question about calculating the reversion

[Megan Poppe]

As one of my many job duties, I've started doing reviews of commercial appraisals for the bank I work for. I'm still pretty new at this, and I would hate to call the appraiser to ask him to fix a mistake that isn't actually a mistake. Everything else in the appraisal is spot on, and very detailed, so I suspect that the problem is my lack of understanding.

In calculating the reversion, the appraiser performed the following calculation:

(NOI in year 8) / (cap rate) = indicated resale price

IRP - closing costs = net proceeds

The net proceeds are then discounted at 12.5% for seven years.


So my question is this: why is year 8 NOI being discounted for only seven years? That doesn't bring it back to present value in my mind.

Any help on this would be much appreciated!

 

[CANative]

You know what the income is in year 1. You want to know what the income will be in year 8. 8-1 = 7 years from now.

 

[KONA]

Yield Cap

The answer you seek can be found in the 12th Edition of The Appraisal of Real Estate (The Appraisal Institute) page 557 first paragraph. Get familiar with the text. Most Bank Examiners would require the appraisal dept. have a copy for reference if they are running an appraisal department ( with reviewers). Good hunting.

 

[Paul Ness MAI]

The appraiser did it corectly. The reversion represents the value at the end of year 7, as if the owner would sell it at that time. A buyer at that time would capitalize the coming year's income to determine value. Maybe thinking of it as being the start of year eight would help.

More important conceptually - the value at the end of year seven is being discounted, not the 8th year's income.

 

[Megan Poppe]

The appraiser did it corectly. The reversion represents the value at the end of year 7, as if the owner would sell it at that time. A buyer at that time would capitalize the coming year's income to determine value. Maybe thinking of it as being the start of year eight would help.

More important conceptually - the value at the end of year seven is being discounted, not the 8th year's income.

Ha! Yes, that does help. Thanks!

 

[KONA]

The appraiser did it corectly. The reversion represents the value at the end of year 7, as if the owner would sell it at that time. A buyer at that time would capitalize the coming year's income to determine value. Maybe thinking of it as being the start of year eight would help.

More important conceptually - the value at the end of year seven is being discounted, not the 8th year's income.

Very well put!
Theory of Anticipation

 

[Financially Feasible]

Isn't this the same thing as a terminal cap rate (Rn)?

 

[Paul Ness MAI]

The terminal cap rate is the overall cap rate used to estimate reversion based on the 8th year income in this case. The resulting value, less selling costs could be called the "net reversion", which is then discounted to present value.

 

[farmguy]

Just curious.

How did he estimate cap rate at end of year 7?
How did he estimate 12,5% discount?