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Valuation Fundamentals
- Pro Forma Operating Statement The pro forma is the key tool used in calculating cash flows from operations. a) The operating statement can be Retrospective
Prospective
There will be slight differences in how you lay out the pro forma for these purposes.
b) Basic Layout of the Pro Forma –
Potential gross income (PGI)
- Vacancy and credit losses (V&C) Effective gross income (EGI)
- Operating expenses (OE) Net operating income (NOI) Annual debt service (ADS) Before-tax cash flow (BTCF) Income tax from operations (Tax) After-tax cash flow (ATCF)
Potential Gross Income (PGI)
Vacancy and collection allowance (V&C)
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Effective Gross Income
Suppose you have an apartment building with the following information:
What is the potential gross income for the property?
What is the effective gross income for the property (under the current conditions)?
Suppose that the market vacancy rate for similar apartment buildings is 12%. What is the effective gross income for the property?
Which of these is the best way to calculate EGI?
Size Rent Total Units Occupied 2 BR $650 25 23 3 BR $750 15 10
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Capital expenditures are
Leasing costs are
How are these handled in the pro-forma?
Net Operating Income (NOI)
How is NOI best defined?
- Office building example: Consider Century I, a Class B office building in Downtown Wichita
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b) Property assumptions: 98,000 square feet of gross leasable area 60,000 sf rent for $8.50 psf 38,000 sf rent for $10.50 psf Current vacancy is 20% The building can be purchased for $3.5 million 70% financing is available at 7% interest over 30 years; Loan = $2.45 million; ADS = $195,
c) Operating Expenses: Last year, the owner incurred the following expenses on the property: Maintenance $165, Property taxes 51, Depreciation 41, Insurance 24, Income taxes 85, Management 23, Resurfaced parking lot 14, Utilities & cleaning 151, Interest expense 94,
d) Calculating NOI
- What is the building worth?
a) In general, the value of the property ought to be equal to the discounted present value of the NOI forever into the future.
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3
3 2
1 2
t t
t r
NOI
r
NOI
r
NOI
r
NOI
V
To calculate the value of the property, you estimate the expected NOI for each year in the future and discount it back to today.
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Estimate the value of a property
How much is Century I worth if the current market cap rate is 9 percent?
d) Cap Rate Limitations
How much faster must Century I’s income be growing compared to other properties in the market in order for the $3.5 million asking price to be its true market value
- Multiplier analysis
a) Gross Income & Rent Multipliers
GrossIncome
MarketPrice GIM MonthlyGrossIncome
MarketPrice GRM
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Strengths & weaknesses
b) Net income multiplier
N OperatingIncome
MarketPrice NIM et
Strengths & weaknesses
- Financial ratios
a) Operating expense ratio
EffectiveGrossIncome
OperatingExpenses OER
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b) Payback period
