South Park IV
Given certain indicators of slow market growth and the high purchase price being advertised by the seller, this is most likely a bad investment for Laflin and his investors. While employment growth may be on the rise, the lack of speculative construction is troubling as this implies the market is not expecting an increased demand. In any case, when considering the expiration of the current tenants’ above market rents and the unfortunately low current market rents, Laflin would still need a great deal of growth in addition to a lower negotiated price to make this investment profitable.
Laflin’s setup suffers from some overly optimistic ...view middle of the document...
Unfortunately there is also a risk in year 1 that the market’s vacancy rate will catch up to Laflin, thus I used the average vacancy rate of 16% from Table 4 in SouthPark IV for rental income he will receive from July 1990-December 1990. Assuming Laflin is correct and the market experiences growth, I then cut the vacancy rate back down to the 5% rate in year 2.
Even when assuming these conditions most favorable to Laflin, his Net Present Value is negative, and his Levered IRR is still lower than his r, meaning the return is less than the risk associated with this investment. (See New Tenants)
Assuming Lower Purchase Price, Same Tenants
Assuming Laflin marks rents down to market and keeps the same tenants, and assuming he is never able to mark up his rents because there is no growth, but is able to negotiate a lower price, this only creates a profitable situation if he can significantly lower the purchase price. Specifically, the purchase price would have to be $750,000, a full 50% off the stated purchase price, to reach a positive NPV and an IRR that is greater than the discount rate. (See Lower Purchase Price, Same Tenants)
Lower Purchase Price and Appreciated Value From NOI
With a lower purchase price and a large expectation of growth from NOI, Laflin could make this investment profitable. If Laflin were to assume all things out of his control were to go south, that is, market rents would never rise, then the only thing he could control to make this a good investment would be to lower the purchase price. Unfortunately, even that manipulation would force Laflin to make a bid the seller would surely refuse, given that it would have to be somewhere around 50% lower than the stated price. Laflin must then...