200696 Property Investment Analysis For Discounting Cash Flows

There are various income producing properties that generates income to the owner and serve the need of the tenant. Frankly, speaking there are generally two sources:-

• Letting out the property for rent to individuals, companies or other for the purpose of continuous revenue generation in the form of rent;
• The second source being capital appreciation of the property over the period of holding. 

Generally, the fixed income generating assets provide a stable return to the owner and is less risky compared to other sources of investment except government securities. However, they also come with their cup of risk in the form of non occupancy, global prices fall in real estate value etc. Principally, the following are primarily the revenue generating assets under fixed real estate investment:

• Commercial properties for let out of office spaces. The same has been considered for analysis by considering the data available for Sydney;
• Retail in the form of road side shops or mall shopd;
• Industrial space let out;
• Warehousing let outs;
• Other ancillary properties let out. 

1. Purpose of Assignment

The general intent of the paper is to carry out investment analysis for income generating property. The tools used in the analysis has been named here-in-below:

• Discounting Cash Flows;
• Net Present Value Method;
• Internal Rate of Return;
• Case Scenario;
• Profit After Tax Analysis.

1. Assumptions undertaken

The following are the assumptions undertaken for the analysis:

• The let out property is situated in Sydney, Australia;
• The property is Official;
• The Value of property is 20,00,000/- AUD;
• Loan to Value Ratio is 70%;
• Discounting Factor or rate is taken as opportunity cost of debt i.e. 6.5%;
• Period of analysis is 10 years;
• Inflation is 2.2%;
• Growth in the value of rent is 4%;
• Terminal growth rate is 7%;
• Ask value for the property is 28,54,757/- AUD;
• Best case and worst Case scenario sale values;
• Loan is taken at 6.5%
• Repayment of loan is 10 years 

1. Key Terms 

• Net Present Value: It is an investment analysis tool under which the cash inflows and outflows are discounted using a factor generally an opportunity cost of capital. Post discounting, the inflow is deducted from outflow to analyse the feasibility of the project. A positive NPV exhibits green signal while a negative exhibits red. 

• Internal Rate of Return: It is also an investment analysis tool under which the outflow is matched to inflow using a rate of return that exactly tallies outflow to inflow. If the rate of IRR is greater than the rate specified in the discounting factor the project is feasible otherwise not. 

• Discounting Factor:It is a rate at which the cash flows are discounted in the simulation. It generally represents the opportunity cost of capital or the expected rate of return. 

• Scenario Analysis:The scenario analysis is a significant tool in analysing the impact of positive and negative outcome on the viability of project. It is a significant tool is decision making and helps to analyse before the losses that company can incur on account of negative market scenario. 

• Profit After Tax:The  same is computed post taking into account the expensed incurred for earning the profits except repayment of principal.

The analysis has been based on the following:

• Income producing property in Sydney;
• Rise in rent price by 4% p.a.
• Inflation rate is 2.2%;(Economics)
• Property size is 1000 Sq metres;
• Property purchase rate is 2000 per Sq metres;(Commercial Properties For Lease in Sydney, NSW 2000)
• Expenditure is 25% of rent;
• Rate of discounting is 6.5%;
• Terminal yield is 7%.(Portal, 2018) 

Tenancy Schedule

(Amount in AUD)

Sl no	Year	No of Months	Rent to be paid
1	1	12	180000
2	2	12	187200
3	3	12	194688
4	4	12	202476
5	5	12	210575
6	6	12	218998
7	7	12	227757
8	8	12	236868
9	9	12	246342
10	10	12	256196

Out Going Schedule

Sl No	Particulars	Expense (% of Income)
1	Property Tax	25%
2	Fire Insurance
3	Repairs
4	Maintenance
5	Cost of securing tenant
6	Management fees or supervisory fees
7	Depreciation towards furniture and fittings
8	Utility expense

   (Rental Income and Expenses, 2018)

Discount Rate Computation

Sl No	Particulars	Rate
1	Prime residential mortgage rate	4%
2	Premium	2%-2.5%
3	Rate for discounting	6.50%

 

Sl No	Particulars	Rate
1	RF	3.50%
2	Premium	2.5%-3%
3	Rate for discounting	6.50%

   (5 tips for financing your first commercial property loan, 2016)

Terminal Yield

Sl No	Particulars	Rate
1	Going Rate	6.50%
2	Additional Premium in terms of slide 49	0.50%
3	Terminal Rate	7.00%

 

Projection of Cash flows on property
Sl no	Square Metre	Rent per Square Metre	Amount	Proposed Expenditure (25% of earning)	Net Amount	Discounting Rate 6.5%	Amount after discount
1	1000	180	180000	45000	135000	0.9390	126761
2	1000	187	187200	46800	140400	0.8817	123785
3	1000	195	194688	48672	146016	0.8278	120879
4	1000	202	202476	50619	151857	0.7773	118042
5	1000	211	210575	52644	157931	0.7299	115271
6	1000	219	218998	54749	164248	0.6853	112565
7	1000	228	227757	56939	170818	0.6435	109922
8	1000	237	236868	59217	177651	0.6042	107342
9	1000	246	246342	61586	184757	0.5674	104822
10	1000	256	256196	64049	192147	0.5327	102362
11	1000	266	266444	66611	2854757	0.5327	1520803
						Discounted cash inflow	2662554
						Out flow	2000000
						NPV	662554
						IRR	10%

On the basis of above, it may be seen that purchasing of property is viable as the net inflow after discounting exceeds the outflow at initial stage and hence the project is viable. Further, the IRR of the project is 10% which exceeds the discounting rate and hence the company can go for the project.

PART -3 (A) 

 The PART 3 A of the analysis includes debt financing and the following are the key factor apart from PART 2 for analysis purpose:

Particulars	Briefs
VALUE OF PROPERTY ( Asking Price)	2000000
Loan to Value Ratio	70%
Loan	1400000.00
Equity	600000.00
Interest	6.5% p.a
Yearly repayment of loan	194747.00
Resale value	2854757

Tenancy Schedule

Sl no	Year	No of Months	Rent to be paid
1	1	12	180000
2	2	12	187200
3	3	12	194688
4	4	12	202476
5	5	12	210575
6	6	12	218998
7	7	12	227757
8	8	12	236868
9	9	12	246342
10	10	12	256196

 

Outgoing Schedule

Sl No	Particulars	Expense (% of Income)
1	Property Tax	25%
2	Fire Insurance
3	Repairs
4	Maintenance
5	Cost of securing tenant
6	Management fees or supervisory fees
7	Depreciation towards furniture and fittings
8	Utility expense

 Discounting Rate Computation

Sl No	Particulars	Rate
1	Prime residential mortgage rate	4%
2	Premium	2%-2.5%
3	Rate for discounting	6.50%

 

Sl No	Particulars	Rate
1	RF	3.50%
2	Premium	2.5%-3%
3	Rate for discounting	6.50%

Loan Schedule 

Sl No	Particulars	Opening Amount	Interest	Repayment	Closing
1	Loan	1400000.00	91000	194747	1296253.00
2	Loan	1296253.00	84256.445	194747	1185762.45
3	Loan	1185762.45	77074.55893	194747	1068090.00
4	Loan	1068090.00	69425.85026	194747	942768.85
5	Loan	942768.85	61279.97552	194747	809301.83
6	Loan	809301.83	52604.61893	194747	667159.45
7	Loan	667159.45	43365.36416	194747	515777.81
8	Loan	515777.81	33525.55783	194747	354556.37
9	Loan	354556.37	23046.16409	194747	182855.53

  

Projection of Cash flows on property
Sl no	Square Metre	Rent per Square Metre	Amount	Proposed Expenditure (25% of earning)	Net Amount	Repayment	Net Post Repayment	Discounting Rate 6.5%	Amount after discount
1	1000	180	180000	45000	135000	194747	-59747	0.9390	-56100
2	1000	187	187200	46800	140400	194747	-54347	0.8817	-47916
3	1000	195	194688	48672	146016	194747	-48731	0.8278	-40342
4	1000	202	202476	50619	151857	194747	-42890	0.7773	-33340
5	1000	211	210575	52644	157931	194747	-36816	0.7299	-26871
6	1000	219	218998	54749	164248	194747	-30499	0.6853	-20902
7	1000	228	227757	56939	170818	194747	-23929	0.6435	-15398
8	1000	237	236868	59217	177651	194747	-17096	0.6042	-10330
9	1000	246	246342	61586	184757	194747	-9990	0.5674	-5668
10	1000	256	256196	64049	192147	194742	-2595	0.5327	-1382
11					2854757	0	2854757	0.5327	1520803
								Discounted cash inflow	1262554
								Out flow	600000
								NPV	662554
								IRR	13%

On the basis of above, it may be seen that purchasing of property is viable as the net inflow after discounting exceeds the outflow at initial stage and hence the project is viable. Further, the IRR of the project is 13% which exceeds the discounting rate and hence the company can go for the project.

PART -3 (B) 

The PART 3 B of the analysis includes scenario analysis and the following are the key factor apart from PART 2 & PART 3(A) for analysis purpose: 

Particulars	Briefs
VALUE OF PROPERTY ( Asking Price)	2000000
Loan to Value Ratio	70%
Loan	1400000.00
Equity	600000.00
Interest	6.5% p.a
Yearly repayment of loan	194747.00
Resale value ( Most likely)	2854757
Best Case	3250000
Worst case	2000000

 

Projection of Cash flows on property (Pessimistic)- Rent falls by 10% every year
Sl no	Square Metre	Rent per Square Metre	Amount	Proposed Expenditure (25% of earning)	Net Amount	Repayment	Net Post Repayment	Discounting Rate 6.5%	Amount after discount
1	1000	180	180000	45000	135000	194747	-59747	0.9390	-56100
2	1000	162	162000	40500	121500	194747	-73247	0.8817	-64579
3	1000	146	145800	36450	109350	194747	-85397	0.8278	-70696
4	1000	131	131220	32805	98415	194747	-96332	0.7773	-74881
5	1000	118	118098	29525	88574	194747	-106174	0.7299	-77494
6	1000	106	106288	26572	79716	194747	-115031	0.6853	-78835
7	1000	96	95659	23915	71745	194747	-123002	0.6435	-79153
8	1000	86	86093	21523	64570	194747	-130177	0.6042	-78657
9	1000	77	77484	19371	58113	194747	-136634	0.5674	-77520
10	1000	70	69736	17434	52302	194742	-142440	0.5327	-75882
11			0	0	0	0	2000000	0.5327	1065452
								Discounted cash inflow	331656
								Out flow	600000
					NPV	-268344
								IRR	3%

On the basis of above, it may be seen that purchasing of property is not viable under pessimistic view as the net outflow after discounting exceeds the inflow and hence the project is not viable. Further, the IRR of the project is 3% which does not exceeds the discounting rate and hence the company cannot go for the project. 

Projection of Cash flows on property (Optimistic)- Rent increases by 10% every year
Sl no	Square Metre	Rent per Square Metre	Amount	Proposed Expenditure (25% of earning)	Net Amount	Repayment	Net Post Repayment	Discounting Rate 6.5%	Amount after discount
1	1000	180	180000	45000	135000	194747	-59747	0.9390	-56100
2	1000	198	198000	49500	148500	194747	-46247	0.8817	-40774
3	1000	218	217800	54450	163350	194747	-31397	0.8278	-25992
4	1000	240	239580	59895	179685	194747	-15062	0.7773	-11708
5	1000	264	263538	65885	197654	194747	2907	0.7299	2121
6	1000	290	289892	72473	217419	194747	22672	0.6853	15538
7	1000	319	318881	79720	239161	194747	44414	0.6435	28581
8	1000	351	350769	87692	263077	194747	68330	0.6042	41287
9	1000	386	385846	96461	289384	194747	94637	0.5674	53693
10	1000	424	424431	106108	318323	194742	123581	0.5327	65835
11			0	0	0	0	3250000	0.5327	1731360
								Discounted cash inflow	1803839
								Out flow	600000
					NPV	1203839
								IRR	18%

On the basis of above, it may be seen that purchasing of property is viable as the net inflow after discounting exceeds the outflow at initial stage and hence the project is viable. Further, the IRR of the project is 18% which exceeds the discounting rate and hence the company can go for the project.

Projection of Cash flows on property (Most Likely)
Sl no	Square Metre	Rent per Square Metre	Amount	Proposed Expenditure (25% of earning)	Net Amount	Repayment	Net Post Repayment	Discounting Rate 6.5%	Amount after discount
1	1000	180	180000	45000	135000	194747	-59747	0.9390	-56100
2	1000	187	187200	46800	140400	194747	-54347	0.8817	-47916
3	1000	195	194688	48672	146016	194747	-48731	0.8278	-40342
4	1000	202	202476	50619	151857	194747	-42890	0.7773	-33340
5	1000	211	210575	52644	157931	194747	-36816	0.7299	-26871
6	1000	219	218998	54749	164248	194747	-30499	0.6853	-20902
7	1000	228	227757	56939	170818	194747	-23929	0.6435	-15398
8	1000	237	236868	59217	177651	194747	-17096	0.6042	-10330
9	1000	246	246342	61586	184757	194747	-9990	0.5674	-5668
10	1000	256	256196	64049	192147	194742	-2595	0.5327	-1382
11	1000	266	266444	66611	2854757	0	2854757	0.5327	1520803
								Discounted cash inflow	1262554
								Out flow	600000
								NPV	662554
								IRR	13%

On the basis of above, it may be seen that purchasing of property is viable as the net inflow after discounting exceeds the outflow at initial stage and hence the project is viable. Further, the IRR of the project is 13% which exceeds the discounting rate and hence the company can go for the project.

PART -3 (C)

The PART 3 (C) of the analysis includes scenario analysis and the following are the key factor apart from PART 2 for analysis purpose: 

Particulars	Briefs
VALUE OF PROPERTY ( Asking Price)	2000000
Loan to Value Ratio	70%
Loan	1400000.00
Equity	600000.00
Interest	6.5% p.a
Yearly repayment of loan	194747.00
CTR	0.30
Resale value	2854757

  

Projection of Cash flows on property
Sl no	Square Metre	Rent per Square Metre	Amount	Proposed Expenditure (25% of earning)	Net Amount	Interest	Tax	Repayment of principal	Net Post Repayment	Discounting Rate 6.5%	Amount after discount
1	1000	180	180000	45000	135000	91000	13200	103747	-72947	0.9390	-68495
2	1000	187	187200	46800	140400	84256	16843	110491	-71190	0.8817	-62765
3	1000	195	194688	48672	146016	77075	20682	117672	-69413	0.8278	-57464
4	1000	202	202476	50619	151857	69426	24729	125321	-67620	0.7773	-52562
5	1000	211	210575	52644	157931	61280	28995	133467	-65811	0.7299	-48034
6	1000	219	218998	54749	164248	52605	33493	142142	-63992	0.6853	-43856
7	1000	228	227757	56939	170818	43365	38236	151382	-62165	0.6435	-40003
8	1000	237	236868	59217	177651	33526	43238	161221	-60334	0.6042	-36456
9	1000	246	246342	61586	184757	23046	48513	171701	-58503	0.5674	-33192
10	1000	256	256196	64049	192147	11886	54078	182856	-56673	0.5327	-30191
11					2854757		256427	0	2598330	0.5327	1384198
										Discounted cash inflow	911179
										Out flow	600000
										NPV	311179
										IRR	10%

On the basis of above, it may be seen that purchasing of property is viable as the net inflow after discounting exceeds the outflow at initial stage and hence the project is viable. Further, the IRR of the project is 10% which exceeds the discounting rate and hence the company can go for the project. 

In every scenario project is viable and can be undertaken except if there is a pessimistic approach  hence the project can be undertaken based on the above findings.As from above analysis and finding we can conclude about the viability of the project acceptance and should be accepted.  

5 tips for financing your first commercial property loan. (2016, Dec 22). Retrieved December 22, 2016, from www.commercialpropertyguide.com.au: https://www.commercialpropertyguide.com.au/blog/investing/5-tips-for-financing-your-first-commercial-property-loan-48

Commercial Properties For Lease in Sydney, NSW 2000. (n.d.). Retrieved August 27, 2018, from www.realcommercial.com.au: https://www.realcommercial.com.au/for-lease/in-sydney,+nsw+2000/list-1

Economics, T. (n.d.). Australia Inflation Rate. Retrieved August 27, 2018, from tradingeconomics.com: https://tradingeconomics.com/australia/inflation-cpi

Portal, T. S. (2018). Price per square meter of land in selected cities/areas in Australia in 2015 (in Australian dollars). Retrieved August 27, 2018, from www.statista.com: https://www.statista.com/statistics/736673/australia-land-price-per-square-meter-in-selected-areas/

Rental Income and Expenses. (2018, March 6). Retrieved August 27, 2018, from www.iras.gov.sg: https://www.iras.gov.sg/irashome/Individuals/Locals/Working-Out-Your-Taxes/What-is-Taxable-What-is-Not/Rental-Income-and-Expenses/