market valuation based on discounted cash flow analysis - consistency in assumptions
DESCRIPTION
MARKET VALUATION BASED ON DISCOUNTED CASH FLOW ANALYSIS - CONSISTENCY IN ASSUMPTIONS. Stellan Lundström Royal Institute of Technology Christina Gustafsson IPD Norden. Background. 1997 Establishment of the Swedish Property Index in co-operation with IPD - PowerPoint PPT PresentationTRANSCRIPT
MARKET VALUATION BASED ON DISCOUNTED CASH FLOW ANALYSIS
- CONSISTENCY IN ASSUMPTIONS
Stellan LundströmRoyal Institute of Technology
Christina GustafssonIPD Norden
Background
• 1997 Establishment of the Swedish Property Index in co-operation with IPD
• A quality control process for index valuations
• An ambition that assumptions should be consistent
Data source
• 1997 – 2008: 24 000 Valuations
– 83 % with DCF technique
– All DCF assumptions and results are in a database
Main initial observation
• Valuation accuracy tested to be on a good level.
• Feed back on DCF parameters raises question about the relevance in assumptions about discount rates, exit yields, rents, vacancies, operations and maintenance
Research questions
Main question
”How are DCF assumptions related to each other
Specific question
”What is the meaning of DCF yields and discount rates when DCF is used for market valuations”
25
22
1917
1513 13
12 11 10 10
8
2 2
0
5
10
15
20
25%
The Swedish Leases– short and gross
Operation & maintenance cost as % of gross rent
Source: IPD Multi National Index Spreadsheet 2008
Office rents in Stockholm CBD
100
150
200
250
300
dec 1
997
dec 1
998
dec 1
999
dec 2
000
dec 2
001
dec 2
002
dec 2
003
dec 2
004
dec 2
005
dec 2
006
dec 2
007
New Letting IndexRenewals IndexValuation Market Rental Values Index
Source: IPD
Initial and long term vacancy rate in valuationsOffice Stockholm CBD, 1st January 1998 - 2008
0
5
10
15
20
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008
%
= Assumptions in valuations long term
= Actual outcome = initial vacancy rate
Source: IPD
Assumed operations and maintenace costs in relation (%) to actual outcome
Sector / Year 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007
Retail 80 81 86 79 67 65 72 78 79 87
Office 91 94 82 79 69 64 67 73 78 88
Industrial 82 86 83 86 78 75 69 88 89 86
Residential 87 86 91 81 74 75 75 79 82 69
All Properties 88 89 85 80 71 69 71 75 80 74
Source: IPD
SectorActual/Valuations
NOI
Retail 80
Office 91
Industrial 82
Residential 87
All Properties 88
NOI year 2007
Source: IPD
6
6.5
7
7.5
8
8.5
9
9.5
10
5.5 6 6.5 7 7.5 8
Valuation yield (exit yield) %
Dis
cou
nt
rate
, %
Valuation of Office properties in Stockholm CBD 2004 - Discount rates and exit yields
Source: IPD
Year
Nominal Discount
rate
Nominal rental growth
Implicit Exit Yield
Explicit Exit Yield
in valuations
r gr-gA B A-B
1997 10.3 3.0 7.3 8.0 -0.71998 9.0 2.6 6.4 7.5 -1.11999 8.8 3.0 5.8 7.2 -1.42000 8.9 3.4 5.5 7.2 -1.72001 9.2 3.1 6.1 7.3 -1.22002 9.2 3.1 6.1 7.3 -1.22003 8.9 3.8 5.1 7.2 -2.12004 8.7 3.6 5.1 6.7 -1.62005 7.7 3.5 4.2 5.9 -1.72006 7.3 3.8 3.5 5.5 -2.02007 7.4 3.9 3.5 5.6 -2.1
Average 1997-2007 8.7 3.3 5.3 6.9 -1.5
Implicit vs explicit yields
Source: IPD
Average values for input variables in the valuations 1997-2007
n
NOI
%3.3g
%7.8r
%9.6
YieldExit
0 time
8.7 – 3.3 = 5.3 < 6.9
Conclusions
• ”All assumptions are biased – the result is OK!”
• The same discussion as 30 – 40 years ago
• Swedish valuers has developed;– An industry standard for valuation– A market monitoring system
Implications
• Valuers - legitimacy • Investors – Interpretation of and need for
decision support• Auditors– new role due to IFRS
– Opinion about • Market value (fair value)• Assumptions behind market value
• To value ”green buildings” there is a need for more explicit assumptions about NOI