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Equity Investment & The Investment Decision. Real Estate Investment Advantages. Pride in Ownership Personal control Self-use & Occupancy Estate Building Security of Capital Operating Cash Flows Leverage Tax Shelter factors Capital Appreciation & Inflation Protection.

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real estate investment advantages
Real Estate Investment Advantages
  • Pride in Ownership
  • Personal control
  • Self-use & Occupancy
  • Estate Building
  • Security of Capital
  • Operating Cash Flows
  • Leverage
  • Tax Shelter factors
  • Capital Appreciation & Inflation Protection
real estate disadvantages
Real Estate Disadvantages
  • Illiquidity
  • Required equity capital
  • Management burden
  • Depreciation of value
  • Government controls
  • Real estate cycles
  • Legal complexity
  • Lack of information & education
slide5
Risks
    • Legal: Zoning, public opinion,

public services, etc.

    • Market risks: Marketability study
      • Will it rent? Will it sell?
      • Market study: S&D, Competition
      • Absorption rates: How fast is space being utilized
risks
Risks

Cost risks:

  • Interest rates
  • Estimates poor
  • Labor
  • Weather

Possible Solutions:

  • Guaranteed price contracts
      • Watch out for cushion
  • General contractors: Reputable & bonded
  • Completion bond (Lenders may require)
      • Guarantees price
  • Cost plus contracts: Developer pays costs + fee
return measures
Return Measures
  • Cash Flow (Net Spendable) Pro Forma:
  • Cash on Cash= Net Spendable/Down payment
    • =1100/10000=11%
return measures8
Return Measures
  • Rate of return on total capital: = NOI/Total Capital
      • = 14/120 = 11.7%
  • Return on Equity (ROE) = CF Before Tax/Equity
      • = 1.1/20 = 5.5%
  • Favorable leverage: If ROE > ROR
    • If unfavorable leverage:
      • Don't buy
      • Reduce Price
      • Try to lower APR or increase term
      • Raise NOI or lower expenses
      • Restructure (ie., more equity)
return measures9
Return Measures
  • Equity cap rate: = CF before Tax/Equity
      • (ie., required ROE)
    • For example:
      • Your desired cap rate is 14%
      • CF before tax is $1,100
      • Equity value = 1.1/.14 = $7,857
      • Plus loan of $100K
      • Therefore property value = $107,857
  • Risk measures: BEP & Debt Coverage Ratio
discounted cf analysis
Discounted CF Analysis
  • Income Cap Rate:
      • NOI/Market Value
      • Compare to other opportunities
  • Do Cash Flow Spread sheet:
  • Ratio Analysis
  • Sensitivity Analysis:
    • What if we change the value of a variable?
  • Scenario Analysis: Worst versus Best?
  • Monte Carlo Analysis:
    • Randomly assign values & check bottom line
investment analysis process
Investment Analysis Process
  • Strategy: Determine First!!
      • Return/Risk Objectives
      • Ownership Form
      • Market Analysis
      • Screening Criteria
      • Location/Property Analysis
  • Generate Alternatives: Those that pass screen
  • Use Basic Financial Feasibility Model
      • Develop Finance Screens (APRs, CapRates, NOI)
      • Examine Finance Alternatives (Loans, Equity, etc)
investment analysis process12
Investment Analysis Process
  • Negotiate Basic Terms with Seller
      • Price
      • Financing
      • Covenants
      • Escape Clause
  • Do Detailed Feasibility Research
      • Market:
        • Supply & Demand, Competition, Absorption, Vacancy
      • Marketability: Property Condition
      • Legal, Political, Environmental
      • Management & Operations
investment analysis process13
Investment Analysis Process
  • Structure Tax Benefits
      • Cost Recovery
      • Useful Life
      • Passive Loss Limitations
  • Discounted CF Analysis
      • After-Tax CF, DCF, Adjust for Risk
  • Final Negotiations & Closing
  • Management of Property
  • Termination
      • Sell, merger, IPO
control
Control
  • Purchase Price & Terms
  • Form of Ownership
  • Financing amounts, rates, terms
  • Tax structure & Planning
  • Property management
  • Property location
  • Tenants & Lease rates & terms
negotiation
Negotiation
  • Maximize knowledge position First!
  • Set your initial demands far from final objective
      • Probe for bottom line
  • Raiseyour aspiration level/deflate your opponent's
  • Buyer:
      • Start with lower price than seller wants
      • Lukewarm attitude
      • Point out defects
      • Mention competitive offers
  • Seller:
      • Mention other offers you have rejected
      • Price is probably going up
      • Negotiate most critical items first and
negotiation cont
Negotiation (Cont)
  • Concentrate on items that effect profits
      • Down payment, price, contract period
  • Employ conservative concession policy
      • Don't give in or reciprocate/
      • No sportsmanship/
      • Never concede first
      • Never accept a radical counteroffer without analysis
  • Use intermediaries when to your advantage
      • With agent, more time to analyze
      • Advisor: Openly discuss concerns
  • Try for better deal for both parties:
  • Place proof burden & satisfaction on them
      • Prove to you that it is an attractive opportunity
negotiation tactics
Negotiation (Tactics)
  • Standard Practice: Terms are "standard practice"
  • Bogey: “I only can afford $7,500 in cash"
  • Good guy/Bad guy:
      • One makes strong demands ...
      • Opponent is more susceptible to good guy's weaker demands
  • Deadline: Always use them!
  • Nibbling: Get additional minor concessions after major agreement
  • The tie-up: Get the property off the market while you're making decision
property types
Property Types
  • Land
    • Most Risky
    • Low income
    • Interest, taxes, insurance
    • Interest deduct income only
    • No depreciation
    • 20-30% ROR for risk
    • Consider
      • Access/Slope
      • Zoning
      • Public services & Utilities
    • Return=capital appreciation
property types19
Property Types
  • Residential Rental (Houses,Apts,MHs)
    • Management Intensive
    • Good financing
    • Tax shelter
    • High appreciation
    • Know location & physical condition
    • Check neighborhood & proximity to services
    • Good first step for real estate
    • Some income -- mostly capital appreciation
property types20
Property Types
  • Office Buildings
    • More income/less appreciation
      • Appreciation can be improved w/ maintenance
    • Needs more knowledge for leasing &
      • Property management
    • Types: Downtown vs Suburban

Medium vs HiRise vs Garden (Low)

    • Locations: Highways / Shopping Centers
    • Better construction
    • Low tenant turnover ratios
    • Prestigious clients
property types shopping centers
Property Types : Shopping Centers
  • Most sophisticated Investment & Management Expertise
  • Much more income than appreciation/Few Foreclosed!
  • Owned by wealthy investors (TIAA/CREF=Mall of Amer)
  • Types:
    • Neighborhood center: (Strip): Food, drugs, etc, Built around supermarket/drugstore: 50K Gross leaseable area
    • Community center: + Clothing, furniture, bank, prof: 150K GLA
    • Regional center: Full-line Dept store (Anchor):

Reit & Insur=Ownership; 400K GLA

    • Super Regional Centers: Major metro area: 2 anchors,

100-200 stores, Usually % of profits

property types industrial special
Property Types : Industrial & Special
  • Industrial
    • Warehouses, factories, indust parks
    • Almost all income
    • Not easily converted … increases risk
    • Low risk overall if you have a client
    • Near highways
  • Special Use
    • Need expertise: RE + the application
    • Risky: Be ready to substitute
    • Loans are hard to get … banks ??
    • Requires time commitment
development
Development
  • Overview
      • Combine land, labor, capital &

Entrepreneurial ability

      • Good developers can “visualize” good uses of space
      • Creation of space for play, living & working
      • LT Motive=Income, Mgt, Community/

ST Motive=Cap Gain

      • Redevelopment: Restoration of older structure
development24
Development
  • Types:
    • Land Prep: Lots of all kinds
      • Sell land to other developers
    • Erect improvements on land
  • Who Develops?
    • Part-time
    • Proprietorship
    • Corporation, etc.
    • Joint ventures (ie., 2 developers)
development process be ready to bail out stages may be done simultaneously
Development Process:Be ready to bail outStages may be done simultaneously
  • Idea:Can develop over life of project
  • Preliminary Feasibility: Rough cut analysis
      • Are computer programs: Go if profit looks good
  • GainControl: Ground lease(ties you up), option, seller fin
  • Feasibility Analysis & Design:
    • Detailed analysis, Check site, market, legal, financial
  • Finance: Need cash ASAP, should have already talked
  • Construction: Problems: cost overruns & contractor fails
  • Marketing: Lease (don’t lease too early rates change)

vsSale: When … remember trade-offs

redevelopment trends
Redevelopment & trends
  • Redevelopment:
    • Costs are high, structures - obsolete
    • ITCs, grants
    • Popular trend
  • Trends:
    • Mixed use development: One structure
    • Planned unit development (PUD)
    • New towns/Village concept: Integrated approach: work, shop, play, live
professional help
Professional Help
  • Real Estate Brokers:
    • Get a specialist! Has access to information
  • Appraisers & consultants: Can do DCF
  • Property managers:
    • Has rental & vacancy rates, op. expenses, etc
  • Morgage bankers:
    • Arrange deals & financing alternatives
  • Tax advisers and attorneys
  • Others:
    • Comm banks, Engineers, Architects, Contractors