REIT Modelling Flashcards
(79 cards)
1
Q
What is REIT?
A
- a company that owns, operates or finances income-producing real estate
- has a collection of real estate assets across a range of assets
- Can invest on property, own individual assets and make money through rental payments
- can also invest in mortgages
- REITs must pay out at least 90 percent of their taxable income to shareholders
2
Q
What are the advantages of a REIT?
A
- diversification, you get to own a real estate asset for less than you would pay if you went out and physically bought that real estate asset. Own a broad range of income generating real estate
- tax savings, save a lot of taxes if you structure your business as a REIT
3.
3
Q
What are the requirements to qualify for REIT status
A
- shares must be owned by at least 100 shareholders
- shares must be transferable
- no more than 50% of shares outstanding can be owned by 5 or less people (5/50 test)
4
Q
Mortgage REIT
A
Involves ownership and investment in property mortgages. These REITs loan money for mortgages to owners of real estate, or purchase existing mortgages or mortgage-backed securities. Their revenues are generated primarily by the interest that they earn on the mortgage loans. Fewer than 10% of REITs are mortgage REITs; these REITs make loans secured by real estate, but they do not generally own or operate real estate.
5
Q
Why were REITS created?
A
to allow the average investor to pool capital to invest in a professionally managed portfolio of real assets
6
Q
Tax advantages of REITS
A
- REIT profits pass untaxed to shareholders via dividends
- required to distribute all profits as dividends to be maintained REIT
7
Q
Types of REITS
A
equity and mortgage
8
Q
Equity REITs
A
90% of REITS
purchase real estate
acquires, develops and manages its own properties, different from other real estate companies that tend to sell once developed
Market Cap 544 billion
9
Q
Mortgage REITs
A
10% of REITS purchase debts (real estate loans and mortgage backed securities) income doesn't come from rental income, but from interest income from the mortgages
10
Q
Two ways that REITs can be managed
A
externally or internally
11
Q
REITs that are internally managed
A
- management are employees of the REIT
- majority of public REITs are internally managed
12
Q
REITs that are externally managed
A
- similar to private equity, external management receives flat and incentive fee for managing the real estate portfolio
- flat fee based on number of assets under management
- incentive fee based on the return of sale of assets
- typically incentive fee carries high water mark (meaning it only kicks in if NAV exceeds highest historical NAV)
- private and mortgage REITs are normally externally managed
13
Q
UPREITs
A
- umbrella partnership real estate investment trust
- an entity that REITs use to let property owners contribute their real estate property in exchange for operating partnership units that can be converted into REIT shares
- allow investors to transfer assets into a REIT while deferring the taxable event
- assets owned by operating partners (OP)
- REITs own majority of OP (via shares)
- Limited Partners own minority of OP (via OP units)
14
Q
UPREIT Pros
A
- allows existing RE owners to participate in the REIT while deferring tax on the transfer of assets
- because OP Units are convertible 1:1 into REIT shares, RE owners’ liquidity improves
- RE owners have an established “fair value” for their OP units which improves their liquidity
- If OP Unit holder retains OP Units until death, his estate receives a basis step up meaning conversion to REIT shares becomes a tax free exchange
15
Q
Why are UPREITs and DownREITs useful?
A
because normally, if you were to sell real estate in exchange for some type of currency, cash or even stock, you would have to pay tax on the gain on sale.
So if you sold property for $100 million and it was worth $20 million, that $80 million gain on sale would be taxable. The good thing about UPREITs and DownREITs is that these two structures defer this tax
16
Q
Explain the UPREIT structure
A
- real estate owners contribute their assets to the OP in exchange for OP units and newly formed REIT contributes cash, raised from an IPO in exchange for interests in the OP
17
Q
How is the partnership of an UPREIT funded?
A
by the assets of real estate owners and the cash from a REIT
18
Q
UPREITs Cons
A
- conflict of interest between OP Unit Holders and management. If the REIT wants to sell a particular property, this could result in a gain recognition for a owner of that property which would be taxable to that owner but not other owners of different property. So to get around this issue, owners normally negotiate mandatory holding periods for the contributed property to protect the tax deferral benefits they expect to receive through the contribution of appreciated property
19
Q
What is the goal of UPREITs and DownREITs?
A
to defer taxable events
20
Q
Difference between UPREITs and DownREITs
A
- In a DownREITs assets are directly held by the REIT or in multiple, instead of one, operating partnership, one OP for each piece of property
- Unlike UPREITs, which do not own real estate and act basically as an umbrella for a number of business entities that own real estate, a DownREIT does own real estate. Some of this property is owned outright, while some may be owned through limited partnerships with those who have contributed property to it
21
Q
DownREITs
A
involves a partnership arrangement between a real estate owner and the (REIT) that assists the real estate owner in deferring capital gains tax on the sale of appreciated real estate
22
Q
Occupancy rate
A
measures how occupied a property or a group of properties are
how effective a REIT is at leasing its properties
23
Q
Three ways that REITs measure occupancy
A
Physical Occupancy, Financial Occupancy and Economic Occupancy
24
Q
Physical Occupancy
A
number tenants leasing/total leasable units
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Financial Occupancy
actual rent collected/ gross potential rent
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Economic Occupancy
effective rents collected/ gross potential rent
| - the money that is actually paid to your business
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gross potential rent
sum of the rental amount stated in the apartment leases
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Which occupancy rate will be higher if the cheap apartments in a building are rented out but the expensive ones are not?
Physical occupancy will be greater than financial occupancy
29
Net operating income (NOI)
- equals all revenue from the property minus all reasonably necessary operating expenses
- use to determine how much income properties are worth
- its does not include tax and capital expenditures
- same as EBIT in other industries
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Calculating NOI
income produced by the property - operating expenses incurred
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Ways that a property might generate revenue
1. rent
2. parking fees
3. servicing fees (vending, laundry machines)
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Operating expenses
include the costs of running and maintaining the building and its grounds, such as insurance, property management fees, legal fees, utilities, property taxes, repairs and janitorial fees
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Where is NOI shown?
on the property's income and cash flow statements
34
What is the NOI of a property that rakes in $120,000 annually in revenues and incurs $80,000 in operating expenses?
will have net operating income of $120,000 - $80,000 = $40,000
35
Net Operating Loss (NOL)
when operating expenses are higher than revenues
36
What is Net Operating Income used for?
- used to determine the income generation potential of the property to be mortgaged
- this metric is used to assess the initial value of the property by forecasting its cash flows
- used in determining the capitalisation rate, which helps determine the property’s value and helps real estate investors compare different properties they might be considering buying or selling
37
Relation between NOI and capitalization rate
NOI is used in determining the capitalization rate, which helps determine the property’s value and helps compare different properties they might be considering buying or selling
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Relation between NOI and debt coverage ratio (DCR)
For financed properties, NOI is also used in the debt coverage ratio (DCR), which tells l whether a property’s income covers its operating expenses and debt payments
39
Capitalization rates calculation
property's net operating income (NOI) / value of the property
- gives you a percentage, which is known as the cap rate
40
What is Cap rate ?
- a way to talk about property value benchmarked against that property's operating income
- indicate the rate of return that is expected to be generated on a real estate investment property
- indicate the rate of return that is expecte
41
Assume that the total rent received per year is $90,000 and the investor needs to pay a total of $20,000 towards various maintenance costs and property taxes. During the first year, the property value remains steady at the original buy price of $1 million. What is the cap rate?
net operating income is $70,000
cap rate is (Net Operating Income/Property Value) = $70,000/$1 million = 7%
so if we invest in the property we would get a 7% return each year
42
What are the ways that cap rate can increase?
- if the market value of the property decreases but the NOI remains the same
- if the rental income increases
- if the operating expenses decrease
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What are the ways that cap rate can decrease?
- if the operating expenses, such as property tax or maintenance costs increase
- if the market value of the property increases and the NOI remains the same
- if the rental income decreases because some tenants move out
44
How does the cap rate induce the duration of time it will take to recover the invested amount in the property?
For instance, a property having a cap rate of 10% will take around 10 years for recovering the investment, because you are getting a return of 10% each year on the market value of the property
45
What are the variables that make it hard to compare companies using the cap rate?
- Timing of NOI, if we are looking at the last 12 months or forward
- different growth rates, returns on capital, and cost of capital
46
What must we look at before we compare companies using the cap rate?
- make sure the comparable properties have similar growth, returns and cost of capital profiles
47
What compromises the revenue for REIT?
1. Rental Income
| 2. Ancillary Income
48
Rental Income
- segment buildup, rental income from existing properties, future developments, acquisitions, and rental income lost during depositions
- rental income can also be segmented by types of real estate (hotels, apartments, commercial offices, etc)
49
Ancillary Income
comes from fees from ancillary services, phone, cable, internet, water, electricity, gas, washer'/dryer services, ATM machines, etc
- typically forecast after rental income is forecast by applying the historical relationship between rental income and ancillary income
50
Segments of Rental Income
1. Same store (SS) properties
2. Renovation properties
3. Lease-up properties
4. Recently acquired properties
5. Dispositions
6. New developments
51
Same store (SS) properties
properties that have been completed, stabilised, and owned by the REIT for a period of time (usually 1 year), stabilised means that properties have reach stable occupancy rates
52
Renovation properties
properties undergoing renovations are excluded from SS sales so they can be analyzed separately
53
Lease-up properties
newly developed properties in the process of getting leased and stabilized
- have significantly lower occupancy rates than stabilized properties
54
Recently acquired properties
stabilised but not yet classified as SS because REIT hasn't owned then long enough to be considered SS
55
Dispositions properties
REITs regularly sell properties in their portfolio. Reasons include suboptimal returns, capital is needed for more attractive opportunities, the properties are in geographies or are property types that aren't aligned with the current business strategy
56
New developments properties
future properties from construction in progress and land under development
57
Ways of forecasting same store properties
1. Simple Growth rate
| 2. Occupancy rate and rent per unit
58
Simple growth rate to forecast same store property
grow the prior year pool by that growth rate to forecast same store properties
59
Occupancy rate and rent per unit
- breaking down the revenue growth rate into two drivers - % occupancy and growth in rental income per unit
- the higher the occupancy and growth in average rental income per unit, the higher the overall growth rate in same store sales
- powerful approach because it allows for sensitivity analysis of occupancy and rent
60
Calculating historical rent per unit
(1/Occupancy) x ( Rental Income/# of units)
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Calculating future rental income
future rent per unit x forecast occupancy rate x # of units
62
Calculating future rent per unit
historical rent per unit x 1 + growth rate
63
When do you model current lease ups separately from same store properties?
when there are many properties in the lease-up process, we should forecast them separately.
- use a growth rate from the prior-period equivalent lease-up pool
- will likely show a very high growth as the occupancy increases to stabilised levels
- NOI for lease-ups would also need to be forecast - usually from guidance or by using the NOI margin from same store properties
64
When do you model current lease-ups within same store properties?
- when there are a few lease-ups, analysts often aggregate into the same store sales pool
65
When are renovation properties combined with same store sales pool in the modelling process?
- renovations are only reported separately from same store sales pool if they are significant, but if management can keep leasing and renovations are minor renovations will be classified with same store properties
- properties that are removed from same store and classified separately as renovations typically have lower occupancy than stabilised properties, but the magnitude depends on the nature of the renovations
66
When should renovating properties be classified separately from same store properties?
when there are many recently renovated properties, they should be forecasted separately
- using a simple growth rate from the prior-period equivalent pool
- NOI for renovation properties would also need tone forecast - usually from guidance or by using the NOI margin from same store properties
67
When should a company model acquisition properties separate from same store properties?
- when there are many recently acquired properties, we should forecast them separately
- using a simple growth rate from the prior-period equivalent will likely show a very high growth as the current period will generate a full period of revenue from acquisitions compared to the prior period
68
Approaches to forecasting same store properties
1. Simple Growth rate
| 3. Occupancy rate and rent per unit
69
Forecasting SS properties using simple growth rate
involves growing the prior period same store sales by a growth rate management often give this growth rate and the prior period equivalent pool revenue
70
Forecasting SS properties using occupancy rate and rent per unit
1. breaking down the revenue growth rate into two rates - % occupancy and growth in rental income per unit
2. the higher occupancy and growth in rent per unit, the higher the overall growth rate
71
Difference between OP units and common stock
OP units are not publicly traded, market cap that is shown online does not include OP units. OP units are not liquid
72
Company’s float
The number of common shares outstanding
73
Benchmarking
Measuring the performance of an investment strategy against a standard, like an index
74
Why is forecasting SS properties using occupancy rate and rent per unit a good approach?
because it allows for sensitivity analysis of occupancy and rent
75
What are the main drivers for growth for SS properties?
1. increase occupancy rate
| 2. increase in rental income
76
Calculating future rental income
future rent per unit x forecast occupancy x #of units
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Calculating rent per unit per year
rent per unit per year = 1/occupancy rate x rental income/ # of units
78
Why do REITs sell properties (dispositions) in their portfolio?
1. for returns
2. capital is needed for more attractive opportunities
3. property type/location does not support current business strategy
79
Effect of dispositions on the I/S
- once a property is marked as dispositions, it is removed of normal operations and all revenue and expenses generated from this properties are identified separately from the rest of the I/S as ' discontinued operations' until it is finally sold and removed
