Cost of Capital: Applications and Examples, + Website, 5th Edition

CHAPTER 41

Cost of Capital of Real Estate Entities¹

Thomas Hamilton

Introduction

Definition of a Real Estate Entity

Structure of Real Estate Entities

Capital Structure

Direct and Indirect Real Estate Cycles

Measuring Net Cash Flow for Real Estate Entities

Valuation of Real Estate Entities

Underlying Assets Approach

Income Approach

Discounted Cash Flow Method

Estimating the Cost of Capital

Estimating the Capitalization Rate

Implied Discount Rate

Implied FFO Yield

Applying the Build-up Method

Applying the Capital Asset Pricing Model

Other Methods

Estimating the Cost of Equity Capital as if Publicly Traded

Dividends

Adjusting Cost of Equity Capital for Closely Held REIT

Computing the Weighted Average or Overall Cost of Capital

Analysis of Long-term Dividend and Total Returns

Summary

Additional Reading

Appendix 41A: Valuing Real Estate Entities

INTRODUCTION

In Chapter 40, we discussed the development of the cost of capital for direct real property investments. An equity investment in real estate can also be made indirectly by purchasing shares of a company or partnership holding real property interests. In this chapter, we discuss the development and application of the cost of capital for real estate entities that own real property interests to produce income. This chapter is an introduction to the subject; it is not intended to cover all the issues that an analyst might encounter in the process of estimating the cost of capital for real estate entities.

This chapter focuses on real ...