Condo Sell-out Analysis

[Ken B]

Yes, in that the purchaser is buying the pre-sale contracts and the completed improvements. Its a property rights issue as opposed to value definition issue. Similar to fe Simple vs Leased Fee

Please explain. The end user pays for and receives title in fee simple estate, upon closing of an end unit contract, from the hypothetical investor who acquired title to the property, in its entirety, upon completion, from the developer. Where are the property rights being divided and how can the investor deed rights to the end user that the investor does not have?

 

[Howard Klahr]

The hypothetical investor's interest in the property is subject to the purchase contract. All they are buying is the cash flow from the sell out. The developer is just assigning their interest in the property which is subject to the pre-sale contract equitable interest in the condo units

 

[Ken B]

Yes, in that the purchaser is buying the pre-sale contracts and the completed improvements. Its a property rights issue as opposed to value definition issue. Similar to fe Simple vs Leased Fee

Please explain. The end user pays for and receives title in fee simple estate, upon closing of an end unit contract, from the hypothetical investor who acquired title to the property, in its entirety, upon completion, from the developer. Where are the property rights being divided and how can the investor deed something to the end user that the investor does not have?

The hypothetical investor's interest in the property is subject to the purchase contract. All they are buying is the cash flow from the sell out. The developer is just assigning their interest in the property which is subject to the pre-sale contract equitable interest in the condo units

In an informal way, the developer and the investor are partners. The price paid for an end unit is $1.00. That price is divided between developer and investor. But the price paid is still $1.00. The value of the percentage of the price received by the investor is something less than market value. It is investment value to that investor. Market value is split between developer and investor. The cash flow to the developer, represented by the $0.20 retained by the developer, is a component of the overall market value of the property.

 

[Howard Klahr]

the developer and the investor are partners. The price paid for an end unit is $1.00. That price is divided between developer and investor. But the price paid is still $1.00. The value of the percentage of the price received by the investor is something less than market value. It is investment value to that investor. Market value is split between developer and investor.

The developer and the investor are NOT partners. They each receive revenue attributable to the interest that they own at the respective point in time. At commencement of the project, the developer owns 100% and builds a building/project while marketing units to third parties (unit buyers). The unit buyers agree to purchase their interest in the property at some point in the future.

The developer completes construction and sells their interest to the investor. The developer is paid an amount that reflects the interest that they have sold at that point in time. That interest consists of the physical building subject to the pre-sale contracts which convey the right to collect revenue in the future from the unit owners.

It is not investment value, it is market value of the interest owned. Think of it like a sublease. Although the sandwich position represents the right to collect revenue from the sub-tenant that interest is subject to paying the underlying lease as well. An appraisal of that interest is still market value.

 

[Ken B]

Quote what I wrote, not part of it. I didn't say they were partners in the legal sense of word.

And the bundle of rights are not being split. The developer is selling the rights to cash flow from closing contracts, less the 20% of the price paid by the end user and retained by the developer. In other words, the investor is paying something less than market value for the property upon completion. The focus on developer and investor has ignored the other side of the market value equation - the buyer. The buyers who are paying full price for each end unit.

That is why the value of the cash flow to an investor who only receives 80% of the price paid for each end unit is not market value.

It ignores the value of the 20% of price paid for each end unit which is retained by the developer. It doesn't make any difference if the developer spends that 20% on construction or not. Every penny from the deposit spent on construction is a penny that remains in the developer's pocket. Accounting tricks aside, the 20% retained by the developer is a component of market value. It is part of the price paid for the end unit.

 

[Howard Klahr]

Stop being so literal. You referenced a partnership as an example to illustrate the business model being evaluated and I said no that's not an appropriate reference.

The focus on developer and investor has ignored the other side of the market value equation - the buyer. The buyers who are paying full price for each end unit.

The focus is not being ignored at all. A purchase contract establishes an equitable interest in title and the hypothetical investor is purchaing the property subject to those equitable interests. That is a market value of the interest acquired.

 

[Ken B]

Here is the crux of the scenario: what would an investor pay to receive, at some future date, 80% of the price an end user has agreed to pay for the fee simple interest in a property?

And here is the question: does the price that an investor would pay for that future income represent the market value for the property to be conveyed? That there are multiple contracts is ancillary to the problem.

And the answer is "No."

If already under contract to be sold to an end user for $1, market value of the property must be based upon the price the end user has agreed to pay for those rights of ownership. And that must include the 20% of the end unit contract price retained by the developer.

The value of the cash flow to the investor who has agreed to accept 80% of the price paid for the end unit is investment value. If I was a lender, I would probably want to know the investment value, in addition to the market value, for underwriting purposes and I think there is value to the client by discussing and identifying that investment value. But we can't call it market value..

Good talk.

 

[hastalavista]

There are two parties here: A & B. Assume A and B are typical market participants.
A is the developer who will build the project and pre-sell some units. In that pre-sell, the developer incurs marketing costs and collects pre-payments for the unit.
B is an investor who purchased the project from the developer when it is complete but some units have not sold and no unit has closed. The value of the transaction to B is based on the cash flows it will receive once it takes ownership.
A can sell the project based on the value B puts on it. Both are typical market participants, so that value will be market value.
B is not going to receive as part of its cash flows what A has already received for as payments for the pre-sold units.
A is not going to be able to price and receive the project based on the gross prices (less whatever discounts) of the units it has already pre-sold and has collected pre-payment on. The market (B) is going to pay based on the cash flows it receives, and it will receive something less than the contract price for those units that have already sold. B is going to pay market value for the market value of those pre-sold units; the market value of the pre-sold units is the purchase-price less whatever those buyers have paid to A in pre-payments (plus typical discounting identified below).

Depending on the duration of the sell-out, the cash flows to B will be subject to some discounting and other marketing & holding costs, as well as B's EI.

Value concluded is market value. B pays market value for the value of the cash flows which it will receive. If those cash flows are reduced because some units have pre-paid, then B still pays market value but, presumably, the market value is lower because the cash flows have been reduced.

This is a market value assignment (IMHO).

It would seem to me that the rights being appraised are fee simple, subject to pre-sell contract terms.

 

[Ken B]

If I am the assigned seller of a warehouse, but will only receive 80% of the price paid for the warehouse, which is a market price, what is the best indication of market value of the warehouse? The price I receive or the contract price which represents a market price?

 

[hastalavista]

If I am the assigned seller of a warehouse, but will only receive 80% of the price paid for the warehouse, which is a market price, what is the best indication of market value of the warehouse? The price I receive or the contract price which represents a market price?

The best indication of market value for the property is what the market will pay for it.
Will a market participant pay $1.00 for something they expect to receive $0.80 for?


This is what I say: To consider this problem in general, forget the specific developer and buyer in the assignment's scenario.
Reconstruct the cash flow from beginning of the project to the sell-out sell-out. At whatever point where the the developer is going to sell to the new owner, there is a market value. That market value is based on the present value of the future cash flows the buyer expects to receive from the point-of-purchase forward.
If there has been payments received for pre-sold units prior to that point, they are not part of the buyer's present value calculation.
This is true for all buyers. The value concluded is market value.