REAL ESTATE FINANCE

Homework Assignment #4 FRL 3062: Real Estate Finance

Prof. Anthony W. Orlando

June 28, 2023

Remember: Do all your calculations in Excel, and submit the final spreadsheet with all your

work. Each cell must contain the correct formula in order for you to get credit. Financial

calculators are not acceptable. You must use the Excel functions you learned in class.

You work for an investment firm that’s eyeing this industrial property in Baldwin Park:

The owner, Richard Norlund, is offering to sell it for $4.25 million. Currently, it has no

vacancies, and the tenants are paying $19.35/SF (per year) for 17,434 rentable building area

(RBA). You contact a broker at CBRE, who gives you the following projections:

• In this submarket, rents are expected to grow 5.2% over the next year (i.e. year 1),

6.1% the following year, 7.1% the following year, and 5.3% thereafter.

• The average cap rate in this market is currently 5%. CBRE expects this number to

remain stable for the foreseeable future.

• The typical operating expense ratio for this type of building is 40%, and tenants

usually pay for half of that.

• The building was constructed in 1984, so you should probably set aside 10% of NOI

per year for renovations.

• This type of property usually requires selling expenses that are 4% of the sale price.

Before you build an entire financial model, you want to use relative valuation for some back-

of-the-envelope numbers.

1. What is currently the average net income multiple in this market?

2. If the market is fairly valuing this type of property with this net income multiple, and

if Mr. Norlund is offering it at a correspondingly fair price, what NOI do you project

for year 1 of operations?

3. Given what you know about operating expenses, what EGI do you project for year 1

of operations?

4. Given your EGI projection and Mr. Norlund’s offering price, what EGI multiple is the

property trading at?

Now, to assess these projections, you decide to build a full pro forma.

5. Using the information from CBRE (not your projections in questions 1-4), please

calculate the PBTCF for year 1 of operations.

a. How much do the EGI and the NOI in your pro forma differ from your previous

projections?

b. Why are these two sets of calculations so different? Which one would you prefer

to use in order to make an investment decision?

6. Assuming your firm plans to sell the property after five years of operations, what are

the PBTCFs for the remaining four years of operations?

7. Based on your pro forma, what is the annual appreciation return of this property,

from purchase price to resale price?

8. If you add together the cap rate and the appreciation return, what is the approximate

total annual return on this investment?

a. Do you think this is a good return? Why or why not? In finance, what’s the best

way to judge such a return?