ADMINISTRATION OF THE INCOME APPROACH Brad Prchal, AMA Tim Klein, Certified General Josh Hoogland, SAMA Outline
Terms & Definitions How to find Market Rents Expenses Vacancy Cap Rates A Detailed Multi-Family Pro Forma How “They” Try to Fool You Other nuances TI’s & LC’s Termination Fees Properties with High Vacancy
TERMS, DEFINITIONS & HOW TO DETERMINE “MARKET” Income Capitalization
An appraiser analyzes a property’s capacity to generate future benefits and capitalizes the income into an indication of present value.
The principle of anticipation is fundamental to the approach. Income Capitalization
Types of Capitalization a. Direct Capitalization b. Discounted Cash Flow Analysis
Nature of the income capitalized a. Income from a single year for direct capitalization b. Income over a holding period for DCF analysis DIRECT CAPITALIZATION DEFINITION
A method used to convert an estimate of a single year’s income expectancy into an indication of value in one direct step – either by dividing the income estimate by an appropriate rate or by multiplying the income estimate by an appropriate factor. CHARACTERISTICS OF DIRECT CAPITALIZATION
Anticipated income for first year following the effective date of the appraisal.
The rate or factor selected to capitalize income….. Represents a relationship between income and value observed in the market. (V = I/R) DISCOUNTED CASH FLOW (DCF) ANALYSIS DEFINITION
The procedure in which a discount rate is applied to a set of projected income streams and a reversion. The analyst specifies the quantity, variability, timing, and duration of the income streams as well as the quantity and timing of the reversion and discounts each to its present value at a specified yield rate. CHARACTERISTICS OF DISCOUNTED CASH FLOW ANALYSIS
1. Specific cash flow identified for each year of a projected holding period including the cash flow from resale. Each cash flow is discounted at an appropriate rate. 2. Assumptions are made about expected change in income and value over the holding period. 3. Rate of return on investor’s capital is explicit in the choice of yield. 4. A terminal capitalization rate is typically projected in order to estimate the reversion. 5. Detailed provisions for expenses and capital expenditures. 6. Risk study through scenario building: best/worst/probable cases. DIRECT CAPITALIZATION VS. DCF
Which valuation method provided the most reliable indicator of value? When would it be appropriate to use direct capitalization? When would it be appropriate to use a discounted cash flow analysis?
Considerations Property Type Market Conditions Market Participants Income Capitalization Approach
General procedure to valuing property via the direct capitalization approach
Step 1: Determine market rents
Step 2: Determine and apply market vacancy and credit loss
Step 3: Determine any additional ancillary income
Step 4: Project stabilized operating expenses
Step 5: Project market capitalization rate
Step 6: Capitalize Net Operating Income Market RENT
What is Market Rent?
What is Contract Rent?
Can they be the same? Market RENT
MARKET CONTRACT
The most probable rent that a The actual rental income property should bring in a competitive and open market specified by a lease. reflecting all conditions and restrictions of the lease agreement, including permitted uses, use restrictions, expense obligations, term, concessions, renewal and purchase options, and tenant improvements (TIs). Market RENT
Projecting Potential Gross Income (PGI) Historical and current rent at subject Survey rent comparables Market studies GVA Marquette Advisors (Apartments) Colliers/Welsh Cushman Wakefield Cassidy Turley CBRE Grubb & Ellis Marcus & Millichap MSCA Retail Report Dollars & Cents (Retail/Shopping Centers) Market RENT
Indicators of market rent from best to worst:
Recent deals at the subject
Recent deals at competing properties focusing on the same or similar type of space Similar size apartment units 1st or 2nd generation space for office or retail
Rejected proposals on the subject for vacant space Prospect has seen the space Prospect is interested in the space Prospect wanted a proposal Market RENT
Indicators of market rent from best to worst (continued):
Health Ratio Analysis (tenant sales volume vs. rent paid) Sales to Net Rent as a percent Compare by tenant, by size, by location, etc. Sales to Gross Rent Percent of sales to equal net rent, plus CAM, plus taxes (all operating) Broker opinions/Manager’s opinions Asking Rents
Apartment Rent Comparables
Combarable # SUBJECT #1 #2 #3 Address 123 1st Street N 125 1st Street N 1000 Oak Drive 450 Main Street City New Hope New Hope New Hope New Hope Year Built 1961 1971 1969 1971 # Units 68 70 44 79 Occupancy 98% 100% 92% 95% Data Month/Year Jan-13 Jan-13 Jan-13 Jan-13
AMENITIES Range/oven, Range/oven, Refrig., Range/oven, Refrig., Range/oven, Refrig., Refrig., D/W, D/W, Wall A/C D/W, Disposal, Wall D/W, Disposal, Wall By Unit Disposal, Wall A/C A/C A/C Community room, Community room, Outdoor pool, Community room, fitness center, fitness center, Community room, fitness center, By Complex storage, elevator storage, elevator storage, elevator storage, elevator UNIT TYPES 1 Bedroom # 1BRs 12 32 10 30 Size 700 700 675 700 Rent $ 750 $ 725 $ 750 $ 750 Rent PSF $ 1.07 $ 1.04 $ 1.11 $ 1.07 2 Bedroom # 2BRs 44 32 24 30 Size 850 900 800 825 Rent $ 900 $ 925 $ 900 $ 900 Rent PSF $ 1.06 $ 1.03 $ 1.13 $ 1.09 3 Bedroom # 3BRs 12 6 10 19 Size 1,000 975 1,000 1,100 Rent $ 1,000 $ 975 $ 1,025 $ 1,050 Rent PSF $ 1.00 $ 1.00 $ 1.03 $ 0.95 CONCESSIONS None None $300 off 1st month None Apartment PGI
Apartment Pro Forma
Total Number of Units 68 Market Unit Mix Rent # of Effiencies 0 $0 # of 1 Bedrooms 12 $750 # of 2 Bedrooms 44 $900 # of 3 Bedrooms 12 $1,000 # of Garages 68 $50
Potential Gross Rent $727,200 Garage Rent $40,800
Potential Gross Income $768,000
Sum of total income to the real property at full occupancy Income Capitalization Approach
General procedure to valuing property via the direct capitalization approach
Step 1: Determine market rents
Step 2: Determine and apply market vacancy and credit loss
Step 3: Determine any additional ancillary income
Step 4: Project stabilized operating expenses
Step 5: Project market capitalization rate
Step 6: Capitalize Net Operating Income Market VACANCY
VACANCY
Unrented space
The measurement of the amount of unoccupied or unused space or land in a defined market or property
Can relate to a class of properties, a submarket , or a single multitenant property Market VACANCY
VACANCY RATE
Relationship between the amount of vacant space and total space in a building or market
Expressed as a percentage Market VACANCY
VACANCY AND COLLECTION LOSS
A deduction from PGI made to reflect income reductions due to vacancies, tenant turnover, and non-payment of rent
Often expressed as a percentage of PGI
Should reflect the competitive market Market VACANCY
How to determine market Vacancy…
Historical and current subject occupancy
Comparable property analysis
Market Surveys
Broker Discussions
Market VACANCY
Combarable # SUBJECT #1 #2 #3 Address 123 1st Street N 125 1st Street N 1000 Oak Drive 450 Main Street City New Hope New Hope New Hope New Hope Year Built 1961 1971 1969 1971 # Units 68 70 44 79 Occupancy 98% 100% 92% 95% Data Month/Year Jan-13 Jan-13 Jan-13 Jan-13
Occupied 252
Total Units 261
Vacancy indicated by subject and rent comparables: 3.4% Market VACANCY
• The projected vacancy of 3.4% appears to be reasonable and supported by market data.
Income Capitalization Approach
General procedure to valuing property via the direct capitalization approach
Step 1: Determine market rents
Step 2: Determine and apply market vacancy and credit loss
Step 3: Determine any additional ancillary income
Step 4: Project stabilized operating expenses
Step 5: Project market capitalization rate
Step 6: Capitalize Net Operating Income Effective Ancillary Income
Any miscellaneous additional income attributable to the subject property
Examples: Billboard Lease Revenue Cell Tower Lease Revenue Garage/Parking Income Storage Income Misc. Apartment Income Effective Ancillary Income Effective Gross Income
Effective Gross Income (EGI)
Add any potential ancillary income
Add any potential tenant reimbursements
Deduct market vacancy and credit loss
Deduct any market rent concessions
Income Capitalization Approach
General procedure to valuing property via the direct capitalization approach
Step 1: Determine market rents
Step 2: Determine and apply market vacancy and credit loss
Step 3: Determine any additional ancillary income
Step 4: Project stabilized operating expenses
Step 5: Project market capitalization rate
Step 6: Capitalize Net Operating Income EXPENSES
OPERATING EXPENSES
The periodic expenditures necessary to maintain the real property and continue production of the EGI, assuming prudent and competent management EXPENSES
FIXED VARIABLE
Expenses that generally do Expenses that generally vary not vary with occupancy with the level of occupancy Utilities Real Estate Taxes Payroll Insurance Repairs & Maintenance Management Fee Administration Professional Services CAM Charges EXPENSES
BELOW-THE-LINE EXPENSE
An expense that is recorded “below” the NOI line in a reconstructed operating statement and therefore is not considered part of the total operating expenses for the property in valuations
Tenant improvements (TIs) and Leasing Commissions (LCs) are the most common
Replacements not accounted for in replacement reserves above the line EXPENSES
Subject Property - Discounted Cash Flow Analysis Reference Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Market rent/sq. ft. 29,700 $22.50 $23.40 $24.34 $25.31 $26.32 $27.37 Tenant improvement allowance/sq. ft. 4.00% $10.00 $10.40 $10.82 $11.25 $11.70 $12.17 Income projections: Bank (9,800 sq. ft.) 9,800 220,500 229,320 238,493 248,033 257,954 268,272 Mortgage company (6,500 sq. ft.) 6,500 146,250 152,100 158,184 164,511 171,092 177,935 Insurance company (2,600 sq. ft.) 2,600 58,500 60,840 63,274 65,805 68,437 71,174 Vacant space (1,100 sq. ft.) 1,100 24,750 25,740 26,770 27,840 28,954 30,112 Law firm (9,700 sq. ft.) 9,700 218,250 226,980 236,059 245,502 255,322 265,534 Expense reimbursements-mortgage 21.89% Expense reimbursements-law firm $ 6.00 Potential gross income (PGI) 29,706 $668,250 $694,980 $722,779 $751,690 $781,758 $813,028 Vacancy & collection loss 5.0% ($33,413) ($34,749) ($36,139) ($37,585) ($39,088) ($40,651) Effective gross income (EGI) $634,838 $660,231 $686,640 $714,106 $742,670 $772,377 Operating expense projections: Management 5.0% $31,742 $33,012 $34,332 $35,705 $37,134 $38,619 Property taxes 6.50% $44,321 $47,202 $50,270 $53,538 $57,017 $60,724 Insurance 4.50% $10,581 $11,057 $11,555 $12,075 $12,618 $13,186 Utilities 3.90% $58,930 $61,228 $63,616 $66,097 $68,675 $71,353 Janitorial 5.00% $27,279 $28,643 $30,075 $31,579 $33,158 $34,816 Repairs & maintenance 4.00% $14,192 $14,760 $15,350 $15,964 $16,603 $17,267 Below-the-line Parking and grounds 6.00% $5,724 $6,067 $6,431 $6,817 $7,226 $7,660 expenses Replacement reserves $0.15 $4,456 $4,634 $4,820 $5,012 $5,213 $5,421 Total operating expenses ($197,225) ($206,603) ($216,449) ($226,787) ($237,644) ($249,045)
Net operating income (IO) $437,613 $453,628 $470,191 $487,319 $505,026 $523,332 Lease commissions 5.00% $6,188 $15,818 $128,319 Tenant improvements $ 10.00 $11,000 $28,122 $228,122 Cash flow (after below-the-line exp) $420,425 $453,628 $426,251 $487,319 $148,585 Reversion $5,023,983 EXPENSES
OPERATING EXPENSE RATIO
The ratio of total operating expenses, excluding debt service, to either potential or effective gross income
Most commonly expressed as a ratio to the EGI
EXPENSES
OPERATING EXPENSE COMPARABLES Property Name Address A City Year Built V # Units 68 120 34 99 122 71 Property Management Data Year G
Income ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI Apartment Rent Received $540,556 $7,949.35 109.22% $1,001,308 $8,344.23 94.35% $289,955 $8,528.09 96.85% $728,532 $7,358.91 97.21% $1,160,380 $9,511.31 91.95% $657,049 $9,254.21 94.22% $729,630 $8,491.02 97.30% Garage Income $250 $3.68 0.05% $46,800 $390.00 4.41% $9,600 $282.35 3.21% $0 $0.00 0.00% $49,827 $408.42 3.95% $33,600 $473.24 4.82% $23,346 $259.61 2.74% Vacancy/Rent Loss ($56,174) ($826.09) -11.35% ($33,390) ($278.25) -3.15% ($20,914) ($615.12) -6.99% $0 $0.00 0.00% ($29,518) ($241.95) -2.34% ($59,782) ($842.00) -8.57% ($33,296) ($467.23) -5.40% Other Revenue $10,310 $151.62 2.08% $46,581 $388.18 4.39% $20,732 $609.76 6.93% $20,942 $211.54 2.79% $81,275 $666.19 6.44% $66,517 $936.86 9.54% $41,060 $494.02 5.36%
Total Income $494,942 $7,278.56 100.00% $1,061,299 $8,844.16 100.00% $299,373 $8,805.09 100.00% $749,475 $7,570.45 100.00% $1,261,964 $10,343.97 100.00% $697,384 $9,822.31 100.00% $760,739 $8,777.42 100.00%
Expenses ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI Utilities $51,271 $753.99 10.36% $117,504 $979.20 11.07% $36,255 $1,066.32 12.11% $74,151 $749.00 9.89% $94,269 $772.70 7.47% $63,537 $894.89 9.11% $72,831 $869.35 10.00% Payroll $618 $9.09 0.12% $139,580 $1,163.17 13.15% $34,554 $1,016.29 11.54% $24,286 $245.31 3.24% $208,295 $1,707.34 16.51% $101,888 $1,435.04 14.61% $84,870 $929.37 9.86% Building Repairs & Maintenance $113,790 $1,673.38 22.99% $71,218 $593.48 6.71% $18,449 $542.62 6.16% $137,101 $1,384.86 18.29% $98,131 $804.35 7.78% $38,521 $542.55 5.52% $79,535 $923.54 11.24% Grounds Maintenance $11,400 $167.65 2.30% $17,176 $143.13 1.62% $8,709 $256.15 2.91% $7,112 $71.84 0.95% $25,902 $212.31 2.05% $10,208 $143.77 1.46% $13,418 $165.81 1.88% Insurance $10,260 $150.88 2.07% $39,828 $331.90 3.75% $8,336 $245.18 2.78% $22,721 $229.51 3.03% $50,001 $409.84 3.96% $18,387 $258.97 2.64% $24,922 $271.05 3.04% Management Fee $0 $0.00 0.00% $55,109 $459.24 5.19% $11,768 $346.12 3.93% $41,619 $420.39 5.55% $75,566 $619.39 5.99% $41,071 $578.46 5.89% $37,522 $403.93 4.43% Real Estate Taxes $61,023 $897.40 12.33% $124,165 $1,034.71 11.70% $31,388 $923.18 10.48% $88,995 $898.94 11.87% $126,837 $1,039.65 10.05% $65,517 $922.77 9.39% $82,988 $952.77 10.97% Marketing $617 $9.07 0.12% $5,860 $48.83 0.55% $1,969 $57.91 0.66% $7,273 $73.46 0.97% $26,319 $215.73 2.09% $7,244 $102.03 1.04% $8,214 $84.51 0.90% Office/Administrative $4,303 $63.28 0.87% $16,752 $139.60 1.58% $3,579 $105.26 1.20% $13,871 $140.11 1.85% $46,337 $379.81 3.67% $10,302 $145.10 1.48% $15,857 $162.19 1.77% Professional Services $8,121 $119.43 1.64% $9,515 $79.29 0.90% $3,358 $98.76 1.12% $547 $5.53 0.07% $2,638 $21.62 0.21% $8,694 $122.45 1.25% $5,479 $74.51 0.86%
Total Expenses $261,403 $3,844.16 52.81% $596,707 $4,972.56 56.22% $158,365 $4,657.79 52.90% $417,676 $4,218.95 55.73% $754,295 $6,182.75 59.77% $365,369 $5,146.04 52.39% $425,636 $4,837.04 54.97%
NET OPERATING INCOME $233,539 $3,434.40 47.19% $464,592 $3,871.60 43.78% $141,008 $4,147.29 47.10% $331,799 $3,351.51 44.27% $507,669 $4,161.22 40.23% $332,015 $4,676.27 47.61% $335,104 $3,940.38 45.03%
Total Expenses excluding RE Taxes $200,380 $2,946.76 40.49% $472,542 $3,937.85 44.52% $126,977 $3,734.62 42.41% $328,681 $3,320.01 43.85% $627,458 $5,143.10 49.72% $299,852 $4,223.27 43.00% $342,648 $3,884.27 44.00%
NOI excluding RE Taxes $294,562 $4,331.79 59.51% $588,757 $4,906.31 55.48% $172,396 $5,070.47 57.59% $420,794 $4,250.44 56.15% $634,506 $5,200.87 50.28% $397,532 $5,599.04 57.00% $418,091 $4,893.15 56.00% Property Name Address City Year Built # Units 68 120 Property Management Data Year
Income ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI Apartment Rent Received $540,556 $7,949.35 109.22% $1,001,308 $8,344.23 94.35% Garage Income $250 $3.68 0.05% $46,800 $390.00 4.41% Vacancy/Rent Loss ($56,174) ($826.09) -11.35% ($33,390) ($278.25) -3.15% Other Revenue $10,310 $151.62 2.08% $46,581 $388.18 4.39%
Total Income $494,942 $7,278.56 100.00% $1,061,299 $8,844.16 100.00%
Expenses ANNUAL PER UNIT % of EGI ANNUAL PER UNIT % of EGI Utilities $51,271 $753.99 10.36% $117,504 $979.20 11.07% Payroll $618 $9.09 0.12% $139,580 $1,163.17 13.15% Building Repairs & Maintenance $113,790 $1,673.38 22.99% $71,218 $593.48 6.71% Grounds Maintenance $11,400 $167.65 2.30% $17,176 $143.13 1.62% Insurance $10,260 $150.88 2.07% $39,828 $331.90 3.75% Management Fee $0 $0.00 0.00% $55,109 $459.24 5.19% Real Estate Taxes $61,023 $897.40 12.33% $124,165 $1,034.71 11.70% Marketing $617 $9.07 0.12% $5,860 $48.83 0.55% Office/Administrative $4,303 $63.28 0.87% $16,752 $139.60 1.58% Professional Services $8,121 $119.43 1.64% $9,515 $79.29 0.90%
Total Expenses $261,403 $3,844.16 52.81% $596,707 $4,972.56 56.22%
NET OPERATING INCOME $233,539 $3,434.40 47.19% $464,592 $3,871.60 43.78%
Total Expenses excluding RE Taxes $200,380 $2,946.76 40.49% $472,542 $3,937.85 44.52%
NOI excluding RE Taxes $294,562 $4,331.79 59.51% $588,757 $4,906.31 55.48% Replacement Allowance
An allowance that provides for the periodic replacement of building components that wear out more rapidly than the building itself and must be replaced during the building’s economic life; sometimes referred to as reserves Replacement Allowance
Estimating an annual reserve allowance using a Sinking Fund Factor
Suppose an owner of an apartment complex estimates that $90,000 will be required to replace carpet and windows at the end of their useful lives in five years. The owner wants to set aside an equal amount each year in a reserves for replacement account which draws 10% interest.
HP 12c Keystrokes
5 (n)
10 (i)
$90,000 (FV)
(PMT)
Answer = $14,742 annually Net Operating Income
Potential Gross Income $768,000
Less: Vacancy & Collection Loss 5.00% ($38,400)
Effective Gross Income $729,600
Operating Expenses (estimated as a % of EGI) Less: Management Fee 5.00% ($36,480) Less: Operating Expenses 38.00% ($277,248) Less: Reserves for Replacements 2.00% ($14,592.00)
Total Operating Expenses % of EGI 45.00% ($328,320)
Net Operating Income $401,280 Income Capitalization Approach
General procedure to valuing property via the direct capitalization approach
Step 1: Determine market rents
Step 2: Determine and apply market vacancy and credit loss
Step 3: Determine any additional ancillary income
Step 4: Project stabilized operating expenses
Step 5: Project market capitalization rate
Step 6: Capitalize Net Operating Income CAP RATES
CAPITALIZATION RATE (R)
Any rate used to convert income into value
Rate = Income/Value
I R V CAP RATES
Overall Rate (OAR) or Going-In Terminal Rate or Going-Out Capitalization Rate Capitalization Rate
The rate obtained by The rate applied to the dividing a property’s NOI for the first year expected net income for after purchase by the the year immediately PV following the end of the Utilized in the direct projection period to capitalization method derive the prospective Only a single year’s resale value income is used
TERMINAL CAPITALIZATION RATE VERSUS GOING-IN CAPITALIZATION RATE
Why is the Terminal Capitalization Rate typically higher than the Going-In Capitalization Rate?
Could the terminal capitalization rate ever be lower than the going-in capitalization rate?
CAP RATES
Discount Rate (IRR) A yield rate used to convert future payments or receipts into present value
Discount Rate Relationships When contract rent is below market Leased Fee < Overall Yield < Leasehold When contract rent is equal to market Leased Fee = Overall Yield When contract rent is above market Overall Yield < Leased Fee < Leasehold GENERAL STEPS IN DCF ANALYSIS
Selection of a holding period.
Forecast all future cash flows or cash flow patterns.
Selection of an appropriate discount rate.
Conversion of future benefits into present value. DCF
Office Building Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Market rent/sq. ft. $ 16.00 $ 16.40 $ 16.81 $ 17.23 $ 17.66 $ 18.10 Vacancy rate 12.0% 11.5% 11.0% 10.5% 10.0% 9.5% Rentable sq. ft. 25,000 25,000 25,000 25,000 25,000 25,000 Potential gross income $ 400,000 $ 410,000 $ 420,250 $ 430,756 $ 441,525 $ 452,563 Vacancy $ (48,000) $ (47,150) $ (46,228) $ (45,229) $ (44,153) $ (42,994) Effective gross income $ 352,000 $ 362,850 $ 374,023 $ 385,527 $ 397,373 $ 409,570 Fixed expenses $ (50,000) $ (51,500) $ (53,045) $ (54,636) $ (56,275) $ (57,964) Variable expenses $ (59,840) $ (61,685) $ (63,584) $ (65,540) $ (67,553) $ (69,627) Net operating income $ 242,160 $ 249,666 $ 257,394 $ 265,351 $ 273,544 $ 281,979 Reversion $ 2,747,490 Total cash flow $ 242,160 $ 249,666 $ 257,394 $ 265,351 $ 3,021,034 Value indication $ 2,576,632
Inputs: Market rent change 2.50% Fixed expense change 3.00% Terminal Cap Rate (Going-Out) Variable expense (%) 17.00% Reversion cap rate 9.75% Reversion sales exp. 5.00% Internal Rate of Return (IRR) Discount rate 11.00% CAP RATES
How to derive a cap rate…
Net income can be estimated before or after considering an annual allowance for reserves
Cap rate comparables and the subject’s estimated market net income must be calculated in a similar manner CAP RATES
How to derive a cap rate…
Utilize market extracted cap rate comps
Band of investment method
Broker opinions
Market surveys Band of Investment
Band of Investment utilizes financing terms to derive a cap rate from the mortgage and equity components of recent transactions
Financing of a sale and/or current market financing terms can be determined through conversations with local bankers and investors Band of Investment
Example: Sale Price $2,000,000
Financing of Sale Market Financing 70 to 75% loan-to- $1,500,000 loan value 5% interest 5% interest 25 years 25 years 10% Equity Dividend Band of Investment
Example:
Interest Rate: 5%
Amort Term: 25 years
Loan to Value: 70 to 75%
Equity Dividend: 10%
Mortgage Constant: 0.0702 OAR = (LTV * MC) + (Equity * Equity Dividend) OAR = 7.77% CAP RATES
Market Studies
RERC Real Estate Report CAP RATES
Market Studies
PwC Real Estate Investor Survey (Korpacz)
CAP RATES
Market Studies
Realty Rates
CAP RATES
Comparable Sale Scenario
Sale Price $1,000,000
PGI $100,000
Vacancy 5%
Op. Exp. 25%
What’s the overall cap rate? CAP RATES
Keystrokes for HP 12c
$100,000 (enter)
5 (%) (-)
25 (%) (-)
$1,000,000 (÷)
0.0713 or 7.13% OAR Income Capitalization Approach
General procedure to valuing property via the direct capitalization approach
Step 1: Determine market rents
Step 2: Determine and apply market vacancy and credit loss
Step 3: Determine any additional ancillary income
Step 4: Project stabilized operating expenses
Step 5: Project market capitalization rate
Step 6: Capitalize Net Operating Income Direct Capitalization PRO FORMA
Potential Gross Income (Vacancy & Credit Loss) Effective Gross Income (Operating Expenses) Net Operating Income / Capitalization Rate Value Indication Direct Capitalization PRO FORMA
Net Operating Income $401,280
Effective Tax Rate 2.07% Capitalization Rate 7.75%
Overall Capitalization Rate (Loaded) 9.82%
Capitalized Value (Including Personal Property) $4,086,354
Less: Personal Property $750 per Unit $51,000
Capitalized Value (Real Property Only) $4,035,354 Capitalized Value Per Unit (Real Property Only) $59,343
Indicated Value Via Income Approach as of Jan. 2, 2013 $4,040,000 Indicated Value per Unit $59,300 MULTI-FAMILY PRO-FORMA Hypothetical Property Analysis
Non-existing property-Used for Demonstration Purposes
Twin Cities Apartment Property-New Construction
200 Units
Top end amenity package
Underground Parking-1 Stall Per Unit
Potential Gross Apartment Income
Projecting Potential Gross Apartment Income Historical and current subject rent Has rent been increasing/decreasing Is occupancy too high? Potential for rent increase? Survey rent comparables Rent adjustment analysis Location, unit size, in unit amenities (washer/dryer), complex amenities, parking, parking fee, age/condition, utilities included in rent, etc. Market studies GVA Marquette Advisors-Quarterly Apartment Trends Supply/Demand Current demand Proposed projects?
Potential Gross Apartment Income
Subject Projection
POTENTIAL GROSS APARTMENT INCOME
# of Projected # of Projected Unit Type Units Monthly Rent Months Annual Rent 1-BR/1-BA Unit (700 Square Feet) 75 x $1,300 x 12 = $1,170,000 1-BR/1-BA Unit (800 Square Feet) 50 x $1,450 x 12 = $870,000 2-BR/2-BA Unit (1,000 Square Feet) 50 x $1,700 x 12 = $1,020,000 2-BR/2-BA Unit (1,200 Square Feet) 25 x $2,000 x 12 = $600,000 Projected Gross Apartment Income 200 x $1,525 x 12 = $3,660,000 Parking Potential Gross Parking Income
Projecting Potential Gross Parking Income
Survey comparable properties
Typical parking rent Included in rent or additional fee? Detached/Attached/Tuck Under/Underground/Surface? Downtown/Uptown/Dinkytown Mpls/St. Louis Park-$100-$150 per month Twin Cities suburban area-$45 to $100 per month Outside the Twin Cities metropolitan area-$25 to $50 per month
POTENTIAL GROSS PARKING/GARAGE INCOME # of Rent Per # of Stalls Month Months Potential Gross Garage Income 200 x $100 x 12 = $240,000 Apartment Vacancy/Credit Loss Analysis
Subject historical vacancy and credit loss
Survey comparables in the market
Market studies GVA Marquette Advisors
Is vacancy a bad thing?
Typical credit loss? Parking Vacancy/Credit Loss Analysis
Subject’s historical vacancy/credit loss
Parking vacancy comparables
Interview property managers
Parking ratio analysis
Type of property/location Senior housing/Affordable Housing versus Market Rate Light Rail-Bus Lines Effective Gross Ancillary Income
Miscellaneous Income Laundry, month to month fees, application fees, early termination fees, vending, security deposit forfeits, recovered collection loss, pet revenue, guest unit, late fees, move out charges, NSF (non-sufficient funds) charges, phone/internet/cable commissions. RUBS (ratio utility billing system) Income Utilities (typically water/sewer/trash) are not individually metered and tenant is charged back their pro-rata share of utilities. Storage Locker Income Included or additional charge $5 to $25 per month
Rent Concessions/Loss to Lease
Look at comparables
Market studies
Interview real estate professionals/property managers
Revenue management systems (Yieldstar) Effective Gross Income
Effective Gross Income (EGI): the anticipated income from all operations of the real property adjusted for vacancy and collection losses.
Effective Gross Income
Subject Projection EFFECTIVE GROSS INCOME CALCULATION INCOME PROJECTIONS: # of Projected # of Projected Unit Type Units Monthly Rent Months Annual Rent 1-BR/1-BA Unit (700 Square Feet) 75 x $1,300 x 12 = $1,170,000 1-BR/1-BA Unit (800 Square Feet) 50 x $1,450 x 12 = $870,000 2-BR/2-BA Unit (1,000 Square Feet) 50 x $1,700 x 12 = $1,020,000 2-BR/2-BA Unit (1,200 Square Feet) 25 x $2,000 x 12 = $600,000 Projected Gross Apartment Income 200 x $1,525 x 12 = $3,660,000 Less: Vacancy and Credit Loss Allowance @ 5.00% ($183,000) Effective Gross Apartment Income $3,477,000 # of Rent Per # of Stalls Month Months Potential Gross Garage Income 200 x $100 x 12 = $240,000 Less: Vacancy and Credit Loss Allowance @ 5.00% ($12,000) Effective Gross Garage Income $228,000
Effective Gross Miscelleneous Income (200 Units x $350 Per Unit) $70,000 Effective Gross RUBS Income (200 Units x $300 Per Unit) $60,000 Effective Gross Storage Locker Income (50 Units x $25 Per Month x 12 Months x 90% Occupancy) $13,500 Rent Concessions/Loss to Lease: $0
TOTAL EFFECTIVE GROSS INCOME -- ALL SOURCES $3,848,500 Operating Expense Projections
Standardized Expense Categories Real Estate Tax Insurance Utilities Gas Electricity Water/Sewer/Trash Repairs and Maintenance Management (% of Effective Gross Income) Advertising Administration Caretaker/Payroll Reserves for Replacement Operating Expense Projections
Subject’s historical operating expenses Trends in expenses-% annual increases
Expense comparables Trends in comparables Are comparable expense categories grouped similar to the subject
Operating Expense Projections
Subject Projection
OPERATING EXPENSE PROJECTION % of EXPENSE PROJECTIONS: EGI Per Unit Annually
Real Estate Tax 16.63% $3,200 $640,000 Insurance 1.82% $350 $70,000 Utilities 4.16% $800 $160,000 Repairs and Maintenance 5.20% $1,000 $200,000 Management (3.50% of EGI) 3.50% $674 $134,700 Advertising 1.17% $225 $45,000 Administration 1.17% $225 $45,000 Caretaker/Payroll 5.72% $1,100 $220,000 Reserves for Replacement 1.30% $250 $50,000 Total Operating Expenses Including Reserves 40.66% $7,824 $1,564,700 NET OPERATING INCOME
Net Operating Income (NOI): the actual or anticipated income remaining after all operating expenses are deducted from effective gross income, but before mortgage debt service and book depreciation are deducted. May be calculated before or after deducting replacement reserves.
NET OPERATING INCOME
Subject Projection
NET OPERATING INCOME PROJECTION
Total Effective Gross Income--All Sources $3,848,500 Less: Total Operating Expenses Inc. Reserves ($1,564,700)
NET OPERATING INCOME $2,283,800 Per Unit: $11,419 CAPITALIZATION RATE ANALYSIS
Market Extraction Method-Use of Comparable Sales Trailing capitalization rate How is trailing calculated? Pro-forma capitalization rate Value added deal Band of Investment Method Surveys Korpacz (page 3) RERC (page 4) Broker Discussions CBRE NAI Everest Moran and Company Risk?
CAPITALIZATION RATE ANALYSIS
CAPITALIZATION RATE EXAMPLE
Sale Price $30,000,000
Trailing 12 Trailing 9 Trailing 6 T1 Inc. Annualized/ Year 1 Month Month Annualized Month Annualized T12 Expenses Pro-Forma Net Operating Income $1,542,000 $1,654,000 $1,702,000 $1,872,000 $1,967,000 5.14% 5.51% 5.67% 6.24% 6.56% CAPITALIZATION RATE ANALYSIS
Value added deals 1980’s vintage apartments Upgrades to appliances, countertops, cabinets, bathrooms, flooring, etc. Results in aggressive capitalization rate due to upside potential
CAPITALIZATION RATE ANALYSIS
Value Added Property Example-Hypothetical PROPERTY #1 #2 #3 #4 #5 Cost to Upgrade Per Unit $500 $1,000 $1,500 $2,000 $2,500
Monthly Rent Premium $25 $50 $75 $100 $125 Multiplied by 12 Months: 12 12 12 12 12 Annual Rent Premium $300 $600 $900 $1,200 $1,500 Mulitiplied by Proj. Occupancy 95% 95% 95% 95% 95% Multiplied by Proj. Expense Ratio (45%) 55% 55% 55% 55% 55% Annual Net Operating Income Premium $157 $314 $470 $627 $784 Divided by Projected Capitalization Rate 6.50% 6.50% 6.50% 6.50% 6.50% Upgraded Value Per Unit $2,412 $4,823 $7,235 $9,646 $12,058 Less: Cost to Upgrade $500 $1,000 $1,500 $2,000 $2,500 Additonal Net Value Created-Per Unit $1,912 $3,823 $5,735 $7,646 $9,558 Direct Capitalization Value
Subject Projection
DIRECT CAPITALIZATION
Net Operating Income $2,283,800 Capitalization Rate 5.75%
FEE SIMPLE MARKET VALUE INDICATION $39,718,261 ROUNDED TO: $39,720,000 Per Unit $198,600 DCF ANALYSIS
5-Year Discounted Cash Flow Analysis
Rent growth 3.0% annually
No growth on parking and ancillary income
Vacancy fluctuations
5% increasing in year 3 and decreasing to stabilized level
Expense Growth 2.5% annually
Terminal Capitalization Rate: 6.00% (2.88% annual growth)
Discount Rate: 7.50%
Sales Cost: 2.00%
DCF ANALYSIS
MULTI-FAMILY DISCOUNT CASH FLOW ANALYSIS
Time Period 1 2 3 4 5 Reversion
Potential Gross Apartment Income $3,660,000 $3,769,800 $3,882,894 $3,999,381 $4,119,362 $4,242,943 Less: Vacancy and Credit Loss @ 5.00% ($183,000) 5.00% ($188,490) 8.00% ($310,632) 7.00% ($279,957) 5.00% ($205,968) 5.00% ($212,147) Effectove Gross Apartment Income $3,477,000 $3,581,310 $3,572,262 $3,719,424 $3,913,394 $4,030,796
Potential Gross Parking Income $240,000 $240,000 $240,000 $240,000 $240,000 $240,000 Less: Vacancy and Credit Loss @ 5.00% ($12,000) 5.00% ($12,000) 8.00% ($19,200) 7.00% ($16,800) 5.00% ($12,000) 5.00% ($12,000) Effectove Gross Apartment Income $228,000 $228,000 $220,800 $223,200 $228,000 $228,000
Effective Gross Miscelleneous Income $70,000 $70,000 $70,000 $70,000 $70,000 $70,000 Effective Gross RUBS Income $60,000 $60,000 $60,000 $60,000 $60,000 $60,000 Effective Gross Storage Locker Income $13,500 $13,500 $13,500 $13,500 $13,500 $13,500 Rent Concessions/Loss to Lease $0 $0 ($50,000) ($40,000) $0 $0
Total Effective Gross Income $3,848,500 $3,952,810 $3,886,562 $4,046,124 $4,284,894 $4,402,296
Total Operating Expenses $1,564,700 $1,603,818 $1,643,913 $1,685,011 $1,727,136 $1,770,314
NOI/Annual Cash Flow $2,283,800 $2,348,993 $2,242,650 $2,361,113 $2,557,758 $2,631,982 DCF ANALYSIS
DISCOUNTED CASH FLOW VALUATION Annual P.V. of Cash Present Time Period Cash Flow Flow @ 7.50% Value 1 $2,283,800 x 0.9302 = $2,124,465 2 $2,348,993 x 0.8653 = $2,032,660 3 $2,242,650 x 0.8050 = $1,805,244 4 $2,361,113 x 0.7488 = $1,768,003 5 $2,557,758 x 0.6966 = $1,781,628 Total Cash Flow $9,512,001 Discounted Value of Reversion $29,944,381 Present Value Calculation $39,456,382 ROUNDED: $39,460,000
Reversion Year 6 NOI $2,631,982 Divided by Terminal Cap Rate 6.00% Capitalized Value $43,866,359 Less: Sales Cost @ 2.00% -$877,327 Reversion $42,989,032 Discounted @ 7.50% 0.6966 Discounted Value of Reversion $29,944,381 RECONCILIATION
Direct Capitalization: $39,720,000 Discounted Cash Flow: $39,460,000 Value: $39,650,000 Per Unit: $198,250 HOW “THEY” TRY TO FOOL YOU & OTHER NUANCES “The Easy Way Out” – Apartment Example
Class C
Low Income Housing
1965 AYB
67 Units
Unit Mix: 19 – 1BR, 48 – 2BR
64 Garage units
Apartment Example
“The Easy Way Out” “The Easy Way Out” – Apartment Example
2009 2010 2011 PROFORMA INCOME Rental Income $ 486,000 $ 489,000 $ 490,000 $ 490,000 Tenant Assistance $ 47,000 $ 43,000 $ 53,000 $ 53,000 GPI $ 533,000 $ 532,000 $ 543,000 $ 543,000
Vacancy & Bad Debt $ 47,384 8.89% $ 40,219 7.56% $ 37,847 6.97% $ 43,440 8.00% EGI $ 485,616 $ 491,781 $ 505,153 $ 499,560
Coin/Other Income $ 8,000 $ 8,500 $ 8,000 $ 8,000 Garage Income $ 18,000 $ 15,000 $ 14,000 $ 14,000 Collected Rent $ 511,616 $ 515,281 $ 527,153 $ 521,560 EXPENSES Operating $ (272,000) -51.03% $ (246,000) -46.24% $ (257,000) -47.33% $ (190,050.00) 35.00% Mgmt Fee $ (41,000) -7.69% $ (41,000) -7.71% $ (44,000) -8.10% $ (27,150.00) 5.00% Operating Expenses $ (313,000) -58.72% $ (287,000) -53.95% $ (301,000) -55.43% $ (217,200) -40.00% Reserve for Replacements $ (13,000) -2.44% $ (13,000) -2.44% $ (14,000) -2.58% $ (13,575.00) 2.50% Total Expenses: $ (326,000) -61.16% $ (300,000) -56.39% $ (315,000) -58.01% $ (230,775) -42.50%
NET OPERATING INCOME $ 185,616 $ 215,281 $ 212,153 $ 290,785
R/E Tax Rate 1.56% 1.70% 1.80% 1.80% Capitalization Rate 10.00% 8.00% 8.00% 8.00%
Value before Personal Property $ 1,605,677 $ 2,219,390 $ 2,164,826 $ 2,967,194 Less: Personal Property $ (68,000) $ (68,000) $ (68,000) $ (68,000)
Indicated Value $ 1,538,000 $ 2,151,000 $ 2,097,000 $ 2,899,000 Per Unit Value $ 11,309 $ 15,816 $ 15,419 $ 21,316
Assessed Date 1/2/2009 1/2/2010 1/2/2011 Assessed Value $ 3,300,000 $ 3,400,000 $ 3,470,000 Assessment/Unit $ 24,265 $ 25,000 $ 25,515 Assessed Status Active Active Active “The Easy Way Out” – Apartment Example
2009 INCOME Rental Income $ 486,000 Tenant Assistance $ 47,000 GPI $ 533,000
Vacancy & Bad Debt $ 47,384 8.89% EGI $ 485,616
Coin/Other Income $ 8,000 Garage Income $ 18,000 Collected Rent $ 511,616 EXPENSES Operating $ (272,000) -51.03% Mgmt Fee $ (41,000) -7.69% Operating Expenses $ (313,000) -58.72% Reserve for Replacements $ (13,000) -2.44% Total Expenses: $ (326,000) -61.16%
NET OPERATING INCOME $ 185,616
R/E Tax Rate 1.56% Capitalization Rate 10.00%
Value before Personal Property $ 1,605,677 Less: Personal Property $ (68,000)
Indicated Value $ 1,538,000 Per Unit Value $ 11,309
Assessed Date 1/2/2009 Assessed Value $ 3,300,000 Assessment/Unit $ 24,265 Assessed Status Active “The Easy Way Out” – Apartment Example
2009 INCOME Does Actual Income & Rental Income $ 486,000 State Credit = Tenant Assistance $ 47,000 Market Rent? GPI $ 533,000
Vacancy & Bad Debt $ 47,384 8.89% EGI $ 485,616 Is vacancy already factored into actual Coin/Other Income $ 8,000 income? Garage Income $ 18,000 Collected Rent $ 511,616
Should “Garage Income” & “Other Income” be factored into the EGI? Garage vacancy is hidden and may be overstated by 10% over rental income “The Easy Way Out” – Apartment Example “The Easy Way Out” – Apartment Example
EXPENSES Operating $ (272,000) -51.03% Mgmt Fee $ (41,000) -7.69% Be cautious of Operating Expenses $ (313,000) -58.72% substantial R&M Reserve for Replacements $ (13,000) -2.44% Expenses Total Expenses: $ (326,000) -61.16%
Be wary of actual management expenses. Appraisal Utilizing both actual emulates buyers not R&M and Reserves owners can be a form of double dipping
This figure should not include real estate taxes. “The Easy Way Out” – Apartment Example “The Easy Way Out” – Apartment Example
NET OPERATING INCOME $ 185,616
Not every NOI is R/E Tax Rate 1.56% created equal. How Capitalization Rate 10.00% you calculate an NOI will affect how a cap Value before Personal Property $ 1,605,677 Less: Personal Property $ (68,000) rate is established. Indicated Value $ 1,538,000 RE tax should be Per Unit Value $ 11,309 treated as an expense even if it is converted to a rate. Petitioner estimated $500/unit. At 67 units, the math doesn’t add up. “The Easy Way Out” – Apartment Example
2009 2010 2011 PROFORMA INCOME Rental IncomeThe “Market”$ 486,000 income is based$ on 489,000 $ 490,000 $ 490,000 Tenant Assistance $ 47,000 $ 43,000 $ 53,000 $ 53,000 theGPI final$ year 533,000 of actuals provided$ 532,000 $ 543,000 $ 543,000
Vacancy & Bad Debt $ 47,384 8.89% $ 40,219 7.56% $ 37,847 6.97% $ 43,440 8.00% EGI $ 485,616 $ 491,781 $ 505,153 $ 499,560 The “Market” vacancy is simply a Coin/Other Income $ 8,000 $ 8,500 $ 8,000 $ 8,000 Garage Incomerounding$ of the 18,000 actual vacancy$ 15,000 $ 14,000 $ 14,000 Collected Rent $ 511,616 $ 515,281 $ 527,153 $ 521,560 EXPENSES Operating $ (272,000) -51.03% $ (246,000) -46.24% $ (257,000) -47.33% $ (190,050.00) 35.00% Mgmt TheFee $ expense (41,000) ratio-7.69% “seems$ ” fair (41,000) -7.71% $ (44,000) -8.10% $ (27,150.00) 5.00% Operating Expenses $ (313,000) -58.72% $ (287,000) -53.95% $ (301,000) -55.43% $ (217,200) -40.00% Reserve for Replacements $ (13,000) -2.44% $ (13,000) -2.44% $ (14,000) -2.58% $ (13,575.00) 2.50% Total Expenses: $ (326,000) -61.16% $ (300,000) -56.39% $ (315,000) -58.01% $ (230,775) -42.50%
NET OPERATING INCOME The$ cap rate 185,616 “seems”$ fair 215,281 $ 212,153 $ 290,785
R/E Tax Rate 1.56% 1.70% 1.80% 1.80% Capitalization Rate 10.00% 8.00% 8.00% 8.00% The unit count is still incorrect Value before Personal Property $ 1,605,677 $ 2,219,390 $ 2,164,826 $ 2,967,194 Less: Personal Property $ (68,000) $ (68,000) $ (68,000) $ (68,000)
Indicated Value This $figure 1,538,000 no longer “seems$ ” so 2,151,000 $ 2,097,000 $ 2,899,000 Per Unit Valuebad.$ The pro 11,309 forma is not$ put 15,816 $ 15,419 $ 21,316 Assessedtogether Date to prove1/2/2009 market, it is put 1/2/2010 1/2/2011 Assessed Value $ 3,300,000 $ 3,400,000 $ 3,470,000 Assessment/Unittogether$ to prove 24,265 a reduction.$ 25,000 $ 25,515 Assessed Status Active Active Active “The Easy Way Out” – Apartment Example
There is no market based reasoning
Actuals can be misleading
Double dipping
Round numbers don’t equal market
5%+5%+5%+5%>20%
Its just a small reduction! A small reduction on one property is a small reduction on every property in the future
“The Easy Way Out” – Apartment Example
Total Number of Units 67 Market Unit Mix Rent # of Effiencies 0 # of 1 Bedrooms 19 $650 # of 2 Bedrooms 48 $775 # of 3 Bedrooms 0 # of Garages 64 $40
PROFORMA INCOME CAPITALIZATION
Potential Gross Rent $594,600 Garage Rent $30,720
Potential Gross Income $625,320
Less: Vacancy & Collection Loss 5.00% ($31,266)
Other Income 2.00% $12,506
Effective Gross Income $606,560
Operating Expenses (estimated as a % of PGI) Less: Management Fee 4.50% ($28,139) Less: Operating Expenses 37.50% ($234,495) Less: Reserves for Replacements 2.00% ($12,506)
Total Operating Expenses % of PGI 44.00% ($275,141)
Net Operating Income $331,420
Effective Tax Rate 1.80% Capitalization Rate 7.25%
Overall Capitalization Rate 9.05%
Capitalized Value (Including Personal Property) $3,662,095
Less: Personal Property $750 per Unit $50,250
Capitalized Value (Real Property Only) $3,611,845 Capitalized Value Per Unit (Real Property Only) $53,908
Indicated Value Via Income Approach as of Jan. 2, 2011 $3,610,000 Indicated Value per Unit $53,900 “The Easy Way Out” – Apartment Example
Market based rental rates Total Number of Units 67 Market Unit Mix Rent # of Effiencies 0 # of 1 Bedrooms 19 $650 # of 2 Bedrooms 48 $775 # of 3 Bedrooms 0 # of Garages 64 $40 “The Easy Way Out” – Apartment Example
Total Number of Units 67 Market Unit Mix Rent # of Effiencies 0 # of 1 Bedrooms 19 $650 # of 2 Bedrooms 48 $775 # of 3 Bedrooms 0 # of Garages 64 $40
PROFORMA INCOME CAPITALIZATION
Potential Gross Rent $594,600 Garage Rent $30,720
Potential Gross Income $625,320
Less: Vacancy & Collection Loss 5.00% ($31,266)
Other Income 2.00% $12,506
Effective Gross Income $606,560
Operating Expenses (estimated as a % of PGI) Less: Management Fee 4.50% ($28,139) Less: Operating Expenses 37.50% ($234,495) Less: Reserves for Replacements 2.00% ($12,506)
Total Operating Expenses % of PGI 44.00% ($275,141)
Net Operating Income $331,420
Effective Tax Rate 1.80% Capitalization Rate 7.25%
Overall Capitalization Rate 9.05%
Capitalized Value (Including Personal Property) $3,662,095
Less: Personal Property $750 per Unit $50,250
Capitalized Value (Real Property Only) $3,611,845 Capitalized Value Per Unit (Real Property Only) $53,908
Indicated Value Via Income Approach as of Jan. 2, 2011 $3,610,000 Indicated Value per Unit $53,900 “The Easy Way Out” – Apartment Example
PROFORMA INCOME CAPITALIZATION
Potential Gross Rent $594,600 Garage Rent $30,720
Potential Gross Income $625,320
Less: Vacancy & Collection Loss 5.00% ($31,266)
Other Income 2.00% $12,506
Effective Gross Income $606,560
Market based vacancy affects garage and apartment rent “The Easy Way Out” – Apartment Example
Total Number of Units 67 Market Unit Mix Rent # of Effiencies 0 # of 1 Bedrooms 19 $650 # of 2 Bedrooms 48 $775 # of 3 Bedrooms 0 # of Garages 64 $40
PROFORMA INCOME CAPITALIZATION
Potential Gross Rent $594,600 Garage Rent $30,720
Potential Gross Income $625,320
Less: Vacancy & Collection Loss 5.00% ($31,266)
Other Income 2.00% $12,506
Effective Gross Income $606,560
Operating Expenses (estimated as a % of PGI) Less: Management Fee 4.50% ($28,139) Less: Operating Expenses 37.50% ($234,495) Less: Reserves for Replacements 2.00% ($12,506)
Total Operating Expenses % of PGI 44.00% ($275,141)
Net Operating Income $331,420
Effective Tax Rate 1.80% Capitalization Rate 7.25%
Overall Capitalization Rate 9.05%
Capitalized Value (Including Personal Property) $3,662,095
Less: Personal Property $750 per Unit $50,250
Capitalized Value (Real Property Only) $3,611,845 Capitalized Value Per Unit (Real Property Only) $53,908
Indicated Value Via Income Approach as of Jan. 2, 2011 $3,610,000 Indicated Value per Unit $53,900 “The Easy Way Out” – Apartment Example
Operating Expenses (estimated as a % of PGI) Less: Management Fee 4.50% ($28,139) Less: Operating Expenses 37.50% ($234,495) Less: Reserves for Replacements 2.00% ($12,506)
Total Operating Expenses % of PGI 44.00% ($275,141)
Calculated based on comparable properties
A combination of rents, vacancy, reserves and cap rate will consider the condition of the property Calculated based on comparable properties and compared to market reports for reasonableness “The Easy Way Out” – Apartment Example
Total Number of Units 67 Market Unit Mix Rent # of Effiencies 0 # of 1 Bedrooms 19 $650 # of 2 Bedrooms 48 $775 # of 3 Bedrooms 0 # of Garages 64 $40
PROFORMA INCOME CAPITALIZATION
Potential Gross Rent $594,600 Garage Rent $30,720
Potential Gross Income $625,320
Less: Vacancy & Collection Loss 5.00% ($31,266)
Other Income 2.00% $12,506
Effective Gross Income $606,560
Operating Expenses (estimated as a % of PGI) Less: Management Fee 4.50% ($28,139) Less: Operating Expenses 37.50% ($234,495) Less: Reserves for Replacements 2.00% ($12,506)
Total Operating Expenses % of PGI 44.00% ($275,141)
Net Operating Income $331,420
Effective Tax Rate 1.80% Capitalization Rate 7.25%
Overall Capitalization Rate 9.05%
Capitalized Value (Including Personal Property) $3,662,095
Less: Personal Property $750 per Unit $50,250
Capitalized Value (Real Property Only) $3,611,845 Capitalized Value Per Unit (Real Property Only) $53,908
Indicated Value Via Income Approach as of Jan. 2, 2011 $3,610,000 Indicated Value per Unit $53,900 “The Easy Way Out” – Apartment Example
Net Operating Income $331,420
Effective Tax Rate 1.80% Capitalization Rate 7.25%
Overall Capitalization Rate 9.05%
Calculated from sales, effective Capitalizedtax Value (Including Personal Property) $3,662,095 rate is applied in the same manner Less: Personal Property $750 per Unit $50,250 expenses are applied and cap rate Capitalized Value (Real Property Only) $3,611,845 is calculated from sales dataCapitalized Value Per Unit (Real Property Only) $53,908
Indicated Value Via Income Approach as of Jan. 2, 2011 $3,610,000 Indicated Value per Unit $53,900
Based on the correct unit count
Calculated based on comparable properties and compared to market reports for reasonableness Industrial Example
“Hidden in the Sauce” “Hidden in the Sauce” – Industrial Example
1997 AYB
24’ Clear Height
98,000 NRA
18,000 SF Office Area
80,000 SF Warehouse Area
“Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
OFFICE RATE 7.50 WAREHOUSE RATE 3.50 OTHER INCOME (ANNUAL)
VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.33%
What is a stabilized vacancy level?
How do rental concessions factor into the market? “Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
OPER COSTS(W/O TAX) 0.85
How should turnover TURNOVER RATE - % 25.00% rate factor into the LEASING PERIOD (YEARS) 5 fee simple direct cap approach? LEASE COSTS - NEW SPACE 6.00 RENEWAL SPACE 3.00
Below the NOI line or TNT IMPROVEMENTS - NEW 10.00 above? TNT IMPROVEMENTS - RENEWAL 5.00 AMORTIZATION - % 50.00%
How are tenant RESERVES 0.25 improvements Where does a factored in a single reserve figure come year pro forma? from? “Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
NET INCOME OFFICE $135,000 WAREHOUSE $280,000 OTHER 0
POTENTIAL NET INCOME $415,000
Calculated based on inputs of $7.50 and $3.50 “Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
VACANCY $83,000 RENTAL CONCESSIONS $34,570
NET COLLECTIONS $297,431
Rental concessions should be factored as part of market rent, not a deduction from market rent “Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
OWNER'S EXPENSES OPERATING VACANT ($16,660) LEASING ($58,356) TEN IMPROV ($8,515) RESERVES ($24,500)
TOTAL EXPENSES ($108,031)
NET OPERATING INCOME $189,400
How did you achieve your cap rate? “Hidden in the Sauce” – Industrial Example
ASSESSOR'S VALUES PROPERTY INFORMATION 1/2/09 EMV 4,000,000 PROPERTY TYPE Ofc/Whse PER SQUARE FOOT 40.82 YEAR BUILT NA 1/2/10 EMV 4,000,000 PER SQUARE FOOT 40.82 1/2/11 EMV 4,000,000 GROSS BUILDING AREA NA PER SQUARE FOOT 40.82 NET RENTABLE AREA 98,000 1/2/12 EMV 4,000,000 OFFICE AREA 18,000 PER SQUARE FOOT 40.82 WAREHOUSE AREA 80,000
ASSUMPTIONS PRO FORMA OFFICE RATE 7.50 NET INCOME WAREHOUSE RATE 3.50 OFFICE $135,000 OTHER INCOME (ANNUAL) WAREHOUSE $280,000 OTHER 0 VACANCY - % 20.00% RENTAL CONCESSIONS - % 8.00% POTENTIAL NET INCOME $415,000
OPER COSTS(W/O TAX) 0.85 VACANCY $83,000 RENTAL CONCESSIONS $33,200 TURNOVER RATE - % 25.00% LEASING PERIOD (YEARS) 5 NET COLLECTIONS $298,800
LEASE COSTS - NEW SPACE 6.00 OWNER'S EXPENSES RENEWAL SPACE 3.00 OPERATING VACANT ($16,660) LEASING ($60,000) TNT IMPROVEMENTS - NEW 10.00 TEN IMPROV ($8,600) TNT IMPROVEMENTS - RENEWAL 5.00 RESERVES ($24,500) AMORTIZATION - % 50.00% TOTAL EXPENSES ($109,760) RESERVES 0.25 NET OPERATING INCOME $189,040
CAPITALIZATION RATE 9.00% VALUE $1,951,683 PAY '10 TAX RATE 3.43% PER SQUARE FOOT $19.92 “Hidden in the Sauce” – Industrial Example
VALUE $1,955,394 PER SQUARE FOOT $19.95
Is this reasonable? “Hidden in the Sauce” – Industrial Example Income Approach - Direct Capitalization
Property Information Assumptions Property Name Subject Property Effective Date Property Type Office/Warehouse Property Address Vacancy & Collection Loss 15% Property ID # Expense on Vacancy $1.00 Reserves $0.20 GBA 98,000 s.f. NRA 98,000 s.f.
Office Area 18,000 s.f. 18% Office Area $8.00 Warehouse Area 80,000 s.f. 82% Warehouse Area $4.00 Mezzanine Area 0 s.f. 0% Mezzanine Area $0.00 Blended Rate $4.73 Total 98,000 s.f. Capitalization Rate 8.75% Year Built 1997 Eff.Tax Rate-Pay 2009 0.51% Tax rate 3.43% Effective Age 1997 Loaded Cap Rate 9.26%
Pro Forma Income/Area Office Area $ 144,000 Warehouse Area $ 320,000 Mezzanine Area $ -
Potential Net Income $ 464,000
Vacancy & Collection Loss $ (69,600)
Effective Net Income $ 394,400
Expense on Vacancy $ (14,700) Reserves $ (19,600) Total Expenses $ (34,300)
Net Operating Income $ 360,100
Value as of 1/2/2009 $ 3,887,000 $39.66 /s.f. NRA
EMV $4,000,000 $40.82 /s.f. NRA “Hidden in the Sauce” – Industrial Example
Property Information Assumptions Property Name Subject Property Effective Date Property Type Office/Warehouse Property Address Vacancy & Collection Loss 15% Property ID # Expense on Vacancy $1.00 Stabilized vacancy, expense based Reserves $0.20 on market comparablesGBA & reserves 98,000 s.f. based on a combinationNRA of age and 98,000 s.f. condition of theOffice property Area 18,000 s.f. 18% Office Area $8.00 Warehouse Area 80,000 s.f. 82% Warehouse Area $4.00 Mezzanine Area 0 s.f. 0% Mezzanine Area $0.00 Blended Rate $4.73 Total 98,000 s.f. Capitalization Rate 8.75% Rents are basedYear Built on market 1997 Eff.Tax Rate-Pay 2009 0.51% Tax rate 3.43% Effective Age 1997 Loaded Cap Rate 9.26%
Calculated based on comparable properties and compared to market reports for reasonableness “Hidden in the Sauce” – Industrial Example Income Approach - Direct Capitalization
Property Information Assumptions Property Name Subject Property Effective Date Property Type Office/Warehouse Property Address Vacancy & Collection Loss 15% Property ID # Expense on Vacancy $1.00 Reserves $0.20 GBA 98,000 s.f. NRA 98,000 s.f.
Office Area 18,000 s.f. 18% Office Area $8.00 Warehouse Area 80,000 s.f. 82% Warehouse Area $4.00 Mezzanine Area 0 s.f. 0% Mezzanine Area $0.00 Blended Rate $4.73 Total 98,000 s.f. Capitalization Rate 8.75% Year Built 1997 Eff.Tax Rate-Pay 2009 0.51% Tax rate 3.43% Effective Age 1997 Loaded Cap Rate 9.26%
Pro Forma Income/Area Office Area $ 144,000 Warehouse Area $ 320,000 Mezzanine Area $ -
Potential Net Income $ 464,000
Vacancy & Collection Loss $ (69,600)
Effective Net Income $ 394,400
Expense on Vacancy $ (14,700) Reserves $ (19,600) Total Expenses $ (34,300)
Net Operating Income $ 360,100
Value as of 1/2/2009 $ 3,887,000 $39.66 /s.f. NRA
EMV $4,000,000 $40.82 /s.f. NRA “Hidden in the Sauce” – Industrial Example
While the determination of market rents, expenses, vacancy and cap Pro Forma rates can be detailed and Income/Area complicated. The math thatOffice results Area $ 144,000 from those parts is not.Warehouse Area $ 320,000 Mezzanine Area $ -
Potential Net Income $ 464,000
Vacancy & Collection Loss $ (69,600)
Effective Net Income $ 394,400
Expense on Vacancy $ (14,700) Reserves $ (19,600) Total Expenses $ (34,300)
Net Operating Income $ 360,100 “Hidden in the Sauce” – Industrial Example Income Approach - Direct Capitalization
Property Information Assumptions Property Name Subject Property Effective Date Property Type Office/Warehouse Property Address Vacancy & Collection Loss 15% Property ID # Expense on Vacancy $1.00 Reserves $0.20 GBA 98,000 s.f. NRA 98,000 s.f.
Office Area 18,000 s.f. 18% Office Area $8.00 Warehouse Area 80,000 s.f. 82% Warehouse Area $4.00 Mezzanine Area 0 s.f. 0% Mezzanine Area $0.00 Blended Rate $4.73 Total 98,000 s.f. Capitalization Rate 8.75% Year Built 1997 Eff.Tax Rate-Pay 2009 0.51% Tax rate 3.43% Effective Age 1997 Loaded Cap Rate 9.26%
Pro Forma Income/Area Office Area $ 144,000 Warehouse Area $ 320,000 Mezzanine Area $ -
Potential Net Income $ 464,000
Vacancy & Collection Loss $ (69,600)
Effective Net Income $ 394,400
Expense on Vacancy $ (14,700) Reserves $ (19,600) Total Expenses $ (34,300)
Net Operating Income $ 360,100
Value as of 1/2/2009 $ 3,887,000 $39.66 /s.f. NRA
EMV $4,000,000 $40.82 /s.f. NRA “Hidden in the Sauce” – Industrial Example
While still a reduction, it is within a more reasonable range. To explain reasonableness, other approaches should always be utilized.
Value as of 1/2/2009 $ 3,887,000 $39.66 /s.f. NRA
EMV $4,000,000 $40.82 /s.f. NRA Hotel Example
“The Accepted Approach” “The Accepted Approach” – Hotel Example
2000 AYB
122 Units
Limited Service Economy Hotel
“The Accepted Approach” – Hotel Example 2008/2009 2009/2010 Occupancy 70.00% 62.00% Average Rate $49.00 $45.00 RevPAR $34.00 $28.00
Revenue1 Room Revenue $1,498,000 $1,225,000 Guest Certificate Revenue $1,800 $900 Total Revenue $1,499,800 $1,225,900
Expenses R&M $77,000 $52,000 Personnel Costs $374,000 $338,000 Supplies $41,000 $33,000 Travel $15,000 $6,000 Security $50,000 $46,000 Guest Finance $19,000 $10,000 Other ($10,000) ($11,000) Misc. $72,000 $50,000 Marketing $14,000 $100 Energy $71,000 $64,000 Other Utilities $43,000 $47,000 Insurance $17,000 $12,000 Total Expenses $783,000 $647,100
NOI $716,800 $578,800
Return of FF&E ($242,0002/10 yr) $24,200 $24,200 Return on FF&E ($242,000 x .13) $31,460 $31,460 Return of Initial Franchise Fee ($25,0003 average/10 yr) $2,500 $2,500 Return on Initial Franchise Fee ($25,000 x .13) $3,250 $3,250 Management (actual) $56,627 $22,204 Franchise Fees (8.45%)4 $126,713 $103,626 Reserves (R/E only) (3%) $44,987 $36,790 Working capital (3 months expenses x .05) $9,744 $8,085
NOI to Real Estate $417,319 $346,685 Cap Rate5 13.38% 14.55% Indicated Value $3,118,976 $2,382,715 $25,777 $19,692 AEMV $4,030,000 $3,950,400 $33,306 $32,648
1 Excludes non-real estate related income such as phone/fax/laundry/vending 2 $2,000/room 3 Per HVS U.S. Hotel Franchise Fee Guide 4 Average of Economy Brand Franchise Fees HVS U.S. Hotel Franchise Fee Guide 5 9.58% in Jan 2008 10.75% in Jan 2009 + 3.8% average ETR (Cap Rates from Korpacz Reports for Limited Service Hotels) “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
2008/2009 2009/2010 Occupancy 70.00% 62.00% Average Rate $49.00 $45.00 RevPAR $34.00 $28.00
Revenue Room Revenue $1,498,000 $1,225,000 Guest Certificate Revenue $1,800 $900 Total Revenue $1,499,800 $1,225,900
This makes sense. “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
Expenses R&M $77,000 $52,000 Personnel Costs $374,000 $338,000 Supplies $41,000 $33,000 Travel $15,000 $6,000 Security $50,000 $46,000 Guest Finance $19,000 $10,000 Other ($10,000) ($11,000) Misc. $72,000 $50,000 Marketing $14,000 $100 Energy $71,000 $64,000 Other Utilities $43,000 $47,000 Insurance $17,000 $12,000 Total Expenses $783,000 $647,100
NOI $716,800 $578,800
Always ask what is included in R&M. Often FFE figures are included in a hotel operators P&L “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
Business Enterprise Approach
Return of FF&E ($242,000/10 yr) $24,200 $24,200 Return on FF&E ($242,000 x .13) $31,460 $31,460 Return of Initial Franchise Fee ($25,000 average/10 yr) $2,500 $2,500 Return on Initial Franchise Fee ($25,000 x .13) $3,250 $3,250 Management (actual) $56,627 $22,204 Franchise Fees (8.45%) $126,713 $103,626 Reserves (R/E only) (3%) $44,987 $36,790 Working capital (3 months expenses x .05) $9,744 $8,085
Business Enterprise Rushmore Approach What about R&M Approach “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
NOI to Real Estate $417,319 $346,685 Cap Rate 13.38% 14.55% Indicated Value $3,118,976 $2,382,715 $25,777 $19,692 AEMV $4,030,000 $3,950,400 $33,306 $32,648
Does this seem reasonable? “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
This is meant to remove income attributable to personal property “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
This calculation is possibly accurate. “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
How does the market bear this expense? Does it at all? Is the business worth less because of this? “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
These two items should be considered similarly. Why is one actual and one is not? “The Accepted Approach” – Hotel Example “The Accepted Approach” – Hotel Example
These may also be reasonable. What is market? “The Accepted Approach” – Hotel Example
INCOME APPROACH
Gross Building Area 41,412
Average Daily Rate $49.00
Occupancy 70.00%
Rev PAR $34.30
Units 121
Days 365
EFFECTIVE NET INCOME: $1,514,860
LESS: MANAGEMENT @ 4.50% $68,169 FRANCHISE FEE @ 4.00% $60,594 OPERATING EXPENSE @ 52.00% $787,727 RESERVES FOR REPLACEMENT @ 3.00% Return Of FFE $45,446 FF&E CURRENTLY IN PLACE ($3500 PER RM, 10% YIELD) 2.80% Return On FFE $42,350 TOTAL EXPENSES @ -66.3% $1,004,286
NET OPERATING INCOME: $510,574
OVERALL CAP RATE: 9.00% EFFECTIVE TAX RATE 3.80% LOADED CAP RATE 12.80%
INDICATED VALUE BY THE INCOME APPROACH: SAY… $3,989,000 $32,966.94 / UNIT $96.32 / SF “The Accepted Approach” – Hotel Example
INCOME APPROACH
Gross Building Area 41,412
Average Daily Rate $49.00
Occupancy 70.00%
Rev PAR $34.30
Units 121
Days 365
EFFECTIVE NET INCOME: $1,514,860
LESS: MANAGEMENT @ 4.50% $68,169 FRANCHISE FEE @ 4.00% $60,594 OPERATING EXPENSE @ 52.00% $787,727 RESERVES FOR REPLACEMENT @ 3.00% Return Of FFE $45,446 FF&E CURRENTLY IN PLACE ($3500 PER RM, 10% YIELD) 2.80% Return On FFE $42,350 TOTAL EXPENSES @ -66.3% $1,004,286
NET OPERATING INCOME: $510,574
OVERALL CAP RATE: 9.00% EFFECTIVE TAX RATE 3.80% LOADED CAP RATE 12.80%
INDICATED VALUE BY THE INCOME APPROACH: SAY… $3,989,000 $32,966.94 / UNIT $96.32 / SF “The Accepted Approach” – Hotel Example
Gross Building Area 41,412
Average Daily Rate $49.00
Occupancy 70.00%
Rev PAR $34.30
Units 121
Days 365
The Inputs are identical “The Accepted Approach” – Hotel Example
INCOME APPROACH
Gross Building Area 41,412
Average Daily Rate $49.00
Occupancy 70.00%
Rev PAR $34.30
Units 121
Days 365
EFFECTIVE NET INCOME: $1,514,860
LESS: MANAGEMENT @ 4.50% $68,169 FRANCHISE FEE @ 4.00% $60,594 OPERATING EXPENSE @ 52.00% $787,727 RESERVES FOR REPLACEMENT @ 3.00% Return Of FFE $45,446 FF&E CURRENTLY IN PLACE ($3500 PER RM, 10% YIELD) 2.80% Return On FFE $42,350 TOTAL EXPENSES @ -66.3% $1,004,286
NET OPERATING INCOME: $510,574
OVERALL CAP RATE: 9.00% EFFECTIVE TAX RATE 3.80% LOADED CAP RATE 12.80%
INDICATED VALUE BY THE INCOME APPROACH: SAY… $3,989,000 $32,966.94 / UNIT $96.32 / SF “The Accepted Approach” – Hotel Example
EFFECTIVE NET INCOME: $1,514,860
LESS: MANAGEMENT @ 4.50% $68,169 FRANCHISE FEE @ 4.00% $60,594 OPERATING EXPENSE @ 52.00% $787,727 RESERVES FOR REPLACEMENT @ 3.00% Return Of FFE $45,446 FF&E CURRENTLY IN PLACE ($3500 PER RM, 10% YIELD) 2.80% Return On FFE $42,350 TOTAL EXPENSES @ -66.3% $1,004,286
NET OPERATING INCOME: $510,574
Return on & of based on the Based on a combination of market, Rushmore Approach (FFE Reserves survey data and actual franchise for Replacement are typically fees outlined in franchise agreements) “The Accepted Approach” – Hotel Example
INCOME APPROACH
Gross Building Area 41,412
Average Daily Rate $49.00
Occupancy 70.00%
Rev PAR $34.30
Units 121
Days 365
EFFECTIVE NET INCOME: $1,514,860
LESS: MANAGEMENT @ 4.50% $68,169 FRANCHISE FEE @ 4.00% $60,594 OPERATING EXPENSE @ 52.00% $787,727 RESERVES FOR REPLACEMENT @ 3.00% Return Of FFE $45,446 FF&E CURRENTLY IN PLACE ($3500 PER RM, 10% YIELD) 2.80% Return On FFE $42,350 TOTAL EXPENSES @ -66.3% $1,004,286
NET OPERATING INCOME: $510,574
OVERALL CAP RATE: 9.00% EFFECTIVE TAX RATE 3.80% LOADED CAP RATE 12.80%
INDICATED VALUE BY THE INCOME APPROACH: SAY… $3,989,000 $32,966.94 / UNIT $96.32 / SF “The Accepted Approach” – Hotel Example
NET OPERATING INCOME: $510,574
OVERALL CAP RATE: 9.00% EFFECTIVE TAX RATE 3.80% LOADED CAP RATE 12.80%
INDICATED VALUE BY THE INCOME APPROACH: SAY… $3,989,000 $32,966.94 / UNIT $96.32 / SF
All limited service are not created Results in a more reasonable value. equally, there are still variations in risk and location “The Accepted Approach” – Hotel Example
Year Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 ADR $49.00 $49.98 $50.98 $52.00 $53.04 $54.10 $55.18 $56.29 $57.41 Occupancy 70% 71% 71% 72% 72% 73% 73% 74% 74% Rooms Available 44,165 44,165 44,165 44,165 44,165 44,165 44,165 44,165 44,165
Effective Net Income $1,514,859.50 $1,556,193.52 $1,598,574.96 $1,642,029.18 $1,686,582.14 $1,732,260.41 $1,779,091.18 $1,827,102.27 $1,876,322.16
Expenses Management 4.50% $68,168.68 $70,028.71 $71,935.87 $73,891.31 $75,896.20 $77,951.72 $80,059.10 $82,219.60 $84,434.50 Franchise Fees 4.00% $60,594.38 $62,247.74 $63,943.00 $65,681.17 $67,463.29 $69,290.42 $71,163.65 $73,084.09 $75,052.89 Insurance $15,000.00 $15,450.00 $15,913.50 $16,390.91 $16,882.63 $17,389.11 $17,910.78 $18,448.11 $19,001.55 Utilities $80,000.00 $82,400.00 $84,872.00 $87,418.16 $90,040.70 $92,741.93 $95,524.18 $98,389.91 $101,341.61 Other Expenses $656,000.00 $675,680.00 $689,193.60 $702,977.47 $717,037.02 $731,377.76 $746,005.32 $760,925.42 $776,143.93 Total Expenses $879,763.06 $905,806.45 $925,857.97 $946,359.02 $967,319.84 $988,750.93 $1,010,663.04 $1,033,067.13 $1,055,974.47 Operating Expenses 58% 58% 58% 58% 57% 57% 57% 57% 56% Net Operating Income $635,096.44 $650,387.07 $672,716.99 $695,670.17 $719,262.30 $743,509.48 $768,428.14 $794,035.13 $820,347.69
FF&E Reserves 3.00% $45,445.79 $46,685.81 $47,957.25 $49,260.88 $50,597.46 $51,967.81 $53,372.74 $54,813.07 $56,289.66 FF&E Currently in Place $42,350.00 $43,197.00 $44,060.94 $44,942.16 $45,841.00 $46,757.82 $47,692.98 $48,646.84 $49,619.77 Capital Improvements $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 36% 36% 36% 37% 37% 37% 38% 38% 38% Before Tax Cash Flow $547,300.66 $560,504.27 $580,698.80 $601,467.13 $622,823.84 $644,783.84 $667,362.43 $690,575.23 $714,438.25 “The Accepted Approach” – Hotel Example
Year Cash Flow PV of $1 @ 17.30% Present Value 1 $547,300.66 X 0.8525 = $466,581.98 2 $560,504.27 X 0.7268 = $407,364.24 3 $580,698.80 X 0.6196 = $359,796.47 4 $601,467.13 X 0.5282 = $317,701.93 5 $622,823.84 X 0.4503 = $280,462.74 6 $644,783.84 X 0.3839 = $247,528.99 7 $667,362.43 X 0.3273 = $218,411.58 8 $690,575.23 X 0.2790 = $192,675.68 $2,490,523.60 “The Accepted Approach” – Hotel Example
NOI Year 9 $714,438.25 Divided By: Terminal Cap Rate 14.30% Capitalized Cash Flow Year 9 $4,996,071.68 Less: Resale Cost @ 3% ($149,882.15) Reversion $4,846,189.53 Multiplied By: Discount Rate 0.2790 Discount Value of Reversion $1,352,123.30 Plus: Cummulative Cash Flow Years 1-8 $2,490,523.60 Value Indication By DCF $3,842,646.90 Rounded: $3,843,000.00 Per Room Real Estate Value $31,760.33
Similar Result. Tenant improvements & leasing commissions
“…but its part of the market!” Tenant Improvements & Leasing Commissions
Why are TI’s not accounted for, a buyer considers them?
They are expenses to the real estate, why are they not in a direct cap pro forma?
What income does the buyer purchase?
How did you calculate your cap rates?
Is buildout considered real estate? Tenant Improvements & Leasing Commissions
How is your cap rate calculated?
PGI $ 100,000.00 $ 100,000.00 Vacancy & CL 5.00% 5.00% EGI $ 95,000.00 $ 95,000.00 Operating Expenses $ 35,000.00 $ 35,000.00 Tenant Improvements $ 10,000.00 NA Leasing Commissions $ 10,000.00 NA NOI $ 40,000.00 $ 60,000.00 Cap Rate 6.67% 10.00% Value Result $ 600,000.00 $ 600,000.00 Tenant Improvements & Leasing Commissions
In this scenario, we have double dipped those expenses.
PGI $ 100,000.00 Vacancy & CL 5.00% EGI $ 95,000.00 Operating Expenses $ 35,000.00 Tenant Improvements $ 10,000.00 Leasing Commissions $ 10,000.00 NOI $ 40,000.00 Cap Rate 10.00% Value Result $ 400,000.00 Tenant Improvements & Leasing Commissions
We have to discover how to apply our cap rate comps to the subject property the same way we calculated the cap rates from the comparable sales.
Comp 1 Comp 2 Comp 3 Comp 4 PGI $ 250,000.00 $ 60,000.00 $ 700,000.00 $ 85,000.00 Vacancy & CL 7.50% 2.50% 6.00% 4.00% EGI $ 231,250.00 $ 58,500.00 $ 658,000.00 $ 81,600.00 Operating Expenses $ 60,000.00 $ 14,000.00 $ 158,000.00 $ 20,000.00 NOI $ 171,250.00 $ 44,500.00 $ 500,000.00 $ 61,600.00 Sale Price $ 1,900,000.00 $ 405,000.00 $ 6,250,000.00 $ 520,000.00 Cap Rate 9.01% 10.99% 8.00% 11.85% Tenant Improvements & Leasing Commissions
Year Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 NOI $100,000.00 $103,000.00 $106,090.00 $109,272.70 $112,550.88 $115,927.41 $119,405.23 $122,987.39 $126,677.01
Vacancy & Collection Loss 5% 5% 5% 5% 5% 5% 5% 5% 5%
Effective Net Income $95,000.00 $97,850.00 $100,785.50 $103,809.07 $106,923.34 $110,131.04 $113,434.97 $116,838.02 $120,343.16
Operating Expenses $35,000.00 $36,050.00 $37,131.50 $38,245.45 $39,392.81 $40,574.59 $41,791.83 $43,045.59 $44,336.95
Net Operating Income $60,000.00 $61,800.00 $63,654.00 $65,563.62 $67,530.53 $69,556.44 $71,643.14 $73,792.43 $76,006.20
Tenant Improvements $0.00 $8,000.00 $0.00 $0.00 $0.00 $0.00 $12,000.00 $0.00 $0.00 Leasing Commissions $0.00 $2,000.00 $0.00 $0.00 $0.00 $0.00 $3,000.00 $0.00 $0.00 Capital Improvements $0.00 $0.00 $0.00 $10,000.00 $0.00 $0.00 $0.00 $0.00 $0.00
Before Tax Cash Flow $60,000.00 $51,800.00 $63,654.00 $55,563.62 $67,530.53 $69,556.44 $56,643.14 $73,792.43 $76,006.20 Tenant Improvements & Leasing Commissions
Always ask buyers how they considered TI’s & LC’s in their purchase
Did they calculate them as part of a DCF analysis
Are future expenses implied in their cap rate?
Would they even pay for TI’s or LC’s?
Be cautious of a TI and LC adjustment from base or face rent. i.e. “net effective rent” Properties with high vacancy
“You’re going to tax me out of business” High Vacancy
How does it factor into a single year pro forma?
What is market?
What is the market for the subject property?
Has the highest and best use changed to cause vacancy?
Is the property’s highest and best use owner occupied? High Vacancy
Office Building
Gross leases
75,000 square feet NRA
Multi tenant
High Vacancy
Office Property
OFFICE AREA 75,000
NET RENTABLE AREA 75,000
GROSS BUILDING AREA 115,000
OFFICE RENTAL RATE (GROSS) $12.00 ECONOMIC POTENTIAL NET INCOME: $900,960 LESS: ESTIMATED VACANCY & C. L. @ 45.0% $ (405,432)
EFFECTIVE NET INCOME: $495,528
LESS:
OPERATING EXPENSE ON VACANT SPACE(PER S. F.) @ $6.00 ($450,480) RESERVES FOR REPLACEMENT (PER S. F.) @ $ 0.20 ($23,062) TOTAL EXPENSES @ 61.8% ($473,542)
NET OPERATING INCOME: $21,986
EFFECTIVE TAX RATE 4.00%
OVERALL CAP RATE: 9.00% TAX PAID ON VACANCY 4.00% EFFECTIVE CAP RATE (INCLUDING UNPAID TAX) 13.00%
$169,120
INDICATED VALUE BY THE INCOME APPROACH: SAY… $169,000
$2.25 S. F. (NRA) High Vacancy
Office Property
OFFICE AREA 75,000
NET RENTABLE AREA 75,000
GROSS BUILDING AREA 115,000
OFFICE RENTAL RATE (GROSS) $12.00 ECONOMIC POTENTIAL NET INCOME: $900,960 LESS: ESTIMATED VACANCY & C. L. @ 15.0% $ (135,144)
EFFECTIVE NET INCOME: $765,816
LESS:
OPERATING EXPENSE ON VACANT SPACE(PER S. F.) @ $6.00 ($450,480) RESERVES FOR REPLACEMENT (PER S. F.) @ $ 0.20 ($23,062) TOTAL EXPENSES @ 61.8% ($473,542)
NET OPERATING INCOME: $292,274
EFFECTIVE TAX RATE 4.00%
OVERALL CAP RATE: 9.00% TAX PAID ON VACANCY 4.00% EFFECTIVE CAP RATE (INCLUDING UNPAID TAX) 13.00%
$2,248,258
INDICATED VALUE BY THE INCOME APPROACH: SAY… $2,248,000
$29.97 S. F. (NRA) High Vacancy
Year Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 PGI $900,000.00 $918,000.00 $936,360.00 $955,087.20 $974,188.94 $993,672.72 $1,013,546.18 $1,033,817.10 $1,054,493.44
Vacancy & Collection Loss 45% 40% 30% 25% 25% 15% 5% 5% 5%
Effective Net Income $495,000.00 $550,800.00 $655,452.00 $716,315.40 $730,641.71 $844,621.81 $962,868.87 $982,126.25 $1,001,768.77
Operating Expenses $450,000.00 $459,000.00 $468,180.00 $477,543.60 $487,094.47 $496,836.36 $506,773.09 $516,908.55 $527,246.72 Reserves for Replacement $23,000.00 $23,460.00 $23,929.20 $24,407.78 $24,895.94 $25,393.86 $25,901.74 $26,419.77 $26,948.17
Net Operating Income $22,000.00 $68,340.00 $163,342.80 $214,364.02 $218,651.30 $322,391.59 $430,194.04 $438,797.93 $447,573.88
Tenant Improvements $0.00 $8,000.00 $20,000.00 $6,000.00 $0.00 $18,000.00 $18,000.00 $0.00 $0.00 Leasing Commissions $0.00 $2,000.00 $5,000.00 $1,000.00 $0.00 $6,000.00 $6,000.00 $0.00 $0.00 Capital Improvements $0.00 $0.00 $0.00 $25,000.00 $0.00 $0.00 $0.00 $0.00 $0.00
Before Tax Cash Flow $22,000.00 $58,340.00 $138,342.80 $182,364.02 $218,651.30 $298,391.59 $406,194.04 $438,797.93 $447,573.88 High Vacancy
Year Cash Flow PV of $1 @ 15.00% Present Value 1 $22,000.00 X 0.8696 = $19,130.43 2 $58,340.00 X 0.7561 = $44,113.42 3 $138,342.80 X 0.6575 = $90,962.64 4 $182,364.02 X 0.5718 = $104,267.22 5 $218,651.30 X 0.4972 = $108,708.34 6 $298,391.59 X 0.4323 = $129,002.92 7 $406,194.04 X 0.3759 = $152,703.39 8 $438,797.93 X 0.3269 = $143,443.82 $792,332.18 High Vacancy
NOI Year 9 $447,573.88 Divided By: Terminal Cap Rate 10.00% Capitalized Cash Flow Year 9 $4,475,738.84 Less: Resale Cost @ 3% ($134,272.17) Reversion $4,341,466.67 Multiplied By: Discount Rate 0.3269 Discount Value of Reversion $1,419,233.16 Plus: Cummulative Cash Flow Years 1-8 $792,332.18 Value Indication By DCF $2,211,565.33 Rounded: $2,212,000.00 High Vacancy
Stabilized Direct Cap: $2,248,000
Discounted Cash Flow: $2,212,000
More intensive highest and best use analysis required
More market data for vacancy, rental rate, etc. required
What is the history of the property?
Termination fees
“The vacancy has destroyed the synergy” Termination Fees
What are they?
Who pays them?
How do they factor into a pro forma?
How does it affect vacancy?
Termination Fees
Retail Big Box
75,000 square feet
1 Year’s rent to buy out lease
Termination Fees
Big Box Retail Property
OFFICE AREA 75,000
NET RENTABLE AREA 75,000
GROSS BUILDING AREA 75,000
OFFICE RENTAL RATE (GROSS) $8.00 ECONOMIC POTENTIAL NET INCOME: $1,200,000 LESS: ESTIMATED VACANCY & C. L. @ 5.0% $ (60,000)
EFFECTIVE NET INCOME: $1,140,000
LESS:
OPERATING EXPENSE ON VACANT SPACE(PER S. F.) @ $6.00 ($450,480) RESERVES FOR REPLACEMENT (PER S. F.) @ $ 0.20 ($23,062) TOTAL EXPENSES @ 61.8% ($473,542)
NET OPERATING INCOME: $666,458
EFFECTIVE TAX RATE 4.00%
OVERALL CAP RATE: 9.00% TAX PAID ON VACANCY 4.00% EFFECTIVE CAP RATE (INCLUDING UNPAID TAX) 13.00%
$5,126,597
INDICATED VALUE BY THE INCOME APPROACH: SAY… $5,127,000
$68.36 S. F. (NRA) Termination Fees
Big Box Retail Property
OFFICE AREA 75,000
NET RENTABLE AREA 75,000
GROSS BUILDING AREA 75,000
OFFICE RENTAL RATE (GROSS) $8.00 ECONOMIC POTENTIAL NET INCOME: $600,000 LESS: ESTIMATED VACANCY & C. L. @ 15.0% $ (90,000)
EFFECTIVE NET INCOME: $510,000
LESS:
OPERATING EXPENSE ON VACANT SPACE(PER S. F.) @ $0.40 ($30,000) RESERVES FOR REPLACEMENT (PER S. F.) @ $ 0.20 ($15,000) TOTAL EXPENSES @ 61.8% ($45,000)
NET OPERATING INCOME: $465,000
EFFECTIVE TAX RATE 4.00%
OVERALL CAP RATE: 8.00% TAX PAID ON VACANCY 4.00% EFFECTIVE CAP RATE (INCLUDING UNPAID TAX) 12.00%
$3,875,000
INDICATED VALUE BY THE INCOME APPROACH: SAY… $3,875,000
$51.67 S. F. (NRA) Termination Fees
Year Year 1 Year 2 Year 3 Year 4 Year 5 Year 6 Year 7 Year 8 Year 9 PGI $600,000.00 $612,000.00 $624,240.00 $636,724.80 $649,459.30 $662,448.48 $675,697.45 $689,211.40 $702,995.63 $600,000.00 Vacancy & Collection Loss 5% 100% 5% 5% 5% 5% 5% 5% 5%
Effective Net Income $1,170,000.00 $0.00 $593,028.00 $604,888.56 $616,986.33 $629,326.06 $641,912.58 $654,750.83 $667,845.85
Operating Expenses $30,000.00 $300,000.00 $31,200.00 $31,824.00 $32,460.48 $33,109.69 $33,771.88 $34,447.32 $35,136.27 Reserves for Replacement $15,000.00 $15,300.00 $15,606.00 $15,918.12 $16,236.48 $16,561.21 $16,892.44 $17,230.29 $17,574.89
Net Operating Income $1,125,000.00 ($315,300.00) $546,222.00 $557,146.44 $568,289.37 $579,655.16 $591,248.26 $603,073.22 $615,134.69
Tenant Improvements $0.00 $0.00 $100,000.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 Leasing Commissions $0.00 $0.00 $30,000.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 Capital Improvements $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00 $0.00
Before Tax Cash Flow $1,125,000.00 ($315,300.00) $416,222.00 $557,146.44 $568,289.37 $579,655.16 $591,248.26 $603,073.22 $615,134.69 Termination Fees
Year Cash Flow PV of $1 @ 15.00% Present Value 1 $1,125,000.00 X 0.8696 = $978,260.87 2 -$315,300.00 X 0.7561 = -$238,412.10 3 $416,222.00 X 0.6575 = $273,672.72 4 $557,146.44 X 0.5718 = $318,550.29 5 $568,289.37 X 0.4972 = $282,540.25 6 $579,655.16 X 0.4323 = $250,600.92 7 $591,248.26 X 0.3759 = $222,272.12 8 $603,073.22 X 0.3269 = $197,145.71 $2,284,630.78 Termination Fees
NOI Year 9 $615,134.69 Divided By: Terminal Cap Rate 10.00% Capitalized Cash Flow Year 9 $6,151,346.89 Less: Resale Cost @ 3% ($184,540.41) Reversion $5,966,806.48 Multiplied By: Discount Rate 0.3269 Discount Value of Reversion $1,950,559.62 Plus: Cummulative Cash Flow Years 1-8 $2,284,630.78 Value Indication By DCF $4,235,190.40 Rounded: $4,235,000.00 Case Study Problems Questions/Discussion