MiniCase on Appraisal
alec.delgado
FIN645445Pro-FormaandAppraisalMarch15th1.pptxCap Rate for Band of Investment Capitalization with Amortization =
(% M * Mortgage Constant) + (% E* Req. Return on Equity)
= (.6 * .05783) + (.4 * .10) = .0347 + .04 ≈ .075 or 7.5%
Value of Subject = $2,300,000/.075 = $30,667,000
This is an internally generated cap rate.. Why is that important?
BOI with Amortization is sometimes called Mortgage/Equity Capitalization
AND, it got people thinking about all the factors that would make a cap rate more realistic…
The end result is Akerson Capitalization (CIRE Article published AFTER the mortgage meltdown)
But be on the lookout for a SIMPLE commercial property….
Band of Investment Capitalization with Amortization
Akerson: Capitalization Modified to take into Account Financial Reality
Quick but Realistic: Reality Check on Market Data!!!
Done on a per dollar basis so you can use the rate for multiple projects
“Overall” Cap Rate Calculation: Includes Income Return and Appreciation in a Single Cap Rate
Terms: M = LTV
E = (1 – M)
= Total Appreciation over Holding Period per dollar invested
RM = Mortgage Constant, given mortgage rate and amortization period
The Mortgage Constant is the required amortized payment per dollar of loan, it converts a PRESENT amount into an annuity….
YE = Required Return on Equity, includes income return and appreciation
P = % of the loan paid off during holding period, per dollar, (rate, amortization period, holding period)
[1/Sn ]= Sinking Fund Constant, given required return on equity and holding period
The Sinking Fund Constant is the required annual contribution per dollar of future need, it converts a FUTURE amount into an annuity..
Akerson Capitalization
Assumptions: (Red = Calculation)
5 Year Holding Period
20% TOTAL Appreciation
M = 60%
E = 40% (How?)
Loan is for $1 at 4%, annual payments, 30 year amortization period
RM = .05783 (How?)
P = % of 30 year 4% $1 loan paid off in 5 years
To find P:
Outstanding Balance is Present Value of Remaining Payments:
PV of .05783 at 4% for (30 – 5) = 25 Years = .9034 Outstanding
.9034 Outstanding => .0966 Paid Off = P (How?)
OR The CIRE Article does this in two painful steps we won’t spend any time on…
Akerson Capitalization
YE = 15% required overall return on equity, holding period = 5 years
Annualized (Annuitized) Amount (or payment) that grows to be $1 over five years at 15%
[1/Sn ] = .1483 (How?)
Akerson Capitalization
Akerson capitalization actually assumes the investor should look at two capitalization rates, one assuming no appreciation and one assuming “reasonable” appreciation, or even depreciation for that matter.
R CV = Cap Rate Assuming Property Value Will Stay Constant =
[M* RM] + (E * YE] – [M * P * 1/Sn] = R CV *
1st two terms:
3rd term:
What impact does subtracting (lowering) the cap rate have on property value?
What does the third term represent?
Why is the 3rd term subtracted in the cap rate calculation then?
* This formula, exactly as written here, will be on the front of the final exam
Akerson Capitalization
RV = Cap Rate Incorporating Change in Property Value
RV = R CV – [ * 1/Sn] **
If > 0, does the Cap Rate increase or decrease as you go from R CV to RV ?
What happens to the value of the property?
If < 0, does the Cap Rate increase or decrease as you go from R CV to RV ?
What happens to the value of the property?
The 1/Sn “annuitizes” or “annualizes” the property appreciation into the cap rate.
** This formula, exactly as written here, will be on the front of the final exam
Akerson Capitalization
For this example:
[M* RM] + (E * YE] – [M * P * 1/Sn] = R CV
[.60 * .05783] + [ .4 * .15] – [.60 * .0966 * .1483]
= .035 + .06 - .0086 = .0864
Assuming no appreciation or depreciation, the subject would be worth:
$2,300,000 / .0864 = $26,620,370 or say $26,600,000
Akerson Capitalization
RV = R CV – [ * 1/Sn]
With appreciation, the cap rate is
.0864 – [.20 * .1483] = .0864 - .0297= .0567
And the property is worth: $2,300,000/.0567 = $40,535,777
or, say $40,500,000
Does it make sense that the cap rate that includes appreciation makes the property more valuable than the one that does not? I hope so but make sure you can explain why…
Akerson Capitalization
