Real Estate Fundamentals Midterm #1

Front 1

Internal Rate of Return (IRR)

Back 1

the discount rate which causes net present value to equal zero

Front 2

One must control to one of these 4 things to enter the reale estate market

Back 2

Land, Capital, Knowledge, or Tenants

Front 3

Tangible vs Intangible property

Real vs Personal property

Back 3

Tangible - physical asset that can be owned.

intangible - non-physical (i.e. stocks, bonds, mrtgages)

Real - is fixed and immovable

Personal - can be moved that may or may not be attached to something fixed.

Front 4

What are the rights gained when purchasing real estate?

Back 4

Exclusive ppossession of the property

Use or enjoyment

Disposition

Management

Right to its income

Front 5

Gross Potential Rent (GPR)

Back 5

The maximum rental revenue obtainable when opperating at full occupancy

Front 6

Effective Goss Income (EGI)

Back 6

Equal to GPR - Vacancy - Other expenses + Other income

Front 7

Operating Expenses (OPEX)

Back 7

Must have a financial life of no more than one year

Front 8

Net Operating Income (NOI)

Back 8

= EGI - OPEX

Front 9

BTCF

Back 9

Before Tax Cash Flow. Equal to NOI - ADS.

Front 10

Cap Rate (K)

Back 10

A Static metric that measures the relationship between NOI and Value.

Equal to NOI / Value.

Unleveraged return that tells you how how much return on an investment will be yeilded if paid in all cash after one year.

The higher the cap rate, the lower the value.

Front 11

Annual Debt Service (ADS)

Back 11

Monthly payment. Equal to the mortgage principal + interest, x12

Front 12

Market Gap

Back 12

Unsatisfied eal estate demand in a market/trade area

Front 13

Blackhole

Back 13

No demand for a trade area

Front 14

Life Cycle of a Real Estate Project

Back 14

1. Concept/Visioning: preliminary feasibility outlook studies

2. Pre-development: feasibility studies

3. Construction/Development

4. Operation

5. Rehab & Reuse

6. Exit

Front 15

Market Area

Back 15

Defines the geographic area where a significant portion of the consumers will be drawn.

70% of consumers come from the primary trade area.

20% of consumers come from the secondary trade area.

10% of consumers come from the tertiary trade area.

Front 16

Factors that influence Retail Uses

Back 16

Demand: local income and spending (employment and disposable income)

Supply: competition from existing & likely uses

Front 17

Factors that influence Industrial/Office Uses

Back 17

Demand: business and employment growth

Supply: competition for current vacant space and future projects

Front 18

Factors that influence Residential Uses

Back 18

Demand: Population growth, household income, interest rates

Supply: new available units

Front 19

Recourse Loan

Back 19

If I default on the loan the lender can foreclose on me to dispose on the property, and if the amount garnered from the sale is not enough to cover the debt then I will be on the hook for the difference (probably going to be sued).

Front 20

Nonrecourse Loan

Back 20

If I default on the loan the lender eats the difference and I don’t get sued.

Front 21

Loan to value ratio (LVR)

Back 21

Loan amount versus price to value.

LVR permanent loan is usually 70% to 80%

Front 22

Debt Coverage Ratio (DBR)

Back 22

DCR typically NOI is 110% to 125% of debt payment.

The XX is the percentage of the NOI that the lender won’t allow you to use for debt service. That XX% of the NOI must remain in the deal.

The higher the coverage the lower the loan amount

Front 23

Ownership estates

Back 23

fee simple absolute: the highest form of property ownership (you have the whole bundle of rights)

Front 24

Leasehold interest

Back 24

a possessory interest. You don’t own the property but you have the right to use it subject to the terms of the leasehold.

Front 25

Non-possessory interests

Back 25

i.e. easements (the right to use the land of another for some specific purpose often at any time and without advance notice), license (permission to use the land of another that is temporary and more easily revocable)

Front 26

Restrictive covenants

Back 26

in the Covenants, Conditions, and Restrictions (CC&R). Prevents certain uses, conditions, etc. for future buyers

Front 27

Lien

Back 27

security for an obligation. Can be general (specific to the owner/person) or specific (specific to the parcel itself. i.e. property taxes, loans, mosquito abatement)

Front 28

Condominium

Back 28

exclusive ownership of a unit and shared ownership of common spaces

Front 29

Cooperatives

Back 29

you own a share of stock for every unit, giving you voting rights.

Front 30

Deed

Back 30

the primary written contract to convey interest (full and partial interests) in real property

Front 31

General warranty deed

Back 31

the highest form of warranty that the grantor can provide a grantee. Regardless of what may have happened during any prior ownership, the recourse for the grantee is to the grantor who gave this warranty.

Front 32

Special warranty deed

Back 32

The seller only warrants or guarantees the title defects in clear title that arose during their period of ownership

Front 33

Quick claim deed

Back 33

will transfer whatever interest you have in the property. Can clear up a “cloud on title” (a discrepancy or troublesome division of rights)

Front 34

Actual vs. Constructive notice

Back 34

Actual: physically delivering the document to the grantee

Constructive: publicly recording a document

Front 35

Title

Back 35

A chain of title is the history of the ownership records for a piece of real property.

The one who has the title is the property owner, but title may be shared amongst multiple entities.

Title must be a collection of evidence.

Front 36

3 Buckets of Money in Real Estate

Back 36

Time 0 Buy-in: equity in the deal at the very beginning of the deal

BTCF during the entire hold period (while you have title to the property)

BTCF from reversion (when you sell/exit the deal)

Front 37

Break Even Ratio

Back 37

Equal to (Operating expenses + Annual debt service) / Effective Gross Income

(1 - BER) = the percent by which the EGI can decline before the property cannot make /its debt service.

Lenders don’t like BER any higher than 80%

Front 38

Equity Dividend Rate

Back 38

= (Before tax cash flow) / (Initial equity outlay a.k.a. initial buy-in)

Front 39

Cash-on-cash Return

Back 39

Before tax basis: BTCF / Initial equity outlay

Front 40

Broker’s Rate of Return

Back 40

=(ATCF or BTCF + Equity build-up) / Initial equity Outlay

Equity build-up = principal pay-down + value growth

Don’t rely on this number. It is irrelevant because you haven’t yet realised that expected value growth.

Front 41

Location Quotient (LQ)

Back 41

helps determine economic basis of an area. Measures an area’s concentration of employment based on number of jobs compared to national employment

>1: the area is an exporter of goods/services and retaining more wealth than they are exporting. Creates a money multiplier (money is being spent more than once)

<1: the area is an importer of goods/services and exporting wealth. Residents are spending money elsewhere

=1: the area is a balanced trade area

The higher the LQ the higher quality of of product that can be supported

Front 42

Sales comparison approach to determine value in real estate

Back 42

Look similar examples recently sold in the trade area. Take the value of that sale / sq. ft. of site. Then multiply that ratio by my sq. ft. to estimate potential profit/sale price

Used in 1-4 unit properties + condos and townhomes

Front 43

Income approach to determine value in real estate

Back 43

Take the property at the end of the hold period, calculate the NOI for the next year and divide that by terminal cap rate to determine the amount at which you will list the property for sale. Buyers will just take the last year’s numbers.

Used for retail, office, hotel, industrial, and 5+ unit properties

Front 44

Cost approach to determine value in real estate

Back 44

What would be the cost to rebuild it?

Used for unique properties (i.e. hospitals, Disney Concert Hall, USC)

Front 45

Real estate brokers

Back 45

financial intermediary that tries to find buyers to buy property and sellers to sell property

Front 46

Law of Agency

Back 46

Agents act on behalf of another

Can be a: Universal agent, General agent, or *Special agent* acting for a specific purpose

Has fiduciary responsibilities

Front 47

Fiduciary responsibilities:

Back 47

An extra special standard of care to act in your client’s best interest and not your own

One must keep things confidential

One must obey their client’s lawful instructions

One must keep the client informed of financial transactions

One must be loyal to their client

One must disclose any relevant information to their client

Front 48

Dual agency

Back 48

Agent represents both the buyer and the seller of the property. Dual agents have the seller’s interest most at heart since they pay the listing fee

Front 49

Listing Agreements

Back 49

Highest protection for brokers:

exclusive authorization and right to sell. Protects their fee no matter who sells the property

Best for the seller:

open listing. Allows seller to get any broker to list the property. Brokers often don’t show that listing since their isn’t protected

Front 50

Listing contract/agreement:

Back 50

the agreement between the listing broker and the seller

Listing fee is due at mutual agreement between seller and buyer, but typically paid when deal is finalised

Front 51

Leverage

Back 51

Other people’s money.

You always want positive leverage (if you borrow at 5% and invest in something earning 6% in returns)

Negative leverage: borrowing 6% with 5% returns

Front 52

Arbitrage

Back 52

trading in a price differential in two different markets (property market and capital market)

Front 53

Req. for a valid PSA (purchase & sale agreement)

Back 53

Competent parties

Legal objective (the intended use must be legal)

Offer and acceptance

Consideration (any exchange of value, usually money)

No defects to mutual assent. Everything must be done within allotted timeframes

Must be in written form

Proper description of the property (i.e. APN)

Front 54

Contingency

Back 54

an event that must event that must occur before the next event occurs. (i.e. we won’t close until we’ve had a property inspection)

Front 55

Assignment

Back 55

entity name and/or assignee. Reserves the right to negotiate the deal and assign the deal to someone else to close.

Front 56

Remedies for non-performance (someone not closing on a deal after the signing of PSA)

Back 56

1. Sue for (provable) damages

2.Retain the good faith deposit

3. Agree to rescind the contract

Front 57

Escrow Company

Back 57

A theoretical neutral 3rd party in a transaction that:

Holds the deed for the seller and holds the money from the buyer

Once all conditions have been met the deed and money are transferred

Front 58

US Real Estate Market cycles

Back 58

Average short term cycle: 18.3 years

Average long term cycle: 64 years

New real estate wealth is created at the “bottom” of cycles

Front 59

Hedonic regression analysis:

Back 59

relates the cost of amenity vs the additional value the amenity will bring