Monkeys,
As I'm trying to break into REIB from a generalist IB role, I'm curious to know how the valuations differ. I've done my due diligence and understand that you're able to use the same valuations for real and financial assets, but are there any additional/other common valuations for real estate?
Also curious to know; What would you change for a RE DCF?
For the valuation of a company a DCF analysis seeks to value a company based on the present value of its projected free cash flows in perpetuity. 1. Develop 5 or 10 year FCF projection starting with net sales then cascading down to EBITDA, EBIT, and FCF. [EBIT = Revenue – COGS - Opex, UFCF = EBIT - taxes + D&A – capex – change in working capital] 2. Determine a terminal value that is used to capture the remaining value of the target beyond the projection period. 3. Terminal value is determined using an exit multiple or perpetuity growth rate on the company's steady state EBITDA or FCF i.e. EV/EBITDA 4. Next the annual projected FCFs and terminal value are discounted to their present value using WACC and then summed to produce an implied enterprise value [WACC = WACC = ((equity) / (debt + equity) * (cost of equity)) + ((debt) / (debt + equity) (cost of debt)) * (1 - tax rate] - If you're assuming an equity capital structure, CAPM is your discount rate. How do you go about finding beta for RE if any?
Thanks!
Not exactly. In real estate, values of a property are based more simply on their Net Operating Incomes and the Cap Rate. Net Operating Income being Total Revenues - Operating Expenses. Cap Rates or Capitalization Rates are the NOI / Purchase Price. Cap Rates are going to be based on comparative properties sold in the area (ie. similar style, year, location, etc). In determining a real estate value, most developers will run a DCF model using leverage including a construction loan + a refi + later sale to then end up with a Levered Cash Flow line. This line is then used to determine IRR and Equity Multiples. Once those figures have been calculated, the going-in cap rate can be determined for how much the developer or owner/operator can buy the property for based on the preferred IRR they input into that model. Many developers will also use the unlevered IRR to determine if the property or the Project Improvement Plan (PIP) is really even feasible to begin with, for instance, they won't look at a deal 10% Unlevered IRR.
However, if you're going to be valuing companies, such as REITs, you're going to be doing more of a classic IB underwriting with a primary focus on Funds From Operation (FFO), as the depreciation factor used in real estate can dramatically reduce the "apparent" cash flows due to accounting.
Source: 2 years at a Top-10 REIB on the West Coast
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