What's the process you go through to determine a value for a property?

For people in acquisitions or appraisal, what process do you go through to determine a value for a property? 

Historically I've just gone with a quick cap rate and looked at a sale comp chart for trades and ball parked a value. I mean at the end of the day, the value of a property is how much people are willing to pay for it.

I've been getting some blowback from our analysts saying we need to be using a full blown discounted cash flow approach with exit cap rates and discount rates to get a value. I just don't see the need since it's garbage in garbage out. Anyone here think the "discounted cash flow" approach is the gold standard to value a property? How do you comp out discount rates and exit cap rates? 

 

Using the direct cap approach is typically best for assets that are already stabilized and / or newer. What about properties that are not yet stabilized, have differences between in place rent and market rent or are old buildings? If you were to enter into a bidding processes for this type of asset, say multi-family, and it has 70%+ of the current units at substantially below market rents and you just applied a direct cap approach to that current NOI you would substantially undervalue and therefore underbid for the asset. Another bidder that modeled out the increase in NOI over the next 5-years with a DCF as tenants turn and uses an exit cap on a substantially higher NOI value, would escribe substantial more value and a "more accurate bid" than yours. Similar logic is you are valuing an old building that requires a material amount of go forward capex or if it's not currently stabilized. If you didn't account for this properly through a DCF you would not be able to gage an accurate valuation. 

 

Depends on what this is for and who you work for, how detailed you need to be, what questions you're going to be asked, etc.

I handle valuations for some of our properties and the valuations consultant we work with, Altus, generally has us do a direct cap and DCF, in terms of investment rates core areas in major metros are around 5.5% 5.75% going up to around 7% for tertiary product (this is multifamily FYI).

 

Exit cap is just an estimated spread over the going in cap, most people plug in something around 10 bps per year so that a 10 year hold will have a 1% higher exit cap.  The idea is that the property will have a higher cap rate as it ages, and its also just a buffer to make sure you don't overvalue the property if the market changes during the hold.

Discount rate is the acceptable rate of return for the risk profile of the deal (i.e. stabilized core assets will have lower discount rates) and the asset class in general.  You get a feel for where discount rates land for different deals as you underwrite a lot of them and get feedback from brokers and other owners on where the market is (i.e. broker might say you were outbid because a certain investor type was underwriting to a 6% instead of your 7%).

Theoretically the discount rate = the cap rate + NOI growth rate (so a 5% cap with 2% NOI growth has a 7% discount rate), but it rarely lines up perfectly in practice. 

 

I’ll add to this, at my super conservative Life Co lender, as Just a point of reference where this came from - I was always taught exit cap and discount rate will have a spread of 50-100 bps. Generally, your discount rate will be 50-100 bps above your exit cap. Though I’ve seen it be 25 which implies you’re stretching to get to the value, as a lower discount rate implies a higher value. 

 
Most Helpful

You use a mixture of both. They should generally be near each other anyway. Cap and discount on a 10 year basis to get the value. And than verify it with a direct cap. If the property isn’t stabilized, you’re not going to cap the ‘as-is’. You will cap the as-stabilized. However, your purchase price will be some factor below this as you need to leave profit margin for doing the work to stabilize the property. Generally, the most opportunistic deals will be valued based on 20% profit margins. So a development with a total development cost of $100 should be valued on exit around $120. 
 

In reference to the question above on how to figure out discount rates, some of it is feel and seeing enough flow. For instance, I could tell you most NYC core and core plus office deals in 2018-2019 traded at a 6% unlevered IRR over 10 years. Appraisers will also track discount rates and you can call them. I have found the brokerage teams do too - but only in the institutional space. I have found the middle market brokers usually don’t look at discount rates. Also, when it comes to discount rates, always be mindful you should be looking at deals unlevered. 

 

Thanks for this. How do I go about find a discount rate for a market that I'm interested in? Do I need to call the brokers or are there some reports/research out there where I can find relevant info? do I use unlevered IRR for discount rates?

 

Depends on how detailed you wanna go.

For large institutional clients I normally do a DCF, using CoStar to get yield comps, decide on the entry cap rate and then do the some with the exit cap rate. Most cases it normally gets increased by 50bps or so though of course this changes by the specifics of the asset. Also pick a discount rate of course along with your growth and opex assumptions.

Sometimes I’ll do Term & Reversion if it’s for a client who just wants a quick valuation done. A lot of the time I actually find this results in fewer inaccurate valuations as it doesn’t rely on a host of assumptions that can be unrealistic. The big boys don’t like it though as they find it too simple.

I’ll only ever use the direct cap rate if the property is rack rented.

 

Et earum fugiat vitae enim voluptatem consectetur. Illum ullam rem maiores labore id ea ipsam quis. Dicta laudantium quis et dolorem. Et esse ut soluta.

Cupiditate esse voluptatem eum est ratione. Adipisci expedita facere et quia consequatur. Architecto est magnam praesentium omnis eaque. Maiores facilis molestiae omnis nam neque voluptatem.

Quos tempore facere in quas quia libero. Sed voluptatem reprehenderit qui repudiandae id. Quia aperiam explicabo ut cum.

Career Advancement Opportunities

March 2024 Investment Banking

  • Jefferies & Company 02 99.4%
  • Goldman Sachs 19 98.8%
  • Harris Williams & Co. (++) 98.3%
  • Lazard Freres 02 97.7%
  • JPMorgan Chase 03 97.1%

Overall Employee Satisfaction

March 2024 Investment Banking

  • Harris Williams & Co. 18 99.4%
  • JPMorgan Chase 10 98.8%
  • Lazard Freres 05 98.3%
  • Morgan Stanley 07 97.7%
  • William Blair 03 97.1%

Professional Growth Opportunities

March 2024 Investment Banking

  • Lazard Freres 01 99.4%
  • Jefferies & Company 02 98.8%
  • Goldman Sachs 17 98.3%
  • Moelis & Company 07 97.7%
  • JPMorgan Chase 05 97.1%

Total Avg Compensation

March 2024 Investment Banking

  • Director/MD (5) $648
  • Vice President (19) $385
  • Associates (86) $261
  • 3rd+ Year Analyst (13) $181
  • Intern/Summer Associate (33) $170
  • 2nd Year Analyst (66) $168
  • 1st Year Analyst (202) $159
  • Intern/Summer Analyst (144) $101
notes
16 IB Interviews Notes

“... there’s no excuse to not take advantage of the resources out there available to you. Best value for your $ are the...”

Leaderboard

1
redever's picture
redever
99.2
2
Secyh62's picture
Secyh62
99.0
3
Betsy Massar's picture
Betsy Massar
99.0
4
BankonBanking's picture
BankonBanking
99.0
5
kanon's picture
kanon
98.9
6
CompBanker's picture
CompBanker
98.9
7
dosk17's picture
dosk17
98.9
8
DrApeman's picture
DrApeman
98.9
9
GameTheory's picture
GameTheory
98.9
10
bolo up's picture
bolo up
98.8
success
From 10 rejections to 1 dream investment banking internship

“... I believe it was the single biggest reason why I ended up with an offer...”