The document discusses key concepts in real estate financial analysis including net operating income (NOI), capitalization rates (cap rates), internal rate of return (IRR), and other valuation methods. NOI is the starting point for valuations and measures cash flow after expenses. Cap rates measure yield and vary inversely with price, indicating a property's risk. IRR looks at annual returns over the investment period and should exceed alternative investments' rates. Cash flow, cash-on-cash return, whole dollar profit, and equity multiple are also discussed as common valuation metrics.

1. REAL ESTATE FINANCIAL ANALYSIS
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2. NET OPERATING INCOME (NOI)
• Net Operating Income (NOI) is a measure of
cash flow after expenses.
• NOI is the starting point for all investment real
estate valuations.
• NOI = Gross Operating Income - Total Expenses

3. CAP RATES
• Cap rates are a measure of current, annual yield
and when underwriting a deal, are generally
measured off first year Net Operating Income (NOI).
• For those of you who follow the stock market and
are familiar with P/E ratios, cap rates are in the
inverse of P/E ratios and are basically a E/P ratio.
• For example, a property has $100,000 NOI. If you
were going to pay $1,000,000 for the asset, you
would have a cap rate of 10%.
– NOI / Price = Cap Rate
– $100,0000 / $1,000,000 = 10%

4. CAP RATES
• When price goes up, cap rates go down.
• When price goes down, cap rates go up.
Cap Rate = 100,000.00$
1,000,000.00$ 10.00%
100,000.00$
1,200,000.00$ 8.33%
100,000.00$
800,000.00$ 12.50%

5. CAP RATES
• Generally, cap rates will vary from time to time,
depending primarily upon four factors:
1. Current Interest Rates
2. Market Efficiency/Conditions
3. Property Conditions
4. Creditworthiness of the Tenants
5. Length of Leases

6. CAP RATE SPECTRUM (STABLE MKT)
Core
(-7.0%)*
• Long term
tenancy
• Creditworthy
Tenants
• Newer
Construction
• Well located
Value Add
(7.0% - 8.5%)*
• Less stable
tenancy and
credit
• Older assets
• Less centralized
location
Opportunistic
(8.5%+)*
• Unstable or short
term tenancy
• More difficult to
finance
• Older
construction
• Tertiary markets
or challenged
locations.
* Please note that these ranges are merely for illustration and do not represent bright line distinctions.

7. INTERNAL RATE OF RETURN
• Internal Rate of Return (“IRR”), along with Equity
Multiple, is the baseline for which most institutional real
estate investments are made.
• IRR is defined as the return rate which can be earned on
the invested capital, i.e. the yield on the investment.
• LTV has a significant impact on IRR.

8. INTERNAL RATE OF RETURN
• A project is a good investment proposition if its IRR is greater than
the rate of interest that could be earned by alternative investments
(investing in other projects, buying bonds, even putting the money in
a bank account). The IRR should include an appropriate risk
premium.
• Mathematically the IRR is defined as any discount rate that results in
a net present value of zero of a series of cashflows.
• In general, if the IRR is greater than the project's cost of capital, or
hurdle rate, the project will add value for the company.
• IRR is also used to determine which investment has higher returns,
if capital is limited. For example, you can earn 3% by investing in
government bonds or X% IRR by investing in this real estate
transaction.

9. IRR VERSUS CAP RATE
• Cap rates, again, are the annual, current yield on an
investment.
• IRR looks back, post disposition, at what the annual returns
are over the life of the investment.

10. SENIOR FINANCING
• In any real estate acquisition, the terms of the senior financing
are going to significantly impact your valuation.
• The financing will dictate your cash flow and IRR.
• Factors to consider when examining financing are:
– LTV
– Recourse versus non-recourse
– Spread over the rate
– Amortization and Interest Only Periods
– Reserves
• All of the above factors will reduce your cash flow and help
dictate the LTV available on that acquisition.

11. OTHER COMMON VALUATION
METHODS
• Cash Flow
• Cash on Cash Return
• Whole Dollar Profit
• Equity Multiple

12. CASH FLOW
• The cash flow from any asset is a function of the going-in cap
rate as well as the LTV.
– The higher the cap rate, the more cash flow.
– The lower the LTV, the more cash flow.
• Cash flow will be reduced by required debt payments and
reserves.

13. CASH ON CASH RETURN
• The cash-on-cash return is the ratio of annual before-tax
cash flow to the total amount of cash invested, expressed
as a percentage.
• For example, if you buy the same $1 million dollar asset,
with 70% loan to value (“LTV”) (meaning $700,000 of
debt and $300,000 of cash) and you have the same
$100,000 in net rents, your cash on cash return is 33%

14. CASH ON CASH RETURN
Cash on Cash Return is generally used simply as a litmus
test to see if the deal warrants further investigation and
underwriting.
Annual Before Tax Cash Flow
Total Cash Invested
100,000.00$
300,000.00$ 33.33%
Cash on Cash
Return =

15. WHOLE DOLLAR PROFIT
• While IRR is a mathematical equation, real estate investors
also examine the Whole Dollar Profit on any given
acquisition opportunity.
• It is possible for deals to have a high IRR but the Whole
Dollar Profit is low, or not high enough to justify the risk of
investment.
• Whole Dollar Profit is calculated either with or without regard
to distributions of current income.

16. EQUITY MULTIPLE
• Equity Multiple is amount of equity received as
compared to that invested upon asset disposition.
• Equity Multiple is frequently evaluated side by side with
IRR and is sometimes deemed a more pure result of
project profitability. There is an expression “You cannot
eat IRR.”
• For example, if you invested $300,000 in an asset, and
after disposition had $600,000 in equity, you would have
a 2.0x equity multiple.
– Obviously, deals with equity multiples under 1.0x do
not justify investment.
• Equity Multiple, unlike IRR, is decreased when the
equity is returned early.

17. EQUITY MULTIPLE
Equity Multiple Equals =
(Cash Invested + Distributions + Capital Events)
Cash Invested

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