Chapter 13 - Discount Ana1yis Selected end of chapter solutions and/or directions to answers: 3. A capitalization rate (the “R” in V=I/R) is a market-determined factor with which the value of an income-producing property can be specified. The market sets the discount rate, through its buying and selling of investment properties with observable incomes, as the observable income divided by the observable income explicitly reveals the discount rate.4. The IRR is simply that discount rate that forces the net present value to zero – it is that rate of return that precisely equilibrates the present value of a deal’s future cash flows with the deal’s cost or purchase price. It is, in a layperson’s vernacular, the average profitability of a project over its life or over some expected ownership period.5. Discount factors are commonly used to market investment real estate, either as a manner with which to clearly portray the property’s profitability without debt use, or as an instrument (with an especially high rate) to frame the attractiveness of the investment.7. Perceptions of greater risk or increasing risk aversion lead to higher discount rates and lower real estate investment values. Perceptions of lower risk or the presence of reduced risk aversion lead to higher values; if V=I/R, a lower R leads to a higher V (value).10. Discount rates were especially high in the early 1990’s (many properties having cap rates or discount rates over 15%) as the collapse of the thrift industry was completed and as the resolution trust corporation (RTC) disposed of the tens of billions of dollars of failed commercialreal estate that once served as collateral for the thrifts’ loans. By the early 2000’s, and with a bubble in all real estate developing, discount rates fell to near-record lows (Manhattan real estate traded with cap rates often below 4%); with the bursting of that bubble by 2008, discount rates once again rose (even many national “credit” tenants commanded discount rates no lower than 7.5 or 8% in early 2011).Selected chapter 13 objective practice questions: 1. A major problem with trying to determine real property value based on its future earnings is (A) it is difficult to choose a method (B) the mathematics involved are too complex (C) accurate projections of future cash flows are very difficult to make (D) there is very little interest in future profitability 2. A capitalization rate used in making a discount analyses is normally determined by (A) the judgment of the analyst involved (B) a formula adjusted periodically by the government (C) averaging annual Treasury security rates (D) adjustments for the rate of inflation3. When all the future cash flows – including income and cash flows from the property’s sale - from a property investment are discounted back to the present – at the investor’s minimum required rate of return, and those present valued future cash flows are added together, the resulting sum is the:(A) internal rate of return.(B) equity rate of return. (C) minimal sales price for the property. (D) highest price the investor could justify paying for the property. 4. The rate of return at which the present value of future cash flows exactly equals the initial investment cost is the: (A) value of the equity investment (B) present worth of the property (C) capitalized rate of return (D) internal rate of return5. The capitalization rate is the inverse of: (A) Gross Income Multiplier (B) Taxable Income Multiplier (C) Net Income Multiplier (D) Operating Income Multiplier6. If a property has a cap rate of 10%, and a value of $1 million, what will its value be in an economy with a cap rate of only 8%?(A)$120,000(B) $1.3 million(C)$1.25 million(D)$1.5 million(E) $750,0007. Which of the following measures can be used, without additional data, to determine the Cap Rate?(A) CFBT(B) NIM(C) CFATM(D) CFBTM8. If a property seems riskier than its data suggest, the prospective investor could:(A) Use a higher discount rate to compensate for the greater risk.(B) Have a contractor consider the needed improvements, and carefully price all of the overlooked property needs.(C) Complete a new pro forma, using a lower discount rate.(D) Use a higher property value in calculating investment