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Trimester 4 > Articles Real Estate > Flashcards

Articles Real Estate Flashcards

1
Q

How large is real estate an asset in the books for most businesses?

A

largest or second-largest asset

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2
Q
  1. Manage the portfolio (Issues that senior managers need to understand)
A
  • portfolio analysis will probably reveal some misalignments that are not observable at a site-by-site analysis:
  • especially important when a company is going through a major change
  • company may have too much space in one location and too little in another
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3
Q
  1. Build in Flexibility
A
  • can be financial (leasing instead of owning)
  • physical (modular space)
  • organizational (redistributing work, like work from home)
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4
Q
  1. Cultivate intelligence
A
  • leaders need real estate intelligence: accurate data synthesized into relevant information
  • database with data
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5
Q
  1. Team with Professionals
A
  • most efficient organization often do the least to operate their business real estate
  • service partnerships
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6
Q
  1. Embrace Sustainablility
A
  • green buildings deliver high returns over the long run
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7
Q

Five factors to assess an organizations real estate portfolio

A
  • amount of space in portfolio (m2/ employee)
  • price of occupancy
  • grade of building class (lavish standards?)
  • area (% in primary or secondary locations, downtown?)
  • risk (portfolio’s exposure to market, financial, and environmental volatility)
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8
Q

appraisal smoothing

A

a temporal lag bais in appraisals (determining an asset’s value)
- appraisers valuing the same property in consecutive periods anchor on previous appraisal value, resulting in even more lag then the first time appraisal.

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9
Q

smoothing

A

occurs when the variability of asset prices are smoothed or biased downward because of estimation in valuation

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10
Q

Three main differences between private and public real estate equities

A
  1. property-type mix
  2. leverage
  3. appraisal smoothing
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11
Q

Are the restated (accounted for main differences between private and public real estate) volatilities and means different in private and pubic real estate indexes?

A
  • They are not
  • public and private market vehicles ought to be viewed as offering investors a risk/return continuum (similar risk return) of real estate opportunities
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12
Q

What is the main difference between private and public real estate?

A
  • the platform matters with regard to:
  • liquidity, governance, transparency, control, executive compensation
  • -> clientele effect hints at these issues being valued differently by large and small investors
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13
Q

clientele effect

A

set of investors attracted to a particular kind of security will affect the price of the security when policies or circumstance change

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14
Q

REITs

A

Real estate investment trusts

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15
Q

Have the returns of REITS exceeded returns on private equity real estate?

A

Yes be 5%/year (500 basis points)

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16
Q

Clientele effect in real estate?

A

large institutional investors invest into private real estate equities and individual into public real estate equities.

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17
Q

NAREIT

A

National Association of Real Estate Investment Trusts

REITs

18
Q

NCREIF / NCREIF Property Index (NPI)

A

National Council of Real Estate Investment Fiduciaries
private commercial real estate
- is a quarterly, unleveraged composite total return for private commercial real estate properties held for investment purposes only.

19
Q

Which property-mix does the NPI have?

A
  • core properties (apartments, industrial, office and retail sector)
20
Q

Which property-mix does the NAREIT have?

A
  • includes noncore properties (gold courses, hotels, health care facilities, racetracks)
21
Q

What does the NCREIF Property Index suffer from?

A
  • from appraisal smoothing
  • -> volatility of appraised property values are artificially dampened
  • the NAREIT in contrast is market-based
22
Q

new REIT era

A

1993-2001
because in the early 1990s a shift occurred in the organizational structure of REITs towards an emphasis on the self-managed structure. (internally advised REITS perform better than externally advised ones)

23
Q

How is the capital structure of a REIT with a high market-to-book ratio?

A

REITs with a high growth opportunity and high market valuation raise funds through debt issues

24
Q

Equity market timing

A

issuing shares at high prices and repurchasing at low prices
–> the evidence of persistently positive impact of weighted market-to-book on leverage in the long term regression contradicts market timing

25
Q

trade-off theory

A

(does not hold for REITS)
states that an optimal capital structure exists where the value of tax deductibility of interest payments is offset by the cost of financial distress
–> but the persistence of market-to-book as a determinant of capital structure is inconsistent with this notion.

26
Q

pecking order theory

A

Basically builds upon equity market timing (double hermeneutics)

investors suspect managers sell equity when it is overvalued, so stock prices are discounted when new equity issues are announced.

  • -> this adverse selection leads managers to use internal funds and debt first, and choose equity only as a last resort.
  • -> implies that high growth firms, particularly those with insufficient free CF, have high debt ratios.

–> could hold for REITs but not a definite conclusion because REIT managers have no retained earnings so they have to either use debt or equity. So the decision to issue stock may not be motivated primarily by overvaluation. Recognizing this possibility, investors may be less skeptical of mangers’ motives such that adverse selection costs of selling equity are mitigated.

27
Q

What happens if REITS pax out 90% of earnings

A

They have a tax-exempt status, which removes interest tax-deductibility as an incentive for debt.
–> given bankruptcy cost, trade-off theory predicts low level of debt for REITs. (this is wrong, however, because debt ratios are over 65%)

28
Q

Why do REITs issue so much debt when it has no tax advantages?

A
  • because of the pecking order theory. There are low retained earnings because of the mandatory high payouts
    Overall, REIT financing decisions represent a trade off btw. lack of incentive for debt, and adverse selection cost of equity.
29
Q

What do changes in REIT market valuation induce?

A

Change in leverage through net debt issues, not equity issues. Potential changes in leverage due to equity issues are offset by simultaneous debt issue.

30
Q

What is one potential explanation for the high debt ratio?

A
  • monitoring benefit of mandatory interest payment on debt. Under this scenario debt serves as a substitute to alternative monitoring mechanisms.
31
Q

Where do heterogeneous properties trade?

A

In illiquid, highly segmented and informationally inefficient local markets: restriction for investor’s set of substitutes and search costs associated with matching buyers and sellers (there is no short selling so there is not method of eliminating misplacing by traders and arbitrageurs face non-trivial (not little value) transaction costs that prevent them from taking fully offsetting positions to correct mispricing)
–> highly susceptible to sentiment-induced mispricing which leads to time-series variation in cap rates

32
Q

Capitalization rate

A

net operating income/ Value

33
Q

What is the behavioral finance approach to asset valuation?

A

In these models, investor sentiment can have a role in the determination of asset prices - independent of market fundamentals

34
Q

When does sentiment play a pricing role?

A

Only in hot markets. Irrational investors are only active in the market when they are overly optimistic. Hence, in up markets, asset values reflect the sentiment of these irrational traders.

35
Q

What are real estate markets subject to?

A

Fads (swings in sentiment).

  • -> many real estate practitioners devote effort to understand market sentiment, rather than focusing solely on CF and discount rate considerations.
  • fundamentals are the key driver of cap rates though. Sentiments also play a pricing role.
36
Q

Which method to value real estate is commonly used?

A

The DCF method using the WACC

37
Q

What are the three pitfalls of the DCF method?

A
  • performed under deterministic assumptions (one does not take into account uncertainty in the estimated CFs) –> the entire process is devalued when forecasts do not materialize or even when inputs are slightly manipulated. This is particularly severe because the terminal value is dependent of the last forecasted FCF, the perpetual rate of growth.
  • circularity problem when part of the asset is finance by debt. For the WACC you need to value of the asset but that is what you are looking for.
  • discount rate is assumed to be constant through time , but research has shown that the rate of return is even more prone to change than the expected CF.
38
Q

What is an alternative to the DCF technique?

A

The Adjusted Present Value (APV) methodology.

  • it solves the circularity problem
  • uncertainty issue is dealt with by the Monte Carlo simulations, which are based on statistical measures
39
Q

What is the discount rate in APV?

A
  • the discount rate represents the required rate of return for fully equity-financed properties
40
Q

Why is CAPM in most cases not applicable?

A
  • not sufficient historical data for direct real estate investments
  • an appropriate definition of the MP is difficult
41
Q

What do value estimates reach most to?

A

Changes in the long-term invest rates and to changes in the growth rate of the terminal value. Those components are important to look at in the DCF.

Trimester 4 (27 decks)

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