Question

A property has first year NOI of $1.5 million. NOI grows at 7% during the next two years. In year four, NOI goes drops 50% due to a lost tenant. You are very lucky and replace the tenant. Year five NOI is 4X year four. (continues below…)

1. What is year 5 NOI?

continue…You have a $10 million mortgage on this property, at 5% interest, amortization of twenty years. There are two partners who have invested $3 million total in the property. Partner A is the operator and has invested 20%. Partner B, the finance partner has invested 80%.  The partners share the cash flow in the following manner:

8% minimum return, pro rata to the amount of investment. The finance partner has a preference. In return for giving the finance partner a preference, the operating partner is entitled to twice their pro rata share of any excess cashflow.

2. How much does partner A receive over the five years?
3. How much does partner B receive over the next five years?

Extra credit

Assume that the finance partner can clawback from the operating partner to meet the minimum return.

4. How much does Partner A receive?
5. How much does Partner B receive?

Answer 1

1. The minimum return annually expected is as given below for the investment made by A and B

Party	Investment	8% return
Total	3,000,000	240,000
Finance partner- B	2,400,000	192,000
Operating partner- A	600,000	48,000

2. Calculation of NOI

The calculation of NOI is as given below

Particulars	Year 1	Year 2	Year 3	Year 4	Year 5
NOI calculation	A where A = 1.5 million	Ax 107%	A x 107% x 107%	A x 107% x 107% x 50%	A x 107% x 107% x 50% x 4

Basis above, the NOI shall be

Particulars	Year 1	Year 2	Year 3	Year 4	Year 5
NOI	1,500,000	1,605,000	1,717,350	858,675	3,434,700

Hence 5th year NOI is 3,434,700

3. Loan amortisation

Loan amount P= 10,000,000

Interest rate R = 5%

Period N = 20 years

Assuming repayment is made in arrears , the formula for yearly loan payment is = [P x R x (1+R)^N]/[(1+R)^N-1] = (10,000,000*5%*(1+5%)^20)/((1+5%)^20-1) = 802,426 per annum

4. Net Cash flows calculation

Considering the NOI and loan payment, Net cash flows is calculated. It is discounted at 8% (considered as WACC) to arrive at present value of cash flows.

Particulars	Year 1	Year 2	Year 3	Year 4	Year 5
NOI	1,500,000	1,605,000	1,717,350	858,675	3,434,700
Yearly loan repayment	(802,426)	(802,426)	(802,426)	(802,426)	(802,426)
Net cash flows	697,574	802,574	914,924	56,249	2,632,274
Discounting factor- 8%	0.93	0.86	0.79	0.74	0.68
Discounted cash flows	645,902	688,078	726,296	41,345	1,791,482

5. Sharing between the partners

The minimum return expected per year is 240,000 beyond which it is excess. If there are excess cash flows, A shall get 2 x of the 20% share with balance for B. Hence the share over the years is as given below

Particulars	Year 1	Year 2	Year 3	Year 4	Year 5	Total
Discounted cash flows	645,902	688,078	726,296	41,345	1,791,482
Is the cash flows more than 240,000	Yes	Yes	Yes	No	Yes
A Share if excess cash flows -20% share x 2	258,361	275,231	290,519	-	716,593	1,540,703
Balance for B Share	387,541	412,847	435,778	41,345	1,074,889	2,352,399

If B can calw back then year 4 had a shortfall.

Year 4 difference = 192,000- 41,345= 150,655

Adjusting the same, A share shall be = 1,540,703-150,655 = 1,390,048 and B shall be 2,352,399 +150655=2,503,055