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REIT Industry
Overview
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REIT Modeling
REIT basics
• REITs can be either public or private
• REITs invest in all property types
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
Distribution to shareholders,
Distribution to shareholder 20.0 (assuming 100% dividend payout) 12.0
Tax on REIT dividends (40%) 8.0 Tax on C-corp dividends (20%) 2.4
Net return to shareholder 12.0 Net return to shareholder 9.6
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REIT Modeling
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REIT Modeling
REIT Requirements
Dividends At least 90% of taxable income must be distributed as a dividend
• Income not distributed is taxed at the corporate level
Gross income At least 75% of gross income must come from
(annual test) • Rents from real property
• Interest income from mortgages held
• Gain from the sale of real property / shares of other REITs
• Certain qualified investment income
At least 95% of gross income must come from
• All of the above, plus:
• Dividends, interest, and gain on sale from non real estate investments
Assets At least 75% of assets must be
Real estate, mortgages, equity in other REITs, cash and government securities
Subsidiaries • A REIT’s taxable subsidiaries (companies providing services to tenants in REIT
buildings) must be < 25% of the REIT’s assets
• Their income does not count towards the 75% income test
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REIT Modeling
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REIT Modeling
____________________________________
(1) Source: NAREIT
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REIT Modeling
REIT basics
REITs can be internally or externally managed
• Internal management
– Management are employees of the REIT
– Majority of public REITS are internally managed
• External management
– Similar to private equity, external management receives flat and incentive
fees for managing the real estate portfolio
– Flat fee based on assets under management
– Incentive fee based on returns from the sale of assets
– Typically incentive fee carries high water mark (i.e. only kicks in if NAV
exceeds highest historical NAV)
– Private and mortgage REITs tend to be externally managed
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REIT Modeling
REIT structure
• Normally, if you were to sell real estate in exchange for some type of currency
(cash or even stock), you would have to pay tax on the gain on sale
• Following that logic, when existing real estate owners want to form a REIT (to
get the pass-through tax advantages), if they transferred their assets into a
REIT in exchange for REIT shares, the transfer would be fully taxable in the
eyes of the IRS
• However there are two REIT structures that defer this tax - Umbrella
Partnerships (UPREITs) and DownREITs
UPREITs
• UPREITs allow investors to transfer assets into a REIT while deferring the
taxable event
• Assets owned by Operating Partnership (OP)
• REIT owns majority of OP (via REIT shares)
• Limited partners own minority of OP (via OP Units)
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REIT Modeling
UPREITs
• Typically in an UPREIT, realestate owners contribute their assets to the OP in
exchange for OP Units at the same time that a newly formed REIT contributes
cash, raised from an IPO in exchange for interests in the OP
• In the typical OP Unit structure, after an initial holding period, the Holders’
OP Units are convertible into shares of the REIT on a 1:1 basis.
• Capital gains taxes occur only once the OP unit holders convert their units to
common shares
• UPREITs are most common for public equity REITs
UPREIT Structure
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REIT Modeling
UPREIT Pros
• Enables existing RE owners to participate in the REIT while deferring tax on the
transfer of assets
• Because OP Units are convertible 1:1 into REIT shares, RE owners’ liquidity
improves (of course once converted, the transaction becomes fully taxable)
• Another liquidity advantage is that RE owners have an established “fair value”
for their OP Units which improves their liquidity (they can borrow against it)
• If OP Unit holder retains OP Units (i.e. doesn’t convert) until death, his estate
receives a basis “step-up”, meaning conversion to REIT shares becomes a tax
free exchange
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REIT Modeling
UPREIT Cons
• Lower tax basis of acquired assets means lower future depreciation
deductions than had the transfer been fully taxable (and thus creating a
stepped up tax basis)
• Conflict of interest between OP Unit holders and management: Once an
UPREIT is established, if the REIT wants to sell a particular property, this could
result in gain recognition for the specific owner of that property. As a result,
owners often negotiate mandatory holding periods for the contributed
property to protect the tax deferral benefits they expect to receive through
contribution of appreciated property to an UPREIT.
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REIT Modeling
DownREITs
• Similar to UPREITs in that DownREITs also enable real estate holders to
transfer property to the REIT on a tax deferred basis
• Difference is that in a DownREIT the assets are in fact directly held by the REIT
or in multiple (as opposed to one) operating partnership – one OP for each
piece of property
• As with the UPREIT, property owners can exchange their OP Units for common
shares, but the value of each operating partnership is not directly related to
the value of the REIT shares, because the value of REIT shares is determined
by reference to all of the REIT’s assets rather than by reference to the assets of
only one operating partnership (as in the case of an UPREIT).
• As a result, there is no necessary correlation between the value of each
operating partnership’s assets and the value of the REIT shares, which
adversely affects the liquidity of the operating partnership’s interests.
• For this reason, the tax results for contributing property holders vary based on
the relative performance of the remainder of the REIT’s assets.
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REIT Modeling
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REIT Modeling
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Modeling a REIT’s
Income Statement
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
Confirm that your EPS results match the reported EPS on the 10K. If not, check your work.
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REIT Modeling
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REIT Modeling
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Understanding
and Modeling a
REIT’s Segments
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
Same store sales guidance disclosure
• BRE Properties provides a typical disclosure of same store properties
• The 2012 same store sales revenue is a “prior-period equivalent pool” of 2013 same
store properties
Lease up refers to
336 properties
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REIT Modeling
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REIT Modeling
Modeling same store properties – occupancy rate and rent per unit
• Calculating historical rent per unit
– Historical rent / unit = (1/Occupancy)x(Rental income/# of units)
1. Historical % physical occupancy for prior period equivalent pool
2. Number of SS properties
3. Prior period equivalent pool rental income
• Future rental income (future rent per unit x forecast occupancy rate x # of units)
– Future rent per unit = Historical rent per unit x 1+growth rate
– Future % growth in rent / unit
• Use SS sales % growth guidance in the absence of a thesis
– Future occupancy rate
• Make a future % physical occupancy rate assumption
• Straight-line the historical barring a thesis
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REIT Modeling
Modeling same store properties – occupancy rate and rent per unit
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REIT Modeling
Modeling same store properties – occupancy rate and rent per unit
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REIT Modeling
Historical and
forecasted RE
expenses for SS
properties
Historical and
forecasted RE
expenses for all
properties
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
Historical and
forecasted lease
up revenue
Historical and
forecasted lease
up NOI
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
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REIT Modeling
Understanding dispositions
• REITs regularly engage in the selling of properties in their portfolio.Reasons include:
– Suboptimal returns
– Capital is needed for more attractive opportunities
– Property type/location not aligned with current business strategy
Modeling future dispositions
• Input assumption for future dispositions, an estimated cap rate, and the estimated
NOI margin. This enables you to back into impact of dispositions on NOI and revenue
• Just like with acquisitions, model a cumulative revenue/NOI impact
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REIT Modeling
Property 2
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REIT Modeling
FORECAST
2014 2015 2016 2017
Property 1 145.0 145.0 145.0 145.0
Property 2 105.0 123.0 145.0 156.0
Property 3 245.0 245.0 245.0 245.0
Property 4 234.0 234.0 234.0 234.0
Guidance for NOI 729.0 747.0 769.0 780.0
• Assume property 4 disposed midyear 2014
• Property 3 disposed midyear 2016
Memo:
Unadjusted NOI guidance 729.0 747.0 769.0 780.0
Less: Cum. impact of disposed NOI 234.0 234.0 479.0 479.0
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REIT Modeling
2013
Disposition proceeds $200.0
Gain on sale (GOS) as a % proceeds (Est.) 75%
Implied gain on sale recognized on the I/S $150.0
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REIT Modeling
2013
Disposition proceeds $200.0
Implied gain on sale $150.0
Implied BV of dispositions (to be removed from the B/S) $50.0
Book value as % of gross value (Est.) 80%
Implied GV of dispositions (to be removed from the B/S) $62.5
Implied accumulated depreciation (to be removed from the B/S) $12.5
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REIT Modeling
1. Same store units: We are going to include both the 20,824 SS properties and the 336 lease-up properties.
2. Avg. physical occupancy: SS occupancy for 2012 (historical) and 2013 (forecast) is provided by management. We
straight-line beyond 2013. Notice that we’re applying management’s SS occupancy forecast onto the entire
portfolio including the lease-ups. While occupancy will certainly be lower for the 336 lease-up communities in
the first year, since there are very few lease-ups the impact is likely immaterial so we use the SS occupancy
assumption. Had there been many lease-ups, a separate schedule for lease-ups would be appropriate.
3. Historical monthly-rent/unit = Monthly rental income / (Units x Occupancy). Going forward, grow prior year by
growth rate
4. Historical monthly-RE expense/unit = Monthly rental expense / (Units x Occupancy). Going forward, grow prior
year by growth rate
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REIT Modeling
• Management provides total revenue guidance, but our model won’t match until we forecast ancillary income.
• Management provided 2013 real estate expense guidance between $129-130m, which matches our model.
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REIT Modeling
Management did not provide guidance for any future acquisitions but we lay out the schedule to handle
acquisitions had there been some
Input assumptions for future $ amount spent on acquisitions, an estimated cap rate, and the estimated NOI margin.
This enables you to back into impact of acquisitions on NOI and Revenue.
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REIT Modeling
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REIT Modeling
1. Company provides
guidance for $ amount of
dispositions and cap rate
estimate
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REIT Modeling
1. Estimate the gain on dispositions by taking the average 3. We calculate the book
historical ratio of reported gains/proceeds value of dispositions as $
value of dispositions – gain
on sale of dispositions
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REIT Modeling
3. Accumulated depreciation
coming off the books = gross
value – book value of
dispositions
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REIT Modeling
10-K footnotes
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REIT Modeling
Now you can complete the cumulative revenue calculation from the top of the schedule as
illustrated
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Ancillary Income
& Non-Operating Items
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REIT Modeling
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Reference
revenue from
all segments
into the total
revenue line
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REIT Modeling
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2. Forecast G&A
• The most direct driver of G&A is total revenue, not SS sales
• Now that we have calculated total revenue we can forecast G&A by making a % 3. Other expenses
of revenue assumption. Historically for unusual items.
• Management guides to 2013 G&A of $24.25-23.25m per the 2012 supplement. Forecast as $0 per
• Link G&A back into to the I/S when finished management guidance and
link back to I/S
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REIT Modeling
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REIT Modeling
1. From ‘non-operating assumptions’ section on prior page Carry over all subtotal
formulas from historical
income statement
2. From ‘discontinued
operations’ section
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REIT Modeling
2. Straight-line historical
dilutive impact of
securities like options to
back into a basic shares
forecast
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Understanding
the REIT
Balance Sheet
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REIT Modeling
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2013
Rental income $500
Capital and rehab expenditures as % of rental income 5%
Implied capital and rehab expenditures $25
Plus: Acquisitions
Less: Dispositions (at gross carrying value)
Equals: Investment in rental properties, end of period (EOP)
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Accumulated depreciation
• Contra asset (negative asset) that shows how much depreciation the company’s real
estate assets have accumulated
• Depreciation is generated from:
• Investments in rental properties (stabilized properties)
• CIP (not yet stabilized properties)
• Note that land is not depreciated
• Roll-forward logic:
Accumulated depreciation, beginning of period (BOP) See next page for
how to forecast
Plus: Depreciation expense during the period
this
Less: Accumulated depreciation from dispositions
Equals: Accumulated depreciation, end of period (EOP)
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Depreciation expense
• Historical depreciation is found on the C/F/S
• Future depreciation expense = Depreciable assets divided by their average useful life
• Depreciable assets = Investments in rental properties + CIP
• Estimating useful life:
• Use the historical useful life (REITs often disclose a useful life range).
• When unavailable, estimate by dividing latest historical depreciable assets by
the most recent actual depreciation expense
Accumulated depreciation from dispositions
• Forecast was already estimated in the dispositions section of the model
• Historical amounts can usually be found in the footnotes.
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Represents consolidated
assets/liabilities
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NCI dividends
• Dividends to NCI are a reduction
on the C/F/S
• With a corresponding reduction to
the NCI equity balance
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Retained earnings
• Retained earnings captures all the past net income net of all the past common and
preferred dividends for a REIT
• Note that the net income that hits retained earnings is after NCI because retained
earnings balances capture earnings to common shareholders, after accounting for all
non-common equity claims against the business
• Roll-forward logic:
We’ll reference from our I/S forecast
Retained earnings balance (BOP)
Plus: Net income
Less: Common dividends We’ll reference using a payout ratio
assumption (we’ll discuss shortly)
Less: Preferred dividends
We’ll use historical guidance
Equals: Retained earnings balance (EOP)
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Debt (non-revolver)
• REITs finance large portions of their activities with debt (~25% for the average REIT)
• REITs typically provide disclosures about the future required maturities of current debt
outstanding, as well as about the cost of capital.
• Barring guidance otherwise, when forecasting, contractual maturities should be offset by
incremental borrowing to maintain a desired capital structure.
• Roll-forward logic:
Debt balance (BOP)
Less: Mandatory and discretionary principal pay down
Equals: Debt balance (EOP)
BRE explicitly
guides to $70m in
maturities with no
offsetting debt
issuance in 2013
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Debt (non-revolver)
• BRE’s primary debt instruments are unsecured notes and mortgage-backed debt
• BRE also can access a revolving credit line (which we will address later)
• BRE provides disclosures about future maturities
• Unlike in 2013, where we had specific guidance to the contrary, we assume that post-
2013 maturities will be offset by future borrowing
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Debt - covenants
• BRE provides disclosures about debt compliance ratios
• Our model’s forecasts should comply with these ratios and throw up an error when
operating forecasts break these compliance ratios
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Modeling the
REIT Balance Sheet
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Investment in rental properties
Stabilized properties are usually classified as ‘Investments in Rental Properties’ or “Completed Properties’ on the B/S. Recall that we
forecast rental income from these properties already in the same store sales section as well as the acquisition section. The changes to this
asset during a period are:
Leave this blank for now
Stabilized Properties BOP
+ Developments Reclassified to Stabilized
+ Capital and rehabilitation expenditures 3. Reference any forecasts for acquisitions
+ Acquisitions into this schedule from the ‘acquisitions’
– Dispositions (at gross carrying value) section above as illustrated
= Stabilized properties EOP
1. Management provides guidance for capital 4. Reference the book value impact of the elimination of disposed
expenditures and rehab expenditures. Back into these properties during the period. Switch the sign to reflect that
drivers using ‘% of rental income’ assumptions. dispositions reduce the asset carrying value.
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Estimate historical useful life; sanity check against range provided in p.41 of BRE 2012 10K
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2. Forecast depreciation as average PP&E balance (on an average basis during the
forecast period) divided by the useful life estimate
3. Reference from dispositions schedule 1. Use the last two years’ average useful
life estimate for your forecast
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1. Dividends to common
shareholders – 2012 10K cash
flow statement
2. Reference net income from 3. Reference the “correct” net income into retained earnings:
income statement as illustrated Retained earnings goes up by net income to common, which
and calculate historical common represents net income AFTER preferred stock redemption related
dividends / net income. expenses, preferred dividends, common dividends.
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Reference the “correct” net income
Retained earnings goes up by net income to common, which represents net income AFTER preferred stock
redemption related expenses, preferred dividends, common dividends.
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Forecasting dividends
By law, U.S. REITs are required to pay out at least 90 percent of taxable income to their shareholders
in the form of dividends. Most REITs, however, opt to pay out 100 percent or more.
Taxable income is not a measure calculated in accordance with GAAP, and can differ significantly from
GAAP income calculations. Since we do not have access to taxable income data, we will use net
income to common shareholders as a proxy and will forecast common dividends by making an
assumption that 100% of net income will be distributed to shareholders via dividends
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Reference common dividends from area below and preferred dividends from I/S.
Switch the sign for both.
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BRE has unsecured notes and secured mortgage notes on its balance sheet
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Forecasting debt
The BRE supplement
provides disclosures about
the future maturities of
current debt outstanding.
Barring guidance
otherwise, it is actually
safest to simply forecast a
straight-lining of debt
levels.
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1 Reference historical balances from 2 Build a roll forward for BRE’s unsecured and
the balance sheet into the roll- mortgage loans payable, build the flexibility into
forward debt schedules the model to make additions or reductions to
this debt and reflect the 2012 principal pay
downs the company guided to as illustrated.
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• Reference all EOP balances from the supporting schedules into the consolidated B/S as illustrated.
• Where there are not supporting schedules, straight-line as illustrated.
• Cash and the unsecured line of credit are the only line left on the B/S.
• We turn to the cash flow statement next (B/S will not balance until the entire model is complete..
Straight-line
• Other assets
• Treasury stock
• Preferred stock
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Cash Flow
Statement &
Model Cleanup
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1One important exception: Direct method is often used for analyzing companies under distress or bankruptcy
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Forecast every line in the C/F/S except for the line of credit.
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Link the ending cash balance calculated below the C/F/S into the B/S as illustrated
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The Revolver,
Interest Expense,
and Circularity
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1. Cash (BOP)
Reference from
prior period EOP
balance on the
B/S
2. Calculate cash
flows (pre-
revolver)
• CFO + CFI +
CFI except the
revolver cash
flows
• Do NOT
include the
revolver cash
flow in this
calculation
3. Input
minimum cash
assumption
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We have modeled a surplus of $160m in 2012; if we had a prior revolver balance we could have paid
down up to $160m of it. Since we do not have a prior balance, no revolver pay down is necessary.
Plug
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Reference the EOP revolver balance to the B/S. The B/S is now complete
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Interest expense
• Now that we have forecasted all the debt balances we turn to interest expense
• BRE provides interest rate disclosures for the various debt tranches:
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Capitalized interest
• Capitalized interest is interest from borrowing for developments, which is capitalized as
part of development spending on construction in progress instead of being expensed:
• Cash goes down
• CIP asset goes up
• BRE provides historical disclosures as well as guidance for future capitalized interest:
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Revolver
• Company expects
LIBOR of 35 to 50
bps plus a 120 bps
spread
• Toggle gives users
the ability to
calculate revolver
interest using
average or BOP
balances
Unsecured debt
• Use interest rates
provided by BRE
• Use average
balances for secured
and unsecured debt
since these do not
create a circularity
Secured debt
• Same as unsecured
debt
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Link interest expense back to I/S – all 3 statements are now complete
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Circular reference
• By linking interest expense into the I/S we have introduced a circular
reference
• A circularity in Excel is a calculation in a cell that depends on itself for the
answer (as opposed to depending on other cells)
Cash
Net
surplus/
Income
Deficit
Iteration settings
• By default, Excel treats circularity as an error, so it will alert you when a
circularity exists, as long as you have iterations unselected
• If you are placing a circularity in your model, you must enable iterations so
that Excel knows to run the iterations instead of producing an error
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Reference NOI from CIP developments from the ‘developments’ tab as illustrated
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1. Reference the ‘additions’ line items from the ‘developments’ tab as illustrated
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EBITDA, FFO,
Core FFO, and CAD
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Funds from operations (FFO)
A real estate specific metric for cash generated from operations:
Net income to common (calculated in accordance with US GAAP)
Plus: Depreciation from continuing, discontinued operations and JVs
Less: Gain on sale
Plus : Noncontrolling interest expense
Less: Cash distributions to noncontrolling interests
Equals: FFO
• FFO, developed by NAREIT, is an attempt to reconcile accounting (GAAP) net income to a
consistent measure of profit specifically tailored for analysis of REITs
• Most REITs adhere to NAREIT’s definition and provide FFO reconciliations in their filings
• The big difference is the EBITDA attempts to capture profitability from operations, while
FFO is levered and captures the affect of taxes and preferred dividends
• Though often misunderstood, FFO is not designed to be a measure of cash flow because it
excludes working capital, capital expenditures and other cash flow adjustments
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Funds from operations (FFO)
• Because of the importance of
FFO as an industry metric, REITs
usually disclose FFO in their
filings despite that it is a non-
GAAP metric.
• From p. 35 of BRE’s 2012 10K:
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Funds from operations (FFO)
• And management almost always provides guidance for FFO
• Per the BRE 2012 supplement:
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Company-specific funds from operations (“Core” FFO)
Many REITs find the NAREIT-defined FFO of limited use because it does not allow for the
exclusion of certain non-recurring items. For example, BRE management wants us to exclude:
• Non-operating asset impairment and valuation allowance expenses
• Property acquisition costs and pursuit cost write-offs (other expenses);
• Gains and losses from early debt extinguishment
• Prepayment penalties and preferred share redemptions
• Executive level severance costs
• Gains and losses on the sales of non-operating assets
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Adjusted FFO (AFFO) – aka Cash Available for Distribution (CAD)
• There has been an effort to create some consistency around the adjusted FFO calculation.
• The most common adjusted definition is often called cash available for distribution (CAD):
FFO + nonrecurring items (Core FFO described previously)
Less: Capital expenditures
Equals: Adjusted FFO (CAD)
• The big difference between CAD and the official FFO definition is that CAD removes
nonrecurring items and removes capital expenditures
• While NAREIT recognizes that many analysts add to the official definition of FFO in this
way, it is not an officially recognized metric by NAREIT
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Adjusted FFO (AFFO) – aka Cash Available for Distribution (CAD)
• Like many REITs, BRE also provides a core FFO disclosure
• Historical Core FFO from page 35 of BRE’s 2012 10K:
• And also provides some guidance for future core FFO (per the 2012 supplement):
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Calculating EBITDA
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Calculating EBITDA
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Calculating FFO
Reference from
discontinued ops section
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Calculating Core FFO
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REIT Valuation Modeling
Valuation
• Analysts value REITs using three approaches
• Net asset value (“NAV”)
• Discounted cash flow (“DCF”)
• Dividend discount model (“DDM”)
• Multiples
• Equity value / FFO
• Equity value / AFFO
• You have built a fully integrated, dynamic real estate model along with a NAV valuation
• While different REITs present data slightly differently, this model as it stands can be used
to model most companies with just a few adjustments
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