[HW 1.3a] Real Estate

1.   Real Estate

Build a model to buy a piece of commercial real estate with the following parameters:

Square Footage:  38,738


Lease Year      Annual  Base Rent PSF  
7/1/13 – 6/30/18 $582,890.00 $15.07
7/1/18 – 6/30/23 (Option #1) $641,180.00 $16.57
7/1/23 – 6/30/28 (Option #2) $705,289.00 $18.23
7/1/28 – 6/30/33 (Option #3) $775,828.00 $20.05
7/1/33 – 6/30/38 (Option #4) $853,411.00 $22.06
7/1/38 – 6/30/43 (Option #5) $938,752.00 $24.26

Operating Costs: The rent is triple net, which means that the tenant is on the hook for the expenses of the building.  The building owner will pay the expenses, however the tenant will reimburse the landlord.  The definition of gross revenue, however, should include $2.55 per square foot of cost reimbursement from the tenant to landlord.

Operating Cost Escalators – This $2.55 per foot is an annual expense that will grow at 2.5% per year, each year.

Vacancy Rate: 0%

Operating Expenses are Real Estate Taxes and Property Management Fees

Real Estate Taxes are the $2.55/ft described above, escalating at the same rate.

Property Management Fees: 3%  of gross rents.

Net Operating Income (“NOI”) is Gross Revenue minus Operating Expenses

Non-operating expenses – These will be 19.36 cents per square foot and are also thought to grow at 2.5% per year.

Project out the cashflows over the next 10 years.

The property is for sale at a 7.4% cap rate, which is a current yield based on Net Operating Income.  Additionally, closing costs are projected to be $2.77 per square foot. What is the price implied by the $7.4% cap rate?

What amounts would we have to pay, to buy it at a yield of 4%, 6%, 8%, 10%, and 12%?   Plot these yields and dollar amounts on a scatter chart.

In ten years, you forsee selling the property for $9,243,303.

What is the IRR that this future selling price implies? What would the IRR be if we sold it for our cost?



  1. is gross rents just rents- taxes ?


    1. Gross rents, in this case, includes the taxes. The tenant is responsible for the taxes. The landlord actually pays the tax, but then bills the property taxes back to the tenant, so that billing is revenue to the landlord.


  2. Does this mean that gross rents just equal rents?


    1. That’s right


  3. I’m still confused about which costs get reimbursed and then how we need to factor those into our net cash flow calculations


    1. I see why my description was unclear. Sorry.
      The real estate taxes are paid by the landlord and then the landlord bills those back to the tenant. The property management fees are an expense of the project, however, they are not reimbursed by the tenant. I hope that clarifies it.


      1. Now I am a bit confused. So we have 3 types of expenses: 1. operating cost escalators, 2. Real Estate Taxes, 3. Property Management Fees?
        And then subtracting those from the revenues should give us NOI?


  4. What exactly do the values under PSF mean and how do they register into our cashflows?


  5. I have 2 questions:

    1. What is PFS? Is it the cost per square feet? (aka the way to calculate the cash inflows?)
    2. IS $2.55 (“operating cost escalators”) the same as the reimburishment from the tenant to the landlord? Is not, than what is this reimburishment?

    Thank you!


  6. Jack Gale · · Reply

    What options are we actually comparing? Twice in the problem it says project this out over the next ten years, so I assume its whether or not purchasing the property is a good investment. In the chart, however, it has five options as different 5 year periods. I assume someone looking at buying Shaw’s would not consider their options to be buying the property for five years selling it and then 15 years down the line buying it for another 5 years.


    1. Project out the analysis for ten years.
      You’ll want to consider selling the property at the end of 10 years at its original cost. And you should also consider the impact of selling it for the $9.243 million number.

      If it’s helpful, here’s an overview of cap rates on wikipedia: http://en.wikipedia.org/wiki/Capitalization_rate


  7. Concerning the costs per foot vs per squared feet: if we have 2.55$/ft it means that we have to multiply is by (38,738^2) because we have 38,738 square feet?
    Thank you!


    1. Excellent question. In this case cost per for and cost per square foot are the same thing and used interchangeably. Might be different in architectural school.


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