Investment appraisal: Investment value of an office building as at December 2015.
Word guide 2,000 words (excluding figures, tables and appendices)
The task is to calculate the investment value of an office building as at December 2015. There are three tenancies:
The 3,000ft2 ground floor is let at £35,000 per annum. on a lease expiring in June 2017, following which there is expected to be a 12-month void. Outgoings will be incurred during the void period at the rate of £6/ft2 plus, after three months, property tax of £9/ft2. It is estimated that £50/ft2 will need to be spent on refurbishment, before achieving a re-letting subject to a 12-month rent-free period. The current market rent is considered to be £40,000 per annum, expected to increase to approximately £50,000 per annum by the June 2017 re-letting date.
The lease of the first floor (4,000ft2) at £40,000 per annum expires in December 2019. Assume six months void, six months rent-free; void outgoings £6/ft2; property tax £9/ft2 after three months; £40/ft2 refurbishment cost. The current market rent of £60,000 per annum is expected to increase to £69,000 per annum by the June 2020 re-letting date. The lease of the second to fifth floors (16,000ft2) at £190,000 per annum runs until
September 2023, subject to a rent review in September 2018. The current market rent is estimated to be £240,000 per annum, expected to increase to £262,000 per annum by September 2018 when a 5% market rent discount is expected to be applicable at rent review.
A five-year holding period is assumed. A 10% discount rate and an exit yield of 7.25% are considered appropriate.
Your valuation should take the form of a monthly discounted cash flow. Please explain the inputs into the cash flow and any assumptions that you make.
1st 2i 2ii 3 F
The following aspects will be assessed:
– The ability to identify appropriate material and data for inclusion in the report
– Accurate analysis of quantitative information provided.
– Quality of discussion of the material presented in the report.
– Understanding the implication of any quantitative analysis and other findings
– Presentation of material – in particular the layout of
Discipline: real estate investment appraisal
Project has two elements
Group appraisal/valuation exercise
Individual multiple choice test
Again, in the role of a property advisor, instructions from a pension fund client considering the purchase of an office property in Reading
Valona House in Reading town centre is a hypothetical property
Partially let with potential for refurbishment
Review the market for offices: look at a few agents’ reports and try and get a handle on general national and regional office market state, prospects and supply, demand and take up locally.
Take a view on where Reading fits into the national and regional context and the different prospects for prime and secondary property in the locality over the next few years.
b, Think about cost and value implications of various courses of action
c. How much would it cost to refurbish the property now and how much are tender prices expected to increase between now and the end of the refurbishment period (assume the tender price is paid at the end of the building work)?
BCIS on-line provides both – look for figures for “rehabilitation” and look for the document providing forecasts for all sorts of items including tender prices.
d. Find the rental value (Market Rent) of the improved property in today’s market based on comparable evidence of similar property lettings in Reading using sources such as CoStar and EGi, agent’s websites, etc.
You need to show your analysis and discuss fully in the report exactly what thought process you went through in interpreting the evidence to get to the rental valuation figure.
e)Rental growth performance
Real and nominal rental growth performance
Reference your data sources
f) Rental growth forecast: how will rents change over the next few years up to the date you decide to sell – I suspect that means over the next four years – you can obtain national figures from the IPF (I’ll provide these). You need to work out what they tell you and decide from your market analysis if Reading will behave differently.
Combining (d) and (f) will give you the projected market rent for the refurbished property at the date you decide to sell it.
g) Yield analysis
The capital value of the refurbished property at the sale date is a function of the rental value at that time capitalised at the capitalisation rate at that time.
Assume that the capitalisation rate is an average of the long term rate from the past. The past figures will be given to you so it is a statistical exercise to work it out.
h) Apply the information to an appraisal model
Set out the quarterly cash flow from the building while the leases are still in place.
Place the sale price after refurbishment in the cash flow and place the refurbishment cost in the cash flow.
Then discount the cash flow at the target rate of return, work out the NPV and IRR of the cash flow assuming it is bought for the asking price.
This will enable you to advise whether to purchase or not and also advise on the price to be offered.
i) In the cash flow you can assume that you let the property for the market rent as soon as the refurbishment is finished.
However, this task asks for a discussion of the possible alternative outcomes – lease terms, incentives, etc.
Read the BPF IPD Annual Lease Review and the RICS Red Book UKGN6 Analysis of commercial lease transactions
Maths: Compounding (1 + i)n and Discounting (1 + i)-n
Maths: Converting annual discount rates to quarterly discount rates (1 + i)¼ – 1 so you can discount each quarters cash flow
Valuation – can you value a property let at its market rent?
Identifying Net Present Values and Internal Rates of Return?
Interpreting Net Present Values and Internal Rates of Return?
Computing – setting up cash flows on the spreadsheet – using functions for statistics and goal seek for IRR
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