Finance and Real Estate Valuation

Abstract

In the aftermath of the “Yes Era”, we believe that investors must return to fundamental analytical tools in order to help ensure that a property has the desired characteristics which allow an investor to achieve their required rate of return. Investing in non-speculative properties will help the investor in obtaining financing at a bank, as lenders are less willing to take risks than they were only a few years ago.

The value of a principle is the number of things it will explain.

Ralph Waldo Emerson

Appendices

Mini-Case #1: Rent Roll Analysis

You have received two rent rolls for two different investment properties. You are interested in assessing the strength of these two properties as an investment by starting with an analysis of the rent rolls.

Your first potential investment is a retail shopping center located in your hometown.

The listing of tenants is as follows:

Tenant	Unit #	Sq. ft.	Monthly rent	Lease maturity
Food Lion	#100	25,000	$31,250	11/15/2014
Family Dollar	#101	5,500	5,500	1/15/2015
Lucie’s Nail Salon	#102	2,000	2,700	3/15/2015
Szechuan Palace	#103	3,000	4,000	7/15/2021
Vacant Space	#104, 105	4,000

Your second potential investment is an office building also located in your hometown.

The tenant listing is as follows:

Tenant	Unit #	Sq. ft.	Monthly rent	Lease maturity
Dr. Ricardo, DDS	#100	3,000	$5,000	01/01/2014
Galbraith and Friedman, Attorneys at Law	#101	4,000	$6,000	03/15/2014
Novant Health	#102	12,000	$16,700	1/1/2021
Dr. Mudd and Dr. Sick, M.D.	#103	1,000	$1,850	01/01/2021
Dr. Sen’s Acupuncture	#201	3,000	$5,000	04/15/2017
Veblen, Hirschman, and McNeely, PLLC	#202	4,000	$5,000	05/30/2016
We (really) care, not-for profit	#203	3,000	$3,800	MTM
Vacant Space	#204–206	10,000

Questions for Discussion

• 1. Is there anything that seems troubling about the durability of the income stream for either property given an investment horizon of 3, 5, or 7 years?

• 2. What are your thoughts about the tenant mix for both properties?

• 3. What specific questions would you ask the seller concerning each property?

Mini-Case #2: Operating Expense Analysis

When evaluating an existing investment property, it is common that the last 3 years financial statements are analyzed in order to determine the most likely level of operating expenses on an on-going basis. The following exercise will serve to facilitate discussion on what expenses to include, and what assumptions to make when evaluating the historical operating performance of an investment property.

Consider the following investment property that has achieved the following level of operating expenses over the last 3 years:

Fiscal year end	Year 1	Year 2	Year 3	Pro-forma
General and administrative	76,819	65,323	68,134
Repairs and maintenance	54,000	75,652	51,000
Utilities	85,729	87,242	88,926
Depreciation/amortization	75,000	75,000	75,000
Salaries and commissions	153,000	157,500	161,000
Management fee	50,000	50,000	50,000
Property taxes	73,500	75,425	77,800
Insurance	12,500	18,754	21,315
Interest expense	115,700	121,100	128,762
Advertising	4,500	7,200	8,995
Total operating expenses	700,748	733,196	730,932

Questions for Discussion

• 1. In the space under the pro-forma column, indicate your assumptions for the “going-forward” operating expenses.

• 2. Where might it not be prudent to take an average of the last 3 years in terms of expense calculations?

• 3. Which expenses should not be included in a pro-forma operating statement for an investment property?

• 4. What questions might you ask of the owner or property manager in order to aid you in this process?

• 5. How are good results determined here?