Quick Guide - Real Estate Financial Impact


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Quick Guide - Financial Impact of Real Estate Transactions

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Quick Guide - Real Estate Financial Impact

  1. 1. Ploutus Advisors A real estate advisory firm based in Los Angeles California Quick Guide – Financial Impact of Real Estate www.ploutusadvisors.com
  2. 2. What Ploutus Advisors Offers Unbiased Conflict-Free Advisory Personalized Commercial and Corporate Real Estate Consulting Experienced Real Estate Investment Advisory Dependable assistance to Public and Private Organizations, Tenants, Landlords and Investors Trust and Transparency 3 E – Entrepreneurial, Efficient, Effective Helping clients look beyond the obvious www.ploutusadvisors.com
  3. 3. Reference Material 3 www.ploutusadvisors.com
  4. 4. Classification of Lease Lease Capitalization Decision Yes Does lease transfer ownership to Transfer of Ownership lessee by the end of lease term? No Yes Bargain Purchase Option Does lease contain a bargain purchase option? No Yes Does Lease begin in the last 25% of the asset’s estimated life? No Yes Is length of lease term 75% or 75% of life test met? more of the asset’s useful life? No Yes Is present value of lease 90% or 90% of fair value test met? more of fair value of property, No less any investment tax credit retained by lessor? Capital Lease ** Operating Lease ** Lessor must determine that 2 additional criteria are met to account for the lease as a capital lease: (i) collection of minimum lease payments is reasonably predictable; and (ii) no important uncertainties exist for unreimbursable costs to be incurred by the lessor. 4 www.ploutusadvisors.com
  5. 5. Lease vs. Own Lease Own (i) Limits investment in real (i) Requires investment in estate real estate (ii) Greater flexibility to move (ii) Lesser flexibility to move (iii) Invest equity in other (iii) Use some equity-debt opportunities combo (iv) Lesser investment risk, but (iv) Greater investment risk, potential rent escalations but potential tax benefits (v) Lesser control (v) Greater control Evaluate mission, funding sources and real estate markets – if the return based on incremental cash flows and other benefits are not sufficient to warrant risk associated with ownership, lease rather than own 5 www.ploutusadvisors.com
  6. 6. Recent and Proposed Changes INDUSTRY GOAL Better Transparency and Compliance Standards Mark-to-Market Valuation No Off-Balance Sheet Treatment of Operating Leases SFAS – 157, “Fair Value Measurements” Effective for Real Estate as of Nov, 15, 2008 May become effective by 2011 RESULT Massive Impact on Financial Statements 6 www.ploutusadvisors.com
  7. 7. Mark-to-Market SFAS – 157, “Fair Value Measurements” Effective for Real Estate as of Nov, 15, 2008 Scenario 1 Scenario 2 Acquisition Cost $50,000,000 $50,000,000 Year of Acquisition 1990 2005 Depreciation Period 39 Years 39 Years Accumulated Depreciation $25,641,026 $6,410,256 Net Book Value $24,358,974 $43,589,744 Deterioration of Value 25.0% 25.0% Current Market Value $37,500,000 $37,500,000 Mark-to-Market Impairment $0 ($6,089,744) Write-Down and Impact on Pre-Tax Profit $0 ($6,089,744) Balance Sheet Profit 7 www.ploutusadvisors.com
  8. 8. Capital Lease vs. Operating Lease Scenario 1 Scenario 2 Annual Rent $50,000 $50,000 Lease Term (Years) 10 5 Number of Lease Renewals 1 2 Borrowing Rate 8.00% 8.00% Operating Lease Asset Impact (Balance Sheet) None None Liability Impact (Balance Sheet) None None Annual Expense (Income Statement) ($50,000) ($50,000) Capital Lease Asset Impact (Balance Sheet) May become $343,423 $205,493 effective by 2011 Liability Impact (Balance Sheet) $343,423 $205,493 Annual Depreciation (Income Statement) ($34,342) ($41,099) Annual Interest (Income Statement) ($26,629) ($15,181) Annual Expense (Income Statement) ($60,972) ($56,280) Following Year: Asset Impact (Balance Sheet) $309,081 $164,395 Liability Impact (Balance Sheet) $320,052 $170,675 Annual Depreciation (Income Statement) ($34,342) ($41,099) Annual Interest (Income Statement) ($24,689) ($12,291) Annual Expense (Income Statement) ($59,032) ($53,390) 8 www.ploutusadvisors.com
  9. 9. Impact of Changes Capitalization of Mark-to-Market Operating Leases Earnings Debt covenant ratios Capital requirements Credit ratings 9 www.ploutusadvisors.com
  10. 10. Financial and Reporting Impact Transaction Cash Balance Sheet ROA Income Statement Loan Structures Asset Liability EBITDA NI Covenant 1 Conventional Operating Lease 2 Capital Lease 3 Ownership Generally Positive Impact Generally Negative Impact Impact Uncertain 10 www.ploutusadvisors.com