Additional Practice
FIN 351: Real Estate Finance
CH 1: Study Question 1-5
Real estate assets and markets are unique when compared with other assets or markets.
Discuss the primary ways that real estate markets are different from the markets for
other assets that trade in well-developed public markets.
Real estate assets and markets are different from other asset classes and markets in
various ways:
• Real assets are heterogenous and immobile.
• Real estate markets are, therefore, illiquid, localized, and highly segmented.
• Real estate markets also involve private negotiations and high transaction costs.
CH 5:
• Using the following information, determine the
location quotient for this industry:
Percentage of employment in financial services
industry within the local community: 15%
Percentage of employment in financial services
industry for the entire U.S.: 4.4%.
location quotient =.15/.044 =3.4
CH 5:
• A recent college graduate has obtained employment at a major financial institution in a big city. Since she just
graduated, she has decided to continue to rent her college apartment in the suburbs and make the daily
commute to the city for work. She currently pays $1,000 per month to rent an apartment in the suburbs. She
works at the bank 5 days a week and it takes her 1 hour to commute from her home to her office. According to
the assumptions of the bid-rent model, what should this recent grad be willing to pay in rent per month to live
in the big city if her hourly wage rate is $20? (In your calculations, assume there are 4 weeks in a given
month.)
• willing to pay in rent per month to live in the big city =5*2*4=40 hours
• willing to pay avoid the commute=20*40=800 $
• Total Cost=Rent+Commuting CostTotal Cost= = R + $800
• Since she currently pays $1,000 for rent in the suburbs, she should be willing to pay a maximum of $1,000 +
$800 = $1,800 in rent to live in the big city based on the bid-rent model.
*****Please take into consideration the hours of commuting to work (time spent on the road). •
•
CH 5:
• Based on the following information, determine the location
quotient for Music City and whether this city has a
competitive advantage in the entertainment industry:
Employment in Entertainment in Music City: 3,020
Total Employment in Music City: 656,785
Employment in Entertainment (nationally): 2,160,970
Total Employment (nationally): 106,201,232.
• LQ=(3020/656785)/(2160970/106201232)=22.5%
CH 7: Study Question 7-12
A comparable property sold recently for $250,000. The comparable contained an estimated $3,000 in
non realty items. In addition, the appraiser estimates that market values (conditions) have increased a
total of 2 percent since the sale of the comparable.
1. What is the adjusted price of the comparable if the dollar adjustment for non realty items is made
before the market conditions adjustment?
2. What is the adjusted price of the comparable if the percentage adjustment for market conditions is
made before the adjustment for non realty items?
1. Adjustment for nonreality items first:
Transaction price
Adjustment for nonreality items
Adjusted price
Adjustment for market conditions
(+2%)
Final adjusted sale price
$250,000
($3,000)
$247,000
$4,940
$251,940
CH 7: Study Question 7-12
2. Adjustment for market conditions first:
Transaction price
Adjustment for market conditions (+2%)
$250,000
$5,000
Adjusted price
$255,000
Adjustment for nonreality items
($3,000)
Final adjusted sale price
$252,000
CH 7: Study Question 7-15
Assume an appraiser concludes that, based on data and information able to be collected, house
prices in a comparable property’s neighborhood have increased 15 percent over the last 12
months. If the comparable property sold 10 months ago for $650,000, assuming an arm’s-length
transaction under normal financing conditions, what is the market-adjusted sale price of the
comparable property?
Change = Transaction price * monthly percentage change * # of months passed since sale
= $650,000 * (.15/12) * 10
= $81,250
Market-adjusted sale price = $650,000 + $81,250 = $731,250
CH 7
In using transaction data to determine the current value of the subject property, it
is important to recognize that general market conditions may have changed since
a particular transaction occurred. Property A sold 18 months ago for $235,000
and Property B sold 12 months ago for $215,000. If the two properties are priced
today at $239,500 and $222,300, respectively, what is the average monthly rate
of increase that can be used to adjust comparable prices for changes in market
conditions?
Property A= (239500-235000)/(235000)/18*100=.106%
Property B=(222300-215000)/(215000)/12*100=.282%
average monthly rate= .106%+.282%/2=.19%
CH 7
A comparable property sold 15 months ago for $105,000. If the
appropriate adjustment for market conditions is 0.25% per month (without
compounding), what would be the adjusted price of the comparable
property?
=105000*.25%=262.5
=262.5 *15=3937.5
105000+3937.5=108937.5
CH 7
• Assume you have been hired to appraise a local hospital. Your best estimate
of the reproduction (or replacement) cost of the building is $3,700,000.
However, upon evaluating the use of land in the local area, you have deemed
the value of the site to be worth an additional $800,000. If the building has
depreciated by $500,000 over its lifetime and there are no further
depreciation losses due to external or functional obsolescence, what is the
indicated value of the hospital using the cost approach?
market value= Cost – depreciation + land value
370000-500000+800000=4000,000
CH 7
• Assume an appraiser concludes that, based on data and information able to be
collected, house prices in a comparable property’s neighborhood have increased 15
percent over the last 12 months. If the comparable property sold 10 months ago for
$650,000, assuming an arm’s-length transaction under normal financing conditions,
what is the market-adjusted sale price of the comparable property?
Change = Transaction price * monthly percentage change * # of months passed since
sale
= $650,000 * (.15/12) * 10
= $81,250
Market-adjusted sale price = $650,000 + $81,250 = $731,250
CH 7
• A comparable property sold 10 months ago for $98,500.
If the appropriate adjustment for market conditions is
0.30 percent per month, what would be the adjusted
price of the comparable property?
$98,500 [1 + (0.003 × 10)] = $98,500 × 1.03 = $101,455
CH 7
• A comparable property sold 6 months ago for $150,000. The
adjustments for the various elements of comparison have been
calculated as follows:
• Location: −5 percent
• Market conditions: +8 percent
• Physical characteristics: +$12,500
• Financing terms: −$2,600
• Conditions of sale: None
• Property rights conveyed: None
• Use: None
• Nonrealty items: −$3,00
CH 7
$ 150,000
Transaction price
Adjustment for financing terms
Minus
$ 147,400
Adjusted price
Adjustment for market conditions
Plus 8%
Minus 5%
Plus
Final adjusted sale price
$ 12,500
$ 163,732
Adjusted price
Adjustment for nonrealty items
$ 7,959
$ 151,232
Adjusted price
Adjustment for physical characteristics
$ 11,792
$ 159,192
Adjusted price
Adjustment for location
$ 2,600
minus
$ 3,000
$ 160,732
CH 8: Study Question 8-4
Given the following owner’s income and expense estimates for an apartment property, formulate
a reconstructed operating statement for the next 12 months of rental operations. The building
consists of 10 units that could rent for $550 per month each.
Rental income (last year)
$60,000
Less: Operating and Capital Expenses
Power
$2,200
Heat
1,700
Janitor
4,600
Water
3,700
Maintenance
4,800
Capital Expenditures
2,800
Management
3,000
Depreciation (tax)
5,000
Mortgage payments
6,300
CH 8: Study Question 8-4
PGI: (10 units x $550 x 12)
$66,000
Less: Vacancy Loss (5%)
(3,300)
EGI
$62,700
Less: Operating expenses
Power
$2,200
Heat
1,700
Janitor
4,600
Water
3,700
Maintenance
4,800
Management
3,000
Total Operating expenses
20,000
Less: CAPX
2,800
NOI
$39,900
Construct a pro form statement
Assume:
Vacancy & collection loss: 5% of PGI
Use an above-line treatment of CAPX
Use the NOI and an !! of 11% to
calculate the property’s indicated
market value.
Market value =
"#$
%!
=
$'(,(!!
.++
= $362,727
CH 8: Study Question 8-6
You are estimating the market value of a small stabilized office building. Suppose the
estimated NOI for the first year of operations is $100,000.
1.
If you expect that NOI will remain constant at $100,000 over the next 50 years and that the
office building will have no value at the end of 50 years, what is the (present) value of the
building assuming a 12.2% discount rate? If you pay this amount, what is the indicated initial
cap rate?
Value of building: N = 50, I= 12.2, PMT = $100,000, FV = 0, SOLVE PV = $817,078
Initial cap rate: (NOI/market value) $100,000/$817,078 = 12.24%
CH 8: Study Question 8-6
You are estimating the market value of a small stabilized office building. Suppose the
estimated NOI for the first year of operations is $100,000.
2.
If you expect that annual NOI will remain constant at $100,000 forever, what is the value of
the building assuming a 12.2% discount rate? If you pay this amount, what is the indicated
initial cap rate?
The value of the building with NOI remaining constant at $100,000 is calculated using the formula
for a perpetuity, which is $100,000/0.122, or $819,672. If you pay $819,672 for the property, the
initial (going-in) cap rate is 12.2% ($100,000 / $819,672).
CH 8: Study Question 8-6
You are estimating the market value of a small stabilized office building. Suppose the
estimated NOI for the first year of operations is $100,000.
3.
If you expect that the initial year $100,000 NOI will grow forever at a 3% annual rate, what is
the value of the building assuming a 12.2% discount rate? If you pay this amount, what is the
indicated initial cap rate?
We know that total return: !! = "! + g à 12.2% = "! + 3%
Initial Cap rate, "! = 12.2% - 3% = 9.2%
Value of building: $100,000/.092 = $1,086,957
CH 8:
Suppose that an income producing property is expected to yield cash
flows for the owner of $150,000 in each of the next five years, with
cash flows being received at the end of each period. If the opportunity
cost of investment is 8% annually and the property can be sold for
$1,250,000 at the end of the fifth year, determine the value of the
property today. Answer Use a financial calculator
CF1
150000
CF2
150000
CF3
150000
CF4
150000
CF5
150000+1250000
CPT=NPV----- R=8%. -------ENTER =1449635.50
CF6
CH 8:
• Suppose that examination of a pro forma reveals that the fifth year net
operating income (NOI) for an income producing property that you are
analyzing is $138,446 (you can assume that this cash flow occurs at the
end of the year). If you estimate the projected growth rate for the
property’s NOI to be 5% per year, determine the projected sale price of
the property at the end of year five if the going-out capitalization rate is
9%.
• Sale price year 5= NOI 6/ going-out capitalization rate
• Sale price year 5= 138446*(1+.05)/.09=1615203.00
CH 8:
• Analysis of a subject property’s pro forma reveals that its fifth year net operating
income (NOI) is projected to be $100,282 (you can assume that this cash flow
occurs at the end of the year). If you estimate the projected growth rate for the
property’s NOI to be 3% per year and the going-out terminal or reversionary
capitalization rate in year five to be 10%, determine the net sale proceeds the
current owner of the property would receive if he were to sell the property at the
end of year five and incur selling expenses that amounted to $58,300.
• Sale price 5= NOI6/cap going-out=100282*(1+.03)/.10=1032904.6
• the net sale proceeds=1032904.6-58,300=974604.6