential Land Supply (sq m) r Total released by tender (sq miles)

Source: Data from Hong Kong Government Census and Statisticso Department, Hong Kong Annual Digest of Statistics, various years

EXHIBIT 9: AVERAGE RESIDENTIALy PRICES AND RESIDENTIAL SUPPLY (1983-2003) p 40000 35000 30000 o 25000 R2 = 0.12 20000 15000 C 10000 5000 t 0 0o 20,000 40,000 60,000 80,000 100,000

Source: Data from Hong Kong Government Census and Statistics Department, Hong Kong Annual Digest of Statistics, various years

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75 APPENDIX

05/234C Bottlenecks In Land Supply: Government Or Developers To Blame?

EXHIBIT 10: AVERAGE RESIDENTIAL PRICES AND LAND RELEASED BY TENDER (1983-2003) 1,000,000 t 900,000 800,000 s 700,000 600,000 500,000 o 400,000 300,000 2 200,000 R = 0.02P 100,000 0 0 20,000 40,000 60,000 80,000r 100,000

Source: Data from Hong Kong Government Census and Statistics Department, Hong Kong Annual Digest of Statistics, various years o

EXHIBIT 11: CORRELATION BETWEEN GOVERNMENT LAND SALES AND RESIDENTIAL SUPPLY p R-squared No Lag o 0.038 One-period Lag 0.095 Two-period Lag 0.005 Three-periodC Lag 0.001 Four-period Lag 0.105 Five-periodt Lag 0.029 o N o

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76 APPENDIX

Key Definitions

Net Operating Income is the difference between a property’s revenues and expenses, excluding depreciation, interest, principal payments, and income taxes. Return on Investment (ROI) is a measure of the income generating capacity of an investment. It is calculated by dividing a property’s net income by the value of the investment. Debt: The amount owing to lenders, associated with the acquisition or ownership of a property. Equity: is the interest an owner of real property has in its total assets. It represents the total value of the property less the outstanding debt. Leverage - The extent to which an investment is supported by debt financing. Generally speaking, the higher the leverage, the higher the expected return (or loss) on equity. Return on Equity (ROE) is a measure of the income generating capacity of a property relative to the equity invested by the property owner. It is calculated by dividing net income by equity invested. Net Present Value: Is the sum of revenues and costs associated with a multi-year investment, expressed in present dollars adjusted for risk. Capitalization and Capitalization Rate: The capitalization rate of a sale can be calculated by dividing the net operating income by the sale price. The capitalization rate is often used an expression of expected risk and return. The market value of a property can be estimated by dividing its net operating income by an assumed capitalization rate. Discounting and Discount Rate: Discounting is a process through which future revenues/costs may be valued in present dollars. Discount rates are used to convert future cash flows to present dollars; they are an expression of expected risk and return. Internal Rate of Return (IRR): is used to determine the economic feasibility of a project. Effectively, it is the discount rate that reduces the project’s net present value to zero. It is particularly useful when comparing the risk adjusted rates of return of projects of differing investment size or duration.

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77 APPENDIX

Sensitivity Analysis

A technique used to determine how different values of an independent variable will impact a particular dependent variable under a given set of assumptions. This technique is used within specific boundaries that will depend on one or more input variables, such as the effect that changes in interest rates will have on a bond's price.

Sensitivity analysis is a way to predict the outcome of a decision if a situation turns out to be different compared to the key prediction(s). Sensitivity analysis is very useful when attempting to determine the impact the actual outcome of a particular variable will have if it differs from what was previously assumed. By creating a given set of scenarios, the analyst can determine how changes in one variable(s) will impact the target variable.

For example, an analyst might create a financial model that will value a company's equity (the dependent variable) given the amount of earnings per share (an independent variable) the company reports at the end of the year and the company's price-to-earnings multiple (another independent variable) at that time. The analyst can create a table of predicted price-to-earnings multiples and a corresponding value of the company's equity based on different values for each of the independent variables.

Sensitivity Analysis in Real Estate Is simply a systematic look at the critical assumptions which shape your conclusion and determine success or failure of a project. Involves mathematical variation of assumptions, and recalculation of the return of the project considering these different assumptions. • Time • Construction costs • Interest rates • Lease up period or sales period

Analysis of these variables will lead you to more fully understand the RISK of a project. It will enable you to answer questions about the certainty of a proforma, and how the project can be expected to perform as time passes. It also enables you to identify events which are “project killers”. To gain insight carry out your sensitivity analysis to the point where a combination of changes to variables causes your project to reach a nil return. Then you can have a discussion about the assumptions which lead to a nil return. Are they at all realistic? Or are they so farfetched that they are really unlikely to happen. Sensitivity analysis will also help you understand how to structure a project to reduce risk.

Strategies For Risk Reduction 1. Construction Costs

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78 APPENDIX

Risk around construction costs can be reduced by employing certain types of contracts. A lump sum bid will transfer risk from the developer to the builder. Remember though that the contractor will bid from a set of plans that your architect produces, so changes to the plan will attract a change order, the price of which will be sole sourced from your contractor. You lose the ability to have competition in your bids. Also in times of uncertainty or rapidly rising construction costs, if you want to transfer that risk to your contractor, he may allow in his bid for a “worse case scenario” that is too expensive to you. If you accept that bid, you may end up paying for things that did not happen.

Example The price of structural steel is a world commodity and has been rapidly rising. Your strategy is to eliminate this risk by getting a fixed price from your contractor. If your delivery date is more than six months out, the contractor will include a large contingency in his price. You will have eliminated your risk, but at what cost. A better strategy may be to pre-buy your steel to obtain the fixed price, and pay the carrying cost for the extra months. Analyze the two choices, see what looks best.

Time Time is a more difficult variable to control. To an extent you can control it in the construction phase by having completion dates in the contract, and perhaps a penalty clause for late completion. This too can be expensive if the contractor includes a lot of unseen contingency in the bid. Many projects currently are being built using a CM or construction manager who tenders all phases of the work, sets the schedule and is employed directly by the owner.

Interest Rates Most development loans through the construction period are written at prime plus. You are therefore exposed to changes in rate through this period. Your project is even more exposed to the time variable in that sense, if the project duration increases, so does your interest cost. If your project is an income producing project, ie one that you intend to keep for a substantial period post construction, you will likely be able to get permanent financing so at that point your interest rate variable is controlled.

PreSales or Pre Leasing Tests

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79 APPENDIX

They are a term many lenders insist on including in a lending contract to protect the lender from advancing funds into a project for which the market has not yet been proven. In Calgary, for multi family high rise projects, pre sales tests of one quarter to one third of all units were typical. Means the developer must presell that many units, or at least that proportion of sales value overall before the lender will make an advance on the loan. • Extends the developers risk period • Likely means more equity from the developer • Exposes the developer more to the time risk since construction often does not begin until the presales test is met • Passage of more time means more exposure to construction cost inflation • Pre sales mean you have fixed the price of those units so the developer is then unable to increase prices on those units in response to future cost increases.

Summary Carry out a sensitivity analysis to the point where your project reaches a nil return. Take a realistic look at the variables, how likely are the scenerios you are evaluating? Gather your team together, partners/architect/contractor/cost consultant/ and have a frank discussion about the variable and how to control them. You may find that ideas arise that you never thought of, at the very least you will have a much stronger understanding of the projects risks, and the options open to you to mitigate them.

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80 APPENDIX

9-208-041 REV: APRIL 2, 2012

CHARLES F. WU

ARTHUR I SEGEL

Technical Note on Financial Leverage in Real Estate

The use of leverage is a common feature of real estate investing. Debt can be used by the owner of real estate as a tool to enhance equity returns or (at the extreme levels) to serve as a “stop loss” to limit the amount of equity capital exposed to a particular property. Such benefits do have a cost, however, since leverage can accelerate and magnify the severity of capital loss if the property value declines. In this note, it is assumed that all leverage is “nonrecourse”—that is, it is secured only by the project itself.

The following cases demonstrate the accelerating impact of leverage on returns under different scenarios of property performance. The performance scenarios represent two points in time: the inception of the investment, and the liquidation. For the purpose of this note, interim cash flows and reinvestment requirements are ignored.

______

Lecturer Charles F. Wu and Professor Arthur I Segel prepared this note as the basis for class discussion.

Copyright © 2007, 2008, 2010, 2012 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to http://www.hbsp.harvard.edu. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means—electronic, mechanical, photocopying, recording, or otherwise—without the permission of Harvard Business School.

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81 APPENDIX 208-041 Technical Note on Financial Leverage in Real Estate

Case I. No Leverage. Without leverage, the investment performance of the equity matches that of the property.

Property Value Change

Investment Cost Up 20% Down 20%

Building Value: $100 $120 $80

Equity: $100 $120 $80

profit

loss equity equity

equity

Return on 20% –20% Investment:

Multiple on 1.20x .80x Invested Capital:

With no leverage, when the building appreciates 20%, the value of the equity investment increases 20%. A 20% decline in building value results in a 20% decline in equity value.

82 Purchased by JASON JOGIA ([email protected]) on September 13, 2012 APPENDIX Technical Note on Financial Leverage in Real Estate 208-041

Case II. 50% Leverage. Instead of investing $100 in equity, the property is capitalized with $50 debt and $50 equity (1:1).

Property Value Change

Investment Cost Up 20% Down 20%

Building Value: $100 $120 $80

Debt: $50 $50 $50

Equity: $50 $70 $30

profit loss equity equity equity

debt debt debt

Return on 40% –40% Investment:

Multiple on 1.4x or 70 .60x or 30 Invested Capital: 50 50

With 50% leverage, when the building appreciates 20%, the value of the equity invested increases 40%. A 20% decline in building value results in a 40% decline in equity value.

Purchased by JASON JOGIA ([email protected]) on September 13, 2012 83 APPENDIX 208-041 Technical Note on Financial Leverage in Real Estate

Case III. 67% Leverage. The property is capitalized with $67 debt and $33 equity (2:1).

Property Value Change

Investment Cost Up 20% Down 20%

Building Value: $100 $120 $80

Debt: $67 $67 $67

Equity: $33 $53 $13

profit loss equity equity equity

debt debt debt

Return on 61% –61% Investment:

Multiple on 1.61x or 53 .39x or 13 Invested Capital: 33 33

With 67% leverage, returns (losses) are enhanced by a factor of 3:1 relative to the “no leverage” case.

Purchased by JASON JOGIA ([email protected]) on September 13, 2012 84 APPENDIX Technical Note on Financial Leverage in Real Estate 208-041

Case IV. Impact on Mezzanine Debt

An alternative form of equity investing is done in the form of mezzanine debt. Here, the investor takes a “horizontal slice” of the capital stack. By doing so, the investor can achieve equity-like returns in the upside, with downside protection in the (moderate) downside case. A traditional “mezz debt” structure would involve investing in the tranche1 of the capital structure that represents 60%–80% of the property value, in return for an interest rate coupon plus 50% of the asset’s appreciation. The mezz debt capital is at risk only if the property value declines by more than 20%.

Property Value Change

Investment Cost Up 20% Down 20%

Building Value: $100 $120 $80

Debt: $60 $60 $60

Equity: $20 $20 + $10 $0

Mezzanine Debt: $20 $20 + $10 $20

profit for profit for

mezz equity equity loss

mezz debt mezz debt mezz debt

debt debt debt

Return on 50% 0 Investment:

Multiple on 1.50x or 30 1.00x or 20 Invested Capital: 20 20

Financial leverage is widely employed by real estate investors. Depending on the property’s performance, financial leverage can positively magnify or negatively diminish an investor’s returns. It is critical for investors to understand the quality of the cash flow before employing any form of leverage.

1 A tranche can be defined as a layer of debt as measured by its relative position in the capital structure.

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CASE: RE-137t DATE: 05/17/12 (REV’D : 03/27/14) s

o LANDLOCKED HOMES: CATCHING A FALLING KNIFE

P Our home ownership strategy will not cost the taxpayers one extra cent. It will not require legislation. It will not add more Federal programs or grow Federal bureaucracy. —William J. Clinton, forty-second President of the United States, in a June 1995 speech on the National Home Ownership Strategy.1 r

In Bakersfield, California, a Mexican strawberry picker with an income of $14,000 and no English was lent every penny he needed to buy a house for $724,000. o —Michael Lewis, “The Big Short: Inside the Doomsday Machine.”

The idea that we’re going to see a collapse in the housing market seems to me improbable. —John W. Snow, seventy-third United States Secretary of the Treasury, in 2005. y On March 25, 2008, Chris Tridatol, managing partner of Double L Capital, sat in one of Baker Botts’ aptly named ‘deal’ conference rooms in Dallas staring at the signature block of a fully- negotiated purchase agreement. Once executed, thep agreement would obligate Double L and its money partner, San Francisco-based Catalina Capital, to buy 8,300 residential lots in 11 states. Across the table were executives from the seller, Landlocked Homes, accompanied by their Baker Botts lawyers and Goldman Sachso investment bankers. Only one year previously, Landlocked was the largest homebuilder in the United States, a publicly traded company with an $8 billion market cap. The sale would result in a staggering 90 percent loss against Landlocked’s $1.3 billion of cost forC these assets. Double L and Catalina had worked day and night for three months visiting every project, studying each market and reviewing several thousand pages of diligence materials. At a price of 10 cents on the dollar, how could they go wrong? t

1 According to a 1995 policyo brief from HUD, the National Home Ownership Strategy was a public-private partnership sponsored by President Clinton to increase homeownership to a record-high level over the next 6 years. Chris Mahowald, Max Lamont, and Douglas Abbey, Lecturer in Finance, prepared this case as the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. The case is based on an actualN situation but some names and other details have been changed.

Copyright © 2012 by the Board of Trustees of the Leland Stanford Junior University. Publicly available cases are distributed through Harvard Business Publishing at hbsp.harvard.edu and The Case Centre at thecasecentre.org; please contact them to order copies and request permission to reproduce materials. No part of this publication may be reproduced,o stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means –– electronic, mechanical, photocopying, recording, or otherwise –– without the permission of the Stanford Graduate School of Business. Every effort has been made to respect copyright and to contact copyright holders as appropriate. If you are a copyright holder and have concerns, please contact the Case Writing Office at [email protected] or write to Case Writing Office, Stanford Graduate School of Business, Knight Management DCenter, 655 Knight Way, Stanford University, Stanford, CA 94305-5015.

86 APPENDIX

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LandLocked Homes: Catching a Falling Knife RE137

WHAT GOES UP … t The U.S. housing market had been growing rapidly until quite recently and Landlocked was a major player in this growth. Since 2000, the median price of a new home had shot up by over 40 percent from $164,000 to $229,000.2 The Standard and Poor’s/Case-Shiller Index, which trackss home resale prices, had risen 72 percent over the same period3 (Exhibit 1). Inflation during this period averaged 2.8 percent per annum which would have accounted for 21 percent of the price increase.3 Landlocked’s stock price had skyrocketed almost 1,000 percent from $8.32o per share in 2000 to $79.40 in 2006.

Clearly forces beyond inflation were at work here. Runaway prices and meteoricP growth masked a paradigm shift in the way homebuilders were making money—by developing land. Although buried in a company’s financial statements, this change foreshadowed major implications for the health of the industry. Historically, builders had minimized their land holdingsr and functioned as ‘just-in-time’ manufacturers, maintaining small balance sheets and negligible inventory. In 2000, Landlocked’s balance sheet carried $2.2 billion of housing projects and land (known in the industry as ‘work in process’ or WIP). Although unit sales increasedo by 80 percent in the 2000- 2006 period, WIP swelled five-fold to $10.3 billion. Bulging balance sheets had been made possible by the emergence of dominant publicly-traded homebuilders and their seemingly unfettered access to equity and debt in capital markets (Exhibity 2). … MUST COME DOWN However, evidence of deterioration in the homebuildingp industry had started to emerge as early as 2005 when home prices in some markets experienced consistent monthly declines―an unprecedented occurrence. A July 2005 edition of an international magazine warned “Perhaps the best evidence that America's house priceso have reached dangerous levels is the fact that house-buying mania has been plastered on the front of virtually every American newspaper and magazine over the past month.” By 2007, easy mortgage credit, the ultimate enabler of housing demand, had evaporated. The first clear signs of mortgage market weakness surfaced with the April 2007 bankruptcy of New Century,C the second-largest subprime lender in the country, and the July 2007 collapse of two Bear Stearns-sponsored funds which owned $20 billion in 4 subprime home mortgage securitiest . THE ROLE OF LAND IN HOMEBUILDING

Controlling lots—the oprimary raw material in homebuilding—was important in a flourishing market. In a waning market however, lots were dead wood that ate three gourmet meals a day. Lot owners paidN property taxes, Home Owners’ Association (HOA) dues, maintenance expenses

2 U.S. Department of Commerce, New Residential Construction Release, November 2011. 3 S&P/Case-Shiller Home Price Indices, December, 2011. 3 o U.S. Department of Labor, Consumer Price Index, December 2011. 4 The High-Grade Structured Credit Strategies Fund and the High-Grade Structured Credit Strategies Enhanced DLeverage Fund were managed by Bear Stearns Asset Management.

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p. 3

LandLocked Homes: Catching a Falling Knife RE137

and other holding costs as well as incurring the cost of capital tied up in land development.5 Sensing trouble on the horizon, Landlocked had trimmed its lot portfolio by two-thirds between 6 t 2005 and 2007—from 296,000 to 88,000. This was accomplished through a variety of tactics including the cessation of new lot acquisitions, liquidation of unsold inventories and divestiture of all international projects. To brace for further deterioration, Landlocked had decideds to explore the sale of more of its lot portfolio. Taking advantage of a tax incentive available to aid the homebuilding industry, Landlocked could utilize a loss carryback to generate over $500 million7 in a tax refund in addition to proceeds from the sale—a combined total ofo over $800 million cash. With over $3.3 billion in debt on its balance sheet and cause for concern growing, Landlocked’s board viewed this cash windfall as a game changer. Management was more optimistic about market prospects and opposed to selling land, an asset they hadP worked hard to accumulate and an increasingly scarce ingredient for building homes. The catch with a sale was that the window for using the carryback would necessitate closing a deal by March 31, 2008— not much time considering they did not yet know which lots or to whomr they would sell.

Having completed other land deals with Landlocked in the past, Double L received the first call when Landlocked’s board directed management to explore theo excess land sale. As Tridatol pondered the investment, he was torn by two conflicting judgments. On one hand, this was a buyer’s dream—a 90 percent markdown with a highly motivated seller who had an unusual and perverse set of incentives. The lower the price, the bigger the loss and the greater the value of the tax refund; a subsidy being funded by the U.S.y government. Landlocked seemed as concerned with meeting the March 31 deadline as they were with the price. The Double L/Catalina team had exhaustively studied each of the 25 projects and the markets in which they were situated. They had incurred costs of overp $1 million to engage teams of lawyers and engineers to confirm cost assumptions and the validity of entitlements.8 They knew the deal cold. If they passed, the costs and effort wouldo all be for naught.

On the other hand, the housing market was weakening and the depth and breadth of the evolving downturn were unclear. Tridatol knew how residential housing math worked: lot values were effectively the plug number in an equationC tied to home prices. If home prices fell further from here, the lot values might go to zero. If they fell too much, the lots might actually have negative value owing to substantial carry costs for an indeterminate period. With the run-up that home prices had experienced, what tsort of market downturn might lie ahead? How much would it cost to wait out the market? If they were to proceed, what would their business plan be? How would they manage a geographically dispersed portfolio comprising 25 different communities in a ‘local market’ business?o As a builder, Landlocked wanted a contractual option to re-purchase lots for future homebuilding. If not Landlocked, were there other builders out there to buy lots

5 When lots are developed (roads and utilities are added – known as horizontal improvements) to make ready for houses, property Ntaxes and other holding costs increase substantially. Annual per lot carry costs can increase from $100 (before) to $2,000 (after). These costs can aggregate to $1+ million annually for master-planned communities. 6 Lot inventory included both owned lots and land option purchase agreements. Under option agreements, the company pays a deposit for the right to purchase land in the future, usually at predetermined prices. 7 Estimate only provided for illustrative purposes. The value of the tax refund was dependent upon a variety of factors including the book value (for tax purposes) and sale price of the lots being sold. 8 o Entitlements refer to local government approvals necessary to proceed with construction. A finished lot is improved to a condition that home construction may begin (graded, accessible by a paved street, and serviced by Dutilities).

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p. 4

LandLocked Homes: Catching a Falling Knife RE137

and would they pay Double L’s price? Would Double L be forced to form a homebuilder themselves? Was a hedge fund like Catalina—which often measured investment periods in t minutes—the right partner for land that might be illiquid for a while?

As Tridatol stared at the purchase agreement with his pen in hand, he knew that if they weres to proceed, their work had just begun.

POST-WAR SINGLE FAMILY HOUSING o With estimated values at the 2007 housing peak that aggregated in excess of $20 trillion, U.S. housing dwarfed commercial real estate—an industry with an estimated $5 trillionP in asset value. Growth in the housing stock in the U.S. has roughly tracked population growth since 1940. In the 60-year period since 1940, the housing industry constructed 60 million homes.9 Net of obsolescence, this tripled the ‘detached’ single family housing stockr10—a net increase of 46 million units. Construction was steady during this period averaging 1 million new homes per year. In 1959 there were 1.2 million starts. Forty years later in 1998, there were 1.3 million starts. o Loose Credit For the 50 years leading up to the mid-1990s, the homebuildingy industry comprised a fragmented group of local entrepreneurs who used private capital and local bank debt to build houses. Public homebuilders accounted for less than 15 percent of new homes built.11 However, in the mid- 1990s, things changed abruptly. Through thep innovation of sophisticated, acronym-laced structured finance products, Wall Street brought massive amounts of easy mortgage money to homebuyers, many with marginal borrowing capacity. Not surprisingly, this caused a step- function surge in demand for new houses.o In turn, brisk homebuilding activity to satisfy this explosive demand catalyzed the emergence of large, publicly-traded homebuilders. As if part of a pre-scripted plot, Wall Street was all too happy to facilitate access to both debt and equity for an industry that had been magically transformed from a sleepy, local business to a high-growth juggernaut. Almost overnight, theC confluence of the government’s shift in social policy to expand homeownership and a voracious appetite in the credit markets for new debt products had combined to presage what would turn out to be a 17-year uninterrupted run in the real estate industry.12 t o N

9 U.S. Department of Commerce, New Residential Construction Historical Data. 10 Detached single family refers to free-standing homes. Attached single family refers to a home which shares a wall with adjacent homes (e.g., townhomes). 11 o Industry data, Double L analysis. 12 The combination of the 9/11 terrorist attacks and the tech crash in 2001 resulted in a relatively brief interruption to Dthe bull real estate market, particularly the hotel sector and Bay Area (and other tech-centric submarkets).

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Fannie, Freddie, Wall Street and the Homebuyer Although the Federal National Mortgage Association (Fannie Mae) was created in 1938, it was t not until the 1990s that the Government Sponsored Entities (GSEs) began to aggressively expand their exposure to mortgages.13 This was a reaction to two important developments: s 1) Increased political pressure to improve homeownership rates of low- and middle-income families, and expand their access to affordable mortgages; and o 2) A meteoric rise among commercial and investment banks as originators of non-GSE guaranteed mortgages, which were then packaged and sold as Residential Mortgage Backed Securities (RMBS). Although RMBS were born in the lateP 1970s, the sector exploded in 2001 increasing in size by 15 times in the ensuing six years—from $200 14 billion to $3 trillion. r Faced with extreme political and competitive pressures, the GSEs more than doubled their mortgage exposure from $2.3 trillion in 2000 to $5.0 trillion in 2007 (Exhibit 3). o This wave of sexy, new structured-finance debt instruments became the rage on Wall Street and was being peddled to a decreasingly discerning and yield-starved group of investors who wanted in. U.S. mortgage securities made their way onto the balance sheets of banks far and wide around the world. Relaxed lending standards followed.y The average loan-to-value ratio (LTV) on new mortgages rose from 74 percent in 2000 to 84 percent in 2006, and a staggering 17 percent of all new 2006 mortgages were 100 percent LTV, as compared with 1 percent in 2000.15 Lenders also allowed much higher debt-to-incomep ratios than in the past. In 2000, the average borrower could obtain financing for a home purchase of 3.3x their income. By 2006, this figure had more than doubled.16 o Homebuilders: Meet Wall Street Historically, a large project for a homebuilder might have been 200 to 300 units, often built in a series of 20-unit phases. ConstructionC of a phase was dependent upon the sell-out of the prior phase, and successful projects could build a phase every four months. A local builder’s entire annual production would not exceed a few hundred homes per year across several active projects. The provision of tcapital to the industry was straightforward. With the benefit of building/selling three phases per year, entrepreneurial builders squeezed by on minimal equity, turning their inventory often to maximize returns, while local banks extended bite-sized lines of credit to finance constructiono in phases. Peak equity capital for a 200-unit project would never exceed more than half the cost of a 20-unit phase—usually less than $3 million. As homebuyers’ insatiable appetite for newer and bigger homes grew, homebuilders were forced to adjust their capital structures. Established homebuilders quickly evolved into national companies and began

13 N Fannie Mae was the initial GSE and was formed to provide liquidity to the mortgage market through the purchase of conforming loans from originating banks. In 1970, the Federal Home Loan Mortgage Corporation (Freddie Mac) was established to compete with Fannie Mae. 14 Federal Funds Flow of Accounts, FDIC Quarterly Banking Profile, Commercial Real Estate Finance Council: Compendium of Statistics, Double L analysis. 15 o Commercial Real Estate Finance Council: Compendium of Statistics. 16 Source: T2 Partners LLC Presentation: An Overview of the Housing/Credit Crisis and Why There Is More Pain to DCome, April 3, 2009.

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to access the public equity and debt markets. The equity market caps of the public builders grew over 600 percent from $15 billion in 2000 to $95 billion in 2005—still only a small fraction of 17t the size of the U.S. housing market—which further enticed public builders and their investors. With broad access to capital and an exploding new home sale market, public builders rapidly expanded their geographic footprints to generate the growth that investors demandeds as companies like Landlocked, Pulte, Lennar and KB Home extended their businesses across the U.S. and overseas. o In addition to geographic expansion, the scale of projects grew and the Master Planned Community (MPC), a single-family housing model used in the U.S. and dating back to the early 1960s, began to proliferate. Large MPCs were usually in the growth path of establishedP suburbs and sometimes comprised thousands of homes developed over decades. Because of their scale, MPCs allowed land developers to build enhanced amenities (retail, golf courses, clubhouses and swimming pools) with large monumental entry features (gates, fountainsr and landscaping), all of which were intended to heighten appeal to home buyers. Suburban growth in the Sunbelt states such as Florida, Georgia, Texas, Arizona, Nevada and California coincided with the popularity of MPCs. Texas was at the forefront of this trend. Las Colinaso, a 12,000-acre MPC within the Dallas-area city of Irving was established in 1973 and other geographies such as Orange County, California and Phoenix, Arizona followed. By 2011, 75 percent of all Phoenix home resales were in MPCs.18 y One of the largest and best known MPCs in the U.S. is the 94,000-acre Irvine Ranch. Located in Orange County, California, Irvine Ranch represents the core holding of The Irvine Company, a privately held real estate company based in Newportp Beach. Of the total ranch area, 44,000 acres is retained for development, while the remainder has been preserved. Irvine Ranch encompasses almost one-fifth of Orange County,o and includes portions of Anaheim and upscale places like Laguna Beach and Newport Beach (Exhibit 4).

Large scale and enhanced amenity offerings increase the up-front cost of construction and development. Instead of building Croads and utilities phase by phase in a conventional project with a few hundred homes, MPCs require significant up-front costs to develop infrastructure and amenities. The subsidy required to operate amenities for MPCs before homes are built and sold must also be capitalized intot the project. As an illustration, an MPC country club and golf course alone might cost tens of millions of dollars to build and several million dollars per year to operate, while the cumulative home sale revenue stream for an entire 300-home conventional project might only be $50o million.

Since MPCs satisfied Wall Street’s mandate for preprogrammed growth, the industry needed to find a way to rationalize these considerable up-front costs. With high demand among homebuyers andN enhanced amenities to sell, the logical answer was to accelerate a project’s build-out. By designing MPCs to offer an array of house sizes and price points, the MPC could simultaneously attract multiple public builders who could each provide one or, in many cases, severalo different products within the MPC. Homebuyers were offered a rich menu of lot and

17 Industry data, Double L analysis. D18 Greater Phoenix Economic Council.

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home sizes—lots in width increments of as little as 10 feet and houses in 200-square-foot increments. Although the distinctions may seem indiscernible in retrospect, product t differentiation provided the justification the industry needed to continue on its breakneck path. Dozens of MPCs broke ground across the U.S. and public builders began to buy lots to fulfill their need for the industry’s most basic raw material—land. At this stage in the cycle markeds by rapid growth and large projects, public builders had a tremendous advantage, in terms of access to cheap balance sheet capital, over local builders dependent upon banks that were becoming increasingly nervous. When financing land development, banks are notoriously particularo about presale requirements, documentation, appraisals and credit committee approval—all of which slow the process. In a rapidly selling project, builders are eager to ride momentum and start the next phase—while banks inconveniently want to apply the brakes to avoidP an increase in outstanding indebtedness. The Gold Is in the Dirt r Based on the industry-standard 10 percent building margin, a home that costs $180,000 to build including construction (hard costs), allocated design costs, interest expense, city fees, builder G&A (soft costs) and land would sell for $200,000. When the omarket was in full swing, many builders could complete a house in less than four months, allowing them to earn lower unit level margins by turning inventory (and their equity) three times per year. Under the ‘just-in-time’ homebuilding model, inventory was held to a minimum and returns on equity swelled. As a rule of thumb, lot costs would generally represent 20 percenty of the cost of a home, or $40,000.19 As the housing market took off, home prices rose faster than hard and soft costs, which drove the plug number—land values—higher. If the home’s price increased by 20 percent (from $200,000 to $240,000), hard and soft costs might only increasep 5 percent ($7,000) and the lot value would share disproportionately in the price increase. In this example, residual lot value would rise by $29,000 from $40,000 to $69,000—a 72.5 percent increase (Exhibit 5). o The public homebuilders recognized that in a flourishing market, land was a more profitable enterprise than building homes. The risk of large capital commitments and long timelines was obscured by seemingly bottomless Cprimary demand by homebuyers. The public builders began to buy raw land and integrated lot development capabilities in-house. Companies hired a ‘land man’ for every market, who filled out his team with planners and engineers. By buying large tracts of land and developingt their own lots, homebuilding margins of 10 percent seemed pedestrian in comparison to lot development windfalls. While net homebuilding operating margins remained under 10 percent throughout the 1990s and early 2000s, lot development margins rose from 16.6o percent pre-boom to 30.7 percent in 2004—2006 (Exhibit 6). The transformation would prove ominous; land had become an addiction. In the frenzy, homebuilders had lost sight of the basic premise: without surging primary demand, land and its three-meal- a-dayN appetite could be crippling—especially if financed with debt.

19 20 opercent is a national average. In markets with limited land availability like California, lot values could approach 50 percent of cost. Because the Landlocked portfolio was heavily weighted to markets with high land costs, such as California and Virginia, Landlocked had assumed that the residual value of the portfolio being Dshopped to Double L was 28 percent.

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LANDLOCKED CORPORATION t In 1945, a slight 5’6” entrepreneur from tiny Whitewright, Texas scraped together $500 and made his way to Dallas to start building homes.20 In 1950, he named his burgeoning enterprise Landlocked Construction Company. Its first major project was a 300-home subdivisions in Dallas; homes sold for $6,500 each. The company grew rapidly across Texas and expanded into Illinois. By 1960, they had built 25,000 homes and in 1969, began trading publicly. With access to the public market, Landlocked vertically integrated into housing materials to exerto greater influence over costs in its supply chain. A 1976 article in a national business magazine noted that “Landlocked’s ability to manage its inventory was tops in the industry” and that “the company could turn building materials 15 times a year. This extraordinarilyP high turnover helped the company hold down prices and keep profit margins healthy on houses in a wide variety of sizes.” Eventually, the company expanded into Hawaii and throughout the United Kingdom. At its peak, the company had 45 geographic divisions and rthe U.K. division had 48 developments delivering roughly 2,000 units a year. Landlocked also added business lines to sell other services to their captive homebuyers—mortgage financing, pest control and security services. Executives joked internally about a new moniker: Landlockedo —the Bugs, Slugs and Thugs Company.

In the 1980s, the Texas economy, Landlocked’s primary market, was devastated when the price of oil plunged 60 percent in a five-year span. Despite they company’s overexposure to Texas, its prior decisions to extend its geographic footprint and into service businesses had paid off. Rather than suffer a fateful demise like many Texas developers in the late 1980s, the company entered the 1990s poised for growth. Their timingp was ideal as Federal Reserve Chairman Alan Greenspan presided over a decade-long period of easy money following the 1991-1992 double dip recession. Landlocked rode the ensuing credit wave during the 13 years from 1992 to 2005. In 1992, the company sold 10,300 new homes.o In 2005, the company would sell 39,200 homes. Over this period, the average price of a Landlocked home rose from $148,000 to $304,000. This increase in activity drove a commensurate jump in revenues and earnings. Homebuilding revenues in 1992 were $1.4 billion,C and operating earnings $80 million—a 5.6 percent margin. By 2005, sales had climbed to $12.3 billion and operating earnings to $1.9 billion—a 15.5 percent margin. The trajectory of the housing industry led Landlocked to become increasingly acquisitive when the market twas most frothy. Between 1992 and 2000, inventory grew from $896 million to $2.2 billion, but skyrocketed to $9.6 billion by 2005, when the company controlled 296,000 lots—109,000 owned and 187,000 through options (Exhibit 7). o Buried in these numbers was the fact that Landlocked had made the strategic decision to grow organically by developing raw land. This contrasted with the strategy of other large publics: acquiring local and regional builders. Landlocked had found that land values were so high that homebuilding Nmargins had gotten unacceptably thin. There just weren’t enough finished lots. In 2004, the company held a Land Acquisition Workshop and the theme was ‘get ahead of the land flippers.’ In order to become more agile in an increasingly competitive land market, the company had made another fateful decision—to decentralize land development. Since land acquisitiono decisions are unique to the local market environment, the company delegated this

20 D Whitewright is located in northwest Texas and has a population of 1,700.

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authority to field offices. The teams’ incentive compensation was structured in the form of bonuses and stock options which relied upon growth. This was a dangerous departure from the t way private builders made money—profit participation in projects with personal recourse loans that would be called upon if a project’s revenues were less than total development cost. There is nothing like personal recourse liability to keep deal junkies in bounds. s Time to Start Dumping Lots o Unexpectedly, Landlocked’s long-time chairman and CEO left the company in late 2004. He had led the company’s spectacular growth during his 13-year tenure as CEO. Shaken by his sudden departure, Landlocked’s board became increasingly concerned that itsP large, illiquid lot inventory left it exposed to an overheated market. The government-sponsored National Home Ownership Strategy and a surge of low interest rate mortgage availability had pushed the homeownership rate from 63 percent in 1992 to 69 percent in 2006.21r The Landlocked board knew that demand from the marginal buyer implied industry growth that was seemingly synthetic and certainly unsustainable. o In 2005, for the first time in this cycle, Landlocked’s sales backlog had fallen. By the middle of the year, the company was taking active steps to reorganize, trim its balance sheet, and brace for a looming downturn. The company sold its U.K. business in late 2005, its sub-prime home equity lending operations in 2006, and its constructiony services business in 2007. Landlocked also reduced its lot portfolio from 296,000 at the peak in 2005 to 88,000 by the end of 2007, resulting in an inventory reduction from $9.6 billion to $5.3 billion and a corresponding reduction of the ratio of lots controlled to homesp closed from 7.54 to a post-2000 low of 3.28. These measures helped the company shrink its balance sheet and fortify its cash position. Perhaps most importantly, after having only $47 million of cash at the end of 2005, the company finished 2007 with $586 million, and hado paid down debt from $4.0 billion in 2005 to $3.3 billion in 2007. For the first time in the history of the company, a corporate investment committee was formed in early 2007 to approve all investment decisions and control cash. C Unfortunately, it was clear this would not be nearly enough. 2007 had been a terrible operating year. Unit sales fell 23 percent , revenue fell 30 percent and the company’s Home Building division recorded an operatingt loss of $2.6 billion. The outlook was not encouraging as the home sale backlog (i.e., where Landlocked had signed a contract with a homebuyer which included a deposit) had fallen by 55 percent since 2005. Perhaps more troubling, the company’s debt remained high at o$3.3 billion. While the company had not violated any debt covenants, $550 million in debt maturities were scheduled in Q1 2009, along with another $1.4 billion in Q1 2011. Since earnings had vanished, there was no apparent source to service or, worse yet, retire the debt. With only $600 million of cash on the balance sheet, the board knew that notwithstandingN resistance from management, more asset sales were necessary to save the company. o

D21 U.S. Census Bureau.

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Let Uncle Sam Be Your Friend P David Wilson, the company’s former CFO and current board member, had an idea. Wilson had a reputation for being creative with the tax code. In 1995, he had engineered the $85 million acquisition of a bankrupt real estate company which owned 3,500 acresr of land and a tax asset known as a net operating loss (NOL). Within two years, Landlocked used the entire $750 million NOL to offset taxable income, resulting in a cash benefit of over $250 million. o Wilson believed that if Landlocked sold high-cost lots at current values which were substantially lower, the loss could be offset against prior income, resulting in a cash tax refund. He argued to the board that if the company found an investor willing to act as a land banker, Landlocked could raise much-needed cash while retaining an option to buyy back the lots for future building—an appealing combination. Since Wilson had done two prior land banking deals with Double L, Tridatol got the ‘what do you think?’ call, whichp led to a series of discussions about a deal. Adding momentum to Wilson’s initiative, Lennar Homes (NYSE: LEN) announced a similar transaction in late 2007. Morgan Stanley’s real estate opportunity fund (MSREF) purchased 11,000 lots from Lennar Homes for $525 omillion. The lots had a book value of $1.3 billion, resulting in a $320 million cash tax refund.

Armed with the validation he needed, Wilson pressed the board for concurrence. With 22,000 lots carried at almost $2 billion in Cbook value, which were certainly worth less than half that in the current environment, Wilson reasoned that the company could generate combined sales proceeds and a cash rebate on the tax assets of over $800 million (Exhibit 8). However, there was a catch. The carry-backt period for a loss from lot sales was two years. Since 2006 was a breakeven year and 2007 would generate a substantial loss, Landlocked would need to close the sale in fiscal 2007 to be in a position to access 2005 income and therefore the tax refund.22 The Landlocked board convenedo a special meeting in December 2007. Wilson argued the case against the protests of management, who were not convinced. The CEO and his team believed the downturn was only temporary. The board sided with Wilson. The Dallas office of Goldman Sachs was on Wilson’s speed dial, as Landlocked had frequently accessed the capital markets during the runN-up using Goldman as its primary underwriter. Wilson left the meeting and immediately hired Goldman to conduct an auction.

22 o The Landlocked fiscal year for 2007 did not actually end until March 31, 2008. Given the lack of income in fiscal 2006 and 2007, if the company missed this window, there would be no positive income to offset against the two- Dyear carry-back period.

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The Auction t Goldman hastily formulated an auction timeline that had to be adhered to if Landlocked was to meet the March 31 deadline. Because the IRS refund would materially subsidize the sale, the timeline created an odd deal dynamic: closing risk was as important as price, conceivablys even more so. The Goldman office in San Francisco and Landlocked’s regional office in San Ramon pulled together an initial portfolio which included 22,000 lots. Wilson called Tridatol to relate the plan and encouraged Double L to participate. o Double L Capital Double L was a boutique real estate opportunity fund that had serially raisedP and invested four funds aggregating to $500 million over the previous 10 years. The Fund was opportunistic targeting 25+ percent IRRs and had invested in land in Hawaii, nursing homes in Florida, office buildings in New York City, and everything in between. Of late, the rreal estate market’s froth was reflected in rising prices and lower rates of return, making investments harder to find. Tridatol, a graduate of the GSB, was a veteran of the early days of the opportunity fund world where he had worked for one of Fort Worth’s infamous Bass brotherso during the previous real estate downturn in the early 1990s. Robert Bass had hired Tridatol to be part of the team he sponsored to form two of the first real estate opportunity funds, Colony Capital and Lone Star (originally known as Brazos Partners). While Tridatol enjoyed the exhilaration of larger deals, he ultimately formed his own fund business for whichy he could be more selective about investments—something made difficult by Bass’s institutional investors who demanded steady investment activity. Double L’s investors consisted of high-net-worth individuals and family offices—a variety of money more focused on returns,p not the pace of investment activity. Big Brother Double L’s size surfaced a tactical decisiono: even with an endorsement by Landlocked, a non- institutional fund was unlikely to be taken seriously by Goldman given the capital requirements necessary to take down the entire portfolio. Tridatol called his friend who ran real estate investments at Catalina Capital, aC $30 billion hedge fund based in San Francisco. Their wherewithal would not be questioned. He also knew that Catalina’s reach included local land developer relationships throughout the U.S., which could help them value the lots and potentially manage the projects after closingt . Perhaps most importantly, the Goldman office charged with managing the auction was based in San Francisco, five blocks from Catalina’s office.

Notwithstanding, partneroing with Catalina introduced concerns that troubled Tridatol. First, a hedge fund’s investment philosophy was based on trading. The vast majority of its capital was invested in debt and equity securities, which could be liquidated in an afternoon and are subject to daily pricing pressures. Real estate, especially land, is an illiquid asset class and not a natural fit in a hedge fundN portfolio. The plan for the lots would be an extended liquidation (and could eventually include homebuilding, otherwise known as ‘vertical development’) over a period of years. Tridatol knew that this would likely involve mothballing projects in weak markets to await a recovery. Although Catalina had articulated its tolerance of the apparent conflict betweeno illiquid real estate and hedge fund-style investments, Tridatol knew things might change. Second, in real estate deal parlance, Double L was seeking a ‘money partner’ from Dwhom his firm would receive a share of the profits as an incentive for providing the ‘talent’.

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With Catalina’s operating partner network, it was clear they did not view themselves as just money. t

Lastly, Double L only had $50 million of capacity in its current fund which would make this the fund’s last investment. Ideally, Double L would find a more passive money partner thats, if necessary, would be prepared to fund beyond the initial capital requirement. Hedge funds’ agreements for these types of investments were known to have aggressive dilution provisions if unanticipated capital needs arose. Tridatol had spoken with other prospective and moreo typical money partners including CalSTRS23 and a KKR affiliate. But none seemed to have the capacity to mobilize quickly. He was torn. Given its illiquid nature, was this an investment that Catalina was really prepared to make? And if they did, would the lengthy holding periodP be a constant source of friction between Catalina and Double L? Would their patience wear thin and cause them to force a bulk sale at a sizeable discount? If not Catalina, was therer a viable alternative? Lot Pricing In the first three weeks of January 2008, Double L and Catalinao visited 38 of the portfolio’s 46 projects across the U.S. Although this was a major effort, they knew there was no substitute for seeing real estate with their own eyes. Visits were also tactical . Their valuation methodology was conservative and was not going to generate the highest bid. Tridatol believed that in Landlocked’s eyes, these visits would minimize the perceptiony of closing risk associated with Double L’s bid. After two rounds of bidding, the portfolio had been reduced to 8,300 lots in 25 projects, as bids for the remaining projects were below Landlocked’s reserve prices.24 p While all the single family lots were entitled for homebuilding, only 3,200 were fully developed and ready for homebuilding and another 2,400 were only partially developed (Exhibit 9). The remaining 2,700 were unfinished and had ono improvements (known in the industry as ‘paper lots’). Landlocked’s budget included $169 million to fully develop the remaining lots as well as an additional $58 million to pay holding costs in the interim (taxes, insurance, operating company G&A, third-party resources,C etc.). Because over 80% of the costs were to develop partially finished or unfinished lots and would not be expended until individual housing markets improved, the majority were expected to be funded out of cash flow generated from other lot sales. t

Double L (as buyer) took a typically cynical view of Landlocked’s ‘seller’ numbers (Exhibit 10) and in light of a weakeningo housing market, made substantial reductions to both the timing and prices in their revenue assumptions. Although home prices had already fallen an average of more than 17 percent nationally, Double L’s valuation model projected further lot price declines of 12 percent. Double L also extended the weighted average sell-out period from Landlocked’s assumption ofN 39 months to 60 months and inflated the budget by adding a 50 percent contingency into development costs. Perhaps most importantly, while some land buyers were

23 Theo California State Employee Retirement System pension fund, which had over $17 billion invested in land and other real estate. 24 In one noteworthy example, Double L’s bid was $4 million for 2,100 acres in Florida, which Landlocked had Dbought for $113 million only a year earlier.

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still underwriting unleveraged land acquisitions to mid-teens IRRs, Double L was cautious and priced to a 27 percent IRR. t

Double L’s additions to Landlocked’s cost assumptions for the portfolio increased the investment’s development cost budget by over 50 percent—from $169 million to $259 million.s These conservative assumptions resulted in a $127 million acquisition price—only 10 percent of Landlocked’s cost (Exhibit 11). At this price, he knew that Landlocked had reached its threshold and was not willing to give the lots away for free. To be safe, Double L ando Catalina also agreed they would capitalize the acquisition with $50 million of ‘rainy day’ money so the investment would not be capital constrained. P Embedded in the valuation exercise was a classic investment conundrum : What is the appropriate trade-off between rate of return and whole dollar return? What is the appropriate margin for this type of investment? If achieved, was the whole dollarr return high enough to justify the investment? THEN WHAT? o As Tridatol stared at the purchase agreement in the deal room, he began thinking about tomorrow. Double L and Catalina would own lots all over the U.S. and would be incurring $125,000 per week in holding costs beginning immediately.y The underwriting for many of the projects included a set of assumptions which depended upon homebuilders as buyers for the lots. What if there were no homebuilders to buy the lots? Could the Double L/Catalina team form a homebuilding company? Both Double L and Catalinap were deal shops, thinly staffed in a central office and reliant upon operating partners for their investments. Neither firm had more than 10 real estate professionals to make investments. Homebuilding required a fully staffed organization for each market. Functionso included planning, construction management, purchasing, finance, interior design, marketing, advertising and sales. Were deal guys equipped to operate a “manufacturing” business? C Tridatol knew that beginning tomorrow, someone would have to find lot buyers and negotiate sale agreements with them. Someone would have to be sure that remaining development work was complete, property taxest were paid, city-mandated maintenance was being performed—and that the many other responsibilities of a land owner were discharged. Given the geographic dispersion and the local market nature of homebuilding, he knew this could not be done from an office building in Dallaso or San Francisco. What to do?

N o D

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Exhibit 1 Home Value History t

The graph below represents an index of American housing prices going back to 1898. The data is based on the sales prices of existing homes (as opposed to new construction). The terms ofs the data are consistent throughout the 109-year period. The 1898 benchmark is 100 on the chart. If a standard house sold for $100,000 in 1898 in inflation-adjusted dollars, an equivalent house would have sold for $78,000 in 1935 and almost $200,000 in 2006.25 o

Real Home Price Index (Robert Shiller, Irrational Exuberance) P 210 2000’s Double L Pro Forma Q1r 2008 Boom Pricing 190 170 o 150 y 130 World Great World 70’s 80’s War I Depression War II p Boom Boom 110

90 o 70 C 50 t o Case Shiller Index Case Shiller Trendline N o

25 Shiller, Robert, Irrational Exuberance, Princeton University Press 2000, Broadway Books 2001, 2nd edition, D2005. [***permission requested***]

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Exhibit 2 Homebuilder Metrics t

Growth of the public homebuilders accelerated between 2000 and 2006. s o

Exhibit 3 r Residential Mortgage Portfolio Growth

Residential mortgage portfolios increased significantly between 2001 and 2007o. GSE exposure almost doubled from $2.7 trillion to $5.0 trillion, while non-GSE residential mortgage backed securities skyrocketed more than 1000% from $288 billion to $3.0 trillion

$ in billions $9,000 y $8,000 p $7,000 $6,000 o $5,000 $4,000 C $3,000 $2,000 t $1,000 o $0

N Fannie Mae Residential Mortgage Portfolio Freddie Mac Residential Mortgage Portfolio Non-GSE RMBS Outstanding

Source:o Based on data from: Federal Funds Flow of Accounts, FDIC Quarterly Banking Profile, Commercial Real Estate Finance Council: Compendium of Statistics, Double L analysis. D

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Exhibit 4 Irvine Ranch t s o P r o y p o C t o

Source: The Irvine Company [***permission requested***] N o D

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Exhibit 5 Basic Home Building Economics t

Incremental increases in the price of a single family home have a disproportionate effect on the value of the underlying lot. s o P r

Exhibit 6 o Industry-Wide Business Segment Margins

While net homebuilding operating margins across the industry remained under 10 percent throughout the 1990s and early 2000s, lot development marginsy rose from 16.6 percent pre-boom to 30.7 percent in 2004 to 2006.

35.0% p

30.0% o 25.0% C 20.0%

15.0% t

10.0% o N5.0% 0.0% Home Land Total o 1998 - 2003 2004 - 2006

DSource: Industry data, Double L analysis.

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Exhibit 7 Landlocked Key Metrics t

Landlocked’s growth was manageable throughout the 1990s. In the first half of the 2000s, the company took off on an unsustainable trajectory. o P r

o y p o C t o N o D

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Exhibit 8 Landlocked’s Pro Forma Sales and Tax Rebate Estimates Prior to Transaction t

The following table, provided by Landlocked, illustrates the company’s estimates for total cash received following portfolio sale and cash tax rebate. s

Landlocked Book Value Landlocked Sales Estimated Total Cash Rebate on Tax Project City ST Prior to Close Price Loss on Asset Asset @ 35% Total Cash Received Tierra Del Rio Peoria AZ 73,474,409 8,882,846 64,591,563 $22,607,047 $31,489,893 o Desert Oasis Surprise AZ 53,117,978 2,543,029 50,574,949 $17,701,232 $20,244,261 Johnson Ranch Queen Creek AZ 13,753,437 3,291,833 10,461,604 $3,661,561 $6,953,394 Riverpark Oxnard CA 91,912,204 18,320,631 73,591,573 $25,757,051 $44,077,682 Redhawk Temecula CA 36,617,474 8,707,274 27,910,200 $9,768,570 $18,475,844 Orchard Glen Corona CA 42,876,410 7,761,604 35,114,806 $12,290,182P $20,051,786 Lompoc Seabreeze Lompoc CA 38,097,263 4,332,740 33,764,523 $11,817,583 $16,150,323 Mission Ranch Riverside CA 33,416,709 1,348,750 32,067,959 $11,223,786 $12,572,536 Dove Creek Atascadero CA 35,325,546 1,616,436 33,709,110 $11,798,189 $13,414,625

Plant 51 San Jose CA 122,089,840 37,442,510 84,647,330 $29,626,566 $67,069,076 Seagrass Plantation Dagsboro DE 30,897,961 3,235,604 27,662,357 r $9,681,825 $12,917,429 Vero Lago Vero Beach FL 34,515,382 5,736,922 28,778,460 $10,072,461 $15,809,383 Creekwood Condos Bradenton FL 17,833,824 890,876 16,942,948 $5,930,032 $6,820,908 Danbury Parc Chamblee GA 15,619,175 8,003,284 7,615,891 $2,665,562 $10,668,846 Sable Ridge Joliet IL 17,568,299 123,057 17,445,242 $6,105,835 $6,228,892 Broad Marsh Ocean City MD 13,424,321 3,591,692 o 9,832,629 $3,441,420 $7,033,112 Seaside Village Ocean City MD 12,203,672 1,019,694 11,183,978 $3,914,392 $4,934,086 Waterford Waconia MN 10,162,684 1,803,631 8,359,053 $2,925,669 $4,729,300 Ardiente North Las Vegas NV 65,382,051 11,584,972 53,797,079 $18,828,978 $30,413,950 Cyan Reno NV 160,953,575 5,732,709 155,220,866 $54,327,303 $60,060,012 Black Green Valley Henderson NV 65,971,366 8,000,000 57,971,366 $20,289,978 $28,289,978 Horizon Park North Las Vegas NV 38,372,149 4,041,673 34,330,476 $12,015,667 $16,057,340 y Mesa Verde North Las Vegas NV 24,514,229 2,544,807 21,969,422 $7,689,298 $10,234,105 Miramonte Sparks NV 44,976,530 1,327,474 43,649,056 $15,277,170 $16,604,644 Artesia Prosper TX 22,405,957 6,852,452 15,553,505 $5,443,727 $12,296,179 Eastgate Loudoun County VA 74,307,200 p 6,147,638 68,159,562 $23,855,847 $30,003,485 Menifee Lakes Inland Empire CA 72,901,331 8,019,146 64,882,185 $22,708,765 $30,727,911 Tuscany Inland Empire CA 11,028,700 1,213,157 9,815,543 $3,435,440 $4,648,597 Terracina Inland Empire CA 14,900,300 1,639,033 13,261,267 $4,641,443 $6,280,476 Victorville Builders Cap Inland Empire CA 18,816,903 2,069,859 16,747,044 $5,861,465 $7,931,325 Victorville Eagle Ranch Inland Empire CA 17,066,410o 1,877,305 15,189,105 $5,316,187 $7,193,492 Hideway - Hemet Inland Empire CA 24,337,217 2,677,094 21,660,123 $7,581,043 $10,258,137 Monte Vina - Indio Inland Empire CA 42,565,661 4,682,223 37,883,438 $13,259,203 $17,941,426 Perris 496 Inland Empire CA 46,456,125 5,110,174 41,345,951 $14,471,083 $19,581,257 Riverwoods Inland Empire CA 58,421,992 6,426,419 51,995,573 $18,198,451 $24,624,870 West Hills Los Angeles CA 40,448,156 4,449,297 35,998,859 $12,599,601 $17,048,898 Reserve Los Angeles CA C 8,250,033 907,504 7,342,529 $2,569,885 $3,477,389 Fox Trail Phoenix AZ 65,998,134 7,259,795 58,738,339 $20,558,419 $27,818,213 Alta Mira Sacramento CA 16,810,619 1,849,168 14,961,451 $5,236,508 $7,085,676 Cypress Sacramento CA 17,453,779 1,919,916 15,533,863 $5,436,852 $7,356,768 Woodland Sacramento tCA 37,402,917 4,114,321 33,288,596 $11,651,009 $15,765,330 Woodland Arbors Sacramento CA 1,697,502 186,725 1,510,777 $528,772 $715,497 Arbor Ranch Corona CA 16,950,414 1,864,546 15,085,868 $5,280,054 $7,144,600 Lely Naples FL 30,416,598 3,345,826 27,070,772 $9,474,770 $12,820,596 Cypress Falls Sarasota FL 37,852,488 4,163,774 33,688,714 $11,791,050 $15,954,824 LTC Ranch Southeasto FL 122,629,338 13,489,227 109,140,111 $38,199,039 $51,688,266 Palm Breezes Southeast FL 22,748,638 2,502,350 20,246,288 $7,086,201 $9,588,551 Subtotal/Weighted Avg. 1,914,942,900 244,650,996 1,670,291,904 584,602,166 829,253,163

N o D

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Exhibit 9 Typical Project t Cyan, Reno, NV (includes finished and unfinished lots) s o P r o y p o

C t o N

DSource: Double L (reprinted with permission).

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Exhibit 10 Landlocked Static Portfolio Under Consideration by Double L t

Landlocked’s lot portfolio (shown below as of February, 2008) would require Double L to build in multiple layers of conservatism (Note: information below is as provided by Landlockeds and not yet adjusted by Double L).

o Home Projected Lot Projected Book Value Final Lot Project City ST Lots Price* Values Expenses** (2/28/08 ) Sale*** Tierra Del Rio Peoria AZ 336 $276,382 $72,600,000 ($30,100,000) $73,474,409 2012 Desert Oasis Surprise AZ 225 $235,686 $5,900,000 ($100,000) $19,979,433P 2009 Johnson Ranch Queen Creek AZ 264 $209,265 $20,800,000 ($2,100,000) $13,753,437 2013 Riverpark Oxnard CA 309 $537,677 $41,400,000 ($10,600,000) $115,542,630 2011 Redhawk Temecula CA 133 $404,285 $19,200,000 ($3,800,000) $52,565,001 2010 Orchard Glen Corona CA 96 $537,280 $21,800,000 ($1,500,000)r $59,183,355 2010 Lompoc Seabreeze Lompoc CA 128 $374,745 $15,400,000 ($1,200,000) $54,315,947 2009 Mission Ranch Riverside CA 116 $412,335 $20,000,000 ($2,200,000) $51,112,227 2010 Dove Creek Atascadero CA 560 $378,017 $6,800,000 ($2,000,000)o $54,438,334 2009 Seagrass Plantation Dagsboro DE 191 $301,806 $17,300,000 ($3,700,000) $31,989,711 2013 Vero Lago Vero Beach FL 323 $260,843 $17,900,000 ($1,900,000) $48,878,911 2011 Creekwood Condos Bradenton FL 258 $176,291 $15,600,000 ($3,200,000) $17,833,824 2010 Danbury Parc Chamblee GA 79 $486,871 $12,300,000 ($100,000) $25,963,429 2009 Sable Ridge Joliet IL 449 $272,535 $9,300,000y ($1,500,000) $34,855,271 2011 Broad Marsh Ocean City MD 54 $395,833 $7,100,000 ($1,100,000) $17,188,665 2009 Seaside Village Ocean City MD 29 $383,809 $4,500,000 ($300,000) $19,244,447 2009 Waterford Waconia MN 81 $320,543 p$4,600,000 ($1,100,000) $13,895,280 2011 Ardiente North Las Vegas NV 543 $256,628 $34,200,000 ($2,600,000) $89,327,320 2011 Cyan Reno NV 1,384 $274,661 $88,200,000 ($56,537,000) $170,571,809 2016 Black Green Valley Henderson NV 337 $346,600 $73,400,000 ($24,800,000) $65,971,366 2013 Horizon Park North Las Vegas NV 159 $313,106o $14,100,000 ($3,500,000) $56,440,623 2009 Mesa Verde North Las Vegas NV 114 $202,915 $4,700,000 ($1,300,000) $28,479,561 2009 Miramonte Sparks NV 129 $310,183 $13,100,000 ($9,700,000) $61,445,396 2011 Artesia Prosper TX 1,419 $179,153 $45,900,000 ($19,600,000) $26,971,447 2016 Eastgate Loudoun County VA C621 $391,994 $93,800,000 ($43,400,000) $74,307,195 2016 Subtotal/Weighted Avg. 8,337 $291,911 $679,900,000 ($227,937,000) $1,277,729,028 July-11 * Home Price indicates the pro forma sales price that Landlocked was forecasting at each project at the time of the proposed transaction and results in a 28% residualt land value ** Pro forma Expenses are Landlocked's estimates for future expenses at specific projects at the time of the proposed transaction and include both Development & Carry Costs *** Weighted Average Final Loto Sale is the weighted average final lot sale using projected revenue N o D

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Exhibit 11 Double L Pro Forma for Landlocked Portfolio t

The table below depicts Double L’s cash flow assumptions for the acquisition, developments, carry and disposition of the Landlocked portfolio. These numbers incorporate the downwards adjustments made by Double L to the Landlocked assumptions.

Double L Cash Flow Summary o

Total 2008 2009 2010 2011 2012 2013 2014 2015 2016 Revenue Assumptions Lot Sales 8,337 1,105 1,494 1,602 1,285 932 682 635 468 134 Gross Revenue* 679,898 $103,575 $104,561 $123,176 $90,580 $82,460 $68,380 P$55,142 $35,772 $16,252 Double L Lot Price Reductions** ($81,588) ($12,429) ($12,547) ($14,781) ($10,870) ($9,895) ($8,206) ($6,617) ($4,293) ($1,950) Net Revenue $598,310 $91,146 $92,014 $108,395 $79,710 $72,565 $60,174 $48,525 $31,479 $14,302 Cost Assumptions Lot Development Costs* ($169,447) ($41,788) ($24,167) ($32,681) ($30,969) ($17,507) ($10,462)r ($10,106) ($1,754) ($13) Double L Contingency** ($89,926) ($21,738) ($15,119) ($16,865) ($15,024) ($10,148) ($5,743) ($4,684) ($600) ($5) Development Budget ($259,373) ($63,526) ($39,286) ($49,546) ($45,993) ($27,655) ($16,205) ($14,790) ($2,354) ($18) Taxes Insurance and HOA ($26,320) ($4,360) ($6,562) ($4,975) ($2,842) o($2,568) ($1,859) ($1,339) ($1,054) ($761) Land Maint., Permit Fees & Bonds ($14,623) ($2,422) ($3,645) ($2,764) ($1,579) ($1,427) ($1,033) ($744) ($586) ($423) G&A Expenses ($17,547) ($2,907) ($4,375) ($3,317) ($1,894) ($1,712) ($1,239) ($893) ($703) ($507) Total Carrying Budget* ($58,490) ($9,689) ($14,582) ($11,056) ($6,315) ($5,707) ($4,131) ($2,976) ($2,343) ($1,691)

Subtotal Cash Flow $280,447 $17,931 $38,146 $47,793 $27,402 $39,203 $39,838 $30,759 $26,782 $12,593

Acquisition Level Cash Flows y Land Purchase Price ($127,442) ($127,442) $0 $0 $0 $0 $0 $0 $0 $0 Acquisition Closing Costs ($3,500) ($3,500) $0 $0 $0 $0 $0 $0 $0 $0 Acquisition Cash Flows Subtotal ($130,942) ($130,942) p Total Investment Cash Flows ($113,011) $38,146 $47,793 $27,402 $39,203 $39,838 $30,759 $26,782 $12,593 Peak Equity Invested ($142,040) Total Equity Returned $280,447 Multiple on Invested Equity 1.97x o Discount Rate 27% * As provided by Landlocked ** Adjustments made by Double L C t o N o D

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9-379-193 REV: AUGUST 8, 2013 t

WILLIAM J. POORVU s Financial Analysis of Real Property Investmentso

This note examines some of the methods by which real property investments are analyzed, including those most commonly used and others that will serve for purposesP of comparison or illustration. It also offers suggestions about analytical techniques and provides sources of useful information.

The reader should be aware throughout that a successful analysis ofr a real property investment must consider many critical characteristics that are not easily reflected in the mathematics of a financial analysis. Among these are (a) the extremely long time horizon involved, (b) the lack of liquidity, and (c) the effects an ever-changing environment. Ino short, the investor must temper financial analysis with an understanding of the risks involved before proceeding. The task of analyzing a real estate investment may be divided into three components: 1. Cash flow The amount of cash annually receivedy by the investor, including revenues generated and financing proceeds realized, minus all cash expenses incurred, with the exception of income taxes; p 2. Tax effect The amount by which the investment affects the taxes payable in the current year by the investor;

3. The amount by whicho the capital position of the investor is affected by the Future benefits sale or refinancing of the property or entity owning the property on an after-tax basis. It takes into account prior mortgage amortization and the change in value of the asset. This note examines each of theseC elements of return and their use in establishing an overall rate of return and valuation of the property as well as the effects the passage of time may have on all of the above. t The Setup

The term setup is real estate jargon for a combination of the income statement and cash flow statement. The purposeo is to get a better measure of value than either of these statements alone could provide. For the purchaser of real property, the setup provides the basis for a measure of the value of the acquisition. By adjusting the setup, a purchaser can trace the effect on market value of any changes that might be made. Preparing a setup is also useful to the owner of property not currently producing income.N It provides a measure of opportunity cost by showing the amount of carrying costs over time and the amount of money at risk in holding the property.

______o

Professor William J. Poorvu prepared this note as the basis for class discussion.

Copyright © 1979 President and Fellows of Harvard College. To order copies or request permission to reproduce materials, call 1-800-545-7685, write Harvard Business School Publishing, Boston, MA 02163, or go to www.hbsp.harvard.edu/educators. This publication may not be digitized, Dphotocopied, or otherwise reproduced, posted, or transmitted, without the permission of Harvard Business School.

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Preparing a setup for a specific piece of real property is a two-step process. The first step focuses t on the pretax cash flow. The second measures the effect of taxes. By following the procedure outlined in Table A, the pretax cash flow may be determined. s Table A Determining Pretax Cash Flow

Gross revenues: Base rentals o Rent escalators Expense reimbursements Other income – Vacancies, bad debts P = Net revenues – Operating expenses: Real estate taxes Administrative Insurance r Utilities Maintenance, supplies, and trash removal Repairs Replacemento and other reserves Other expenses = Cash flow from operations (also known as free- and-clear cash flow or operating cash flow) – Financial payments: yMortgage interest Mortgage amortization Land-lease payments – Capital expenditures p = Cash flow after financing or cash flow before taxes A setup can be prepared using either actualo or estimated expense figures. It is critical that a prospective buyer know what kind of information is being shown by the seller because: (1) historical and estimated cash flow may have a direct bearing on one’s financial analysis, and (2) lenders use operating cash flow to determine the value of property offered as security for a loan. Lenders examine every expense item very critically.C The portion of the gross rental that goes to each of the expense items varies significantly according to type of property, age of property, its location, and whatever agreements might exist between the lessor and lessee concerning thet apportionment of expenses. These factors are subject to careful research besides simple estimation. The allowances for replacement and repair deserve careful consideration; these are especially critical in older properties that may be subject to deterioration or stylistic obsolescence. Ino certain types of properties such as office buildings, reserves should be taken for tenant improvements and rental expenses at such times as leases expire.

Elements ofN the Setup This section looks at each of the elements of the setup, and it discusses the changes in emphasis withino the elements themselves caused by dealing with different kinds of property (i.e., apartments,

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office buildings, industrial space, retail space, and, in some categories, raw land and mobile home t parks).1 s Gross Revenues

The analysis of an income property should start with base rentals. As a first step in the analysis of rentals, the investor should attempt to determine comparables. Comparables are rents oor revenues generated by properties with similar features (e.g., size, age, quality of construction) and in similar locations. The gathering of baseline data on comparables is generally the first step in the collection of local knowledge required before investing. For apartments, mobile home parks,P and some smaller commercial rentals, the daily or Sunday newspaper offers a first source of comparable data. The rental prices generally are quoted in a $-per-month rate and are apt to be at or above market. The primary function of such advertising is to generate demand; some discount may, however, be expected. Once a specific area is selected, the investor should check morer localized sources to make certain of the range and distribution of the potential competition for the contemplated investment. The investor should consult the local realtor’s listing book and regional weekly newspapers and should make a tour of the area, noting vacancies and other existingo buildings. Rental rates for office, commercial, and industrial space are generally quoted in dollars per square foot. The amount of the space may be the usable space or more commonly the rentable space which includes a pro rata allowance for certain common areas. Because of the difference in the way common area is allocated, comparability is difficult. yThe primary sources of information about current market conditions come from specialized journals and surveys by brokers and consultants. In addition, most of the major real estate brokers print listings of available office, industrial, and retail space. Industrial space may also be listed withp the state government bureau responsible for commercial development. It is important to remember that the rents and terms noted in these listings are often only suggestive ones. Almost all of the terms will be negotiable, depending upon factors such as the market strength, the financial creditworthinesso of the prospective tenant, the length of the lease and the tenant’s requirements for improvements.

Two fundamental skills are required to develop significant comparables: (1) the ability to ferret out the greatest amount of useful data,C and (2) the ability to put these data together into a meaningful picture of the whole. In dealing with all kinds of properties, the investor must understand the characteristics that make properties comparable: internal features such as layout, ease of maintenance, adequacy of tutilities, decor and amenities are all critical items of comparability. Exterior considerations are also important. Properties that have very similar inside features but that have different: locations, access to transportation, parking and views, can command very different rentals. These differenceso can be determined by actually shopping the market. The prospective investor or developer must determine what the competition is, what it is likely to be, and how effectively a particular property can compete. Once this task is accomplished, a realistic standard canN be set for the income to be obtained from the property. After baseline data are developed for gross revenue potential, the next step is to project the observable trends, such as government policy and inflation. Is rent control a reality or a possibility?

1Fundamentalo data about the elements can be found in the Building Owners and Managers Association's Experience Exchange Report, the Institute of Real Estate Management Experience Committee's Statistical Compilation and Analysis of Actual Income and Expenses Experienced in Apartment Building Operation, and The Dollars and Cents of Shopping Centers, compiled by the Urban Land Institute.

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Are there public incentives for particular groups of people, locations, or types of property? The t impact of trends varies widely according to the type of property involved. In residential and smaller commercial properties, trends are very important. Generally the leases, if any, are of short duration. This provides an opportunity to adjust rents if price levels are rising or, conversely, to decrease rentss if the neighborhood is declining. For commercial and industrial properties under long-term leases, the impact of trend analysiso is less important over the short term. The gross revenue figures will be those provided in the lease during the term of the lease. The investor should, however, carefully consider the impact of the observable trends on the willingness of present tenants to renew or, with commercial properties, the impact of the changes in the local market on average rents. P Beyond trend analysis, some of the key profit opportunities occur through the projection of discontinuities in the observable trends. Similarly, major losses may arise through failure to observe unfavorable discontinuities before they occur and to adjust the investmentr strategy accordingly. Some discontinuities that are of greatest importance are urban renewal activities, new-highway location, entry of national firms into the market, entry or exit of a major industry, and the changing socio-economic characteristics of a neighborhood. o The critical element in projecting discontinuities is timing. When predicting a favorable change, decisions taken too early tend to be risky. Decisions taken too late, although involving the investor in little risk, usually result in missed opportunities for profit. In predicting unfavorable changes, it is often better to be too early. The opportunities to bail out of ay property get worse as the likelihood of the unfavorable event increases. “Holding out for the best price” may be simply an exercise in following the market down. p Analysis of trends and potential discontinuities is possible insofar as the general economic and political data are adequate. Such data are available through local newspapers and also through national journals such as National Real Estate Investoro and Real Estate Appraiser and Analyst. These two publications provide facts useful in making specific projections relative to the properties that an investor holds or contemplates buying. For commercial properties, the baseC rental in the lease is only part of the story. There may be built-in rent escalators. These may be fixed (such as defined step-ups in rent) or conditional (such as increases tied to changes in the cost of living). In retail leases, percentage-rent clauses tie the rent level to tenants’ sales performance. The longer the lease term, the more likely there will be adjustments. t Expense reimbursements have also become common, especially in leases for nonresidential property (for such items as real estateo taxes, heat, electricity, water, insurance, normal maintenance including cleaning and management). Typically, the tenant will agree to reimburse the landlord either for all such expenses or for changes from a predefined base which may be established as a specific dollar amount per square foot or as the actual expenses during the first or base year. Leases with these kinds of provisionsN are usually described as having an “expense stop”, and lenders often insist on this provision to protect their mortgage. In a multitenant building, each tenant’s share of these common charges is often expressed as a percentage based on total space occupied. In acquiring a property it is crucial to analyze the terms of each individual lease and to have a reporting system that takes osuch complexities into account. Other income is an item that should be examined carefully in contemplating any form of real property investment. Sources such as laundry rental, furniture rental, parking charges, utility fees,

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and recreational club dues are often very important profit contributors in housing investments. The t investor is cautioned to examine carefully the assumptions underlying such income projections. Similarly, agreements and leases should be examined, and the investor should be aware of local practice regarding the inclusion of certain items when making a forecast. For example, if amenitiess such as air conditioning are not included in the base rent where such inclusion is common practice in the locality, the occupancy of the property may suffer. Other income may, in fact, be an opportunity for the investor: to charge separately for the rental of major appliances or covered parking.o It can yield a very high return on the marginal investment.

Commercial and industrial buildings also offer some opportunities for other income. Among the possibilities are special janitorial service, parking, and communication equipmentP on the roof. Again, the two factors to consider are the leases or agreements underlying such charges and the local practice. In commercial, industrial, and residential properties, the “other income” category, once established, should be reasonably stable—subject primarily to changes inr vacancy. It is important, however, to be aware of the profit opportunities and, in initial analysis, to be certain that those opportunities that are projected, really exist. On the positive side, it is often wise to look for some of the unrealized potential that may come from the other income category when contemplating a future purchase or development. o Vacancies The second item in the setup that the investor needsy to analyze is vacancies. The prospective purchaser is often presented with a setup that makes no allowance for vacancies or collection problems. This is especially common with commercial properties. Nevertheless, some reasonable vacancy allowance is almost always necessary forp all properties; the art lies in determining what is reasonable. The reader is reminded, however, that even for a property 100% rented to one tenant, a four-month vacancy period between tenants at the end of the lease term equals 30% or 3% per year for 10 years. With a special-purpose buildingo or an office building, even this 3% vacancy may not be adequate. Failure to incorporate such an allowance into the overall scheme may materially distort the potential future return. In buildings with longer lease terms, special allowances may be taken to correspond with the expiration of the leases and the likelihood of renewal. Rent escalators, expense reimbursements for charges that willC continue even if the space is vacant, and other income should not be forgotten. Bad debts and concessionst are sometimes included in the vacancy allowance. The investor or developer is also cautioned to be wary of the difference between “allowance” and vacancies. In many setups shown to the prospective purchaser, vacancies are shown as an allowance. Such allowance may or may not be related to the actual experience of the building under consideration. The investor should be certain abouto what is being shown as a basis for further investigation.

Comparable data for vacancies are often difficult to assess. Gross area vacancy statistics are readily available for the Standard Metropolitan Statistical Areas (SMSAs). HUD compiles statistics which are oftenN reported in the Real Estate Analyst. Rental boards and surveys by brokers may also be helpful. In analyzing vacancies on apartment houses, the Census Bureau provides decennial counts. These are not particularly useful, however, in making an investment decision. For housing units, it is often necessary for the prospective investor or developer to cruise the neighborhood looking for empty nameplates on mailboxes and counting “For Sale” signs. Such counts are not statistically reliable,o but they may simulate the purchasing behavior of the target consumer.

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Commercial, office, and industrial vacancies are harder to pin down. The specialized regional t journals cited previously and the National Real Estate Investor provide frequent reviews that give a view of the changing market scene. The Real Estate Analyst and the Urban Land Institute provide historical data for most markets, updated at least annually. Major local realty firms often conducts useful market studies and issue quarterly vacancy reports. The developer or investor contemplating a project must always be aware of the trends ino vacancy rates and prospective new developments, which might adversely affect the properties being studied. Although such trends are never totally reliable, some basis for judgment can be gained from building-permit data, from trade and local business publications, and from direct systematic observation of the local surrounding neighborhood. In examining the possible trendsP in vacancies, attention should be paid to consumer tastes in habitation, and the expansion or contraction of consumer spending patterns. National economic trends such as growth in service industries or cutbacks in defense spending are also important. r The prospective purchaser of an existing property should always examine leases and even interview tenants whenever possible to determine that the projected income is, in fact, in line with that required by the lease. The prospective purchaser should also be waryo of concessions given to the tenants that might inflate the occupancy statistics or rental payments. Purchasers should also be concerned with leases in which property managers provide special services to the tenant for a higher rent. The type, size, and location of the property often indicate the likelihood of such side deals. For the new development, the prospective developer or investory should be concerned with the normal leasing terms in the area and with current practices regarding concessions and management absorption of costs. p Operating Expenses The control of operating expenses is obviouslyo one of the key elements in any real estate investment’s profitability. This is also an area in which the buyer is subject to the highest degree of deception and an area in which good, current information is difficult to find. Reliable projections of the future are almost impossible. The best sources of data on operating expenses for all kinds of properties are the “experience exchange”C type of publications such as those mentioned earlier. Using data obtained from these sources, the prospective developer or investor can begin to question intelligently the projections being made and search out sources of difference. Remember that averages for an area do not implyt that most properties are at the average. One of the key mistakes made in the analysis of operating expenses is that of leaving out a category of expense, such as the cost of exterior window washing. This section will review each category of expense ando give indications of some of the factors to be considered. Consideration should be given to the underlying variables to which the expenses are related. Expenses vary in relation to: (1) the gross rent, (2) the square feet or cubic feet involved, (3) the number of units, (4) the services provided, and (5) the age, condition, and cost of the property. In preparing forecasts for future profitabilityN it is critical to understand the different natures of the expenses.

The primary categories of expenses to be considered are the following.

 oreal estate taxes  administrative

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 maintenance, supplies, and trash removal t  repairs  replacement s  utilities  insurance o Within each of the above categories there are obviously subcategories. For further information one can consult sources such as the Building Operators and Management Association or National Association of Apartment House Owners publications, which set up accounting systems for propertyP owners. Real estate taxes Real estate taxes are perhaps the single greatest source of uncertainty in property investment. History shows that they are almost always increased. In recent times, voters in California, Massachusetts, and elsewhere have passed referendum limitingr the increases that can be imposed without voter approval. There is danger of a major increase if property is sold because a new market price is established against which the assessor can make a valuation. In many income properties an agreement with city officials can be reached in whicho taxes are assessed as a percentage of gross rent. These arrangements are not always legally enforceable. Before any investment is made, the investor should examine the tax records for the property in question and make an analysis of comparable properties. Tax records are public documents. Histories of the assessments for the town or city in questiony are available. Changes that may occur in a city or town in the future can have major impact on tax rates and should offer warning signs. Among these are: (1) large population expansion, (2) new-school needs, (3) major public facilities projects, and (4) expansion of municipal services. p On the positive side, one would expect stable tax rates if there is: a healthy mixture in the industrial base, a community with limited space for additional population, and/or growing voter resistance to tax increases.

Always the prospective purchaser or developero should consider the strength of the tax escalation clause in the leases being used and the willingness of any rent control agency to allow such clauses to be effective. Real estate taxes are a major variable in the profitability of any real property investment. All three forms of analysis—baseline, trends, and discontinuity potential—must be employed. The investor should also be aware thatC it is possible to successfully contest the amount of the real estate tax and therefore should understand the basis on which the local government calculates the property tax. t Administrative expenses Rental, advertising, and management expenses are often inter- connected. A residential property owner may choose to sign a rental brokerage agreement and a management agreemento with a local firm that specializes in handling the particular kind of property. These property management companies will usually manage the property for a percentage of the collected rentals. Although the fee may be standard for the region or local market, it is often negotiable. If the property is sufficiently large, most investors would do well to consider having both managementN and rentals taken care of by direct employees of the property. The two primary trade- offs are cost and degree of owner involvement. Unfortunately, common practice in the sale of many properties excludes from the setup both management expense and rental expense. Such an omission materially distorts the return since, for small properties, these may be significant when related to the gross rentals. Even if the intention is for the owner to perform the services, some cost or value should beo imputed to the owner’s time. If sold, the potential buyer will make an allowance that will reduce the amount offered. Lenders will always input an allowance for management in considering the building’s value.

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For commercial and industrial properties, the same caveats apply. It is, however, more critical to t examine exactly how the rental function is to be performed, by whom, and at what price. The more specialized the building, the more critical a good marketing-rental program is to the economic success of the development or investment. Where overage rents or percentage leases are involved,s there is a further need for management. Professional fees cannot be ignored. Legal help may be needed in many circumstances including:o leasing, refinancing, collections, partnership matters, and regulatory issues. The project entity will have to file a tax return normally prepared by an outside auditor. Since real estate ownership has special tax implications, good advice is important. There are other consultants who may be called upon for design, engineering or public relations help. The more complicated the entityP and project, the higher the allowance should be. As our society has become more litigious and income tax laws have become increasingly complex, the need for outside help continues to grow.

Maintenance, supplies, and trash removal The total expenses in rthis category can vary greatly from year to year and from building to building. Several factors are, however, predictable. The age of a building is one of the prime determinants of the maintenance required. Even if a building’s history is known, simple projection of that history intoo the future will understate maintenance substantially. The design of a building (including the materials used, the number and sizes of public spaces, and the quality of the original equipment installed) is another critical factor. Whether windows are accessible or must be reached from scaffolding makes a difference. The type of heating and air conditioning equipment and flooring are keyy determinants. Finally, the previous maintenance history is important since under-maintained assets may require exceptional future outlays.

Contracts for maintenance of major building elements,p such as boilers, elevators, air conditioning units, or cleaning, are often available and provide for a program of systematic upkeep. Prices on such contracts often indicate the level of service required, although they are generally profitable for companies offering them and may not cover everything.o The amount of supplies needed is related to the services provided, such as office, rest room, or common area cleaning. The replacement of light bulbs can be a significant item. With increased environmental awareness resulting in Cthe closing of many disposal sites, trash removal prices have risen considerably in recent years. Repairs Repairs differ from maintenance predominantly in scope. In this category for residential units are such itemst as painting of apartments; replacement of broken doors and windows; repair of stoves, refrigerators, dishwashers, and disposals; and fixing leaky faucets. Obviously, the age of the building and equipment is going to be a major factor in the amount of money that must be allocatedo to this area. It should be possible to obtain comparables as outlined earlier, but considerable annual variations are likely. One should take into consideration the expected level of maintenance by the particular tenants occupying the space. These items Nmay seem minor to the investor, but are of major importance to the tenants. The ability of responsible management people to learn of and respond to these problems may be a major factor influencing the vacancy rate. Replacement reserves and tenant improvements Replacement reserves are part of the setupo closely related to the maintenance element but are rarely considered as expenses that are reimbursed by tenants under the operating cost escalator. Not all depreciation is simply a tax- oriented fiction. In any property, there are items that are subject to physical deterioration and,

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therefore, require periodic replacement. Carpets, roofs, paint, and mechanical equipment will not t last the economic life of the building. It is critical, therefore, in calculating the cash flow to be derived from an investment, to consider the impact of such required replacement. This is especially true in the purchase of used residential property. Often such property has been purchased ons the assumption of operation for five to seven years with sale contemplated as soon as the rental income has been increased. With such an investment strategy, items of major maintenance or replacement are often deferred. Unless such investment is made quickly, the new owner may beo required to spend a substantial amount on repairs and maintenance or watch the attractiveness of the property decline. Unfortunately, too often, the newer the equipment, the shorter its life cycle. Replacement reserves are not generally tax deductible. Some items, such as Pmechanical items or painting, may appear as expenses, but the investor should recognize that capita l expenses generally have to be capitalized and then depreciated, as mandated by the tax code. The replacement reserve for commercial and industrial properties arer of two types. First, money needs to be set aside for major exterior items like the roof and parking lot and major common area expenses like refurbishing the lobby and replacing the elevators. Second, at the time of lease turnover, substantial money may be required to renovate theo space and/or pay a brokerage commission. There is no way to predict future needs or market conditions. An allowance is generally taken, based on average length of tenant leases, expected rate of tenant turnover, and the amount of work to be done. Such costs point up the desirability of retaining existing tenants when leases expire.

Definitions of how the space is measured and allocatedy should be clarified. For example, leases written based on a “gross rentable” basis usually consider the entire gross square footage of a building and prorate it to each tenant. “Net usable” leases measure the actual space allocated to a tenant with no allowance for a proportional sharep of the hallways and other common areas. “Net rentable” includes some but not all of the common area. Utilities and insurance Both of theseo items are generally verifiable when purchasing existing properties and are easily estimated by competent professionals for future developments. The key considerations for investors are whether the utilities are adequate and how steep the increases are likely to be in the future. Considerable expense may be incurred if the present utilities, such as electrical service, are inadequate. CIt is important to know the expected hours of use and the type of equipment that will be running as each tenant’s needs may be different. Electricity costs are normally metered to each tenant directly but costs of common areas and central air conditioning may be apportioned. Major risk is assumedt if insurance coverage is inadequate. A high purchase price may trigger the need for additional insurance. Both insurance coverage and utility services should be reviewed carefully before purchase or additional construction. Moreover, operating cost escalators in the leases should alsoo be investigated. Other expenses Items such as fire protection, security expenses, and “other expenses” items must be specifically related to the property under consideration. All elements of this category are somewhat extraordinary. The requirements in these areas are becoming stiffer; consequently, they are not subjectN to the same rules of thumb and should be treated as individual elements for analysis when seeking good baseline and trend data. They must be examined carefully for future discontinuities.o

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Indirect Expenses t There are also those items which under the lease are the responsibility of the tenant such as collection or environmental cleanup costs. The careful drafting of these clauses is most important tos ensure that the tenant’s responsibilities are carefully spelled out. If not, the landlord may have direct responsibility. The financial capabilities of the tenant are especially important in the environmental area since the exposure can be large and long term. Without receiving a bill of environmentalo good health, properties will be difficult to sell or refinance.

Tax Effects P Once the setup and the before-tax cash flow have been established, the second step is to propose a set of measures to find the effect of income taxes. Of prime importance to the real estate investor is the cash flow after taxes (CFAT). (See Note on Taxation HBS No. 9-379-192 forr a detailed discussion of tax issues and trends.) This is in contrast to net income, which is the benchmark for stock market investors. CFAT is determined by first calculating the net taxable income and then multiplying by the appropriate tax rate. The tax is then subtracted from the casho flow after financing. Two approaches to calculate the cash flow after tax are shown in Table B . Table B Determining Cash Flow after Taxes: Two Approachesy I. Cash flow from operations or II. Cash flow after financing + Replacement reserve + Replacement reserve – Mortgage interest + pMortgage amortization – Depreciation – Depreciation = Net taxable income = Net taxable income X Tax rate ox Tax rate = Tax = Tax Cash flow from operations Cash flow after financing – Mortgage interest – Tax – Mortgage amortization = Cash flow after taxes = Cash flow after financing C – Tax = Cash flow after taxest Mortgage interest The buyer is cautioned to examine tax effects over time as well as during the initial period. In general, the net taxable income from a real property investment will increase over time even if the operatinog cash flow remains stable. This is because many real property loans require a constant annual or monthly payment, but the components of that payment change.

The most common mortgage payment schedule is a level payment or direct reduction mortgage that most people obtain when they buy a house. The great advantage of this type of mortgage is that the payment thatN the borrower makes each month remains exactly the same for the entire term of the loan. Under a variable rate mortgage it usually is adjusted annually. With a level payment or direct 2 reductiono mortgage, the starting principal of the loan (pv) is the present value of an “ordinary

2Level payment or direct reduction mortgage:

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annuity,” or series of level loan payments. The borrower (or mortgagor) gives to the lender (or t mortgagee) a prior claim upon the value of the property as security for the borrowed funds. Equal periodic installments “amortize” the loan, providing the lender with a desired return (i) on outstanding invested funds (pv). Each payment consists of interest on the outstanding principals and amortization or return of principal. As principal is repaid, therefore, the interest component will decline. The remaining principal on a mortgage at any time is simply the present value of remaining payments, discounted at the face interest rate of the note. The level or constant paymento varies, depending upon whether payments are made monthly, quarterly, or annually. Most mortgages are written with monthly payments. Tables are easily available and most calculators and computer spread sheet programs allow one to calculate the constant payment percentages and the breakdown of the payments between interest and principal. P Note that in the first year of a 25-year loan at a 9% interest rate, approximately 89% of the financial payment is a deductible interest charge. In the fifteenth year of the samer loan only 60% is interest. Since the financial payment may represent 50% of the gross rental income, this would indicate a change in taxability of 10% of gross rental income, a significant impact that may be 30% to 50% of the cash flow after financing. Figure A graphically depicts this change in the percentage of each payment that goes for principal and interest over time. o Figure A Deductible Interest Expense as a Function of Timey; Constant Annual Payment p o

Depreciation Under the 1993C tax law, residential property is depreciated over 27.5 years, and commercial property over 39 years. This depreciation is treated as a noncash deduction and expensed each year from the income statement. Depreciation is computed as a constant annual amount over the depreciable life (i.e., $100,000/27.5 years = $3,636 annual depreciation). When the depreciation deduction exceedst amortization, tax shelter dollars are created. During the early 1980s, most real estate property could be depreciated over a 15- to 20-year life for tax purposes. In earlier years accelerated methods of depreciation were permitted greatly increasing the deduction during early years of ownership.o Because some bank mortgages lasted for a longer period (usually 25 to 30 years), the tax shelters in the initial years of property ownership could be substantial. With the new N pv pmt = 1 1 i - n -( + ) i Where:o i = mortgage interest rate for period considered pv = starting principal balance pmt = annual financing payment n = number of periodic payments

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tax laws this is no longer the case. (For a more complete discussion of depreciation, see the “Note on t Taxation,” HBS No. 379-192.) Net taxable income Calculation of the tax effect for a real estate investment involves simplys a multiplication of the stream of taxable income by the appropriate tax rates of the investor concerned. Starting in 2013, the maximum marginal tax rate is assumed to be 39.6% for ordinary income (the capital gains rate is 20%). On this basis, every dollar of losses will reduce taxes paid by 39.6o%. This tax savings can then be added back to increase the total return, assuming that the investor has “passive” income to match against the “passive” loss. Other tax considerations should include: (1) the impact of state and local incomeP taxes, (2) the investor’s probability of continuing to have high income, (3) the investor’s continuing capacity to use such losses, and (4) the possibility of changes in the tax laws, which might adversely affect the tax benefits. Historically, however, the IRS policy has been to allow “grandfather clauses” on existing depreciation schedules, even though the tax rates themselves may change. r

The investor should always identify the source of the tax benefits. In general there are three kinds of benefits: tax postponement, tax bracket switching, and tax avoidance.o A typical real property transaction includes elements of all three. The use of depreciation tends to postpone the payment of taxes. Tax-free exchanges of real property have the same effect. Second, many types of real estate transactions are attempts to switch tax brackets, from ordinary income to capital gains. Such transactions include (1) the expensing of heavy maintenance charges to upgrade a property in hopes of a subsequently higher sales price and (2) use of depreciationy to reduce income taxable at ordinary rates with subsequent sale at capital gains rates. Refinancing a property yields tax-free cash until the property is sold since the borrower is obligated to repay the principal of the loan with non-deductible dollars. This is a form of tax postponement or deferrpal. Tax avoidance occurs through holding of property until death, at which time the entire estate is taxed. One avoids the capital gains tax that would be imposed if the property were sold prioro to death. Cash flow after taxes The calculation of CFAT is completed by deducting the taxes paid or adding the tax benefit received to the before-tax cash flow. This is equivalent to applying the tax effect to the operating cash flow reduced by financial payments. For many investors, CFAT is the appropriate annual cash flow for the Cevaluation of an equity investment. For analysis purposes, remember that CFAT is composed of two of the three components of a potential return on a real estate investment: cash flow before taxes and the tax effect. The third component, futures, must be estimated to calculate an overallt return. This procedure is discussed later in this note.

Impact of Financialo Structuring With an understanding of the elements that make up a cash flow and the effects of these elements on taxes, the investor is able to begin an analysis of the impact of leverage on real property investments. N Leverage Concept

A fundamental characteristic of financial leverage (and often not recognized) is that there are two kinds:o positive and negative. Positive leverage increases the return on the equity invested; negative leverage decreases the return on such investment. Positive leverage occurs when the cost of the debt payment, expressed as a percentage, is lower than the annual return on total assets. For negative

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leverage the reverse is true. The cost of debt is the total of interest and principal payments as a t percentage of the initial principal balance. Negative leverage is not necessarily bad since it may reflect a more rapid pay-off of a mortgage. The percent return on total assets (ROA) is calculated by dividing the operating or free-and-clear cash flow by the total cost of the asset. Comparing the costs of debt with the return on assets is a good first-step calculation in determining the most appropriate financial structure for a property. o The size of the mortgage, the time period over which it will be paid off, and the interest rate, all affect the cost of debt and subsequently the return on equity. These items, to the extent allowed by the marketplace, can be controlled by the investors and adjusted to their needs. Tables C, D, and E indicate the effects of each on the cost of debt and the impact on the returns. P Table C Relationship of Free-and-Clear Cash Flow to Cost of Asset Assuming no Debt

r Total cost of asset: $1,250,000 Setup: Gross revenues $270,000 Vacancies 27,000o Net revenues $243,000 Operating expenses 118,000 Free-and-clear cash flow $125,000 Return on cost of asset y 10%

As the table above shows, the return on the costp of the asset in the absence of debt is 10%. Table D demonstrates the benefits of arranging a mortgage that is a large percentage of the total asset cost when the financial leverage is positive.o Table D Effect of Mortgage Size on Pretax Return (Variable: Mortgage size; 25 years, 7.5% interest, monthly payments) C Mortgage as % of Pretax Return Total Asset Cost Debt Before-Tax Mortgage on Equity of $1,250,000 Equity Service Cash Flow Constant Investment t 90% $125,000 $99,787 $25,213 8.87% 20.17% 80 250,000 88,700 36,300 8.87 14.52 70 o375,000 77,613 47,387 8.87 12.64 60 500,000 66,525 58,475 8.87 11.70

Since leverage is positive because the ROA is 10% and the cost of debt is only 8.7%, the more leverage the higher theN return. As can be seen, an increase from 80% to 90% leverage increases the return or equity by 38.9%. In Table E we see once again that leverage or using other people’s money greatly impacts the return on one’s equity investment. Obviously, there are benefits in having a long-term mortgage. In thiso case, a 15-year mortgage illustrates negative leverage. The same analysis as used in Table D indicates what happens:

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Table E Effect of Negative Leverage on Annual Returns t

Mortgage as % of Pretax Return Total Asset Cost Debt Before-Tax Mortgage on Equity s of $1,250,000 Equity Service Cash Flow Constant Investment

90% $125,000 $125,213 ($213) 11.13% (0.2%)o 80 250,000 111,300 13,700 11.13 5.48 70 375,000 97,388 27,612 11.13 7.36 P As one would expect, in a negative leverage situation where the property generates a 10% return on assets and the cost of debt is 11.13%, the lower the leverage the higher the annual return on equity. It is important to realize, however, that in this situation, the debt is amortizingr quickly and the overall return on the equity investment, including the sale and repayment of the mortgage might be higher with more leverage, even though the annual cash return will be lower. Financial leverage offers benefits to the investor who is seeking to maximizeo return on investment as long as the property’s income and appreciation results in positive leverage. The heavy use of leverage is normal in real estate. For the investor, leverage allows control of a greater asset base than would be possible simply through the use of equity. Through the use of nonrecourse clauses in the mortgage, the risk to the equity holder can be limited to the equityy invested in the particular property with the creditor having no claim to other assets that the investor owns. A deed of trust can be structured with the same effect. Since the repayment of the debt is a fixed sum, the rate of return on the equity is increased disproportionately in the eventp of appreciation and similarly decreased or eliminated if the price of the asset should fall (see Figure B). Figure B Effects of Leverage on Value of Equityo C t

It is important to note that the above numbers are all calculated on a pre-tax basis. Since interest is a deductible Nexpense, its effect is mitigated by the tax rate of the borrower, another factor which encourages the use of leverage and the use of long repayment terms. Among the problems that need to be considered in choosing how much leverage is appropriate are some operational and tax considerations. The use of heavy leverage increases the risk to the equityo owner which may force him or her to sell at an inopportune time. The heavy cash drain upon operations that results from the use of a relatively large amount of first-mortgage debt can force a property into a negative cash flow position precisely when sale prices for such properties are low.

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The extensive use of second mortgages or mortgages with large balloon payments can frequently t produce similar results. Many buyers of syndications have discovered that the financing that includes second-mortgage debt to the seller absorbs all of the cash flow. Secondary financing increases leverage, but often comes at high interest rates and short maturities, which make for as high total annual payment. Should problems of cash flow arise, the investor may face another problem created byo his or her tax position. As shown in Figure C below, there may be a substantial period of time during which the book value of a property for tax purposes is less than the unamortized mortgage amount. This is particularly true in situations where a property has been refinanced to a level higher than the depreciated book value. In the event of foreclosure, the sale price would beP deemed to be the unamortized amount of the mortgage; a capital gain would be reported even though the investor has lost his or her equity. Thus, the investor could face a tax liability without cash proceeds from the property to meet such liability. r Figure C Book Value of Property vs. Mortgage Balance o y p

Assumptions: Straight Line Depreciation taken on 27.5-year life. Loans are for 20-30 years. Operating Leverage C In Figure C above, the analysis of leverage is based on the economic factors existing at one point in time. But with an ever-changing environment, the key factor in investment success is to anticipate correctly changes over time.t Fundamental analysis of changes in a real property investment can be divided into three basic steps: (1) development of comparable data, (2) projection of trends, and (3) prediction of discontinuity.o Each of these steps is critical to the informed investment decision. Once the property has been developed and financed, operations become the area most affected by changing economic forces. The investor must be aware that there is such a thing as operating leverage which occurs when the income from operations changes while the financing payments remain fixedN and that such changes can drastically affect: the yearly return, the ability to refinance at an appropriate time, and the future value of the investment. Real estate investments are often made utilizing the maximum amount of financial leverage. Experienced investors, however, are often more concerned in a mortgaged property about the operatingo leverage available to them. Real property assets are unique in allowing the investor to obtain a high degree of financial leverage while benefiting from major operating leverage as well. Operating leverage arises because a major component of expense (normally the financing payment)

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in a real property investment is fixed, regardless of the revenue. A small change in revenue which t might simply reflect inflation produces a large effect upon the rate of return to the equity investor. The example outlined in Table F for a garden apartment shows the impact of favorable operating leverage. s Table F Example of Favorable Operating Leverage ($ in thousands) o (Cost of building: $1,100,000; mortgage $900,000; 25 years at 9% interest; constant payment 10.08%)

Year 1 Year 2 Year 3 Year 4 Year 5 PYear 6

Revenues $200.0 $206.0 $212.2 $218.5 $225.1 $231.9 Operating expenses 90.0 94.5 99.2 104.2 109.4 114.9 Financial payment 90.7 90.7 90.7 90.7 90.7r 90.7 Before-tax cash flow 19.3 20.8 22.3 23.6 25.0 26.3 Return on investment 9.65% 10.4% 11.15% 11.8% 12.5% 13.15% o The table above was prepared on the assumption that operating revenues inflated by 3% annually and that expenses inflated by 5%. Even in this example, where the operating expenses increase at a higher rate than revenues, the return on equity still rises each year. Operating leverage can be negative as well. Since a major portion of costs associated ywith owning a property is fixed, only a slight decrease in revenues can have a drastic impact on the return to the equity holder.

This negative outcome from operating leverage can be seen by using the example from the section on financial leverage and changing the amount of vacancyp (Tables G and H): Table G Basic Setup o

Cost of asset $1,250,000 Gross revenues 270,000 Vacancies (10%) (27,000) Net revenue C $243,000 Expenses Building operations $69,400 Property taxes t 48,600 118,000 Free-and-clear cash flow $125,000 Debt service (7.5% interest, 25 years on $1 million) 88,700 Net cash flow $ 36,300 o If we hold all other costs (except vacancies) constant, we observe the operating leverage shown in Table H. A change of 5% in occupancy levels makes a corresponding change in the return on equity, sometimes to levelsN that may not be tolerable to the investor. Also note that at 85% occupancy, the cost of debt is more than the return on asset, thus putting the investment into a negative leverage position. It is important in financial analysis to separate the impact of the additional return that arises from financial leverage from the impact of projected operating leverage. Such separation helps in makingo critical assumptions clear and open for specific attention.

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Table H Operating Leverage with Varying Occupancy Levels t

Return on Occupancy Free-and-Clear Cash % Return on Asset Net Cash Flow Equity Investments

100% $152,000 12.16% $63,300 25.32% 95 138,500 11.08 49,800 19.92o 90 125,000 10.00 36,300 14.52 85 111,500 8.92 22,800 9.12 80 98,000 7.84 9,300 3.72 P A major lesson that can be learned from this section on leverage is the importance of projections. One usually projects the future on the basis of the recent past. Yet in a cyclical industry like real estate, change is the norm, and when it occurs, highly leveraged propertiesr can run into trouble. Over time, rents tend to rise but the ability to ride through down cycles can be crucial. If the U.S. economy continues to be inflationary, the possibilitieso to increase returns through financial and operating leverage seem great. To this point, we have assumed that the original financing of an investment is fixed. In fact one of the great opportunities available in real estate is to refinance a mortgage when interest rates drop, unless the lender’s agreement prohibits repayment or imposes a penalty that may equal the interest rate savings.y This penalty is more common in commercial than residential mortgages. p Measurement of Return

Valuation o

The primary method of valuing income-producing properties is known as the capitalization of income or capitalization rate technique. For appraisal purposes, this technique is supplemented by an analysis of comparable sales and byC an analysis of replacement cost. Even in the area of raw land, appraisals often rely on the value of the prospective income stream to be generated in the future through development. t Capitalization techniques are based upon the following formula:

Annual cash stream o Value Capitalization rate

Determining the appropriate cash stream and the appropriate capitalization rate is never easy or precise. The uniqueness of each property and lack of clear, consistent information makes this calculation Nan art as much as a science. Still, it does give a rough approximation of how investors currently are valuing properties. The two primary cash flows considered to be relevant are the free-and-clear cash flow and the cash flow after financing. (Cash flow after taxes will be discussed later in this note.) The former is used in determiningo the value of a property for lending purposes. The latter is most often used in considering the equity value of the property. In most instances, the cash flow is determined by the

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setup and is a static measure of the value at the particular moment in time with no adjustment for t inflation, physical depreciation, operating leverage, tax benefits, or mortgage amortization. For the purposes of a lender, the free-and-clear cash flow is the most relevant number since sit represents the total funds that would be available to service the debt on the property in the event of foreclosure. The normal practice is to apply a capitalization rate somewhat in excess of the lending rate and then to loan a percentage of the value derived. The following example illustrateso the principle: Cash Flow = $1,000,000 P Capitalization rate = 11% Loan to value ratio = .75 r $1,000,000 = 9,090,909 value x .75 = $6,818,181 .11

Note the sensitivity of the loan amount to the capitalization rate. Foro example, in the preceding example a change in the capitalization rate from 11% to 10% would yield an increase in valuation from $9.09 million to $10 million. Much has been written on capitalization rates. In general, however, these rates are chosen as measures of perceived risk at a point in time for the particular type of property, its rental and operating projections, its physical ycondition, current and projected interest rates and investors’ expectations of returns in the light of alternative investment opportunities. Lenders normally expect cash flow from operationsp to cover debt service by 110% to 130% or even more depending upon risk. Lenders also restrict loans to a specific percentage of value, often 75%.

Determining the value of the equity follows the same general approach. The cash flow after financing is capitalized at some rate to reflect equityo value. The technique of capitalizing cash flow is the basis upon which value is usually initially estimated.

Future Values C Future benefits arising from sale or refinancing are the final component of return available to the real estate investor. Because of assumed appreciation, almost all real property transactions anticipate benefits from holding a property.t The value calculated depends upon estimates of many future conditions. These include, but are not limited to: (1) the physical condition of the asset, (2) existing lease structure, (3) economic and interest rate environment, (4) change in the physical neighborhood, (5) consumer and investoro preference for the kind of property involved, (6) expected inflation rates, (7) rate of return on alternative investments, (8) tax position of the seller, and (9) contemplated holding period. The longer theN time horizon, the more difficult it is to calculate future benefits. Probabilities increase for major changes, which may be either for the better or for the worse. In a financial analysis it becomes necessary to make judgments about such changes. These can be categorized as follows: 1. Operating changes 2.o Physical changes 3. Financial changes 4. Market changes

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Operating changes can be brought about in two ways. First, in the analysis of the setup, projections t can be made by assuming changes in operating income over time while financial payments stay constant. These projections should be factored into the final calculation of value as discussed earlier. Second, change can come from operating policy decisions, such as those calling for more efficients operation or for a policy of limited maintenance or those that seek a different market through upgrading the clientele. All of these changes should be reflected in the projected final setup that the buyer and seller use to determine value. o Physical changes are of two primary sorts: those affecting the property itself and those affecting its environment. In both instances, however, the primary impact is made upon the expected revenues to be realized. If the property is physically upgraded, it should be in anticipation ofP higher revenues. If the property is allowed to run down, lower future revenues would naturally be expected. If that occurs, it can affect the value of surrounding properties, spiraling the downturn for all. A major question needing analysis is that of options for future use. Physical changer of both the property and of surrounding properties has an impact on “highest and best use” of the property. Such change is the greatest source of discontinuity in real property analysis. The prospective developer or investor should be aware of opportunitieso to use the purchase as a holding action anticipating future uses. Often duplexes or small commercial buildings are purchased in anticipation of the opportunity to develop them later either for higher-density dwellings or for more intense commercial uses. The purchase of a mobile home park is often a high-yield way of holding land for future high-density commercial or residentialy development. In these situations, however, it is probably wise to make alternative analyses showing the impact on return of both the change and no-change options. What is permissible zoning now may change with the political environment. p Financial changes affecting future value are projections relating to the future financial market conditions and the simple calculation of the changed financial structure of the deal as loans are repaid or refinanced. A projected financialo change that assumes more favorable financial market conditions at the time of sale than are currently prevalent is generally a trap set for the unwary. If the major source of return comes from refinancing a property with a long-term mortgage at below present market rates, the investor mightC have a long wait. Market changes derive from the assumption that at the time of sale someone will be willing to pay more using a lower cap rate for the same cash flow and associated benefits of ownership than the present owner is. Unless tthere is a compelling reason like an upgrading of the tenants in the building, it is risky to base one’s investment on this kind of assumption. On the other hand, cap rates investors pay do change based on factors such as: the effect of physical or functional obsolescence, changes in tenant mix or use, changes in government tax policy, and/or the owner simply doing a better selling job. Probablyo though, the major factor that affects cap rates is investors’ general perception of the real estate market at the time of sale. There is a herd instinct to valuation in real estate as well as in other forms of investments. In conclusion,N the reader should be aware throughout that a successful analysis of a real property investment must consider many critical characteristics of the investment. Among these are (a) the extremely long time horizon of most investments, (b) poor liquidity, and (c) uncertainty concerning the valuation of the property. Valuation of property is subject to vagaries caused by competition, changes in financial market conditions, physical depreciation, government action, and changes in the microenvironment.o Any of these may seriously revalue the property. In addition, historical information on a particular property may be unavailable or, if available, either irrelevant or intentionally misleading.

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Despite the uncertainties, future benefits should be estimated when evaluating a real estate t investment. Sources of future benefits are mortgage amortization, return of initial equity, and sales price appreciation. As always, benefits should be evaluated net of taxes. s Table I below illustrates the benefits available to the investor who can refinance opportunely. Table I Setup Showing Benefits from Refinancing (Cost of asset: $1,250,000; mortgage: $1,000,000)o Rate of Inflation Present per Year PYear 10

Gross revenues $270,000 4.14% $405,000 Vacancies 27,000 40,500 Net revenues $243,000 r $364,500 Operating expenses 118,000 4.14% 177,000 Free-and-clear cash $125,000 $187,500 Debt service (7.5% interest, 25 years) 88,700 o 88,700 Cash flow after financing $ 36,300 $ 98,800 At the end of 10 years, if the free-and-clear cash flow of $187,500 were capitalized at 9%, the property might be worth $2,085,000. An 80% mortgage on this value is $1,668,000. y New mortgage $1,668,000 Less: Balance of old mortgage p792,000 Cash proceeds $ 876,000 Less: Prior mortgage amortization 208,000 Original equity o 250,000 Net new cash $ 418,000

In the example shown in Table I, theC investor will have (without immediate tax consequences) all his or her original equity returned, plus prior mortgage amortization payments, plus an additional $418,000 from refinancing. The investor will have obtained some of the potential future benefits without sale of the property, will have no cash invested, but will retain ownership. Because the new cash flow after financing will bet $37,862, the investor will be receiving more income in year 11 than in year 1, and will be building equity once again. But as said before, although no income tax is due on refinancing, the tax is onlyo deferred and becomes due after a sale or foreclosure. To calculate the future benefits of sale, one again must face the added complication of computing the net cash to seller after taxes. To predict the future sales price of an income-producing property, the capitalization-of-income method previously discussed is generally used. Note that assumptions of future operatingN results are required and provide an area of much discretion. Alternatively, a simple growth assumption may be applied to the original purchase price though this can be very misleading. Once sales price and holding period assumptions have been made, the net cash to seller can beo calculated:

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Table J Calculation of Net Cash from Sale t 1. Calculation of book value s Purchase price + Capital improvements – Accumulated depreciation = Book value o 2. Calculation of gain on sale Net selling price – Net book value = Gain on sale P 3. Calculation of tax Gain on sale x Tax rate r = Tax liability 4. Calculation of net cash to seller Net selling price o – Mortgage balance – Income tax = Net cash from sale y The net cash from sale is the appropriate cash flow in the year of sale to use when evaluating an equity investment. Note that the net cash from sale is composed of the three potential elements of future benefits, adjusted by taxes: p

Return of initial cash equity + Return of mortgage amortizationo + Increase in sales price – Income taxes = Net cash from sale C Methods of Calculatingt Return The preceding sections have focused upon development of basic data for analyzing the profitability of a real property investment and upon elements that lead to change in such investments. This sectiono shows how these data may be used to measure return on investment in such a property. There is extensive literature on valuation and return, but space does not permit an in-depth review of it here. This section simply reviews the various methods of valuation as they apply to real property assets. A cardinal rule of financial analysis--that the investment decision be made apart Nfrom the financing decision--does not hold for many real estate decisions especially for high income taxpayers. Although the operating cash flow may be used to determine the project value for mortgage purposes, the after-tax cash flows will determine the return on equity to the investor. Since the cash-flow-after-tax calculation requires financing assumptions, and since mortgages by definition are property specific, it is necessary to consider financing effects when comparing alternativeo investments in real estate.

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The measurement of return on investment in real estate is a subject of great dispute and sales t expertise. The careful builder or investor must be aware of the measures being used since one person’s 28% return is another’s 6%. The major differences occur in the elements of return that are included in the measurement and in the time horizon over which the measurement is made. Thes measures will be examined on the basis of the time horizon and with the inclusion of the three elements of return. o Return on assets Basically, this measure of return may be defined as follows:

Free-and-clear return Property cost P This measure of return is static in that it assumes the same cash flow throughout time. It ignores the risk or tax consequences of the investment and ignores the capital change broughtr about by disposing of the investment. However, it is most important for a lender who wants to insure that from the first year there is adequate income to cover mortgage payments. o Cash flow after financing return on equity or cash on cash return This measure of return may be stated thus: Cash flow after financing Equity y

In this case, the equity is defined as the initial cash investment. This measure is also known as “cash on cash” return and is frequently applied by seasonedp investors in the real estate field. The measure looks at return statically and omits both tax effect and capital change from sale or refinancing. The argument made by investors using this measure is “if a deal will stand up under this, everything else is a plus.” It is perhaps the most rigid measureo applied because it ignores all elements of return that are not reflected in the end-of-the-month checking account balance. The preceding two measures are commonly used by professionals, as a first cut or in a “back of the envelope” form of analysis. The following measures are often shownC to induce purchase. In general, they have major flaws that limit their usefulness. Either the simple measures or a full internal-rate-of-return calculation should be used. Before-tax cash flow + tfirst year’s amortization return on equity This measure is defined in the following way: Beforeo-tax cash flow + Mortgage principal payment (year 1) Equity

This measure is the same as the previous one except for the addition of the amount repaid on the mortgage as an Nelement of return. This return measure and the one that follows are often used by aggressive real estate salespeople. For example, if you assume the property has an 80% mortgage at 8-3/4% interest and a 20-year amortization schedule, the first-year reduction in loan balance amounts to 1.9% of the original balance. Thus this amortization by itself represents a 7.6% return on the equity investment.o That 7.6% return is not available without either refinancing or selling the property. These events are considered only as future possibilities rather than as certainties, so some portion of that return should be discounted. This measure of return considers neither the tax effect nor the bulk

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of the change in capital position, positive or negative, that will arise through change in value of the t property. Cash flow after financing + tax effect as return on equity This measure is defineds as follows: Cash flow after financing + Tax effect (year 1) o Equity

This measure gives the cash value of the investment to the investor in the first year of ownership. It ignores the change of after-tax cash flow over time and the impact of sale on theP capital position of the investor. Average returns All of the last three measures are sometimes shownr as averages based upon an estimated holding period. It is wise to look carefully at the components of these averages rather than to accept the average figure. It is also often the case that the largest portion of the return comes in the final year when the property is sold. Then, for example, ino the tenth year alone of an 8-3/4% 20-year loan, approximately 4.2% of the original loan balance is paid off. For a property purchased with 80% debt, the loan amortization alone accounts for a 16.8% annual return on the original equity. Unless there are plans for the realization of the equity built up through loan amortization, the inclusion of such a large annual figure may materially distort the average and mislead the potential investor. This is especially critical given the long timey before that portion of the return is to be realized. It also ignores the time value of money. Payback period This simple benchmark returnp measures the number of years required for the investor to recoup the cash equity invested. Discounted payback applies the investor hurdle rate to the future stream of after-tax cash flows. These measures are of limited value because they ignore benefits or the tax consequences beyond theo payback period. This measure is useful, however, in a high risk investment environment where return of capital may be more important than a huge projected future payoff.

Net present value (NPV) The net present value for a real estate investment may be found by applying the following formula: C N = holding period

N t 1 NPV =  n [CFAT yearn ] - Equity n =1 (1o+ i) Where: i = investor hurdle rate.

CFAT = cash flow after taxes in year N N(= the sum of: before-tax cash flow in year n + tax effect in year n + futures in year n). In other words, a stream of cash flows is discounted back at a predetermined discount rate, totaled, and then subtracted from the initial investment. oThe NPV calculation considers all of the components of return available to the real estate investor. The relative sizes of initial investment are not explicitly accounted for by the NPV method; therefore,

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projects cannot be directly compared unless they are of the same size. This failing may be accounted t for by the use of a profitability index, which is simply the ratio of the NPV to the amount of equity invested.3 s Internal rate of return (IRR) The internal rate of return for a real estate investment may be found by solving the following equation for i:

N = holding period o

N 1  n  Equity n 1 1  i P ( ) [Before-tax cash flow (year n) + Tax effect (year n) + Future benefits (year n)] - Equity = 0

Thus i is the rate of return that will set the discounted present value of all cashr flows less equity equal to zero. All of the standard caveats regarding discounted values apply. Arduous trial-and-error algorithms solve for the IRR and are best left to calculators or computers. Care must be taken in remembering the critical assumptions underlying the calculation of othe IRR. The primary critical assumption is that the cash thrown off by the investment can and will be reinvested at the calculated internal rate of return. This assumption is often not true in practice. For a project with a pattern of large initial tax losses and then considerable taxable income, the tax savings must be reinvested or the investor may end up with a very poor investment. For example,y the following cash flow stream has approximately a 12% internal rate of return, but the cash outlay is actually greater than the cash inflows. p – $1,000 Year 1 + 500 Year 2 + 500 Year 3 o + 500 Year 4 + 500 Year 5 0 Years 6 through 11C – $2,000 Year 12 The unwary investor who dealtt with the $500 as though it were real return and did not reinvest it in some asset earning 12% (aso is often done in tax-shelter investments) is in for a shock in Year 12. Summary

Analysis of real property investments is complicated. It is not, however, impossible. Since it most often involves projectionN of future events, it is well to err on the conservative side. Projections of compound growth over the periods involved in real estate must always be considered to contain a risk.

3 o The NPV calculation is useful when the investor's cost of capital is known. When projections are made that involve many changes from positive to negative cash flows and might therefore produce multiple IRR solutions, and when investments with widely varying lives are compared.

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The key tasks that need to be performed for all investments are the following: t 1. develop baseline data s 2. project trends, and 3. search out sources of discontinuity o These tasks, adequately performed, will yield opportunities. One must understand what assumptions have been made. The number calculations themselves are not very complicated. Net present value and internal rate of return analyses can be done quite easily on calculators and computers. Basing the future on projections of the past may be the most logicalP way to start, but as any investor knows, events rarely work out that way. Fortunately, over time real estate has been one of the most profitable forms of investment. However, it is crucial to realize that the ability to sustain and take advantage of short-term downturns and to hold property for ther long term has generally been the key to success. o y p o C t o N o

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Real Estate Risk

Risk Variables:

• Time – how long to get project to market, sales value profile?

• Market – int rates, demographics, changing general economy, buyer preferences

• Location – neighborhood changing?, other competitors? migration to Calgary,

• Project – design criteria, reqd sales values, project costs,

Risk Hierarchy

Lower Risk Investments • Urban Land (with utilities in place and sustaining income) • Single Family and Duplex Dwellings • Multi-Residential Developments – low rise up to 4 stories

Medium Risk Investments • Warehouses • Offices • Shopping Centres • Free Standing Retail • Multi residential high rise

Higher Risk Investments • Raw Land (e.g. at the edge of the city) • Industrial Properties (e.g. special purpose) • Resort Properties • Hotels and Entertainment Uses

[email protected] www.redialberta.ca

133 APPENDIX

Analysis of Real Estate Returns

Two Types of Models

A. Where the Developer sells all real estate developed.

• In this model profits are expressed in some fashion compared to costs, revenues, or equity • ROC for return on cost, ROR for return on revenue, or ROE for return on equity • Percentage returns in real terms vary substantially depending on which method of comparison is chosen.

B. Where the Developer holds the real estate developed.

• In this model no “profit” is made as the assets are not sold, and the project return is expressed as a percentage based on its cash flow on an annual basis. • This method would apply to rented properties such as office buildings, rental residential projects and most retail projects • Annual cash flow is sometimes described as an “income stream” which can be converted to a sales value using a technique known as capitalization

[email protected] www.redialberta.ca

134 APPENDIX

Market Q1 Intelligence 2015 Report More people, more investment, more projects

BTY.COM

135 APPENDIX

Contents

5 Overview

5 Escalation Summary

6 Regional Snapshots

6 Ontario

8 British Columbia

10 Alberta

12 Saskatchewan

14 Quebec

16 Manitoba

17 Atlantic Region

18 United States

20 Cost Data Parameters Comparison

FEATURED STORIES

4 Canada: a continuing success story

5 More people, more investment, more projects

9 Taller wood buildings gain ground across Canada

11 Major mining prospects north (and south) of 60

13 Mobility is key for meeting labour demand

15 Making the most of modular construction

19 U.S. has potential to become world’s largest market for P3 projects

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137 APPENDIX

Canada: a continuing success story OVERVIEW More people, more investment, more projects

Joe Rekab Toby Mallinder Gord Smith Managing Partner Partner Partner

WELCOMING 2015 WITH CONFIDENCE EXPORTING OUR EXPERTISE CELEBRATING P3 ACCOMPLISHMENTS A lower oil price notwithstanding, housing starts reflect the steady influx: 2015 Escalation the continuing flow of people to, and 189,000 units in 2014 and 189,500 in 2015. It’s an ill wind that blows no good – so goes Resurgent U.S. and overseas economies The continuing success of the Canadian investment in Canada will help keep Summary the old saying. The drop in the price of oil are also creating opportunity for the construction industry is due in no small workloads stable in 2015. Sustained Construction will remain strong in BC, may be painful for oil producing provinces, Canadian construction industry. Many of measure to the projects procured using investment in the energy sector in while activity levels settle back from Downward pressure is but it is blowing plenty of good across other Canada’s leading builders have taken on the P3/AFP models. And the Canadian P3 particular – hydro, oil and gas, and record levels of prior years in Alberta and coming from: sectors of the Canadian economy. Consider large Public Private Partnerships (P3) model’s reputation as best in class is well renewables – will combine with a steady Saskatchewan. The silver lining there is the growth drivers in this time of lower- infrastructure projects in the U.S. BTY grounded in the numbers. stream of immigrants that supports much lower cost escalation and easing • Forecast for continued modest cost oil, lower value Canadian dollar, and has been there to assist them (and U.S. residential demand to power steady growth labour demand for skilled trades. economic growth now even lower interest rates: builders) with our P3 advisory services. The value of projects that have reached in the construction industry. An estimated • Lower oil prices See more about the burgeoning U.S. P3 financial close exceeds $70 billion – and the $675 billion worth of projects – 75% of Bolstered by increasing demand from • Softer commodity prices (except • Intensive energy users such as market on page 19. models have a nearly impeccable record of them in the energy sector – are underway a strengthening U.S. economy, a lower lumber) that could cause a manufacturing, mining, agriculture, projects completed on-time and on-budget. or planned over the next decade. The lower loonie that favours manufacturing exports, decrease in materials costs and forestry are enjoying huge cost The growing U.S, market is also fertile Over the past decade The AFP/P3 model has oil price and legal and environmental continued infrastructure and other • Tighter restrictions on mortgage savings. ground for developing new markets for our delivered an estimated $9.9 billion in cost challenges may cause delays, but long- non-residential spending, and resilient • Demand for their output is rising as Cost Management and Project Monitoring savings for taxpayers over the traditional term, the tide is rising for oil and gas, residential sectors in their big cities, lending the U.S. economy continues to post services lines. In fact, we have opened two procurement method. That may help explain liquid natural gas, and hydroelectric as Ontario and Quebec will see accelerated impressive gains. new offices – in Los Angeles and Phoenix – why P3s are also becoming more popular well as renewable energy projects. About growth, as will Manitoba. Atlantic Canada Upward pressure on pricing • The lower Canadian dollar makes to serve the industry across the U.S. More across the U.S. See page 19 for more on half of the foreign direct investment in is again seeing record investment in is coming from: their exports more affordable – and on that on page 18. that. Canada – an estimated $343 billion in 2013 major projects, but the lower oil price Canada a more attractive place for – went to manufacturing, oil and gas and in Newfoundland and Labrador, and foreign investment. BTY has also been leveraging the Today, there are 220 P3/AFP projects mining. The lower loonie will only increase population losses elsewhere, sap the • A weakening Canadian dollar, international expertise, experience in operation, under construction, or in Canada’s appeal to foreign investors. vitality of overall construction activity. raising the cost of imported The lower cost of energy and borrowing and global networks of many of our procurement across Canada. The P3/ goods primes the pump for business to expand team members. And the reputation for AFP model has been used successfully for Continuing high levels of immigration The consensus view among major banks • Sustained spending on with capital investment in commercial and excellence that our firm enjoys. We’ve been transportation, transit, healthcare, justice, targeted at 285,000 in 2015 – and a total is that Canada’s GDP growth in 2015 will infrastructure industrial projects. Consumers (especially building new relationships with authorities, education, sports venues, and recreation of more than 2 million since 2006 – are be closer to 2.1% than earlier forecasts of • Continuing strong immigration car owners) have more to spend on goods agencies, and lenders in Europe, Asia, projects. also supporting Canada’s position as 2.5%. The Bank of Canada is expected to • Low interprovincial migration of and services, including homes. and Africa to provide services on projects a construction powerhouse. These continue to keep interest rates at or near skilled trades to meet regional in growing economies overseas. They, Ontario leads the way with more than 100 newcomers drive our 1.2% annual the historic lows of the past half-decade, demand We expect the construction industry to too, are discovering the benefits of P3 AFP projects. BC has more than 40 P3 population growth, almost double that of at least until the second half of 2015. The share in the good with lower costs for procurement. Many around the world now projects in procurement, under construction the U.S., and support robust residential lower rate serves to dampen inflation, transportation, easing demand for skilled regard the Canadian P3 model as best in or in operation. Alberta, Quebec and New construction, especially in the core of large which should also help to keep overall trades, and stronger competition (and class for innovation in delivering projects Brunswick have all used the model, and the urban centres as more and more people construction escalation low in 2015. weaker margins) among contractors. All of most cost effectively. government of Saskatchewan has mandated move downtown. The projections for stable these factors will help keep cost escalation that procurement be prioritized through P3 in check. These benefits strengthen our The potential for the construction industry where possible. ESCALATION FORECAST 2015 already positive outlook based on the we see in Canada is mirrored by perhaps Ontario 2%-4% strong construction pillars of immigration, even greater opportunity overseas – The performance of P3/AFP projects to British Columbia 1%-2% investment and infrastructure detailed in more good reason to welcome 2015 with date – and their prospects for even wider Alberta 0%-2% the Overview on the facing page. confidence. adoption and use – are part of the continuing Saskatchewan 0%-2% success story of Canada’s construction Manitoba 1%-2% The Canadian construction industry is industry. Quebec 1%-3% highly adaptable. It shifted smoothly to Atlantic Region 0%-2% public infrastructure after the financial crisis, then to private sector mega projects as growth drivers. We believe it will adapt again. It’s why we call the Canadian construction industry a continuing success story – and are welcoming 2015 with confidence. 4 BTY Group Market Intelligence Report - Q1 2015 BTY.COM 5

138 APPENDIX

Canada: a continuing success story OVERVIEW More people, more investment, more projects

Joe Rekab Toby Mallinder Gord Smith Managing Partner Partner Partner

139 APPENDIX

REGIONAL SNAPSHOTS

ESCALATION SUMMARY

2014 : 1-2% 2015 : 2-4% 2016 : 2-4% Ontario

Ontario set to surge with boost from lower loonie

ntario will be the big winner with Big-ticket items include Eglinton Buttonville comprises 9 million to 10 Preliminary Construction lower priced oil, a lower dollar Crosstown Light Rail Transit, Spadina million square feet of mixed-use space, Investment Projection for 2015 and interest rates, and its location Subway Extension, and the Union Station while the West Don Lands will have 6,000 Oclose to major U.S. markets as the U.S. Revitalization. The Mayor of Toronto’s residential units. in $ billions Source: Buildforce economy revs up. Expect these factors vision for SmartTrack, a 53km surface 0 20 40 to work together to boost the province’s subway, 90% of which will be on existing Office projects such as 1 York, 100 Maintenance manufacturing and exports and make it GO Train tracks, will also be a significant Adelaide West, and the Bay Adelaide 10.6b Canada’s growth leader. investment within the GTA over the next East Tower are some of the more high few years. Other major transportation profile projects of the more than 5.9 “Ontario manufacturers and Residential/ Renovation Strong non-residential building projects include Ottawa Light Rail, million square feet of commercial space exporters can expect a bump from 37.2b and a still robust housing sector – Kitchener Waterloo Cambridge Rapid under construction in downtown Toronto. the lower loonie and lower oil prices Non-Residential undergirded by major transportation Transit and the International Trade Tenants continue to search for a way that could boost investment in 19.5b and social infrastructure projects – will Crossing between Windsor and Detroit. to reduce their office footprint as more commercial and industrial building further contribute to Ontario’s healthy collaborative working environments are sectors.” Engineering/Infrastructure construction levels as the economy gains The new $810 million Providence designed and implemented on new fit-out 18.1b momentum. Care Hospital in Kingston leads the projects. As tenants continue to move to PHILIP NIXON list of projects underway in social new buildings in the downtown core, a DIRECTOR The condominium market in the GTA infrastructure, which includes the $2 high vacancy rate may affect older office remains strong, driven in part by the high billion Oakville and $1.75 billion Humber stock. But as businesses start moving cost of single-family homes in and around River Hospitals as well as funding for back to the core, it is expected that this the core and a very robust condo rental dozens of projects at colleges and added capacity will be soaked up. market. The need for affordable housing universities. is driving a growing number of purpose- New wind power projects are making built, multi-unit residential rental Net migration to Ontario is expected Ontario a global leader in renewable developments. to rise from 82,500 in 2014 to 93,200 in energy generation. Major new efforts 2015 and 98,800 net migrants by 2016. include Kingston Solar Park, the latest in Retail is expected to perform well in the That increase, spurred by growth in net Samsung’s $5 billion investment in solar core as developers look for opportunities international migration that is expected and wind energy, and the $580 million to provide residents with services and to double from 5% in 2014 to 10% in 2015, Armow Wind Project, in which Samsung amenities that they demand. High-end should help sustain demand for new is partnering with Pattern Energy Group. “Massive infrastructure projects, still retailer Nordstrom figures prominently housing and the prevailing urbanization Longer term nuclear and natural gas strong residential and commercial in mall expansion and redevelopment of the downtown core. Even with the energy projects are working their way sectors – bolstered by Canada’s across the GTA; it will have new stores moderating effect of rising higher interest through the approvals process. The highest international in-migration, in four out of six major mall renewal rates projected for late 2015, housing development of the mineral-rich Ring of and a recovering U.S. economy that projects now underway. starts are expected to increase from Fire in northern Ontario has also stalled drives manufacturing and business 59,200 in 2014 to 63,000 in 2015. as financing and approvals for roads to investment will keep Ontario busy Some $15 billion in provincial funding remote mine sites have yet to be finalized. through 2015.” for transit infrastructure in the GTHA, The multi-year Buttonville Redevelopment and $14 billion for transportation and the West Don Lands in the GTA Overall, the province’s economy is DARREN CASH infrastructure outside the GTHA, are exemplify the continuing strengths of forecast to grow from between 2.8% and DIRECTOR the construction industry mainstays. the commercial and residential sectors. 3.1% in 2015.

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140 APPENDIX

REGIONAL SNAPSHOTS

ESCALATION SUMMARY

2014 : 1-2% 2015 : 2-4% 2016 : 2-4% Ontario

Ontario set to surge with boost from lower loonie ntario will be the big winner with Big-ticket items include Eglinton Buttonville comprises 9 million to 10 Preliminary Construction lower priced oil, a lower dollar Crosstown Light Rail Transit, Spadina million square feet of mixed-use space, Investment Projection for 2015 and interest rates, and its location Subway Extension, and the Union Station while the West Don Lands will have 6,000 Oclose to major U.S. markets as the U.S. Revitalization. The Mayor of Toronto’s residential units. in $ billions Source: Buildforce economy revs up. Expect these factors vision for SmartTrack, a 53km surface 0 20 40 to work together to boost the province’s subway, 90% of which will be on existing Office projects such as 1 York, 100 Maintenance manufacturing and exports and make it GO Train tracks, will also be a significant Adelaide West, and the Bay Adelaide 10.6b Canada’s growth leader. investment within the GTA over the next East Tower are some of the more high few years. Other major transportation profile projects of the more than 5.9 “Ontario manufacturers and Residential/ Renovation Strong non-residential building projects include Ottawa Light Rail, million square feet of commercial space exporters can expect a bump from 37.2b and a still robust housing sector – Kitchener Waterloo Cambridge Rapid under construction in downtown Toronto. the lower loonie and lower oil prices Non-Residential undergirded by major transportation Transit and the International Trade Tenants continue to search for a way that could boost investment in 19.5b and social infrastructure projects – will Crossing between Windsor and Detroit. to reduce their office footprint as more commercial and industrial building further contribute to Ontario’s healthy collaborative working environments are sectors.” Engineering/Infrastructure construction levels as the economy gains The new $810 million Providence designed and implemented on new fit-out 18.1b momentum. Care Hospital in Kingston leads the projects. As tenants continue to move to PHILIP NIXON list of projects underway in social new buildings in the downtown core, a DIRECTOR The condominium market in the GTA infrastructure, which includes the $2 high vacancy rate may affect older office remains strong, driven in part by the high billion Oakville and $1.75 billion Humber stock. But as businesses start moving cost of single-family homes in and around River Hospitals as well as funding for back to the core, it is expected that this the core and a very robust condo rental dozens of projects at colleges and added capacity will be soaked up. market. The need for affordable housing universities. is driving a growing number of purpose- New wind power projects are making built, multi-unit residential rental Net migration to Ontario is expected Ontario a global leader in renewable developments. to rise from 82,500 in 2014 to 93,200 in energy generation. Major new efforts 2015 and 98,800 net migrants by 2016. include Kingston Solar Park, the latest in Retail is expected to perform well in the That increase, spurred by growth in net Samsung’s $5 billion investment in solar core as developers look for opportunities international migration that is expected and wind energy, and the $580 million to provide residents with services and to double from 5% in 2014 to 10% in 2015, Armow Wind Project, in which Samsung amenities that they demand. High-end should help sustain demand for new is partnering with Pattern Energy Group. “Massive infrastructure projects, still retailer Nordstrom figures prominently housing and the prevailing urbanization Longer term nuclear and natural gas strong residential and commercial in mall expansion and redevelopment of the downtown core. Even with the energy projects are working their way sectors – bolstered by Canada’s across the GTA; it will have new stores moderating effect of rising higher interest through the approvals process. The highest international in-migration, in four out of six major mall renewal rates projected for late 2015, housing development of the mineral-rich Ring of and a recovering U.S. economy that projects now underway. starts are expected to increase from Fire in northern Ontario has also stalled drives manufacturing and business 59,200 in 2014 to 63,000 in 2015. as financing and approvals for roads to investment will keep Ontario busy Some $15 billion in provincial funding remote mine sites have yet to be finalized. through 2015.” for transit infrastructure in the GTHA, The multi-year Buttonville Redevelopment and $14 billion for transportation and the West Don Lands in the GTA Overall, the province’s economy is DARREN CASH infrastructure outside the GTHA, are exemplify the continuing strengths of forecast to grow from between 2.8% and DIRECTOR the construction industry mainstays. the commercial and residential sectors. 3.1% in 2015.

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power upswing in BC The WIDC building is part of a wave of new Tall Wood buildings all over the world – ajor utility, mining, LNG annually. New housing starts are and challenging the conventional wisdom Preliminary Construction terminal, and pipeline projects forecast at 28,300 units across the of how high wooden buildings can rise. Tall Investment Projection for 2015 are expected to ramp up over province in 2015. Wood structures rely on engineered wood Mthe next two years, ushering in an in $ billions Source: Buildforce products called “mass timber,” which upswing in construction. Many of the Metro Vancouver continues to see 0 10 20 features multiple thin layers of wood that projects, such as the newly approved Site healthy commercial and retail Maintenance C dam and proposed LNG projects, are construction, with more than $1 billion are glued to form solid panels and beams. 4.4b located in northern BC and valued in the worth of projects in downtown, and billions. They are expected to generate three major mall renewals planned or The WIDC pilot project received permission Residential/ Renovation significant demand for skilled labour, underway. Major projects include the to work outside the provisions of BC’s 15.7b putting upward pressure on labour $398 million Trump Tower, which will building code, which five years ago upped Non-Residential costs. be the city’s second tallest, and the the limit for conventional “stick-built” 6.1b $200 million Exchange tower. Strong wood frame construction from four to six Rendering by Michael Green Architecture The optimistic outlook remains despite demand for larger industrial spaces in storeys. Today there are nearly 80 multi- Engineering/Infrastructure uncertainty over the timing of specific suburban Metro Vancouver, driven in unit six-storey projects under construction 10.8b projects such as proposed LNG plants, part by improved port and transportation designing and building high-rise wood We have also contributed to multiple across BC. In September 2014, Ontario and potential implications for pipeline infrastructure, will see sustained activity demonstration projects. The CWC and studies on costing Tall Wood projects as announced it would enact code changes to and resource developments following despite high land and development costs. Natural Resources Canada are currently well as conducting cost comparisons on the Supreme Court’s June ruling on allow the use of wood-frame construction reviewing short-listed submissions. Tall Wood vs. comparable concrete and native land claims. Overall, there are some 20 major in buildings of up to six-storeys. Although steel construction. commercial developments in the they are conventional wood frame and The successful proponents can get a At the same time, major new provincial planning or rezoning stages in the not Tall Wood structures, they reflect an helping hand from the recently released infrastructure projects are either region. The Surrey City Centre expansion increasing move to using wood for its Technical Guide for the Design and underway or in the planning stages. alone will see 10 more towers over the environmental benefits. These include major airport and port next decade, as well as a five-star hotel Construction of Tall Wood Buildings expansions, two new hospitals valued and performing arts centre. in Canada (2014) commissioned by FP While concrete emits nearly its own weight at $600 million in northern Vancouver Innovations, a not-for-profit organization in carbon dioxide during production, Island, a new $200 million correctional Exports to international markets and that specializes in creating scientific centre in the Okanagan, a new bridge to other Canadian provinces will also the raw material for tall wood buildings solutions in support of the Canadian forest replace the George Massey tunnel, and a drive healthy near-term expansion. The literally grows on trees, absorbing carbon sector’s global competitiveness. new Pattullo Bridge. favourable Canadian dollar and U.S. from the atmosphere as it does so. growth are forecast to give exports a Responsibly harvested wood is naturally The Guide was created to support Rising net migration that pushed BC’s significant boost, and drive industrial renewing and, when a building is finally experienced design and construction population growth in 2014 to its fastest and commercial investment. Buoyed by torn down, can be recycled or burned for “A wave of major new energy and annual rate (1.2%) in almost four years the U.S. housing market expansion and teams in undertaking Tall Wood projects. energy. infrastructure projects in the further supports BC’s momentum. continuing growth in exports to Asian It provides the concepts and background pipeline and resilient residential and Total net migration is forecast at 42,400 markets, BC’s forestry and wood- to questions that inevitably arise when commercial sectors are setting up for There are many more innovative Tall Wood people in 2014 and 41,600 people in products sector, in particular, will be designing beyond the height and area an upswing in construction for British 2015. And that population growth is, a significant engine for the provincial structures higher than six storeys in the limits prescribed by the National Building Columbia.” in turn, helping to sustain residential economy. Bank forecasts are for works for Canada. In 2013, the Canadian Code of Canada. The section of the guide construction levels. Projected population economic growth from between 2.7% Wood Council invited Canadian developers, CONNOR FALLS dealing with Project and Construction growth of just over 1% a year is expected and 2.9% in 2015. institutions, organizations and design DIRECTOR costing was prepared by BTY Group. to add approximately 30,000 households teams to propose new approaches to

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ESCALATION SUMMARY Taller wood buildings gain ground across 2014 : 1-2% Canada 2015 : 1-2% British 2016 : 2-4% When the 95.9 foot (29.25 metre) high $25 million Wood Innovation and Design Columbia Centre (WIDC) in downtown Prince George, BC was completed this fall, it instantly became North America’s tallest modern all-wood building. Although only six storeys, the WIDC’s high ceilings make it Major energy projects as tall as most 10-storey high-rises. power upswing in BC The WIDC building is part of a wave of new Tall Wood buildings all over the world – ajor utility, mining, LNG annually. New housing starts are and challenging the conventional wisdom Preliminary Construction terminal, and pipeline projects forecast at 28,300 units across the of how high wooden buildings can rise. Tall Investment Projection for 2015 are expected to ramp up over province in 2015. Wood structures rely on engineered wood Mthe next two years, ushering in an in $ billions Source: Buildforce products called “mass timber,” which upswing in construction. Many of the Metro Vancouver continues to see 0 10 20 features multiple thin layers of wood that projects, such as the newly approved Site healthy commercial and retail Maintenance C dam and proposed LNG projects, are construction, with more than $1 billion are glued to form solid panels and beams. 4.4b located in northern BC and valued in the worth of projects in downtown, and billions. They are expected to generate three major mall renewals planned or The WIDC pilot project received permission Residential/ Renovation significant demand for skilled labour, underway. Major projects include the to work outside the provisions of BC’s 15.7b putting upward pressure on labour $398 million Trump Tower, which will building code, which five years ago upped Non-Residential costs. be the city’s second tallest, and the the limit for conventional “stick-built” 6.1b $200 million Exchange tower. Strong wood frame construction from four to six Rendering by Michael Green Architecture The optimistic outlook remains despite demand for larger industrial spaces in storeys. Today there are nearly 80 multi- Engineering/Infrastructure uncertainty over the timing of specific suburban Metro Vancouver, driven in unit six-storey projects under construction 10.8b projects such as proposed LNG plants, part by improved port and transportation designing and building high-rise wood We have also contributed to multiple across BC. In September 2014, Ontario and potential implications for pipeline infrastructure, will see sustained activity demonstration projects. The CWC and studies on costing Tall Wood projects as announced it would enact code changes to and resource developments following despite high land and development costs. Natural Resources Canada are currently well as conducting cost comparisons on the Supreme Court’s June ruling on allow the use of wood-frame construction reviewing short-listed submissions. Tall Wood vs. comparable concrete and native land claims. Overall, there are some 20 major in buildings of up to six-storeys. Although steel construction. commercial developments in the they are conventional wood frame and The successful proponents can get a At the same time, major new provincial planning or rezoning stages in the not Tall Wood structures, they reflect an helping hand from the recently released infrastructure projects are either region. The Surrey City Centre expansion increasing move to using wood for its Technical Guide for the Design and underway or in the planning stages. alone will see 10 more towers over the environmental benefits. These include major airport and port next decade, as well as a five-star hotel Construction of Tall Wood Buildings expansions, two new hospitals valued and performing arts centre. in Canada (2014) commissioned by FP While concrete emits nearly its own weight at $600 million in northern Vancouver Innovations, a not-for-profit organization in carbon dioxide during production, Island, a new $200 million correctional Exports to international markets and that specializes in creating scientific centre in the Okanagan, a new bridge to other Canadian provinces will also the raw material for tall wood buildings solutions in support of the Canadian forest replace the George Massey tunnel, and a drive healthy near-term expansion. The literally grows on trees, absorbing carbon sector’s global competitiveness. new Pattullo Bridge. favourable Canadian dollar and U.S. from the atmosphere as it does so. growth are forecast to give exports a Responsibly harvested wood is naturally The Guide was created to support Rising net migration that pushed BC’s significant boost, and drive industrial renewing and, when a building is finally experienced design and construction population growth in 2014 to its fastest and commercial investment. Buoyed by torn down, can be recycled or burned for “A wave of major new energy and annual rate (1.2%) in almost four years the U.S. housing market expansion and teams in undertaking Tall Wood projects. energy. infrastructure projects in the further supports BC’s momentum. continuing growth in exports to Asian It provides the concepts and background pipeline and resilient residential and Total net migration is forecast at 42,400 markets, BC’s forestry and wood- to questions that inevitably arise when commercial sectors are setting up for There are many more innovative Tall Wood people in 2014 and 41,600 people in products sector, in particular, will be designing beyond the height and area an upswing in construction for British 2015. And that population growth is, a significant engine for the provincial structures higher than six storeys in the limits prescribed by the National Building Columbia.” in turn, helping to sustain residential economy. Bank forecasts are for works for Canada. In 2013, the Canadian Code of Canada. The section of the guide construction levels. Projected population economic growth from between 2.7% Wood Council invited Canadian developers, CONNOR FALLS dealing with Project and Construction growth of just over 1% a year is expected and 2.9% in 2015. institutions, organizations and design DIRECTOR costing was prepared by BTY Group. to add approximately 30,000 households teams to propose new approaches to

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ESCALATION SUMMARY

2014 : 1-2% 2015 : 0-2% 2016 : 0-2% Alberta

Oil price impact to ripple across province

he impact of lower oil price will underway in Calgary, with Brookfield Preliminary Construction be felt most deeply here, but the Place expected to be Western Canada’s Investment Projection for 2015 momentum of years of massive tallest when completed in 2017. Plans for in $ billions Source: Buildforce Tinvestment in the oilsands, record an additional five major commercial as well as fifteen residential towers may be 0 20 40 in-migration and a more diversified economy should help the provincial scaled back, depending on oil prices. Maintenance construction industry ride out the storm. 5.6b Expect GDP growth in 2015 to fall short Edmonton has three major new office of earlier estimates of 3.0%. projects underway, the Stantec tower, Residential/ Renovation the Kelly Ramsey Building and the City 18.1b Work is currently underway on projects of Edmonton building, as well as the Non-Residential worth more than $55 billion in the oil $480 million Rogers Place and the $340 9b sands alone. With other oil and gas and million Royal Alberta Museum, and Major mining prospects pipeline projects added, the value is several new residential towers. Engineering/Infrastructure close to $63 billion, according to Alberta north (and south) of 60 32b Innovation and Advanced Education. The expansion is even more dramatic in Fort McMurray, where a $258 million That’s in addition to multiple multibillion- BTY’s previous Market Intelligence Some of the leading projects include airport expansion and surging residential dollar transmission line projects and reported on the $778 million being invested the largest new diamond mine under large wind power projects. market are the warm-up for a planned civic centre, public square, arena, and in the north for roads, ports, geomapping development globally, as well as projects and research north of 60 as part of the for gold, copper, zinc, iron, cobalt, and rare There should be some easing of the multiple high-rise residential towers in tight labour market that saw Alberta’s the downtown. public and private investment supporting earth minerals. unemployment drop to 4.9% in 2014. mineral resource development. That Oil patch workers may migrate to other The surging non-residential sector is infrastructure investment is paying off with South of 60, the development of the Ring of energy, resource and infrastructure expected to experience a steady demand a rising tide of projects north – and south Fire, Ontario’s mineral rich district in the projects ramping up elsewhere in for trades involved in oil sands, pipeline, – of 60. province’s northwest, has been stymied by “While the oil price drop will slow utility and manufacturing construction Canada. delays in the construction of infrastructure growth, there is still considerable while demand will be more moderate in Despite the current cyclic downturn in and power supply. The region is estimated momentum from long-term the residential sector. The new workers are part of the steady commodity prices and associated financing to hold deposits worth $60-billion worth investment in energy, infrastructure, inflow of migrants, which is expected ofﬁ ce and commercial projects to hurdles, it is expected that mining north of minerals, with chromite being the most to moderate after two years of record Ongoing major infrastructure projects support workloads in Alberta.” in-migration to 79,000 in 2014 and 64,000 will also put pressure on the labour of 60 will double by 2020, with a forecast important. The government of Ontario has in 2015. They will help keep demand for supply. Spending commitments on annual growth rate of nearly 7.5% in the pledged $1 billion to build a road that would LESLIE FOWLER new housing high, with starts projected healthcare facilities, new schools, Yukon, the Northwest Territories and provide access. DIRECTOR at 40,400 for 2014, 37,400 for 2015. highway expansion, the $2 billion Calgary Nunavut compared to 2.2% in the rest of Airport, and the $3.2-billion Edmonton Canada. Similarly, the Quebec government has LRT Valley Line promise to stretch The influx of investment and people is revived its commitment to the Plan du construction industry capacity to the also fuelling sustained building booms At the start of 2014, there were more than Nord, the province’s ambitious plan to limit. in Calgary, Edmonton and Ft. McMurray. 30 major projects either entering or moving make natural resources the centerpiece of Seven major new office towers are through the environmental assessment its economic development, with funding for and permitting processes across the road infrastructure and improvements as a three territories, with an estimated capital feasibility study for a new rail line. investment of over $25 billion.

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ESCALATION SUMMARY

2014 : 1-2% 2015 : 0-2% 2016 : 0-2% Alberta

Oil price impact to ripple across province he impact of lower oil price will underway in Calgary, with Brookfield Preliminary Construction be felt most deeply here, but the Place expected to be Western Canada’s Investment Projection for 2015 momentum of years of massive tallest when completed in 2017. Plans for in $ billions Source: Buildforce Tinvestment in the oilsands, record an additional five major commercial as well as fifteen residential towers may be 0 20 40 in-migration and a more diversified economy should help the provincial scaled back, depending on oil prices. Maintenance construction industry ride out the storm. 5.6b Expect GDP growth in 2015 to fall short Edmonton has three major new office of earlier estimates of 3.0%. projects underway, the Stantec tower, Residential/ Renovation the Kelly Ramsey Building and the City 18.1b Work is currently underway on projects of Edmonton building, as well as the Non-Residential worth more than $55 billion in the oil $480 million Rogers Place and the $340 9b sands alone. With other oil and gas and million Royal Alberta Museum, and Major mining prospects pipeline projects added, the value is several new residential towers. Engineering/Infrastructure close to $63 billion, according to Alberta north (and south) of 60 32b Innovation and Advanced Education. The expansion is even more dramatic in Fort McMurray, where a $258 million That’s in addition to multiple multibillion- BTY’s previous Market Intelligence Some of the leading projects include airport expansion and surging residential dollar transmission line projects and reported on the $778 million being invested the largest new diamond mine under large wind power projects. market are the warm-up for a planned civic centre, public square, arena, and in the north for roads, ports, geomapping development globally, as well as projects and research north of 60 as part of the for gold, copper, zinc, iron, cobalt, and rare There should be some easing of the multiple high-rise residential towers in tight labour market that saw Alberta’s the downtown. public and private investment supporting earth minerals. unemployment drop to 4.9% in 2014. mineral resource development. That Oil patch workers may migrate to other The surging non-residential sector is infrastructure investment is paying off with South of 60, the development of the Ring of energy, resource and infrastructure expected to experience a steady demand a rising tide of projects north – and south Fire, Ontario’s mineral rich district in the projects ramping up elsewhere in for trades involved in oil sands, pipeline, – of 60. province’s northwest, has been stymied by “While the oil price drop will slow utility and manufacturing construction Canada. delays in the construction of infrastructure growth, there is still considerable while demand will be more moderate in Despite the current cyclic downturn in and power supply. The region is estimated momentum from long-term the residential sector. The new workers are part of the steady commodity prices and associated financing to hold deposits worth $60-billion worth investment in energy, infrastructure, inflow of migrants, which is expected ofﬁ ce and commercial projects to hurdles, it is expected that mining north of minerals, with chromite being the most to moderate after two years of record Ongoing major infrastructure projects support workloads in Alberta.” in-migration to 79,000 in 2014 and 64,000 will also put pressure on the labour of 60 will double by 2020, with a forecast important. The government of Ontario has in 2015. They will help keep demand for supply. Spending commitments on annual growth rate of nearly 7.5% in the pledged $1 billion to build a road that would LESLIE FOWLER new housing high, with starts projected healthcare facilities, new schools, Yukon, the Northwest Territories and provide access. DIRECTOR at 40,400 for 2014, 37,400 for 2015. highway expansion, the $2 billion Calgary Nunavut compared to 2.2% in the rest of Airport, and the $3.2-billion Edmonton Canada. Similarly, the Quebec government has LRT Valley Line promise to stretch The influx of investment and people is revived its commitment to the Plan du construction industry capacity to the also fuelling sustained building booms At the start of 2014, there were more than Nord, the province’s ambitious plan to limit. in Calgary, Edmonton and Ft. McMurray. 30 major projects either entering or moving make natural resources the centerpiece of Seven major new office towers are through the environmental assessment its economic development, with funding for and permitting processes across the road infrastructure and improvements as a three territories, with an estimated capital feasibility study for a new rail line. investment of over $25 billion.

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ESCALATION SUMMARY Mobility is key for meeting rising labour 2014 : 1-2% demand 2015 : 0-2% 2016 : 1-2% 2015 will provide respite before competition Saskatchewan for skilled trades ratchets up.

create balanced But forecasts say that won’t be enough to workloads meet the anticipated demand for labour as up to 210,000 older, more experienced workers leave the workforce for retirement over the fter a modest 2014 following Regina Wastewater Treatment Plant next decade. This exodus will contribute to a started over the summer; it’s slated for • Alberta needs to replace 37,000 retiring In addition to trades training, a key to meeting Preliminary Construction a string of high growth years, projected shortfall of more than 100,000 new Investment Projection for 2015 completion at the end of 2016. workers in the long term even though the longer-term demand for skilled labour Saskatchewan is expected to workers. in $ billions Source: Buildforce Arebound in 2015, with healthy crop demand for skilled trades – and the need will be the mobility of the workforce. Labour yields expected to offset the squeeze for non-resident labour -- should ease in requirements will shift back and forth across 0 5 10 The combination of this shortfall with a from lower oil prices. A lacklustre Overall, the government will spend the short term. different geographic markets and sectors fat pipeline of massive projects in energy, Maintenance performance in agriculture (following $2.9 billion on infrastructure projects, • Saskatchewan will see a shift away from over the next decade. ranging from power generation facilities mining and infrastructure underway or in 1.5b bumper crops in 2013) and low potash big projects and housing to commercial prices slowed the pace in 2014, to telecommunications networks to the planning stages across the country will Residential/ Renovation and institutional building; 19% of the but ongoing mining, pipeline and schools to highways to hospitals. intensify competition as projects progress 2.9b workforce heading for retirement needs infrastructure projects will help keep SaskTel will spend $355 million to over the next decade. For 2015, cyclical expand its wireless network in rural to be replaced. Non-Residential construction levels steady this year. dampening of commodity prices, uncertainty areas. Another $200 million is marked • Manitoba’s major hydro projects are 2.3b Growing global demand for potash over land claims, and the dip in oil prices will add momentum to the non-energy for highway and bridge projects. generating high demand for select will see some projects delayed or scaled Engineering/Infrastructure mining sector. skilled trades – and after a pause in back. These recalibrations and the general 4b Net in-migration of 12,900 people is 2015, that will increase with a new round pullback in residential building will provide At 4.3%, the province’s unemployment projected in 2014, before slowing to of projects after 2016. Up to 21% of the 11,300 in 2015. Housing starts will follow some respite over the next year, with a will continue to be the lowest of any province’s construction workforce is a similar downward trend with 8,400 limited recovery in non-residential building province. There are 15 projects valued retiring. at more than $30 billion underway in the forecast for 2014 and 7,700 in 2015. Bank starting in 2016. • Quebec is seeing a pause in labour mining sector, and another 20 projects projections call for GDP to range from 2.6% to 2.8% in 2015. employment after an extended valued at $5 billion in oil and gas and Here’s a preview of where and when labour pipeline expansion. Some major projects boom. The pause is due to reduced demand will shift in 2015 and beyond: “After a modest 2014 following have already peaked and are starting to residential demand, completion of several years of record growth in wind down. major infrastructure projects, and major • Ontario’s massive infrastructure nearly ever sector, Saskatchewan hydro projects passing their peak labour will rebound in 2015 despite the Major infrastructure projects underway projects drive current demand; longer- demand. squeeze from low oil prices. Growing include the Children’s Hospital of term resource and power projects will • Atlantic Canada can expect weak global demand for potash and Saskatchewan, the Regina Football accelerate demand as up to 25% of the demand in New Brunswick and Prince continuing growth in agricultural Stadium, Regina Highway Bypass Project province’s workforce retires. Edward Island, with Nova Scotia and production will help spur expansion.” and the $1 billion Boundary Dam coal • BC is facing the retirement of 34,000 Newfoundland and Labrador seeing power station. Construction on the new workers – and the arrival of major higher requirements from ongoing oil MICHAEL GABERT resource and infrastructure projects that ASSOCIATE DIRECTOR and gas and shipbuilding projects. will drive employment along with a surge in housing – and competition for skilled trades – to an all time high by 2017.

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ESCALATION SUMMARY Mobility is key for meeting rising labour 2014 : 1-2% demand 2015 : 0-2% 2016 : 1-2% 2015 will provide respite before competition Saskatchewan for skilled trades ratchets up.

Canada’s construction industry has been phenomenally successful. It has hired 600,000 new workers over the past 18 years – a growth rate of 86%. Now a record 1.3 Mining, infrastructure million Canadians – 1 in 14 – make their living and residential activity working in the construction industry. create balanced But forecasts say that won’t be enough to workloads meet the anticipated demand for labour as up to 210,000 older, more experienced workers leave the workforce for retirement over the fter a modest 2014 following Regina Wastewater Treatment Plant next decade. This exodus will contribute to a started over the summer; it’s slated for • Alberta needs to replace 37,000 retiring In addition to trades training, a key to meeting Preliminary Construction a string of high growth years, projected shortfall of more than 100,000 new Investment Projection for 2015 completion at the end of 2016. workers in the long term even though the longer-term demand for skilled labour Saskatchewan is expected to workers. in $ billions Source: Buildforce Arebound in 2015, with healthy crop demand for skilled trades – and the need will be the mobility of the workforce. Labour yields expected to offset the squeeze for non-resident labour -- should ease in requirements will shift back and forth across 0 5 10 The combination of this shortfall with a from lower oil prices. A lacklustre Overall, the government will spend the short term. different geographic markets and sectors fat pipeline of massive projects in energy, Maintenance performance in agriculture (following $2.9 billion on infrastructure projects, • Saskatchewan will see a shift away from over the next decade. ranging from power generation facilities mining and infrastructure underway or in 1.5b bumper crops in 2013) and low potash big projects and housing to commercial prices slowed the pace in 2014, to telecommunications networks to the planning stages across the country will Residential/ Renovation and institutional building; 19% of the but ongoing mining, pipeline and schools to highways to hospitals. intensify competition as projects progress 2.9b workforce heading for retirement needs infrastructure projects will help keep SaskTel will spend $355 million to over the next decade. For 2015, cyclical expand its wireless network in rural to be replaced. Non-Residential construction levels steady this year. dampening of commodity prices, uncertainty areas. Another $200 million is marked • Manitoba’s major hydro projects are 2.3b Growing global demand for potash over land claims, and the dip in oil prices will add momentum to the non-energy for highway and bridge projects. generating high demand for select will see some projects delayed or scaled Engineering/Infrastructure mining sector. skilled trades – and after a pause in back. These recalibrations and the general 4b Net in-migration of 12,900 people is 2015, that will increase with a new round pullback in residential building will provide At 4.3%, the province’s unemployment projected in 2014, before slowing to of projects after 2016. Up to 21% of the 11,300 in 2015. Housing starts will follow some respite over the next year, with a will continue to be the lowest of any province’s construction workforce is a similar downward trend with 8,400 limited recovery in non-residential building province. There are 15 projects valued retiring. at more than $30 billion underway in the forecast for 2014 and 7,700 in 2015. Bank starting in 2016. • Quebec is seeing a pause in labour mining sector, and another 20 projects projections call for GDP to range from 2.6% to 2.8% in 2015. employment after an extended valued at $5 billion in oil and gas and Here’s a preview of where and when labour pipeline expansion. Some major projects boom. The pause is due to reduced demand will shift in 2015 and beyond: “After a modest 2014 following have already peaked and are starting to residential demand, completion of several years of record growth in wind down. major infrastructure projects, and major • Ontario’s massive infrastructure nearly ever sector, Saskatchewan hydro projects passing their peak labour will rebound in 2015 despite the Major infrastructure projects underway projects drive current demand; longer- demand. squeeze from low oil prices. Growing include the Children’s Hospital of term resource and power projects will • Atlantic Canada can expect weak global demand for potash and Saskatchewan, the Regina Football accelerate demand as up to 25% of the demand in New Brunswick and Prince continuing growth in agricultural Stadium, Regina Highway Bypass Project province’s workforce retires. Edward Island, with Nova Scotia and production will help spur expansion.” and the $1 billion Boundary Dam coal • BC is facing the retirement of 34,000 Newfoundland and Labrador seeing power station. Construction on the new workers – and the arrival of major higher requirements from ongoing oil MICHAEL GABERT resource and infrastructure projects that ASSOCIATE DIRECTOR and gas and shipbuilding projects. will drive employment along with a surge in housing – and competition for skilled trades – to an all time high by 2017.

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ESCALATION SUMMARY Making the most of modular construction 2014 : 1-2%

uebec is another beneficiary billion Romaine hydro project Complex Factory-built homes alone accounted for of lower oil prices and a lower (hydroelectric) leads the way, with a Preliminary Construction Investment Projection for 2015 11% of all the single-family homes started loonie. They will be a shot in planned new power line – valued at $1.1 in $ billions Source: Buildforce in 2012 , up from roughly 3% to 4% in 2000. Qthe arm to what has been sluggish billion – to meet the growing demand for Part of the reason is that advances in growth and sweeten the outlook for electricity north of Montréal. 0 10 20 As with any construction method, there are • Modular construction is best suited technology have enabled more innovative both residential and non-residential some issues, such as: where unit absorption rates are Maintenance designs on the factory floor that have building for industrial, commercial, and Total net migration is expected to reach expected to be high. 7.3b helped to make modular building more institutional sectors in 2015. Ongoing 34,262 people in 2014 and rise to 39,000 • Size limitations of modular units due • Depending on the procurement and proposed major engineering people in 2015. This increase will have a Residential/ Renovation attractive – and more competitive. to transportation. method, lenders may require projects, including bridges, roadwork, positive impact on demand in Quebec’s 19.5b • Cost savings from labour efficiency additional security, information, port infrastructure, transit, mines, and rental market as well as support the While the names may differ, the methods Non-Residential gains can be offset by transportation coverages, and measures to be in electric power generation, will provide residential building sector, with housing all involve off-site fabrication of building 9.5b costs. place due to deposits and storage of a solid base on which construction can starts projected to rise slightly from components, from window frames expand. 38,200 in 2014 to 39,000 in 2015. • Potential for construction delay from units off site. Engineering/Infrastructure right up to pre-cast concrete structural damage during delivery and on-site 13.6b elements. The items manufactured off- The Quebec government has maintained Major commercial projects underway installation. The modular method has shown itself site are then delivered when work on the overall level of investment in the in Montréal include the $800-million • Large volumes of manufacturing for to be particularly well suited to student site has progressed to the installation Quebec Infrastructure Plan, with Deloitte Tower, scheduled for completion both individual projects and greater accommodation or budget hotels, which infrastructure spending increasing to in 2015, and the 50-storey Tour des stage. An entire modular unit can even be industry adoption needed to realize are typically built when a high occupancy $11.5 billion in 2014-2015, from $10.7 Canadiens, due in 2016. Over the next delivered to site, complete from framing higher cost savings. absorption rate is more or less assured. billion in 2013-2014. Major transportation five years, however, the retail sector to internal finishes, including mechanical • Need for strict control of tolerances projects moving forward include the $5 in Montréal is expected to undergo and electrical installations and mounted on site. High-rise residential apartments or billion St. Lawrence Crossing to replace a significant transformation in the cabinets and millwork. the crumbling Champlain Bridge, downtown core with St. Catherine Street • Less flexible design compared to commercial spaces have an absorption the $3.7 billion rebuild of the Turcot forecast to be completely transformed traditional construction. rate or a timeline to get to full occupancy. The key advantages of the modular Interchange, and a $1.5 billion extension over the next five years. • Need for design teams to be familiar Since both contain some element of tenant approach are: of the Métro in Montréal’s east end, as with the method and process, and to customization, creating a standard unit well as port and river infrastructure in Overall, Quebec’s diversified export be involved as early as possible. only slows down the absorption rate. various locations. sector is expected to strengthen • Decreased construction time on site, significantly with a lower loonie and on-site running costs, and material There are also financial considerations More widespread adoption of modular Plan Nord, which aims to stimulate the stronger demand from the United waste. when undertaking a modular building construction will require volume orders economic, social and environmental States resurgence in manufacturing • Increased quality – and cost control “New transportation and ongoing project: that will enable the economics of scale that development of northern Quebec, is and exports should translate to greater from fabrication in a controlled also moving ahead with work on road business investment and increased energy projects will keep Quebec will reduce costs. Developers and building environment. infrastructure to improve access for investment in non- residential on an even keel. Expect a boost in • Cashflow varies significantly from the contractors working with traditional • A safer work environment. resource development. Major new mine construction after 2015. other non-residential building from standard construction project. methods will need to adapt their business developments include the $752 million new business investment spurred by • Modular suppliers can require models to deliver the full benefits of Stornoway diamond mine, two iron ore Bank forecasts for Quebec’s 2015 increased exports to the U.S.” deposits prior to final design and modular building to their clients. mines, Aupaluk and Kemag valued at $7 economic growth range from 1.5% to 2%. again prior to manufacture. billion. ANTONIO NIRO DIRECTOR In the energy sector, the ongoing $6.5

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ESCALATION SUMMARY Making the most of modular construction 2014 : 1-2%

2015 : 1-3% There has been a growing expansion in 2016 : 2-3% the use of modular construction methods Quebec across Canada for homes – especially rental homes, and other residential applications such as employee housing, student accommodation and budget hotels. The need for employee housing for large energy and resource projects in remote Lower oil and loonie boost areas across Canada — especially in the Quebec’s prospects North — has been a particularly strong driver of modular construction. uebec is another beneficiary billion Romaine hydro project Complex Factory-built homes alone accounted for of lower oil prices and a lower (hydroelectric) leads the way, with a Preliminary Construction Investment Projection for 2015 11% of all the single-family homes started loonie. They will be a shot in planned new power line – valued at $1.1 in $ billions Source: Buildforce in 2012 , up from roughly 3% to 4% in 2000. Qthe arm to what has been sluggish billion – to meet the growing demand for Part of the reason is that advances in growth and sweeten the outlook for electricity north of Montréal. 0 10 20 As with any construction method, there are • Modular construction is best suited technology have enabled more innovative both residential and non-residential some issues, such as: where unit absorption rates are Maintenance designs on the factory floor that have building for industrial, commercial, and Total net migration is expected to reach expected to be high. 7.3b helped to make modular building more institutional sectors in 2015. Ongoing 34,262 people in 2014 and rise to 39,000 • Size limitations of modular units due • Depending on the procurement and proposed major engineering people in 2015. This increase will have a Residential/ Renovation attractive – and more competitive. to transportation. method, lenders may require projects, including bridges, roadwork, positive impact on demand in Quebec’s 19.5b • Cost savings from labour efficiency additional security, information, port infrastructure, transit, mines, and rental market as well as support the While the names may differ, the methods Non-Residential gains can be offset by transportation coverages, and measures to be in electric power generation, will provide residential building sector, with housing all involve off-site fabrication of building 9.5b costs. place due to deposits and storage of a solid base on which construction can starts projected to rise slightly from components, from window frames expand. 38,200 in 2014 to 39,000 in 2015. • Potential for construction delay from units off site. Engineering/Infrastructure right up to pre-cast concrete structural damage during delivery and on-site 13.6b elements. The items manufactured off- The Quebec government has maintained Major commercial projects underway installation. The modular method has shown itself site are then delivered when work on the overall level of investment in the in Montréal include the $800-million • Large volumes of manufacturing for to be particularly well suited to student site has progressed to the installation Quebec Infrastructure Plan, with Deloitte Tower, scheduled for completion both individual projects and greater accommodation or budget hotels, which infrastructure spending increasing to in 2015, and the 50-storey Tour des stage. An entire modular unit can even be industry adoption needed to realize are typically built when a high occupancy $11.5 billion in 2014-2015, from $10.7 Canadiens, due in 2016. Over the next delivered to site, complete from framing higher cost savings. absorption rate is more or less assured. billion in 2013-2014. Major transportation five years, however, the retail sector to internal finishes, including mechanical • Need for strict control of tolerances projects moving forward include the $5 in Montréal is expected to undergo and electrical installations and mounted on site. High-rise residential apartments or billion St. Lawrence Crossing to replace a significant transformation in the cabinets and millwork. the crumbling Champlain Bridge, downtown core with St. Catherine Street • Less flexible design compared to commercial spaces have an absorption the $3.7 billion rebuild of the Turcot forecast to be completely transformed traditional construction. rate or a timeline to get to full occupancy. The key advantages of the modular Interchange, and a $1.5 billion extension over the next five years. • Need for design teams to be familiar Since both contain some element of tenant approach are: of the Métro in Montréal’s east end, as with the method and process, and to customization, creating a standard unit well as port and river infrastructure in Overall, Quebec’s diversified export be involved as early as possible. only slows down the absorption rate. various locations. sector is expected to strengthen • Decreased construction time on site, significantly with a lower loonie and on-site running costs, and material There are also financial considerations More widespread adoption of modular Plan Nord, which aims to stimulate the stronger demand from the United waste. when undertaking a modular building construction will require volume orders economic, social and environmental States resurgence in manufacturing • Increased quality – and cost control “New transportation and ongoing project: that will enable the economics of scale that development of northern Quebec, is and exports should translate to greater from fabrication in a controlled also moving ahead with work on road business investment and increased energy projects will keep Quebec will reduce costs. Developers and building environment. infrastructure to improve access for investment in non- residential on an even keel. Expect a boost in • Cashflow varies significantly from the contractors working with traditional • A safer work environment. resource development. Major new mine construction after 2015. other non-residential building from standard construction project. methods will need to adapt their business developments include the $752 million new business investment spurred by • Modular suppliers can require models to deliver the full benefits of Stornoway diamond mine, two iron ore Bank forecasts for Quebec’s 2015 increased exports to the U.S.” deposits prior to final design and modular building to their clients. mines, Aupaluk and Kemag valued at $7 economic growth range from 1.5% to 2%. again prior to manufacture. billion. ANTONIO NIRO DIRECTOR In the energy sector, the ongoing $6.5

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ESCALATION ESCALATION SUMMARY SUMMARY

2014 : 1-2% Manitoba Atlantic 2014 : 1-2% 2015 : 1-2% 2015 : 0-2% 2016 : 2-3% Region 2016 : 0-2%

Manitoba powers up with Slower economic growth massive energy projects lowers expectations for building number of major energy and Leading the way in downtown tlantic Canada set another Gas Tax Fund, which together will deliver Preliminary Construction mining projects are the driving commercial projects are the $180 million investment record in 2014 with $440 million to the province to improve Preliminary Construction Investment Projection for 2015 force in construction in Manitoba. RBC Convention Centre expansion, the 439 projects worth $122 billion, infrastructure. Bank GDP growth Investment Projection for 2015 AAltogether, investment in engineering 21-storey Glasshouse Lofts residential Aa 7% increase over the previous year. forecasts for 2015 range from 0.8% to in $ billions Source: Buildforce in $ billions Source: Buildforce construction is projected to rise 26% tower, and the proposed $150 million, Annual spending on major projects 1.2%. 0 5 10 0 5 10 from 2014 to 2015. Both engineering and 54-storey SkyCentre office tower, which in the region was also on the rise, up Maintenance ICI construction – especially industrial would be the city’s tallest. about 8% to a record $15 billion for the Nova Scotia Maintenance 1.1b – remain well above historical levels of year, with Newfoundland and Labrador 2.2b activity. The province’s economic growth leading the pack. Even with the increase, Natural gas production will fuel Residential/ Renovation should get a boost from the lower overall slower economic growth in the expansion of Nova Scotia’s economy Residential/ Renovation 2.8b The major energy projects include the loonie that reduces the cost of exports region has led to a fall off in forecast forecast to grow at between 1.2% and 4.7b $6.2 billion Keeyask Generating Station, to a strengthening U.S economy. A construction spending for 2015. Net 2% in 2015. The ongoing $300 million Non-Residential expansion at the Halifax shipyard will Non-Residential 1.8b the $3.5 billion Bipole Transmission rebound in manufacturing will spur in-migration in the region – except 3b Line, and the $1.6 billion Wuskwatim construction – as will continued positive for Newfoundland and Labrador – is see it ready to start building navy Engineering/Infrastructure hydroelectric dam. However, other net in-migration, which is projected to projected to come in at or near zero, combat ships in mid-2015, giving the Engineering/Infrastructure construction industry, and the economy, 3.9b economic mainstays such as metal moderate to 9,200 in 2014 and 9,100 in and expectations for growth in new 9.3b mining will see little growth and crop 2015. Housing starts are expected to residential building are equally weak. a welcome boost. Construction continues production is expected to decline this decline slightly from 6,700 for 2014 to at a mixed-use development at King’s year. 6,500 for 2015. The impact of workers returning to the Wharf on the Dartmouth waterfront, region from Alberta and Saskatchewan and the $500 million Nova Centre is Manitoba’s increased public in the wake of oil patch project scheduled for completion in 2015. infrastructure spending is providing cancellations may generate housing stimulus to the economy, supporting demand – and swell the construction Newfoundland and bank growth forecasts of between of workforce. Labrador 2.1% and 2.8% for 2015. In spring 2014, Newfoundland and Labrador’s economic the Manitoba government announced New Brunswick – and construction -- growth slowed details of its five-year, $5.5 billion substantially in 2014 as capital spending infrastructure-spending plan. Construction levels across the board will dip slightly in 2015 and are then expected levels eased and oil production remained steady. Lower oil prices may reduce the The province will spend $3.7 billion over to rebound sharply in 2016, lifted by the previous GDP growth forecast of 1.5% five years on highways, bridges, and Energy East Pipeline and associated for 2015. The oil price impact may have a critical transportation infrastructure, marine facilities. Overall GDP growth ripple effect that leads to lower overall and more than $300 million on flood is forecast at between 1.0% and 1.9% in 2015 as the natural resource sector, a construction levels. protection and water quality projects. “A 26% jump in investment in major economic driver, waits for the U.S. Municipal infrastructure investment will engineering construction from 2014 recovery to gain strength. average over $300 million a year for five to 2015, a surging industrial sector, “Even with record investment, the years, for a total of $1.5 billion. multiple major new infrastructure lower oil price, slower economic projects and strong commercial Prince Edward Island growth and near zero in-migration One of the province’s longer-term activity will give construction in The Atlantic Provinces Economic Council will see Atlantic Canada experience infrastructure projects is the $3 billion Manitoba a power surge for several has identified $2.1 billion dollars worth an overall fall-off in construction East Side Transportation Initiative that years.” of upcoming investment projects in the spending in 2015.” will see 1,028 km of all-season road province for 2015, up 10% over 2014. built connecting the east side of Lake ALISTAIR DEARIE DAVID LAI PARTNER Public investment will get a boost from DIRECTOR Winnipeg, and eastern Manitoba in the New Building Canada Fund and the general, with the wider road network.

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ESCALATION ESCALATION SUMMARY SUMMARY

2014 : 1-2% Manitoba Atlantic 2014 : 1-2% 2015 : 1-2% 2015 : 0-2% 2016 : 2-3% Region 2016 : 0-2%

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United States

BTY expansion into U.S. U.S. has potential to become world’s has only just begun largest market for P3 projects

ive years ago BTY made what some Leading BTY’s operations and the fall 2014 report from Moody’s more rapidly. The first is the need to might call a risky bet. It committed new office in Phoenix, AZ is Director Investors Service says the U.S. has upgrade, replace or build out essential to entering the U.S. market by Ryan Brady. He brings 16 years of U.S. strong potential to become the infrastructure assets; the second is F and international experience in the offering its services on P3 projects, A world’s largest market for P3 projects. the inability of governments to finance then a relative rarity there compared to industry, with expertise in project and The firm’s Global P3 Landscape report these current and future infrastructure the Canadian industry, and did so at the construction management, cost and risk height of the financial crisis. management, and technical advisory notes the sheer size of the country’s investments entirely on their balance services for P3 projects. infrastructure and growing urban sheets. Careful risk analysis and patience population – in conjunction with an have proved it to be a well-timed Supporting Ryan, and working out “With 37 states having passed increased willingness of state governments The use of the P3 model has been steadily “The strengthening recovery in the investment. Today the firm has 15 major of the Los Angeles office, is BTY’s legislation enabling P3s, to use the P3 model - are creating increasing in the U.S. over the last five U.S. is driving strong growth in both infrastructure assignments live in nine Business Development Manager for expect to see more projects in strong momentum for the procurement years, with a strong history of using the residential and non-residential states (two of which achieved financial the U.S., Janine Fisher. She has 15 both transportation and social model. The strong resurgence of the U.S. toll, or demand-risk model. In this P3 type, building sectors, with 12 of the 20 close in the last year), two offices (Los years of experience providing Lenders’ infrastructure across the country.” economy – spurred in part by becoming the the private developer is paid back through fastest growing types of companies Angeles and Phoenix), and a healthy Services for residential and commercial world’s top oil producer – also supports user fees it has been granted to collect. tied to the construction industry.” appetite for further expansion. developments. RYAN BRADY DIRECTOR the availability of the financial resources This fee-for-service model transfers JANINE FISHER At first BTY partnered with other BTY aims to build on Ryan’s and Janine’s needed to undertake the kinds of large performance risk to the private developer. BUSINESS DEVELOPMENT MANAGER Canadian firms participating in US P3s. expertise – and its successes in P3s - infrastructure projects that are so well Now we are developing relationships to seek out new projects and partners suited for the P3 model. More states are authorizing the use of directly with major US construction firms in new sectors as part of its planned P3s for transportation projects, which are and project proponents. Most projects expansion. The expectation is that the There are now 37 states that have passed typically the first type of P3 project in a new have been in the transportation sector, investment made in the trough of the enabling legislation for P3s. Colorado, market. Over the past 12 months, traction as they are often the most attractive crisis will bear healthy dividends as the Florida, Texas and Indiana have the most in the social infrastructure project space for public agencies entering the P3 U.S. construction industry embraces robust P3 programs, with multiple projects has also started to take hold, with projects market for the first time. Highway and the P3 model, and the industry overall transit developments have led the way, continues to recover and return to full in each state. California, Pennsylvania, such as the Long Beach Civic Centre, the with aviation developments gaining strength. Kentucky, Maryland, Michigan, Nevada, Indianapolis Justice Complex and Houston momentum. Arizona, and Oregon all have P3 Projects at Justice Facility hitting the street. varying stages of procurement. As the P3 model also gains favour for But the market for availability-payment building new social infrastructure, BTY While New York and New Jersey do not P3s in the US is also expanding, according is finding that its proven track record have P3 legislation, the Port Authority of to The Moody’s report. In this type of in justice and public safety is helping New York & New Jersey does have special P3, payment to the private developer is it win new projects in this sector, most dispensation to use the model, and is using made as long as the asset is available frequently in the role of Lenders’ and meets specific performance criteria. Technical Advisor. In fact, no other firm it for the Goethals Bridge and LaGuardia in either the U.S or Canada has fulfilled Airport Central Terminal Building The payments cover operating and the role of Technical Advisor on more P3 Replacement Projects. maintenance costs, as well as debt service projects since 2013. on borrowings to pay for construction The report explains that there are costs. More P3 availability payment two inter-related trends at work that projects are reaching financial close or are could cause P3 activity to expand even in procurement than ever before.

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REGIONAL SNAPSHOTS

United States

BTY expansion into U.S. U.S. has potential to become world’s has only just begun largest market for P3 projects ive years ago BTY made what some Leading BTY’s operations and the fall 2014 report from Moody’s more rapidly. The first is the need to might call a risky bet. It committed new office in Phoenix, AZ is Director Investors Service says the U.S. has upgrade, replace or build out essential to entering the U.S. market by Ryan Brady. He brings 16 years of U.S. strong potential to become the infrastructure assets; the second is F and international experience in the offering its services on P3 projects, A world’s largest market for P3 projects. the inability of governments to finance then a relative rarity there compared to industry, with expertise in project and The firm’s Global P3 Landscape report these current and future infrastructure the Canadian industry, and did so at the construction management, cost and risk height of the financial crisis. management, and technical advisory notes the sheer size of the country’s investments entirely on their balance services for P3 projects. infrastructure and growing urban sheets. Careful risk analysis and patience population – in conjunction with an have proved it to be a well-timed Supporting Ryan, and working out “With 37 states having passed increased willingness of state governments The use of the P3 model has been steadily “The strengthening recovery in the investment. Today the firm has 15 major of the Los Angeles office, is BTY’s legislation enabling P3s, to use the P3 model - are creating increasing in the U.S. over the last five U.S. is driving strong growth in both infrastructure assignments live in nine Business Development Manager for expect to see more projects in strong momentum for the procurement years, with a strong history of using the residential and non-residential states (two of which achieved financial the U.S., Janine Fisher. She has 15 both transportation and social model. The strong resurgence of the U.S. toll, or demand-risk model. In this P3 type, building sectors, with 12 of the 20 close in the last year), two offices (Los years of experience providing Lenders’ infrastructure across the country.” economy – spurred in part by becoming the the private developer is paid back through fastest growing types of companies Angeles and Phoenix), and a healthy Services for residential and commercial world’s top oil producer – also supports user fees it has been granted to collect. tied to the construction industry.” appetite for further expansion. developments. RYAN BRADY DIRECTOR the availability of the financial resources This fee-for-service model transfers JANINE FISHER At first BTY partnered with other BTY aims to build on Ryan’s and Janine’s needed to undertake the kinds of large performance risk to the private developer. BUSINESS DEVELOPMENT MANAGER Canadian firms participating in US P3s. expertise – and its successes in P3s - infrastructure projects that are so well Now we are developing relationships to seek out new projects and partners suited for the P3 model. More states are authorizing the use of directly with major US construction firms in new sectors as part of its planned P3s for transportation projects, which are and project proponents. Most projects expansion. The expectation is that the There are now 37 states that have passed typically the first type of P3 project in a new have been in the transportation sector, investment made in the trough of the enabling legislation for P3s. Colorado, market. Over the past 12 months, traction as they are often the most attractive crisis will bear healthy dividends as the Florida, Texas and Indiana have the most in the social infrastructure project space for public agencies entering the P3 U.S. construction industry embraces robust P3 programs, with multiple projects has also started to take hold, with projects market for the first time. Highway and the P3 model, and the industry overall transit developments have led the way, continues to recover and return to full in each state. California, Pennsylvania, such as the Long Beach Civic Centre, the with aviation developments gaining strength. Kentucky, Maryland, Michigan, Nevada, Indianapolis Justice Complex and Houston momentum. Arizona, and Oregon all have P3 Projects at Justice Facility hitting the street. varying stages of procurement. As the P3 model also gains favour for But the market for availability-payment building new social infrastructure, BTY While New York and New Jersey do not P3s in the US is also expanding, according is finding that its proven track record have P3 legislation, the Port Authority of to The Moody’s report. In this type of in justice and public safety is helping New York & New Jersey does have special P3, payment to the private developer is it win new projects in this sector, most dispensation to use the model, and is using made as long as the asset is available frequently in the role of Lenders’ and meets specific performance criteria. Technical Advisor. In fact, no other firm it for the Goethals Bridge and LaGuardia in either the U.S or Canada has fulfilled Airport Central Terminal Building The payments cover operating and the role of Technical Advisor on more P3 Replacement Projects. maintenance costs, as well as debt service projects since 2013. on borrowings to pay for construction The report explains that there are costs. More P3 availability payment two inter-related trends at work that projects are reaching financial close or are could cause P3 activity to expand even in procurement than ever before.

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153 APPENDIX

Cost Data Parameters Comparison

BTY Group has been publishing the annual Market Intelligence Report and a comparison of Cost Note: The unit rates reflect hard construction costs, including general requirements and fees, and Data Parameters since 2003. The Cost Data includes unit rates for select project categories, excluding site works and tenant improvements. Variances in unit rates and escalation will occur due to based on in-house data surveyed on a provincial level, and tendered data where available. The the remoteness of some regions and prevailing local market conditions. Construction costs can also be affected by a multitude of factors that may not be limited to market conditions. comparison provides actual data for 2014 and forecast data for 2015, using escalation levels generated by BTY Group. BTY Group strongly recommends that readers seek the advice of a Professional Quantity Surveyor (PQS) prior to establishing a budget for their specific projects.

PROJECT CATEGORY PROJECT CATEGORY BRITISH COLUMBIA BRITISH COLUMBIA ALBERTA ALBERTA SASKATCHEWAN SASKATCHEWAN ONTARIO ONTARIO QUEBEC QUEBEC 2014 2014 2015 2015 2014 2014 2015 2015 2014 2014 2015 2015 2014 2014 2015 2015 2014 2014 2015 2015 $/m² $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/sq.ft$/m² $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/m² $/sq.ft $/sq.ft $/m² $/sq.ft Health Care Health Care Residential Care Residential Care2,300 - 2,530 214 - 2352,300 - 2,3302,530 - 2,570214 - 235216 - 2392,330 - 2,5702,550 - 2163,080- 239 237 - 2862,550 - 2,5903,080 - 3,130237 - 286241 - 2912,590 - 3,130 2412,600- 291- 3,000 242 - 2792,600 - 2,6403,000 - 3,050242 - 279245 - 2832,640 - 3,0502,430 - 2452,760- 283 226 - 2562,430 - 2,5002,760 - 2,840226 - 256232 - 2642,500 - 2,8402,500 - 2322,840- 264 232 - 2642,500 - 2,5502,840 - 2,900232 - 264237 - 2692,550 - 2,900 237 - 269 Ambulatory Care Ambulatory Care4,510 - 4,680 419 - 4354,510 - 4,5804,680 - 4,750419 - 435425 - 4414,580 - 4,7504,580 - 4255,000- 441 425 - 4654,580 - 4,6505,000 - 5,080425 - 465432 - 4724,650 - 5,080 4324,690- 472- 5,560 436 - 5174,690 - 4,7605,560 - 5,640436 - 517442 - 5244,760 - 5,6404,470 - 4425,030- 524 415 - 4674,470 - 4,6005,030 - 5,180415 - 467427 - 4814,600 - 5,1804,600 - 4275,120- 481 427 - 4764,600 - 4,6905,120 - 5,220427 - 476436 - 4854,690 - 5,220 436 - 485 Acute Care Acute Care 5,400 - 6,000 502 - 5575,400 - 5,4806,000 - 6,090502 - 557509 - 5665,480 - 6,0905,900 - 5096,890- 566 548 - 6405,900 - 5,9906,890 - 6,990548 - 640556 - 6495,990 - 6,990 5565,560- 649- 6,600 517 - 6135,560 - 5,6406,600 - 6,700517 - 613524 - 6225,640 - 6,7005,810 - 5246,250- 622 540 - 5815,810 - 5,9806,250 - 6,440540 - 581556 - 5985,980 - 6,4405,000 - 5566,390- 598 465 - 5945,000 - 5,1006,390 - 6,520465 - 594474 - 6065,100 - 6,520 474 - 606

Laboratories Laboratories Research Labroratories Research Labroratories5,680 - 6,310 528 - 5865,680 - 5,7706,310 - 6,400528 - 586536 - 5955,770 - 6,4006,150 - 5366,810- 595 571 - 6336,150 - 6,2406,810 - 6,910571 - 633580 - 6426,240 - 6,910 5806,400- 642- 7,400 595 - 6876,400 - 6,5007,400 - 7,510595 - 687604 - 6986,500 - 7,5106,040 - 6046,820- 698 561 - 6346,040 - 6,2206,820 - 7,020561 - 634578 - 6526,220 - 7,0206,090 - 5786,990- 652 566 - 6496,090 - 6,2106,990 - 7,130566 - 649577 - 6626,210 - 7,130 577 - 662 Teaching Laboratories Teaching Laboratories4,420 - 4,900 411 - 4554,420 - 4,4904,900 - 4,970411 - 455417 - 4624,490 - 4,9705,020 - 4175,840- 462 466 - 5435,020 - 5,1005,840 - 5,930466 - 543474 - 5515,100 - 5,930 4745,200- 551- 5,780 483 - 5375,200 - 5,2805,780 - 5,870483 - 537491 - 5455,280 - 5,8705,100 - 4915,860- 545 474 - 5445,100 - 5,2505,860 - 6,040474 - 544488 - 5615,250 - 6,0405,050 - 4886,010- 561 469 - 5585,050 - 5,1506,010 - 6,130469 - 558478 - 5695,150 - 6,130 478 - 569 Animal Research Animal Research7,200 - 8,000 669 - 7437,200 - 7,3108,000 - 8,120669 - 743679 - 7547,310 - 8,1207,310 - 6798,000- 754 679 - 7437,310 - 7,4208,000 - 8,120679 - 743689 - 7547,420 - 8,120 6898,300- 754- 8,700 771 - 8088,300 - 8,4208,700 - 8,830771 - 808782 - 8208,420 - 8,8306,020 - 7827,870- 820 559 - 7316,020 - 6,2007,870 - 8,110559 - 731576 - 7536,200 - 8,1106,190 - 5768,110- 753 575 - 7536,190 - 6,3108,110 - 8,270575 - 753586 - 7686,310 - 8,270 586 - 768

High-rise Residential High-rise Residential Rental Units Rental Units 2,050 - 2,610 190 - 2422,050 - 2,0702,610 - 2,640190 - 242192 - 2452,070 - 2,6402,100 - 1922,650- 245 195 - 2462,100 - 2,1202,650 - 2,680195 - 246197 - 2492,120 - 2,680 1972,100- 249- 2,650 195 - 2462,100 - 2,1202,650 - 2,680195 - 246197 - 2492,120 - 2,6802,000 - 1972,300- 249 186 - 2142,000 - 2,0502,300 - 2,360186 - 214190 - 2192,050 - 2,3601,800 - 1902,300- 219 167 - 2141,800 - 1,8202,300 - 2,320167 - 214169 - 2161,820 - 2,320 169 - 216 Market Units Mid End SpecificationsMarket Units Mid2,370 End Specifications- 3,010 220 - 2802,370 - 2,3903,010 - 3,040220 - 280222 - 2822,390 - 3,0402,420 - 2223,100- 282 225 - 2882,420 - 2,4403,100 - 3,130225 - 288227 - 2912,440 - 3,130 2272,420- 291- 3,100 225 - 2882,420 - 2,4403,100 - 3,130225 - 288227 - 2912,440 - 3,1302,300 - 2272,800- 291 214 - 2602,300 - 2,3602,800 - 2,870214 - 260219 - 2672,360 - 2,8702,200 - 2192,800- 267 204 - 2602,200 - 2,2202,800 - 2,830204 - 260206 - 2632,220 - 2,830 206 - 263 Market Units High End SpecificationsMarket Units High2,830 End Specifications- 3,600 263 - 3342,830 - 2,8603,600 - 3,640263 - 334266 - 3382,860 - 3,6402,790 - 2663,620- 338 259 - 3362,790 - 2,8203,620 - 3,660259 - 336262 - 3402,820 - 3,660 2622,790- 340- 3,620 259 - 3362,790 - 2,8203,620 - 3,660259 - 336262 - 3402,820 - 3,6602,800 - 2624,120- 340 260 - 3832,800 - 2,8704,120 - 4,220260 - 383267 - 3922,870 - 4,2202,700 - 2674,000- 392 251 - 3722,700 - 2,7304,000 - 4,040251 - 372254 - 3752,730 - 4,040 254 - 375

Low & Mid-rise Residential Low & Mid-rise Residential Rental Units Rental Units 1,270 - 1,650 118 - 1531,270 - 1,2801,650 - 1,670118 - 153119 - 1551,280 - 1,6701,290 - 1,700119 - 155 120 - 1581,290 - 1,3001,700 - 1,720120 - 158121 - 1601,300 - 1,720 1211,290- 160- 1,700 120 - 1581,290 - 1,3001,700 - 1,720120 - 158121 - 1601,300 - 1,7201,200 - 1211,420- 160 111 - 1321,200 - 1,2201,420 - 1,450111 - 132113 - 1351,220 - 1,4501,200 - 1,420113 - 135 111 - 1321,200 - 1,2101,420 - 1,430111 - 132112 - 1331,210 - 1,430 112 - 133 Market Units Mid End SpecificationsMarket Units Mid1,420 End Specifications- 2,000 132 - 1861,420 - 1,4302,000 - 2,020132 - 186133 - 1881,430 - 2,0201,500 - 1332,100- 188 139 - 1951,500 - 1,5202,100 - 2,120139 - 195141 - 1971,520 - 2,120 1411,500- 197- 2,100 139 - 1951,500 - 1,5202,100 - 2,120139 - 195141 - 1971,520 - 2,1201,300 - 1411,650- 197 121 - 1531,300 - 1,3301,650 - 1,680121 - 153124 - 1561,330 - 1,6801,300 - 1241,650- 156 121 - 1531,300 - 1,3101,650 - 1,670121 - 153122 - 1551,310 - 1,670 122 - 155 Market Units High End SpecificationsMarket Units High1,850 End Specifications- 2,280 172 - 2121,850 - 1,8702,280 - 2,300172 - 212174 - 2141,870 - 2,3001,950 - 1742,400- 214 181 - 2231,950 - 1,9702,400 - 2,420181 - 223183 - 2251,970 - 2,420 1831,950- 225- 2,400 181 - 2231,950 - 1,9702,400 - 2,420181 - 223183 - 2251,970 - 2,4201,760 - 1832,100- 225 164 - 1951,760 - 1,8002,100 - 2,140164 - 195167 - 1991,800 - 2,1401,700 - 1672,100- 199 158 - 1951,700 - 1,7202,100 - 2,120158 - 195160 - 1971,720 - 2,120 160 - 197

Townhouses (Wood Frame) Townhouses (Wood Frame) Rental Units Rental Units 1,100 - 1,350 102 - 1251,100 - 1,1101,350 - 1,360102 - 125103 - 1261,110 - 1,3601,100 - 1031,400- 126 102 - 1301,100 - 1,1101,400 - 1,410102 - 130103 - 1311,110 - 1,410 1031,100- 131- 1,400 102 - 1301,100 - 1,1101,400 - 1,410102 - 130103 - 1311,110 - 1,4101,000 - 1031,350- 131 93 - 1251,000 - 1,0201,350 - 1,38093 - 12595 - 1281,020 - 1,3801,000 - 1,35095 - 128 93 - 1251,000 - 1,0101,350 - 1,36093 - 12594 - 1261,010 - 1,360 94 - 126 Market Units Mid End SpecificationsMarket Units Mid1,300 End Specifications- 1,610 121 - 1501,300 - 1,3101,610 - 1,630121 - 150122 - 1511,310 - 1,6301,350 - 1221,650- 151 125 - 1531,350 - 1,3601,650 - 1,670125 - 153126 - 1551,360 - 1,670 1261,350- 155- 1,650 125 - 1531,350 - 1,3601,650 - 1,670125 - 153126 - 1551,360 - 1,6701,300 - 1261,610- 155 121 - 1501,300 - 1,3301,610 - 1,640121 - 150124 - 1521,330 - 1,6401,300 - 1241,610- 152 121 - 1501,300 - 1,3101,610 - 1,630121 - 150122 - 1511,310 - 1,630 122 - 151 Market Units High End SpecificationsMarket Units High1,510 End -Specifications2,200 140 - 2041,510 - 1,5302,200 - 2,220140 - 204142 - 2061,530 - 2,2201,600 - 1422,200- 206 149 - 2041,600 - 1,6202,200 - 2,220149 - 204151 - 2061,620 - 2,220 1511,600- 206- 2,200 149 - 2041,600 - 1,6202,200 - 2,220149 - 204151 - 2061,620 - 2,2201,500 - 1512,100- 206 139 - 1951,500 - 1,5302,100 - 2,140139 - 195142 - 1991,530 - 2,1401,500 - 1422,100- 199 139 - 1951,500 - 1,5202,100 - 2,120139 - 195141 - 1971,520 - 2,120 141 - 197

Shopping Centres Shopping Centres Strip Plaza Strip Plaza 950 - 1,600 88 - 149950 - 1,600960 - 1,62088 - 14989 - 151960 - 1,6201,250 - 2,00089 - 151 116 - 1861,250 - 1,2702,000 - 2,030116 - 186118 - 1891,270 - 2,030 1181,250- 189- 2,000 116 - 1861,250 - 1,2702,000 - 2,030116 - 186118 - 1891,270 - 2,030950 - 1,600118 - 189 88 - 149950 - 1,600970 - 1,63088 - 14990 - 151970 - 1,630900 - 1,50090 - 151 84 - 139900 - 1,500920 - 1,53084 - 13985 - 142920 - 1,530 85 - 142 Enclosed Mall Enclosed Mall 2,260 - 3,030 210 - 2812,260 - 2,2903,030 - 3,080210 - 281213 - 2862,290 - 3,0802,300 - 2133,000- 286 214 - 2792,300 - 2,3303,000 - 3,050214 - 279216 - 2832,330 - 3,050 2162,300- 283- 3,000 214 - 2792,300 - 2,3303,000 - 3,050214 - 279216 - 2832,330 - 3,0502,200 - 2163,000- 283 204 - 2792,200 - 2,2403,000 - 3,060204 - 279208 - 2842,240 - 3,0602,100 - 2082,900- 284 195 - 2692,100 - 2,1402,900 - 2,960195 - 269199 - 2752,140 - 2,960 199 - 275 Anchor/Department Store Anchor/Department1,990 Store- 2,420 185 - 2251,990 - 2,0202,420 - 2,460185 - 225188 - 2292,020 - 2,4602,200 - 1882,850- 229 204 - 2652,200 - 2,2302,850 - 2,890204 - 265207 - 2682,230 - 2,890 2072,200- 268- 2,850 204 - 2652,200 - 2,2302,850 - 2,890204 - 265207 - 2682,230 - 2,8901,900 - 2072,400- 268 177 - 2231,900 - 1,9402,400 - 2,450177 - 223180 - 2281,940 - 2,4501,800 - 1802,400- 228 167 - 2231,800 - 1,8402,400 - 2,450167 - 223171 - 2281,840 - 2,450 171 - 228 Supermarket Supermarket 1,450 - 1,940 135 - 1801,450 - 1,4701,940 - 1,970135 - 180137 - 1831,470 - 1,9701,740 - 1372,150- 183 162 - 2001,740 - 1,7702,150 - 2,180162 - 200164 - 2031,770 - 2,180 1641,740- 203- 2,150 162 - 2001,740 - 1,7702,150 - 2,180162 - 200164 - 2031,770 - 2,1801,400 - 1641,940- 203 130 - 1801,400 - 1,4301,940 - 1,980130 - 180133 - 1841,430 - 1,9801,200 - 1331,650- 184 111 - 1531,200 - 1,2201,650 - 1,680111 - 153113 - 1561,220 - 1,680 113 - 156 Discount Store Discount Store 1,200 - 1,540 111 - 1431,200 - 1,2201,540 - 1,560111 - 143113 - 1451,220 - 1,5601,400 - 1,800113 - 145 130 - 1671,400 - 1,4201,800 - 1,830130 - 167132 - 1701,420 - 1,830 1321,400- 170- 1,800 130 - 1671,400 - 1,4201,800 - 1,830130 - 167132 - 1701,420 - 1,8301,200 - 1321,540- 170 111 - 1431,200 - 1,2201,540 - 1,570111 - 143113 - 1461,220 - 1,5701,150 - 1,500113 - 146 107 - 1391,150 - 1,1701,500 - 1,530107 - 139109 - 1421,170 - 1,530 109 - 142

Office Office Under 5 Storeys Under 5 Storeys1,510 - 1,790 140 - 1661,510 - 1,5301,790 - 1,820140 - 166142 - 1691,530 - 1,8201,850 - 1422,800- 169 172 - 2601,850 - 1,8802,800 - 2,840172 - 260175 - 2641,880 - 2,840 1752,018- 264- 2,390 187 - 2222,018 - 2,0502,390 - 2,430187 - 222190 - 2262,050 - 2,4301,450 - 1901,750- 226 135 - 1631,450 - 1,4801,750 - 1,790135 - 163137 - 1661,480 - 1,7901,450 - 1371,750- 166 135 - 1631,450 - 1,4801,750 - 1,790135 - 163137 - 1661,480 - 1,790 137 - 166 5 - 10 Storeys 5 - 10 Storeys 1,840 - 2,390 171 - 2221,840 - 1,8702,390 - 2,430171 - 222174 - 2261,870 - 2,4302,210 - 1742,780- 226 205 - 2582,210 - 2,2402,780 - 2,820205 - 258208 - 2622,240 - 2,820 2082,260- 262- 3,450 210 - 3212,260 - 2,2903,450 - 3,500210 - 321213 - 3252,290 - 3,5001,760 - 2132,200- 325 164 - 2041,760 - 1,8002,200 - 2,240164 - 204167 - 2081,800 - 2,2401,750 - 1672,200- 208 163 - 2041,750 - 1,7902,200 - 2,240163 - 204166 - 2081,790 - 2,240 166 - 208 10 - 20 Storeys 10 - 20 Storeys 2,100 - 2,620 195 - 2432,100 - 2,1302,620 - 2,660195 - 243198 - 2472,130 - 2,6602,280 - 1982,950- 247 212 - 2742,280 - 2,3102,950 - 2,990212 - 274215 - 2782,310 - 2,990 2152,330- 278- 2,970 216 - 2762,330 - 2,3602,970 - 3,010216 - 276219 - 2802,360 - 3,0101,990 - 2192,430- 280 185 - 2261,990 - 2,0302,430 - 2,480185 - 226189 - 2302,030 - 2,4801,800 - 1892,430- 230 167 - 2261,800 - 1,8402,430 - 2,480167 - 226171 - 2301,840 - 2,480 171 - 230 20 - 30 Storeys 20 - 30 Storeys 2,420 - 3,020 225 - 2812,420 - 2,4603,020 - 3,070225 - 281229 - 2852,460 - 3,0702,590 - 2293,560- 285 241 - 3312,590 - 2,6303,560 - 3,610241 - 331244 - 3352,630 - 3,610 2442,680- 335- 3,370 249 - 3132,680 - 2,7203,370 - 3,420249 - 313253 - 3182,720 - 3,4202,420 - 2533,020- 318 225 - 2812,420 - 2,4703,020 - 3,080225 - 281229 - 2862,470 - 3,0802,280 - 2292,930- 286 212 - 2722,280 - 2,3302,930 - 2,990212 - 272216 - 2782,330 - 2,990 216 - 278

Educational Educational Elementary Schools Elementary Schools1,950 - 2,270 181 - 2111,950 - 1,9802,270 - 2,300181 - 211184 - 2141,980 - 2,3002,140 - 1842,790- 214 199 - 2592,140 - 2,1702,790 - 2,830199 - 259202 - 2632,170 - 2,830 2022,200- 263- 2,800 204 - 2602,200 - 2,2302,800 - 2,840204 - 260207 - 2642,230 - 2,8401,660 - 2071,980- 264 154 - 1841,660 - 1,7101,980 - 2,040154 - 184159 - 1901,710 - 2,0401,600 - 1591,900- 190 149 - 1771,600 - 1,6301,900 - 1,940149 - 177151 - 1801,630 - 1,940 151 - 180 Secondary Schools Secondary Schools2,090 - 2,590 194 - 2412,090 - 2,1202,590 - 2,630194 - 241197 - 2442,120 - 2,6302,250 - 1972,860- 244 209 - 2662,250 - 2,2802,860 - 2,900209 - 266212 - 2692,280 - 2,900 2122,300- 269- 2,900 214 - 2692,300 - 2,3302,900 - 2,940214 - 269216 - 2732,330 - 2,9401,760 - 2162,200- 273 164 - 2041,760 - 1,8102,200 - 2,270164 - 204168 - 2111,810 - 2,2701,700 - 1682,150- 211 158 - 2001,700 - 1,7302,150 - 2,190158 - 200161 - 2031,730 - 2,190 161 - 203 Higher Education Higher Education2,500 - 3,030 232 - 2812,500 - 2,5403,030 - 3,080232 - 281236 - 2862,540 - 3,0802,600 - 2363,520- 286 242 - 3272,600 - 2,6403,520 - 3,570242 - 327245 - 3322,640 - 3,570 2452,600- 332- 3,600 242 - 3342,600 - 2,6403,600 - 3,650242 - 334245 - 3392,640 - 3,6502,500 - 2454,000- 339 232 - 3722,500 - 2,5804,000 - 4,120232 - 372240 - 3832,580 - 4,1202,500 - 2404,000- 383 232 - 3722,500 - 2,5504,000 - 4,080232 - 372237 - 3792,550 - 4,080 237 - 379

Light Industrial Light Industrial Warehouse Warehouse 850 - 1,130 79 - 105850 - 1,130860 - 1,14079 - 10580 - 106860 - 1,1401,020 - 1,40080 - 106 95 - 1301,020 - 1,0301,400 - 1,41095 - 13096 - 1311,030 - 1,410 1,02096 - 131- 1,560 95 - 1451,020 - 1,0301,560 - 1,58095 - 14596 - 1471,030 - 1,580800 - 1,10096 - 147 74 - 102800 - 1,100820 - 1,12074 - 10276 - 104820 - 1,120800 - 1,10076 - 104 74 - 102800 - 1,100810 - 1,11074 - 10275 - 103810 - 1,110 75 - 103

Hotels Hotels Low Rise Low Rise 1,750 - 2,500 163 - 2321,750 - 1,7702,500 - 2,530163 - 232164 - 2351,770 - 2,5301,800 - 1642,500- 235 167 - 2321,800 - 1,8102,500 - 2,510167 - 232168 - 2331,810 - 2,510 1681,800- 233- 2,500 167 - 2321,800 - 1,8202,500 - 2,530167 - 232169 - 2351,820 - 2,5301,700 - 1692,300- 235 158 - 2141,700 - 1,7302,300 - 2,350158 - 214161 - 2181,730 - 2,3501,700 - 1612,300- 218 158 - 2141,700 - 1,7202,300 - 2,320158 - 214160 - 2161,720 - 2,320 160 - 216

Roads - Paving Roads - Paving $/Lane km $/Lane km$/Lane km $/Lane km $/Lane km $/Lane km$/Lane km $/Lane km $/Lane km $/Lane km$/Lane km $/Lane km $/Lane km $/Lane km$/Lane km $/Lane km $/Lane km $/Lane km$/Lane km $/Lane km Paved Highway - Linear RoadworksPaved Highway - Linear 900,000Roadworks-- 1,140,000 900,000 920,000 -- 1,140,000-- 1,160,000 920,000 -- 920,000 1,160,000-- 1,180,000 920,000 940,000 -- 1,180,000-- 1,200,000 940,000 -- 1,200,000 1,080,000 -- 1,250,000 1,080,000 1,100,000 -- 1,250,000-- 1,280,000 1,100,000 -- 900,000 1,280,000-- 1,030,000 900,000 940,000 -- 1,030,000-- 1,070,000 940,000 -- 1,130,000 1,070,000-- 1,280,000 1,130,000 1,150,000 -- 1,280,000-- 1,300,000 1,150,000 -- 1,300,000

Road Overpass Bridge StructureRoad Overpass Bridge Structure$/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² $/m² Highway Overpass StructuresHighway Overpass Structures 3,500 -- 4,900 3,500 -- 3,600 4,900-- 5,000 3,600 -- 5,000 3,600 -- 5,900 3,600 -- 3,800 5,900-- 6,200 3,800 -- 6,200 4,200 -- 6,100 4,200 -- 4,400 6,100-- 6,400 4,400 -- 6,400 3,600 -- 5,600 3,600 -- 3,700 5,600-- 5,800 3,700 -- 5,800 4,400 -- 6,400 4,400 -- 4,600 6,400-- 6,600 4,600 -- 6,600

“Adequate capacity in the non-residential sector – with increased “On the residential side, continued strong U.S. competition and lower margins among contractors – will make for recovery could generate an uptick in material modest price increases in 2015.” prices in Canada.”

NEILL MCGOWAN IAN WILKINSON PARTNER PARTNER

20 BTY Group Market Intelligence Report - Q1 2015 BTY.COM 21

154 APPENDIX

Cost Data Parameters Comparison

NEILL MCGOWAN IAN WILKINSON PARTNER PARTNER

20 BTY Group Market Intelligence Report - Q1 2015 BTY.COM 21

155