Legacy Fountain Place - Investment Strategy and Valuation Analysis

DCF It is December 2010 and you are an acquisition officer covering the northern California market. You have a source of capital that is specifically interested in acquiring institutional quality multifamily properties on the coasts. They believe that the multi-family market is primed for strong growth coming out of the Global Financial Crisis. A broker has sent you the offering memorandum for a deal that he is currently marketing in the San Jose marketplace (see the accompanying documents).

You are particularly interested in the deal given your firm’s perspective on the technology industry as well as the limited amount of new supply that has been delivered to the market since 2007. Your assignment is to read the offering memorandum and address the following questions on no more than one sheet of paper (one side) and one page of an Excel spreadsheet, which you will PDF these two documents and submit via a submission portal on Canvas?

1. If you are to acquire this asset, what is your investment strategy (i.e. anticipated strategy for managing the asset, likely holding period, etc)?

2. What are the primary risks of the investment in your opinion?

3. What are the primary attributes of the investment in your opinion?

4. Project 11 years of cash flow by assuming that your year one pro forma is based upon the current income statement on page 24 grown by the assumptions below. A current income statement reflects what the property is actually realizing in terms of cash flow in the current period. You will obtain 11 years of cash flows by escalating the current income statement.

a. All Units at Market Rent – 4.50% in years 1-5; 3% thereafter. (Year one will be $7.50*1.0450 = $7.84 for example)

b. Assume Loss to lease maintains a constant percent based upon the percentage in the current income statement.

c. Grow every other income category at 3% annually for 11 years.

d. Assume the economic vacancy assumptions (Vacancy/Collection/Concession Allowance; Non-Revenue Units; Employee Apartment Units, etc) maintain the same percentages as demonstrated in the current income statement.

e. Grow all operating expenses at 3% annually.

f. Assume the following capital expenditures:

i. Exterior Painting ($50,000 in years 1 and 6) ii. New Roof ($500,000 in year 9) 5. Assume that the two above capital expenditures are quoted in year 1 pro forma dollars but they too will be escalated by 3% annually.For instance, the first year of exterior painting will be $50,000, but the year 6 amount will be $50,000 grown at 3% over 5 years.

6. Upon reviewing the sales comparables in the back of the OM, develop an opinion of the current market cap rate and support your conclusion in your write-up. COE represents the month/year the asset sold.

7. From current market cap rates, you will be required to estimate an appropriate exit cap rate. Correlate the spread over current market cap rates to the lecture slide that considers hold period and note your assumption in the write-up.

8. Assume a 0.50% cost of sale expense at reversion.

9. Calculate an appropriate discount rate. The 10 year Treasury in December of 2010 is 3.30%. You believe that an appropriate risk premium relative to the current market is roughly 475bps assuming a 10 year hold. 10. Employing the cash flows that you created and the return estimates above, what do you estimate the value of the asset to be over your holding period via the DCF approach? 

Note: Income statements differ by deal and property type and this case is no different. Use the format provided within the broker’s offering memorandum.