Cost of Capital: Applications and Examples, + Website, 5th Edition

APPENDIX 40A

Valuing Real Property¹

Introduction

Steps in Estimating Real Property Value

Determining the Projection (Capital Recovery or Holding) Period

Measuring Income

Sample Reconstructed Operating Statement

Projecting Cash Flows

Summary

INTRODUCTION

This appendix focuses on the income associated with the ownership of real property rights. This is different from the income and cost of capital that might be earned by a business enterprise operating on the property, such as a marina, hotel, fitness club, or restaurant. The value of real estate is the value of the real property or the rights inherent in the ownership of real estate or realty and is based on its capacity to support and house economic activities. In essence, real property value is a function of its physical attributes, rights inherent in the ownership of real estate or realty, and its economic location. The property's comparative ability to generate income becomes its basis of value.

Definitions of terms such as net income and cash flow differ from those used previously in this text. Chapter 40 and this appendix define these terms for real estate valuation; they should not be confused with the terms as defined in financial textbooks.

STEPS IN ESTIMATING REAL PROPERTY VALUE

Value is the present worth of future benefits. The future benefits derived from the ownership of real estate include the cash flow from the real estate plus the proceeds of the resale of the real property, which is often referred to as the reversion ...