Question

You have been tasked to value a 2,000-square foot CBD office building fully leased to a single tenant under a triple-net, 6-year lease signed 3 years ago. The initial MONTHLY rent on the lease was $29/sqft with 3% annual step-up rent adjustments over the life of the lease. The property owner and the tenant just agreed to renew the lease for 4 more years at expiration 3 years from now at prevailing market rent at renewal with future annual rent adjustments indexed to inflation. Monthly market rent is projected at $30/sqft at in three years, with inflation expected to run at 5% annually for the foreseeable future (adjust for inflation at the end of the year). As is common market practice, the owner agreed to provide tenant improvements of $75/sqft and 3 months of free rent at renewal. The operating expenses are expected to remain constant for the next 7 years as follows: utilities 10% of PGI; property taxes $2,500 per month; insurance $2,000 per month; and allowance for recurring capital expenditures: $5,000 per month. (For simplicity, compute cash flows annually, not monthly, by assuming that all payments are made at the end of the year.)

Question: What is the value of the property today using the direct capitalization method if the going-in cap rate is 5.5%?

Answer 1

Based on the information, below is the cash flow analysis for this property:

It is assumed that the net operating expenses come to 0, as the tenant has a triple net lease and reimburses all the expenses incurred by owner.

NOI for the first year is $760,537.99, and Value of the property currently is calculated as:

NOI for the current year / Going-in cap rate or 760,537.99/5.5% = $13,827,963.49.