real estate investment chapter 13 discount analysis © 2011 cengage learning
TRANSCRIPT
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Real Estate Investment Real Estate Investment
Chapter 13Chapter 13
Discount AnalysisDiscount Analysis
© 2011 Cengage Learning
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© 2011 Cengage Learning
Key TermsKey Terms
Annuity
Compound interest
Future value
Go dark
Internal rate of return
Inverse
Net present value
Perpetuity
Present value
Reversion
Simple interest
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Risk, Return, and the Time Value of Money
Risk
Changing Discount Rates and Risk Aversion Over Time
Return
Time Value of Money
Future Values
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Future Value Calculation
FV = PV(1 + i) ^ t, where “(1 + i) ^ t” is the future value factor
FV = the future value
PV = the present value
“i” is the interest rate and
“t” is the number of periods
^ indicates an exponent
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Present Value Calculation
PV = FV÷(1 + i)^t, where “(1 + i)^t” is the future value factor
FV = the future value
PV = the present value
“i” is the interest rate and
“t” is the number of periods
^ indicates an exponent
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Valuing an Annuity Stream, or Present Value of a Set of Monthly Mortgage Payments
−1,199.10 PMT
30 x 12 = N
6 ÷ 12 = I/Y
CPT PV ¼ 199,999.83 (or approximately $200,000)
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Cash Flow Considerations
Present and Future Values of Equally-Sized Cash Flows
The Present Value of a Perpetuity
The Time Value of Money and Unequal Cash Flows
A Net Present Value Approach
An Internal Rate of Return Approach
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The Net Present Value or NPV Approach to Real Estate Analysis
Condo Purchase Price $40,000Annual Cash Flows:Potential Gross Income (12 $650) = $ 7,800Vacancy Allowance (.08 $7,800) = (624)Effective Gross Income (EGI) $ 7,176Operating Expenses (30.28% of EGI) (2,173)Annual Net Operating Income (Cash Flow): $ 5,003Assumed sale in 3 years for a net sales price of:
$45,000Net Present Value = Present Value of income and net sale
− purchase price
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Concluding Remarks
Present and future value calculations, NPV analyses, and IRR discoveries are used by the real estate analyst in an attempt to discern the best risk-adjusted choices.Given what is known about a property and the economy as a whole, do the purchase terms and cash flows make sense for the investor?