Question

Assume a building generates revenues of $8.0M/Yr and expenses of $2.5M/Yr. A third party believes he can improve operations during his first year of ownership so that revenues increase to $8.2M though expenses remain the same. Assuming a 4% cap rate, what is the highest price the third party should be willing to pay to acquire the property?

1. Staying with Question above, assume that the buyer would like to install a new facade at a cost of $2M? The facade work is being done by the buyer for strategic reasons. Assuming the buyer increases revenues to $8.2M, what would be the effective acquisition cap rate post completion of the facade work?

Answer 1

Expected Increased Revenue = $ 8.2 million, Operating Expenses = $ 2.5 million and Cap Rate = 4 %

Net Operating Income (NOI) = 8.2 - 2.5 = $ 5.7 million

Highest Price Payable = 5.7 / 0.04 = $ 142.5 million

Cost of Improvement = $ 2 million

Effective Cost of Building to Buyer = Highest Price Payable + Cost of Improvement = 142.5 + 2 = $ 144.5 million

Effective Acquisition Cap Rate = Increased NOI / Effective Cost of Building to Buyer = 8.2 / 144.5 = 0.0567 or 5.67 %