Debt Financing Flashcards
How do you layout unleveraged cash flows?
- Step 1: Summarize Cash Flows from Operations (Net Operating Income)
- Add escalators as needed
- Step 2: Add Cash Flow from Investing
- Add acquisition and development / renovation costs
- Add net sales price
- Step 3: Calculate Unlevered Internal Rate of Return and Net Present Value
What is the NPV rule of making investment decisions?
- Only invest in projects with NPV greater than or equal to zero.
- If you’re having to choose between projects, invest in the one with the higher NPV.
What is the discount rate?
The rate of return you would receive on an alternative (comparable) asset.
What does comparable mean in refernce to the discount rate?
- •Same product type
- •Same neighborhood
- •Same age
- •Same investment characteristics (i.e. leverage)
- •Same Investment Period
- •Same Risk
What are the 3 parts of Stage 2 anaylsis?
- Part 1: Layout Unleveraged Cash Flows (and Calculate Returns)
- Part 2: Layout Leveraged Cash Flows (and Calculate Returns)
- Layout After-Tax Cash Flows (and Calculate Returns)
- Part 3: Structure Equity Partnership Cash Flow Allocations
- Layout Investor’s Cash Flows (and Calculate Returns)
- Layout Entrepreneur’s Cash Flows (and Calculate Returns)
What is the underlying objective of stage 2 anaylsis?
To capture the schedule of cash flows related to the project and apply financial metrics.
What is financial leverage?
Controlling an asset whose value is greater than the amount of equity capital invested.
At its core what is Real Estate Investment?
The purcahse and sale of cash flows.
ROA
Return on assets - The income from an asset expressed as a percentage of the asset’s value.
Price = $20
Cash Flow = $2
ROA = 10%
ROA = Cash Flow(income)/Price
ROE
Return on equity - The income from an asset expressed as a percentage of the amount of equity required to purchase the asset.
ROE = Income/Equity Required to Purchase
price = $10
equity injection = $2
ROE = 20%
How does ROA & ROE differ?
ROA - is an inherent characteristic of an asset. (income Statement)
ROE - varies depending on the amount of debt an owner chooses and how much they have to pay for it (Balance Sheet).
Why use leverage?
- Spread of cash into multiple opportunities
- Take advantage of tax deducibility of mortgage interest
- Take advantage of superior ROE.
How does leverage impact an investment?
It amplifies profits and risk (too much leverage increases risk).
What is a mortgage?
loan whose balance is paid off over time (amortize = dies off).
What are components of a mortgage?
- Laon Amount
- Amoritzation
- Loan Term (Maturity)
- Contract
- Intrest Rate
- Collateral
What is debt service?
Cash flows needed to make the periodic payments.
Interest payment + Amoritation (Principal Payment)
What is a constant payment mortgage?
A mortgage with constant payments which, if made according to the pre-determined amortization schedule, will pay off:
(1) the entire principal balance
plus
(2) all of the interest which will accrue over the life of the loan
How will a bank determine how much money to lend?
The lesser of the following 3 metrics:
- LTV -Loan To Value
- LTC - Loan to Cost
- DSCR - Debt Service Coverage Ratio
LTV
Loan to value = Loan amount/property value
LTC
Loan to cost = Loan Amount/Project Cost
DSCR
Deb service coverage ratio = NOI/Annual Debt Service
Cash Throw-Off
(FCF) NOI-Debt Service
Equity Analysis
Value-Debt (Loan Balance)
Cash-on-Cash Return
Cash Throw-Off/Equity
