Kingpin804

A real estate analysis estimates the market value of an income-producing property at $2,560,000. The annual gross potential rental income is $596,000, the annual property operating expenses and taxes are $178,800, and the annual vacancy and collection losses are $89,400. What capitalization rate was used by the analysis to assess the property at $2,560,000?

A) 0.1275.

B) 0.1290.

C) 0.1280.

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MV	=	NOI
		CAP
CAP	=	NOI
		MV

596,000 − 178,800 − 89,400	=	0.128
2,560,000

Kingpin804

An investor made the following purchase:

• Bought an office building for $500,000 using 90% financing.
• The borrowing cost was 10%.
• They received $29,000 at year-end from rentals.
• They sold the building for $520,000 at the end of the year.

Assuming a flat tax rate on income and capital gains of 25% what was the return on equity?

A) +6%.

B) -3%.

C) +10%.

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Equity = 500,000(0.10) = 50,000
Interest cost = 450,000 (0.10) = 45,000
Capital Gain = 520,000 − 500,000 = 20,000
ATCF = (Income + Capital Gain − Interest)(1 − tax rate)
ATCF = (29,000 + 20,000 − 45,000)(1 − 0.25) = $3,000
ROE = ATCF / Equity = 3,000 / 50,000 = 0.06 or 6%

Kingpin804

Ron Biggs is considering a real estate investment. In the first year, the property is expected to generate revenue of $65,000. The expense in the first year is $25,000 and the depreciation allowance will be 2.6 percent of the $350,000 initial investment. Assuming all cash flows occur at the end of the year and Biggs expects to be in a 35 percent marginal tax bracket, the after-tax cash flow in year 1 is closest to:

A) $30,900.

B) $29,185.

C) $20,085.

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After-tax cash flow = (revenue – cost – depreciation)(1 – t) + depreciation.
Depreciation = 0.026 × $350,000 = $9,100.
CF = ($65,000 – $25,000 – $9,100)(1 – 0.35) + $9,100 = $29,185.

Kingpin804

A real estate speculator is considering an investment in a piece of raw land that will be developed. He expects to invest $150,000 in the land. It will not be developed for three years, but at the end of year 3, he expects a cash flow of $25,000. In years 4 and 5, the cash flow will increase to $35,000, and at the end of year 5 he expects to sell the land for $185,000. Due to the risky nature of the investment, he requires an 18% return.The net present value of this investment is closest to:

A) -$32,903.

B) $30,222.

C) -$20,568.

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CF0 = –150,000
CF1 = 0
CF2 = 0
CF3 = 25,000
CF4 = 35,000
CF5 = (35,000 + 185,000) = 220,000
I/Y = 18; CPT → NPV = –$20,567.90

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The internal rate of return (IRR) is closest to:

A) 12.6%.

B) 18.1%.

C) 14.3%.

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CF0 = –150,000
CF1 = 0
CF2 = 0
CF3 = 25,000
CF4 = 35,000
CF5 = 220,000
CPT → IRR = 14.3%.

Kingpin804

An investor purchases a property for $1,000,000, financing 92% of the purchase price. He plans to sell the property four years later for $1,200,000. The expected net cash flows for the investment are as follows:

Year 1	$23,450
Year 2	$25,312
Year 3	$27,879
Year 4 (net of mortgage payoff)	$261,450

Assuming a 9% cost of equity, the net present value (NPV) of the cash flows at the time the property is purchased is:

A) $169,564.

B) $338,091.

C) $249,564.

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The present value of the cash flows is: $23,450 / 1.09 + $25,312 / 1.092 + $27,879 / 1.093 + 261,450 / 1.094 = $249,563.83. The NPV is the present value of the cash flows minus the initial investment: $249,564 – $80,000 = $169,564.

Kingpin804

An investor purchases an office building for $2,500,000. He puts 10 percent down and finances the remainder at a 9 percent rate of interest. Calculate the first year’s after-tax cash flow for the investment using the following information:

NOI	$243,000
Depreciation	$25,000
Annual mortgage payment	$218,000
Marginal income tax rate	28%

A) $11,160.

B) $18,000.

C) $20,660.

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The first year’s interest payment is the amount borrowed ($2,250,000) times the rate of interest (9%), which equals $202,500. After-tax net income, which is NOI minus depreciation minus interest, net of taxes, is ($243,000 - $25,000 - $202,500) × (1 - 0.28) = $11,160. After-tax cash flow is after-tax net income, plus depreciation and minus the principal component of the mortgage payment ($218,000-$202,500): $11,160 + $25,000 - $15,500 = $20,660.

Kingpin804

A real estate property has net operating income of $956,000, requires taxes of $143,400, and has a capitalization rate of 16%. The estimated property value is closest to:

A) $7,353,800.

B) $5,975,000.

C) $5,078,750.

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Appraised Price = NOI / CAP
Appraised Price = 956,000 / 0.16 = 5,975,000

Kingpin804

A portfolio manager is considering the purchase of an office building. He has identified the major characteristics of a property that affect value, and has assigned a quantitative rating to each one, based upon recent comparable sales in the area. Using a regression model, he has developed benchmark values for each characteristic, which he will use to estimate the market value of the potential investment. This method of estimating property value is best described as the:

A) hedonic price estimation.

B) sales comparison approach.

C) regression price model.

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The sales comparison approach uses recent transactions to estimate a benchmark value. The regression price model is a fictitious model. The hedonic price model is a variation of the sales comparison approach, but is a more formalized, structured approach.

Kingpin804

The data below pertains to an office building’s next reporting period:

• Gross rental income = $6.5 million.
• Operating expense = $2.3 million.
• Financing expense = $900,000.
• Depreciation expense = $750,000.
• Vacancy rate = 8.5%.

The market expects a return of 12.3%. The value of the office building is closest to:

A) $29.65 million.

B) $16.24 million.

C) $22.33 million.

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Net operating income (NOI) = gross rental income × (1 − vacancy rate) − operating expenses
NOI = $6.5 million × (91.5%) − $2.3 million
NOI = $3.6475 million
Value = NOI / market cap rate
Value = $3.6475 million / 12.3%
Value = $29.6545 million

Kingpin804

A real estate agent contacts an investor regarding a property that has recently come on the market. The real estate agent can provide reliable information regarding the property’s net operating income, as well as the prevailing market cap rate, based on recent comparable sales. The investor can best estimate the market value of the property, with the information supplied by the real estate agent, using the:

A) discounted cash flow model.

B) sales comparison approach.

C) income approach.

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The sales comparison approach uses recent transactions to estimate a benchmark value. The discounted cash flow model is used as a check on investment valuation. The income approach uses a property’s NOI, divided by the market cap rate, to estimate market value.