There are several ways to
estimate the value of and analyses of an investment property. Each method has
advantages and disadvantages. All should be considered when applicable.
There are 3 key areas that would impact
the value. Like a 3-legged stool, all 3 must make sense to for the investment to stand straight.
- Income from the property
- Operating expenses of the property
- Financing terms
Method 1:
Gross
Multiplier
Price
divided by Income. G=P/I.
This is a simple way of comparing
multiple investment opportunities. It does not take into account the
Operating Expenses, and Financing.
Method 2:
Price per
square foot
This
method does not take into account any of the above 3 factors.
Method 3:
Capitalization Rate
Net
Operating Income divided by Price. R=NOI/P.
This is a common method used to value
properties. It does take into account Income and Operating Expensed.
However, Financing is not considered.
Method 4:
Cash on Cash
Cash
flow before tax divided by Cash Invested.
This method results in a rate of return
to be used as a tool to compare investment opportunities. It takes into
account all 3 above factors. However it is not an easy way to arrive at
a value.
Method 5: Financial Management Rate of Return
The FMRR method takes in to account Income, Operating Expenses, and Financing. It paints a complete picture of the investment opportunity from acquisition to disposition detailing before and after tax cash-flows for every year of the ownership, and the overall rate of return of the investment when you sell or exchange for anther opportunity.
The analysis also is used as an aid to assess whether the performance of an investment is on track with the investment objectives.
This is a more involved valuation method. Please call for my Excel spreadsheet.
