There are 4 elements of the Time Value of Money that all commercial investors want to look at and evaluate before making a decision to buy a property. A Cash Flow Model is one of the main tools that investors will use in this process.
The 4 elements of a Cash Flow Model:
- Initial Investment
- Cash Flow from Operations
- Cash Flow from Disposition
- Holding Period
Initial Investment: This includes more than just the down payment but other items as well. If the investor is leveraging the property the question of what will the banks require as a down payment and are there any loan fees or points to pay? Appraisal fees – tests on the property as well as any structural concerns – brokerage fees. All of these items and maybe even more will make up the initial out of pocket money in the initial investment.
Cash Flow from Operations: What is the NOI (net operating Income) projected over the anticipated holding period of the property? This calls for a lot of speculation as you look out 5 or 10 years in the future. These projections require a lot of analyzing of the current local market as well as national market. Historical data also needs to be studied.
Cash Flow from Disposition: Again this calls for the investor to look out into the future and try to anticipate a sales price less any additional costs such as commissions – surveys – closing fees – etc. While it is not an exact science generally if you spend enough time evaluating income growth (NOI)from year to year you can come to realistic projections.
Holding Period: When will be the best time to sell the property and get his/her investment back an maximize profit? By working up a cash flow analysis worksheet by year you can evaluate just what year might be the best time to sell the property and get the best return. Again the more time and effort spent projecting future cash flows the easier it becomes to identify the best time to sell
When an investor is evaluating a single property or multiple properties they generally will have two basic preferences: 1.More is better than less. 2. Sooner is better than later. By providing investors with this kind of information you will help them make good buying decisions and provide you with good repeat business and referrals.