Real Estate

Real Estate

Three considerations are important and unique about applying the
NPV rule
to evaluating investment in deve
lopment projects as compared to
investments in stabilized operating properties:
1.

Time--
to--Build
”:Investment cash outflow occurs
over time
, not all at
once up front, due to the
construction phase..
2.
Construction loans:
Debt financing for the construction phase is
almost
universal
(even when the project will ulti
mately be financed entirely
by equity).
3.
Phased risk regimes:
Investment risk is very different (greater)
between the construction phase (the
development investment
per se)
and the stabilized operational pha
se. (Sometimes an intermediate
phase,
“lease--
up
”, is also distinguishable.)The benefits and costs must be measured in an
“apples
vs
apples

manner. That is, in dollars:
••
As of the
same
point in
time..
••
That have been adjusted to
account for risk..
As with all DCF analyses, time and risk can be accounted for by
using
risk--
adjusted discounting. .
Key is to identify:
opportunity cost of capital
••
Reflects amount of
risk
in the cash flows
••
Can be applied to either
discount
CFs
back in time, or
••
To
grow
(compound)
CFs
forward in time
••
e.g., to the projected time of completion of the construction
phase.4
Hereandnow Place:
• Twin buildings, $75,000/mo net rent perpetuity
• OCC = 9%/yr (
Î
0.75%/mo,
Î
1.0075
12
– 1 = 9.38% EAR)
•in total,
V0
is:
000,000,10$
0075.
000,75$
0075.1
000,75$
0075.1
000,75$
2
L ==++
NPV0
=
V0

P
0
= $10,000,000 – $10,000,000 = 0
Futurespace Centre:
• Across the street from Hereandnow.
• Will be same asset as Hereandnow, complete in 12 mos
• Constr cost $1,500,000 X 4 payable @ mos 3, 6, 9, 12.
• First building complete in 6 mos.
• This is definitely HBU of site; irreversible commitment to
develop now is appropriate
Typical investment deal for this stablized...

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