Financial Appraisals - Must know questions

Question 1

What is a DCF

Answer 1

Discounted Cash Flow -

A valuation model that seeks to determine the value of a real estate investment property by examining its future net income or projected cash flow from the investment and then discounting that cash flow to arrive at an estimated current value of the investment.

Question 2

What is Capitalisation Rate/Cap Rate?

Answer 2

The yield used to capitalise a rental income or value to determine the capital value.

Question 3

What is a discount rate?

Answer 3

A discounted rate is used to derive the present value or net present value of the expected future cash flows. For the evaluation of real estate investments, the discounted rate is commonly the real estate’s target or expected rate of return.

Question 4

What is Exit Yield?

Answer 4

The capitalisation rate used to capitalise the rental income or value at the terminal date of the DCF valuation.

Question 5

What is an Explicit DCF?

Answer 5

Explicit DCF refers to the discounted cash flow model that sets out, with varying degrees of sophistication, the actual expected cash flow of the investment.

Question 6

What is Initial Yield?

Answer 6

The current income level obtained from the asset at the date of valuation expressed as an annual percentage return of the capital value.

Question 7

What is IRR?

Answer 7

Internal Rate of Return -

The rate of interest (expressed as a percentage) at which all future cash flows will be discounted in order that the net present value of those cashflows, including the initial investment, is equal to zero. IRR can be assessed on both gross and net of finance costs.

Question 8

What is Market Approach?

Answer 8

An approach that provides an indication of value by comparing the subject asset with identical or similar assets for which price information is available.

Question 9

What is the RICS professional standard for Viability?

Answer 9

RICS: Financial Viability in Planning (2019)

Question 10

What is Market Rent?

Answer 10

The estimated amount for which an interest in real property should be leased on the valuation date between a willing lessor and willing lessee on appropriate lease terms in an arm’s length transaction, after proper marketing and where the parties had each acted knowledgably, prudently and without compulsion.

Question 11

What is Market Value?

Answer 11

The estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm’s lengh transaction, after proper marketing and where the parties had each acted knowledgeably, prudently and without compulsion.

Question 12

What is NPV?

Answer 12

Net Present Value -

The present value of all cash flows received from an investment, including all inflows and outflows and including any initial outflow, where each receipt/payment is discounted to its present value at the discount rate. Where the NPV is zero, the discount rate is also the internal rate of return.

Question 13

What is Net Initial Yield?

Answer 13

The current income level obtained from the asset at the date of valuation expressed as an annual percentage return of the capital value plus any purchasers costs.

Question 14

What is Present Value?

Answer 14

The present value of all cash flows received from an investment, including all inflows and outflows excluding the initial outflow, where each receipt/payment is discounted to its present value at discount rate.

Question 15

What is Reversionary Yield?

Answer 15

The percentage return on capital value of the rental value of the asset at the date of valuation.

Question 16

What is Sensitivity Analysis / Testing?

Answer 16

The investigation of how a valuation varies with a change in the value of any of the inputs into the valuation. Basic sensitivity analysis assesses each input separately or in pairs.

Question 17

What is Simulation?

Answer 17

A sophisticated application of sensitivity analysis that considerers the probability of outcomes given certain variances applied to key inputs within any financial assessment. It can quantify the level of variation in the valuation of the investment based on input variation.

Question 18

What is a Special Assumption?

Answer 18

An assumption that either assumes facts that differ from the actual facts existing at the valuation date or that would not be made by a typical market participant in a transaction on the valuation date.

Question 19

What is Valuation?

Answer 19

An opinion of the value of an asset or liability on a stated basis at a specified date. Unless limitations are agreed in the terms of engagement, this will be provided after an inspection and any further investigations and enquiries that are appropriate, having regard to the nature of the asset and the purposed of the valuation.

Question 19

What is a Target Return?

Answer 19

The level of expected total return, considering the risk of the particular investment expressed as a periodic rate of return.

Question 20

What is valuation Date?

Answer 20

The date on which the opinion of the value applies. The valuation fate should also include the time at which it applies if the value of the type of asset can change materially in the course of a single day.

Question 21

What is Valuation Variation?

Answer 21

A range of possible valuation outcomes based on different estimates of inputs and/or different methodologies applied.

Question 22

What is Yield/Capitalisation Rate?

Answer 22

Yield that can be applied to the rental income from an investment property to capitalise that income. Depending on the jurisdiction, variations in terminology include capitalisation or cap rate, all-risks yield, equivalent yield, reversionary yield and initial yield/net initial yield.

Question 23

When is an Explicit DCF used?

Answer 23

Explicit DCF is often used by purchasers to price assets and the more explicit model
enables the valuer to be more analytical concerning the different locational, physical,
leasing and current and future occupational demand characteristics of the assets