I had a curious thought earlier today - curious how other firms look at rent growth, vacancy, etc., through the life of an investment.
At my firm, to underwrite the first 5 years, we look at the 5 year rent growth and vacancy projections in the submarket provided by CoStar, CBRE-EA, and REIS. We take an average for each year and call that our baseline 5 year projection. For years 6-10, rent growth is always 3% and vacancy is some stabilized estimated number.
My question is, how do other firms do it? Do you guys do something like my firm? Do you run different scenarios where one scenario has rent growth of 3%, another at 2% etc.? With different vacancy percent as well? I am curious about the different analysis methods.
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Not possible to answer this question right away IMO. It really depends on different market sectors/geographies and most of all: asset class. multi tenant residential for example: you could use an inflation rate of 5,7% years p.a. For a RESI Portfolio I would always calc a stock vacancy of 5% if it has more than 500 units.
commercial: depends on a lot of factors.
The way you approach the underwriting could work for a single tenant double net lease that is linked to CPI.
regarding scenarios: we are always running a sensitivity analysis for the following KPI‘s:
Output:
purchase price and IRR; mostly for value add assets purchase price and CoC: mostly for institutional and stabilised products/assets
you should always Model a worst case, mid and best case scenario. based on the scenario(s) you should pitch the investment story for the asset/portfolio.
best, ace
To add some clarity, I'll note my firm uses this for multi, office, retail, and industrial. We don't do any NNN or NN. This method is used for core all the way to spec development.
Costar forecasts are horseshit. You would be better off just using the historic average rent growth in those sub markets.
IMO just using historical data is an awful idea. If you have had a 5 year period where rents have increased 5+% per year the likelihood of that continuing is very low.
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