Question
You are considering the purchase of a small existing office building for $2,575,000. Your expectations for this stabilized property include the following: first-year gross potential
You are considering the purchase of a small existing office building for $2,575,000. Your expectations for this stabilized property include the following: first-year gross potential income of $540,000; vacancy and collection losses equal to 13% of gross potential income; operating expenses equal to 35% of effective gross income and capital expenditures equal to 7% of NOI. You have arranged a mortgage loan with 80% LTV and an annual interest rate of 5.5%. The loan will be amortized over 25 years with a monthly payment of $15,812.75.
The value of the building and the NOI both grow at 10% per year for the next five years. You sell the property after year 5, and your selling expenses are 5% of the resale price. The interest rate on the mortgage loan is the cost of your debt. The average historical return of the stock market is the cost of your equity
#1. Using the WACC approach, what discount rate should you apply in income valuation of the property?
#2 Using this discount rate, what is the value of the property? Based on this value, is the asking price worth it?
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