karoliukas

Which of the following is least likely a disadvantage of the cost approach method of estimating the market value for real estate?

A) market value of a property may differ significantly from its construction cost.

B) the replacement cost of existing improvements may be difficult to determine.

C) estimating the value of the land may be difficult.

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The market value may be more or less than what it would cost to rebuild or replace it. Estimating the value of the land portion of a property with improvements is a difficult process. The replacement cost is usually easy to determine, although it may or may not reflect the value of the improvements.

karoliukas

Consider the following descriptions of approaches used in valuing real estate:

• Approach 1: This approach relies on examining recent transaction prices from a group of similar properties.
• Approach 2: This approach suggests that projects with positive expected net present value should be accepted.
• Approach 3: In this approach, an estimate for net operating income is discounted by an estimate of the market required rate of return to obtain the appraisal price.
• Approach 4: In this approach an estimate for the value of land is added to the price tag that would have to be paid if a property had to be replaced.

List in order from Approach 1 to Approach 4 the real estate valuation method that corresponds to each of the four valuation approaches listed above.

A) The sales comparison method; the income method; the cost method and the discounted after-tax cash flow model.

B) The sales comparison method; the discounted after-tax cash flow model; the income method and the cost method.

C) The income method; the cost method; the sales comparison method and the discounted after-tax cash flow model.

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The approach that relies on examining recent transaction prices from a group of similar properties is the sales comparison method. The approach that suggests that projects with positive expected net present value should be accepted is the discounted after-tax cash flow model. The approach that requires an estimate for net operating income which is subsequently discounted by an estimate of the market required rate of return to obtain the appraisal price is the income method and the approach that adds an estimate for the value of land to the price tag that would have to be paid if a property had to be replaced is the cost method.

karoliukas

Consider the following descriptions of approaches used in valuing real estate:

• Approach 1: In this approach, the present value of after-tax cash flows are calculated based on the investor’s required rate of return before the equity portion of the investment is deducted.
• Approach 2: In this approach, the value of land is estimated and is added to the price that would have to be paid if a property had to be replaced.
• Approach 3: In this approach, an appraisal price is estimated as the discounted net operating income based on the market required rate of return.
• Approach 4: This approach relies on examining recent transaction prices from a group of similar properties and depends on a reasonably liquid market.

List in order, from Approach 1 to Approach 4, the real estate valuation methods that correspond to each of the four valuation approaches listed above.

A) The income method, the cost method, the sales comparison method, and the discounted after-tax cash flow model.

B) The discounted after-tax cash flow model, the cost method, the income method, and the sales comparison method.

C) The income method, the discounted after-tax cash flow model, the sales comparison method, and the cost method.

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The approach that suggests that the present value of after-tax cash flows be calculated based on the investor’s required rate of return before the equity portion of the investment is deducted, is the discounted after-tax cash flow model. The approach that adds an estimate for the value of land to the price tag that would have to be paid if a property had to be replaced, is the cost method. The approach that requires an estimate for net operating income (NOI) which is subsequently discounted by an estimate of the market required rate of return to obtain the appraisal price, is the income method. Finally, the approach that relies on examining recent transaction prices from a group of similar properties, is the sales comparison method. The accuracy of this method depends on there being a liquid real estate market from transactions data that can be collected.

karoliukas

Which of the following is least likely a characteristic of the income method for real estate valuation?

A) Account for the effects of income taxes.

B) Require a discounted cash flow model.

C) Ignore future changes in operating income.

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The income method does not consider the investment’s income-tax implications. However, it does use a discounted cash flow model based on net operating income. The income method does not account for potential changes in operating income.

karoliukas

Which of the following statements regarding real estate valuation is CORRECT?

A) Each property is unique, so the investment value may be dependent upon the particular use planned for the property.

B) The estimated market value of a property depends upon the particular investor.

C) The most reliable real estate valuation method is the cost approach.

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The market value is completely independent of any considerations based upon the investor or potential investor. There is not a “most reliable” valuation method – all have their advantages and disadvantages. The investment value may be dependent upon the planned use of the property—remember that market value and investment value are two different things.

karoliukas

Jill Booton is evaluating an apartment building as a possible investment to add to her portfolio. She has been told that real estate is a good addition to a portfolio for diversification purposes. Jill will not be able to handle the maintenance issues at the complex and thus must hire a full-time maintenance employee at $35,000 per year. She will also hire a full-time manager at $40,000 per year. Property taxes are expected to be $75,000 per year and insurance will be another $25,000. If fully occupied, the gross rental income from the property will be $850,000. Due to the location of the building, Jill estimates a very low vacancy rate of 3.5 percent annually. The net operating income of the property is closest to:

A) $825,250.

B) $4,963,462.

C) $645,250.

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NOI = $850,000 – ($850,000 x 0.035) – $35,000 – $40,000 – $25,000 – $75,000 = $645,250.

karoliukas

Based upon the following information, what is the net operating income (NOI) of the property?

Estimated Market Value	$600,000
Capitalization Rate	20%
Taxes	$27,000
Operating Expenses	$107,000

A) $120,000.

B) $104,000.

C) $98,600.

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MV = NOI / CAP
To solve for NOI, rewrite the formula as: MV × CAP = NOI
600,000 × 0.2 = 120,000

karoliukas

The income approach to valuing real estate is most similar to the following method of valuing common stock?

A) Dividend discount model with zero growth.

B) Dividend discount model with normal growth.

C) Price-to-sales ratio.

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The income approach for valuing real estate uses the following formula:
Appraised Pricereal estate = annual net operating income (NOI) / Market Capitalization Rate (R)
The dividend discount model (DMM) with zero growth approach for valuing common stock uses the following formula:
Pricecommon stock = Dividend (D) / (Required Rate of Return on the Stock (k) - Growth (g))
When g = 0, the formulas simplify to:
Appraised Pricereal estate = NOI / R
Pricecommon stock = D / k
or, a period cash flow divided by a rate of return.
The DMM with normal growth would not be a correct response because the income approach for real estate assumes a constant (no growth) NOI stream to perpetuity.

karoliukas

Net operating income (NOI) is calculated by subtracting which of the following from the property's gross potential rental income?

A) Depreciation.

B) Property taxes.

C) Income taxes.

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NOI does not consider income taxes, financing charges, or depreciation.

karoliukas

The portfolio manager of a large real estate investment trust (REIT) has identified an office building as a potential investment. Based upon the following data, what is its net operating income (NOI)?

Gross potential rental income	$235,000
Estimated vacancy and collection loss rate	6%
Insurance and taxes	$15,000
Repairs and maintenance	$17,000
Utilities	$12,500
Cost of equity	11%

A) $176,400.

B) $150,550.

C) $190,500.

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The NOI is $235,000 – ($235,000 × 6%) − $15,000 − $17,000 − $12,500 = $176,400. The cost of equity number is not needed, because the NOI calculation is independent of any financing arrangements.