39 Pvt Real Estate Investments

Question 1

Forms of Real Estate

Answer 1

Debt. Equity
Private. Mortgages. Direct Ownership / Partnership / CREF
Public. MBS. REIT / ROEC

Debt —> Cash Flows. Equity —> Returns & Appreciation
Pvt Investment ticket > Public Investment Amount
Equity Return > Debt Return
ROEC / REIT ==> Professionally Managed

Question 2

Characteristics of Real Estate Investment

Classification

Answer 2

1. Heterogeneity. 2. High Unit Value
2. Active Management. 4. High Transaction Costs
3. Depreciation and Desirability. 6. Cost / Debt availability
4. Lack of Liquidity. 8. Price determination difficulty

A. Residential (Single / Multi Family; commercial real estate if income expected)
B. Non Residential (Commercial / Farmland / Timberland)

Commercial - End Use Classification (Industrial / warehouse/ hospitality / Mixed use development)

Question 3

Reasons for Real Estate Investment (5)

Principal Risks (11)

Real Estate in Portfolio Management

Leverage in Real Estate Investment

Answer 3

1. Current Income. 2. Capital Appreciation. 3. Inflation Hedge. 4. Diversification. 5. Taxation

A. Business Conditions B. New Property Lead Time. C. Cost & Capital Availability
D. Unexpected Inflation. E. Demographic Factors. F. Lack of Liquidity
G. Environmental Issues. H. Availability of Information. I. Management Expertise
J. Leverage. K. Other Factors

Bond and Equity like characteristics
Positive Leverage = Magnified returns

Question 4

Commercial Property & distinctive Investment characteristics

Answer 4

Location… Location… Location
Office ~ Job Growth {gross lease v/s net lease; Multi-tenant building}

Industrial ~ Economy & Export / Import {Net lease is common}

Retail~ Consumer spend + eco/job/pop/savings rate {Anchor Tenant; % lease/rent, Ntrl brk pt}

Multi-Family ~ Population growth + age demography + cost buy/lease + interest rates

Question 5

Valuation Approach

Value Concept

Approaches

Answer 5

Market Value. Investment Value. Value in use.
Assessed Value. Mortgage lending value

Cost Approach {New properties; Unusual properties; few comparable transactions}
Sales Comparison Approach {Single family homes; many similar property transactions available}
Income Approach {common for Commercial Real Estate}

Highest and Best Use

Question 6

Income Approach
Types
Concepts
Formulae

Answer 6

A. Direct Capitalisation Method. B. Discounted Cash Flow Method
Also, Gross Income Multiplier Approach

NOI —> Full Rent + Oth Inc = PGI;    PGI - Vacancy - Collection Loss= EGI;    EGI - Op Exp = NOI
Cap Rate v/s Discount Rate.  {Disc Rate = Required Rate;    Cap Rate = Disc rate - Growth rate}
Cap Rate = Current Yield / Going in Cap Rate. { Cap = NOI1 / Value}; [ Reciprocal of PE of equity]
ARY (All Risk Yield) —> Value = Rent1 / ARY.  
IRR ~ Cap Rate + Growth ...... ONLY if Rent growing at CONSTANT rate
Stabilized NOI (factoring temporary issues) (Loss in Temp Value subtracted from Value)

Direct Capitalisation Method v/s Gross Income Multiplier Approach

Terminal Value (Reversion / Resale Value);           Terminal / Residual Cap Rate
Terminal Cap Rate v/s Interest Rate;     V/s Growth Rate;     V/s Uncertainty

Question 7

Lease Structures

Answer 7

Reversionary Potential —> 1. Term and Reversion Approach. 2. Layer Method
Different Cap Rate OR. Equivalent Yield

Multi tenant complications:
A. Income from Existing Lease. B. Lease Renewal Assumption
C. Op Exp Assumption. D. Capital Expenditure Assumptions
E. Vacancy Assumption. F Estimated Resale Price
G. Appropriate Discount Rate

Question 8

Direct Capitalisation V/s Discounted Cash Flow

Answer 8

Growth Rate —> Implicit v/s Explicit
NOI —> 1st Year. V/s Full Holding Period
Discount Rate —> Comparable Txn v/s independent assumptions

DCF Common Errors:
A. Risk ignored in Disc Rate. B. Income Growth > Expense Growth
C. Atypical NOI for terminal Value. D. Cyclicality of Real Estate Market ignored