refm's how developers price the dirt
DESCRIPTION
In this free 30-minute session, we will answer the question: how does a real estate developer know what to pay for a piece of developable land? Participants will learn the basics of real estate development residual land valuation for both income-producing assets and unit sales assets, as well as the principles of valuation through comparable sales (comps). Participants follow along in Excel in real time and perform exercises to ensure they are grasping the lesson and are mastering the technical skills being taught. Participants are able to ask their questions in real time to have them answered by the Instructor on a rolling basis.TRANSCRIPT
Instruc(on by Bruce Kirsch Principal, Real Estate Financial Modeling
Copyright © 2012 by Real Estate Financial Modeling, LLC. All Rights Reserved.
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Real Estate Financial Modeling’s
How Real Estate Developers Price The Dirt: Residual Land Valua>on and Comparable Sales
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Real Estate Financial Modeling – Model For Success
2
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TODAY’S PROMOTION
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Coupon for 25% Off Any Webinar Purchase This Month:
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This Month’s Webinars – Take 25% Off!
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• Truly Understanding IRR – Tomorrow 4/10 at 12:30 PM Understand IRR once and for all
• Bootcamps: Build up your hard skills • Excel For Real Estate – Mon 4/16 at 1:30 PM • Real Estate Finance – Tues 4/17 at 1:30 PM • Joint Venture Partnerships – Wed/Thurs
4/18-‐4/19 at 1:30 PM both days
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To What Extent Can The Developer Control The Following?
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• Hard Costs • Global Commodi(es Prices • Construc(on Labor Costs
• SoO Cost Service Provider Costs
• Cost of Construc(on Debt
• Investor Returns Requirements
• Land Cost
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• Hard Costs – Very Licle • Global Commodi(es Prices • Construc(on Labor Costs
• SoO Cost Service Provider Costs – Licle
• Cost of Construc(on Debt – Licle
• Investor Returns Requirements – Licle
• Land Cost – Poten>ally More Than A Licle
To What Extent Can The Developer Control The Following?
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• Hard Costs – Very Licle • Global Commodi(es Prices • Construc(on Labor Costs
• SoO Cost Service Provider Costs – Licle
• Cost of Construc(on Debt – Licle
• Investor Returns Requirements – Licle
• Land Cost – Poten>ally More Than A Licle
To What Extent Can The Developer Control The Following?
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How Is Land Different From Other Development Costs?
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• No site receives a constant, high volume of purchase offers every month of every year • Every site is unique with respect to loca(on, and physically, and sites oOen have zoning restric(ons limi(ng the allowable uses that can exist on the site
• Because the real estate market operates within a cycle
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In Other Words…
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• Land is the ul>mate illiquid asset
• Land sellers should feel very lucky when they get a offer that would actually go to closing at the price offered!
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Residual Land Valua>on Basics
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• Developers use residual land valua(on as one method of deciding what to pay for a development site
Element
Estimated Incomeless Estimated Cost excl. Landless Required Equity Return= Residual Land Value
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Residual Land Valua>on Basics
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Element
Estimated Income What can I build? What can I get in income (rent/sales)?less Estimated Cost excl. Land What will it cost me in total to build, operate and lease up/sell out?less Required Equity Return What pre-‐tax margin do I and my investors need to make? *= Residual Land Value This is what the land is worth for the contemplated project
* For income-‐producing properties, this is measured as Yield on Cost: NOI / Total Project Cost For unit-‐sales projects, this is measured as Profit Margin: Net Cash Flow / Gross Sales Proceeds
Developer's Internal Monologue
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Residual Land Valua>on Process
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• First pass: Back Of The Envelope analysis (also known as a “sta(c” analysis, meaning that we are not taking the passage of (me into account). • Make inputs for all variables, including Land Cost • Make changes to Land Cost input un(l the target returns
thresholds are met (i.e., the economics of the project work).
• If this Land Cost is not something you think the land seller will entertain as the purchase price, move on to evalua(ng the next site.
• If the Land Cost is something that you think the land seller will entertain, proceed to running a mul>-‐year projec>on model, also known as a pro-‐forma, that will allocate project costs and asset-‐generated income over (me, and use the Net Present Value and Internal Rate of Return measurements to fine-‐tune the amount which you will offer as the land Purchase Price.
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Residual Land Valua>on Process
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Back Of The
Envelope Analysis
Iterate By Changing Variables
Promising?
Run DCF Analysis
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Residual Land Valua>on Process – DCF Analysis
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Property Address % Total $/Unit $/GSF TotalLot Square Footage 14,000 SF Land and Acquisition Costs 16.82% $96,154 $59.52 $3,750,000Allowable FAR 4.5 FAR Hard Costs excl. Contingency 53.83% $307,692 $190.48 $12,000,000Total Above-Grade Gross SF Stories 8 Stories Addt'l Market Rate Unit Finishes 1.10% $6,282 $3.89 $245,000Retail A 4,000 GSF Hard Costs Contingency 5.49% $31,397 $19.44 $1,224,500Retail B 4,000 GSF Total Retail Land and Total Base Building Hard Costs 60.43% $345,372 $213.80 $13,469,500Retail C 4,000 GSF 12,000 GSF Retail Tenant Improvements and Leasing Commissions 1.77% $395,200Residual Gross Square Feet of Residential 51,000 GSF Soft Costs incl. Contingency 13.46% $76,923 $47.62 $3,000,000Salable Square Feet of Residential 43,350 SSF Total Units Developer Fee 2.77% $15,857 $9.82 $618,441Residential Units * Affordable 4 Units Market Rate 35 Units 39 Units FF& E 0.45% $2,564 $1.59 $100,000
Average SF 525 SF Average SF 775 SF 749 SF Financing Costs excl. any Operating Deficit 4.29% $24,547 $15.20 $957,323Podium/Garage Parking 48 Spaces Total Uses of Funds 100.00% $571,550 $347.54 $22,290,464Surface Parking 0 Spaces Operating Deficit (including Deficits Paid by Cash Flow) $0Number of Storage Units 30 Units Total Uses of Funds with Operating Def. $353.82 $22,290,464* See Unit Mix and Pricing Tab Total Uses of Funds including Deficits funded by Property Cash Flow $22,663,107
Value Value Month # DateAnalysis Start Date Mo. 1 11/1/2011 % of Developer % of Total Initial Share of any % of Total EquityDate of Land Contract Execution 1/1/2012 Equity Equity Equity Investment Deficits * Cost w/DeficitsLand Deposit Date 1/1/2012 Sponsor/Developer 25.00% 4.17% $200,000 $18,392 $218,392Land Closing Date 4/1/2013 Equity Partner (if Any) 75.00% 12.50% $600,000 $55,177 $655,177# Months of Pre-Construction After Analysis Start 24 Months Third Party Investor 83.33% $4,000,000 $367,850 $4,367,850# of Months of Pre-sale Closings 2 Months Sponsor Land Equity Contribution 0.00% $0 $0 $0Construction Duration/Construction Start 12 Months Mo. 25 2/1/14 Equity Total 100.00% $4,800,000 $441,420 23.51% $5,241,420
Pre-Sales Begin Mo. 0 NA Debt Closing Date % of TotalPre-Sales Duration/End Month 0 Months Mo. 0 NA Land Loan 4/1/2013 9.0% Interest Cost $300,000
Pre-Sales % Sold/Velocity/# Units 0% 0 Un its /Mo . 0 Units Mortgage Recording Tax 1.00%Origination Cost - Paid in Cash 1.00%
Market Sales Velocity/Begin 5/Month Mo. 35First C of O Received Mo. 35 9/1/14 Mezzanine Loan 1/1/2014 12.0% Interest 8.97% $2,000,000Sales Through the Month Prior to First C of O 0% Total 0 Units Mezzanine Loan Broker Fee 1.00%
Sales Duration/Velocity 35 Months 0/Month Loan Fees - Front End 1/1/2014 1.00%Final C of O Received/End of Construction Mo. 37 11/1/14First Move-Ins Mo. 36 9/1/14 Senior Loan ** 2/1/2014 5.0% Interest 67.51% $15,049,045Sales After First C of O 100% Total 35 Units Mortgage Recording Tax 1.25%
Sales Duration/Velocity 9 Months 3.89/Month Loan Fees - Front End 0.25%Loan Fees - At Draws 1.00%
Market Sales Velocity/ Completion Timing 4.88/Month Mo. 43 5/1/15Sell Out # Months from First C of O / Total Sell Out Period 8 Months 52 Months Debt Total (excludes any Land Loan) 76.49% $17,049,045
Total Sources of Funds (excludes any Land Loan) 100.00% $22,290,464
DEVELOPMENT SOURCES OF FUNDS
3.00% of Land/Hard/Soft
123 Main Street, Chicago, ILCondominium Building Development Assumptions - 4/9/2012
DEVELOPMENT USES OF FUNDSBUILDING INFORMATION123 Main Street, Chicago, IL
63,000 GSF
6.00% Deposit
10.00%$7,000/Unit Premium
Current PMTs
85.0% Efficiency
PROJECT TIMING AND SALES VELOCITY ASSUMPTIONS
Sample REFM Excel Model Template
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Residual Land Valua>on Process – DCF Analysis
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Sample REFM Excel Model Template
Residential Units Average SF Existing Rental Property Annual NOI $0Pre-Sale (All Market) 0 Units $0 $0 PSF 775 SSF Annual Growth Rate 1.00%Market Rate 35 Units $525,000 $677 PSF 775 SSF Annual Inflation Rate for Operating Expenses/Deficit 3.00%Affordable 4 Units $300,000 $571 PSF 525 SSF Annual Operating Expenses/Unit after First C of O $5,000Total 39 Units Real Estate Taxes on Residential Units
Blended Non Pre-Sales * $501,923 $670 PSF 749 SSF Average Assessed Value $400,000* Market & Affordable Tax Rate 1.27%
Annual Real Estate Taxes/Unit after First C of O $5,080Revenue Deposit Amount 5.00% AmountResidential Units Excluding Options Pre-Sales Discount 10.00% $19,575,000Options Income All Units $10,000/Unit $390,000Podium/Garage Parking 48 Spaces $40,000 $1,920,000Surface Parking 0 Spaces $0 $0Storage Units 30 Units $5,000 $150,000Gross Revenues $22,035,000 Equity Investment $200,000 $600,000 $4,000,000 $4,800,000Selling Costs 5.00% ($1,101,750) Net Return on Equity $356,293 $105,682 $1,396,870 $1,753,163Total Residential Component Revenues, Net $20,933,250 Multiple on Equity 1.41x 1.38x 1.32x 1.33x
IRR 10.30% 9.88% 11.56% 11.27%NPV off of Monthly CFs 8.00% $403,407
NNN Rent TI Allowance TI Start Month # TI Schedule IRR Kicker Return Hurdle 1.00%Retail A $25.00 $15.00 Month 24 2 Months Land Owner Participation % 0.00%Retail B $20.00 $25.00 Month 26 3 MonthsRetail C $32.00 $35.00 Month 28 2 Months
Leasing Commissions TermRetail A 4.00% 7 YearsRetail B 4.00% 5 YearsRetail C 4.00% 10 YearsLC Payment Lead Time * 3 Months* # of months prior to TI Start Month
NOI Start Month Sale of Retail in Month Month 52Retail A Month 26 Cap Rate at Sale 9.00%Retail B Month 29 Selling Costs 4.00%Retail C Month 30 Retail Condo. Net Proceeds $3,319,982
Third Party Investor
Total Project
NOTES
RETURNS (CALCULATED OFF OF MONTHLY CASH FLOWS)
RESIDENTIAL COMPONENT REVENUES
123 Main Street, Chicago, ILCondominium Building Revenue and Operating Assumptions - 4/9/2012
BUILDING OPERATING ASSUMPTIONS
Average Price
RETAIL COMPONENT INCOME, TI AND LC ASSUMPTIONS
Sponsor/Developer
Equity Partner
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Residual Land Valua>on Basics
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Element
Estimated Incomeless Estimated Cost excl. Landless Required Equity Return= Residual Land Value
Element
Estimated Incomeless Estimated Costless Residual Land Value= Required Equity Return
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Residual Land Valua>on Basics
18
Element
Estimated Incomeless Estimated Cost excl. Landless Required Equity Return= Residual Land Value
Element
Estimated Incomeless Estimated Costless Residual Land Value= Required Equity Return
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Residual Land Valua>on Basics
19
Element
Estimated Incomeless Estimated Cost excl. Landless Required Equity Return= Residual Land Value
Element
Estimated Incomeless Estimated Costless Residual Land Value= Required Equity Return
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Element
Estimated Incomeless Estimated Cost excl. Landless Required Equity Return= Residual Land Value
Element
Estimated Incomeless Estimated Costless Residual Land Value= Required Equity Return
How Our Back Of The Envelope Models Work
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How Our Back Of The Envelope Models Work
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Element
Estimated Incomeless Estimated Costless Residual Land Value= Required Equity Return
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Example 1: Office Building
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ValueWhat Can I Build? What Is Required?Lot Square Footage 25,000 SFTotal Allowable FAR 8.0 FAR 200,000 FARLess Retail Square Footage 12,000 SFResidual Office GSF 188,000 GSFRentable Office SF 91% Efficiency 171,080 RSFRequired Parking Spots per 1,000 RSF 1.20 205 spots
What Could I Generate In Net Operating Income?Average Annual Rent PSF Full Service -‐ today's value $65.00 PSFAverage Monthly Parking Rent per Spot -‐ today's value $200.00
Gross Potential Annual Operating Income -‐ Office $11,120,200Gross Potential Annual Operating Income -‐ Parking $492,710Less Annual Vacancy 5.00% ($580,646)Total Annual Revenue, Net $11,032,265
AnnualOperating Expenses -‐ today's value $17.00 PSF ($2,908,360)Real Estate Taxes -‐ today's value $15.00 PSF ($2,566,200)Total Operating and Taxes $32.00 PSF ($5,474,560)
Retail Component NNN Rent -‐ today's value $35.00 $420,000
"Current" Stabilized Net Operating Income (NOI) $5,977,705
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Example 1: Office Building
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How Long Would It Take To Build And Stabilize? / What Would It Cost To Develop?Pre-‐Construction Duration 18 monthsConstruction Schedule 24 monthsPost-‐Construction Lease-‐Up Duration 21 monthsTotal Project Timeline 63 months
% TPCBase Building Hard Cost & Contingency -‐ today's value $225.00 PSF 45.7% $45,000,000Office Tenant Improvements (TIs) and LCs -‐ today's value $50.00 PSF 8.7% $8,554,000Retail TIs and LCs -‐ today's value $25.00 PSF 0.3% $300,000Soft Cost % Hard Costs, Contingency & TIs 35.00% 19.2% $18,848,900Senior Construction Loan to Total Project Cost 65.00%Construction Loan Interest and Operating Deficit 6.00% 12.4% $12,186,935Land Cost $67.50/FAR 13.7% $13,500,000Total Project Cost (TPC) 100.0% $98,389,835Per GSF $492
"Current" Stabilized NOI Yield on Cost (Cap Rate) 6.08%
How Would I Fund It?Senior Construction Loan Amount 65.00% $63,953,393Mezzanine Loan Amount 20.00% $19,677,967Required Equity Amount 15.00% $14,758,475
$98,389,835
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Example 1: Office Building
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Income Annual Inflation Factor 3.00%Expenses, Taxes & CapEx Annual Inflation 3.00%Years to Stabilization 6.00 years
Annual Capital Expenditures Budget per Office RSF $0.30
Future Stabilized NOI after CapEx for Valuation $7,288,701Future Stabilized Yield on Cost (Cap Rate) 7.41%
Asset Sale Capitalization Rate 6.00%Future Gross Capitalized Value $121,478,349Selling Costs 4.00% ($4,859,134)Sale Proceeds, Net $116,619,215Pre-‐Tax Profit on Sale (excludes interim year cash flows) $18,229,380Pre-‐Tax Profit Margin (excludes interim year cash flows) 18.53%Multiple on Invested Equity (excludes interim year cash flows) 2.24x
> Go To Excel
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Example 2: Residen>al Condominiums
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What Can I Build? What Is Required?Ratio Value
Lot Acreage 3.00 acresMaximum Allowable Residential Units 50.0 units/acre 150 unitsParking Spots -‐ Greater of Zoning and Market 1.20/unit 180 spots
Average Unit Size -‐ Affordable Units 650 SFAverage Unit Size -‐ Market Rate Units 800 SF
Required Affordable Unit Percentage 8% of units 12 unitsResidual Market Rate Units: 138 units
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Example 2: Residen>al Condominiums
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What Could I Generate In Income?Duration Rate
Market Rate Product Pre-‐Sold 10% 14 units 3 months 5 units/mo.Market Rate Product Sold in Regular Sales 124 units 15 months 8 units/mo.Total Residential Units 150 unitsStorage Units 50 units
10% DiscountResidential Component Sales Price Schedule Pre-‐Sold Regular Market Affordable Gross Proceeds
Residential Units $450,000 $500,000 $175,000 $70,400,000$563 PSF $625 PSF $269 PSF
Parking Spaces $36,000 $40,000 $7,128,000Storage $4,500 $5,000 $247,500
Selling Costs 4.00% ($3,111,020)Net Proceeds $74,664,480
Per Condominium Unit $497,763Retail Condominium ComponentRentable SF 12,000 SFAnnual NNN Rent PSF $35.00 PSF Annual Rent $420,000Retail Cap Rate at Sale 8.00%Selling Costs 3.00%Retail Net Proceeds $5,092,500
Total Net Proceeds, Residential and Retail Combined $79,756,980
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Example 2: Residen>al Condominiums
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How Long Would It Take To Build And Stabilize? / What Would It Cost To Develop?End Date
Pre-‐Construction Period (starts at Today's Date) 15 months 6/6/2013Construction Schedule 20 months 2/6/2015Post-‐Construction Sales Period ("Regular" Sales) 15 months 5/6/2016Total Project Timeline Through Final Unit Closing 50 months
Average % TPCBase Building Hard Cost & Contingency $200,000/unit $250.00 PSF $30,000,000 48.8%Retail Tenant Improvements $55.00 PSF $660,000 1.1%Soft Costs % Hard Cost & Contingency & TIs 35.00% $10,731,000 17.5%Senior Construction Loan to Total Project Cost 65.00%Construction Loan Interest & Operating Deficit 6.00% $6,600,643 10.7%Land Cost $90,000/unit $13,500,000 22.0%Total Project Cost (TPC) $61,491,643 100.0%Per Condominium Unit $409,944
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Example 2: Residen>al Condominiums
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How Would I Fund It?Construction Loan Proceeds $39,969,568 65.0%Equity Required $21,522,075 35.0%Total Sources of Funds $61,491,643 100.0%
Pre-‐Tax Profit $18,265,337Profit Margin 23.48%Multiple on Invested Equity 1.85x
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Comparable Sales Method
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• The other method of development site valua(on is the Comparable Sales (“Comps”) method
• What similar sites have traded recently, and at what price? • “Similar” means: • Same uses allowed • Same submarket • Similarly-‐sophis(cated buyer and seller
• Where do you get land comps?
• Can you trust them?
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Residual Valua>on And Comparable Sales Method
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• Residual valua(on and comparable sales should be used in concert with one another …Neither is “right” or “wrong”
• Use them as a sanity check against one another
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This Month’s Webinars At A 25% Discount!
31
• Truly Understanding IRR – Tomorrow 4/10 at 12:30 PM Understand IRR once and for all
• Bootcamps: Build up your hard skills • Excel For Real Estate – Mon 4/16 at 1:30 PM • Real Estate Finance – Tues 4/17 at 1:30 PM • Joint Venture Partnerships – Wed/Thurs
4/18-‐4/19 at 1:30 PM both days
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TODAY’S PROMOTION
32
Coupon for 25% Off Any Webinar Purchase This Month: