Making the Case for Your Commercial Refinance

Many of you surely have commercial property loans that are coming up for refinance during 2009.  We have a new article (actually, the first installment of a two-part piece) on realdata.com that we think you’ll find helpful.

In Part One of “Making the Case for Your Commercial Re-Finance,” we tell you what information you must gather before you apply for the loan. We help you understand the loan underwriting process as the lender sees it, and show you how to estimate the maximum amount of financing you can reasonably expect to get.

In Part Two, we’ll demonstrate the process of building a presentation that you can use to make a strong case for your commercial refi.

To view this article, go to realdata.com and click on the “Learn” tab.  You’ll find a link to this and a whole library of articles for investors and developers.

Excel 2007 – New File Types, Macro Security and Other Mysteries

When Microsoft released Excel 2007 it deployed some of the most extensive changes to the product in many years.  It introduced an entirely new user interface, a new menu format called the “Ribbon,” enhanced security, and an entirely new data structure for its files.  With this new data structure came an array of new file types.

Many of these changes have implications that are not always obvious to the user and, from our point of view at least, are not always entirely welcome.

This will be the first of what may be several posts on the RealData blog where we try to address what we feel are some of critical changes you need to know about in Excel 2007 so that you can use it successfully.  We’re writing these posts with users of RealData software in mind – particularly users of our more sophisticated Excel-based products like “Real Estate Investment Analysis,” “On Schedule” and “Commercial/Industrial Development” – but we feel strongly that it’s information all Excel users should have.

So – let’s begin with by comparing the file types in the old Excel vs. the new Excel.

How Things Were:  Two Key Facts to Remember

  1. If you have used earlier versions of Excel, you probably know that you used workbooks, called .xls files – and templates, called .xlt files.  Workbooks are collections of worksheets, sometimes accompanied by built-in programming code called “macros.”  Templates are a special kind of workbook.  When you launch a template, it leaves the original unchanged and presents you with a new workbook file based on that template.  That way you don’t accidentally overwrite the original.
  2. If you used RealData software, or perhaps certain other commercial Excel-based applications, the Excel file included hidden macro code.  You never saw it, but you know it was there because Excel would ask you if you wanted to enable the macros. Such code is typically essential for the functioning of a complex Excel-based program.  For example, our “Real Estate Investment Analysis” uses more than 12,000 lines of such code to provide menus, format reports, add/delete data records, and so on – functions that can’t be accomplished with simple spreadsheet formulas.  If you lose the code, the program will no longer function properly.

How Things Are: The New File Formats and How They’re Different

New to Excel 2007 are the .xlsx, .xlsb and .xlsm formats which Excel refers to as “Excel Workbook,” “Excel Binary Workbook” and “Excel Macro-Enabled Workbook,” respectively.  It’s important to understand the differences among these file types, and which can be used with RealData software products.

Each of these new formats is based on what Microsoft calls an “Open XML File Format.”  Without getting more technical than we need to here, the short version is that one can openly view and read the data from these files and convert them to other formats if necessary.  This ability is part of a trend toward an open and universal standard for documents so that data is not tied to a particular proprietary software product or company.

If you used earlier versions of Excel, then you know you customarily saved your workbook as a .xls file.  Let’s look at each of the new file formats and compare them to that original .xls Excel file format:

1. The .xlsx format is a lot like the old .xls format, but with one key difference:  It intentionally does not support macro code and will remove any macro code from a file that contains it. Remember what we said about RealData software and other products that rely on macros to provide their advanced functionality?  Right.  Without the macros these programs won’t work.  If you open a macro-driven .xls file and save it in the new Excel .xlsx format, the macros will be deleted and the program will no longer work as expected.

Fortunately, if you do try to save a file in this format, you will receive a warning message before the macro code is deleted:

Keep in mind that macros can be used by malefactors to deliver viruses. If you download an Excel file from some source other than a trusted commercial vendor, you run a risk as you would downloading a file from any unfamiliar source.  You’ll want to keep the macro code in a program from a trusted source like RealData, but you should be wary of any file containing macros if it comes from a source with which you’re not familiar and confident.

If you want to be certain to keep the macros intact in your RealData program, the simplest and most certain solution is this: Click “No” and return to the “Save” dialog.  Where you see a pulldown that says “Save as type,” choose “Excel 97-2003 Workbook (.xls).”

2. In contrast, the .xlsb and .xlsm formats do support macro code.  The .xlsb file is a streamlined format intended to speed up the process of opening and saving the file.  Like the .xlsm format, it can save an equivalent Excel workbook in a significantly smaller file size than the traditional .xls format.  The information in each of the cells is saved as plain text (you could view the information in Notepad if you wanted to) but the  macro code is encrypted.

Is it all right for you to save your RealData program as a .xlsb or .xlsm file and save some disk space?  The answer is a resounding maybe.

To re-open one of these files once you’ve saved it as .xlsb or .xlsm, Microsoft requires that you have installed on your computer an antivirus product capable of scanning and reviewing encrypted macro code before the file opens.  If this scan process does not happen, then the macros will be disabled in your software.  If you’re alert, you’ll  know this is so because of an inconspicuous warning message that appears in a horizontal bar above the Excel work area:

Click on “Options” and you should see something like this:

The default choice is “Help protect me….”  If you are confident that this file came from a trusted source, you can choose “Enable this content.”  If the file has a security certificate attached, the details of that certificate will be displayed and you can choose “Trust all documents from this publisher.”  RealData does have a security certificate attached to its program files.

Unfortunately, not all antivirus software is able to scan encrypted macro code. From our own experience we can confirm that Version 8.0 of the AVG  product appears to work without problems ( http://www.avg.com).

If you were getting ready to breathe a sigh of relief, hold it.  What we describe above is how .xlsb and .xlsm are supposed to behave.  Some users, however, have reported to us that, if they see the “macros disabled” message and click the options button, they get only one choice, and it’s not the one they want:

Why does this happen sometimes, but not always?  If we could answer questions like that, we’d be so famous you wouldn’t even be able to talk to us.  Seriously.

Which brings us back to bullet-point #1, worth repeating;

If you want to be certain to keep the macros intact in your RealData program, the simplest and most certain solution is this: Click “No” and return to the “Save” dialog.  Where you see a pulldown that says “Save as type,” choose “Excel 97-2003 Workbook (.xls).”

This should be your choice if you want your analysis to be compatible with both Excel 2007 and other computers which may have an earlier version of Excel installed on them.  RealData software products automatically detect if you are using Excel 2007 and set the default file type to be .xls, although you can override this if you so choose.

The Short Version

  1. RealData delivers its macro-powered programs using the Excel 97-2003 file format, i.e., .xls. If you always save your work in that format, you should have no problems with Excel 2007 opening or running the macros in RealData programs.
  2. If you save a file in .xlsx format, Excel will strip out all of the macro code and that particular RealData file will no longer function properly.
  3. If you save in .xlsb or .xlsm format, then when you re-open the file, Excel will be looking for antivirus software to scan the encrypted macros.  If it doesn’t find it, you will have to instruct Excel to open this content; some users have reported being unable to do so.


Excel Template Formats

As mentioned above, RealData delivers it programs as template (.xlt) files. When you launch a template, it leaves the original unchanged and presents you with a new workbook file based on that template.  That way you don’t accidentally overwrite the original.

Excel 2007 contains two new template file formats, so now there are three flavors:

  1. .xltx called “Excel Template”
  2. .xltm called “Excel Macro-Enabled Template”
  3. .xlt called “Excel 97-2003 Template”

RealData software is currently distributed in .xlt format.  You could convert this file to .xltm and it should work fine on your computer, assuming that you have anti-virus software capable of scanning encrypted macros.

But why tempt fate for no reason? We recommend that you stick with the .xlt format.

Excel 2007 File Icons

Each of the file formats has its own icon.  As you can see from the image below, these icons are very similar in appearance.  The template file types share a common horizontal yellow bar across the top edge.  You may find these images helpful when you try to recognize different Excel file types by their icons.

Stayed tuned to our blog for more about Excel 2007.

realdata.com

New investment analysis service — and data form

If you subscribe to our e-newsletter, the RealData Dispatch, then you know that we just launched a new service where we will run a property analysis for you, using your data and our software.

All you do is download a questionnaire, fill it in with the particulars about the property you want to evaluate, and email it or fax it back to us. We’ll run your information through the Standard Edition of “Real Estate Investment Analysis” and send the reports back via email.

You can get more details here.

Even if you don’t plan to use the service right now, I’d like to suggest that you download the form. I think you’ll find it to be a helpful guide for collecting data whenever you need to do an investment analysis, whether you’re working with our software or scribbling on the back of an envelope.

And speaking of our newsletter, just one more comment. If you subscribed but haven’t been receiving it, then it’s probably getting stuck in your spam box. It seems to me that spam filters have been getting more aggressive. I know it’s necessary to fight the growing tide, but I’ve been finding more “real” mail getting swept away with the junk.

I would urge that you go to your email program or service and “whitelist” realdata.com. For example, if you’re using Yahoo mail, go to “Options” and add a filter that tells Yahoo to direct anything from realdata.com to your inbox. With Gmail, you go to “Settings” and do the same thing.

That way, our newsletter will reach you. In addition to providing announcements about our products, upgrades, etc., we use the newsletter to tell you when we have new educational content and when we’ve found an online resource that might be valuable to you as as an investor or developer.

If you aren’t already subscribed, you can do so here.

Frank Gallinelli
realdata.com

Download sample chapters from my new book, “Mastering Real Estate Investment”

Hello All —

I thought you might like an opportunity to see some sample chapters from my new book, so I’m making two downloads available.

The first section of the book is devoted to 37 key formulas that every real estate investor should understand and know how to use.  One of the most important of these is capitalization rate. 
Chapter 10 discusses cap rate and gives you several examples that you can work through.

The second part of the book provides case studies where I take you step by step through different kinds of property investments.  In Chapter 38 I discuss using a single-family house as a rental property.  This download is a seven-page excerpt from the chapter, which continues with a thorough discussion of the single-family rental.

I hope you find these samples useful, and welcome your comments.

Frank Gallinelli
realdata.com

Is Now the Time To Buy Real Estate for Investment?

“Give me a one-armed economist!”  That’s what Harry Truman said as he grew weary of economic advisors who seemingly could never give a straight-out recommendation without adding, “…but on the other hand….”

I believe serious investors understand that they can succeed in both good economies and in bad. They also know that they may have to adjust their approach to fit the circumstances.   Has anyone seen Warren Buffet hiding under a rock?

Income-producing real estate – that is, rental properties – offer investors an excellent opportunity to build wealth over the long term.  It’s important to understand that the value of a typical income property doesn’t necessarily rise and fall in step with the home market.  Investment properties are bought and sold for their ability to produce net income.  So, if you buy a property at a sensible price relative to its income and you manage it well, you should enjoy a good return over the long term.

Everyone expects their investments to succeed in a hot market, but what about now, when the economy is struggling?  It’s not uncommon to see apartment properties do well at times like this.  When money is tight and it’s difficult for buyers to come up with down payments and to afford mortgage terms, demand for apartments typically rises.

Take a look at the medical office buildings in your market.  Health care doesn’t go out of fashion, and with boomers getting older, there’s a good chance that demand will rise.  Look also at university towns.  The turnover of students and faculty typically translates into high demand.

I’ll say more about these and perhaps some other areas of opportunity in future posts.

And finally, what about that one-armed economist?  Is there a, “…but on the other hand?”  As much as we would like every decision to be unambiguous, all investments involve risk.  Otherwise there would be no reward.  So what are the caution flags?

First, remember that all real estate is local.  Your local job market, for example, may be atypically strong, with new employers moving in; or especially weak, with important job sources shutting down.  View all generalities through the prism of your local market.

Remember that cash is king, especially in a weak economy.  It’s all right to try to acquire a property using as little of your own cash as possible (provided, of course, that the deal works on those terms).  But there’s a big difference between using very little cash and having very little cash.  If you have nothing in reserve to fall back on, the risk of a highly leveraged investment may be greater than you can deal with.

This may not be the time to buy with no cash and flip for a profit tomorrow, but it can be an excellent time to buy for the long term.  Do your homework, run the numbers, and prosper.

My latest: Mastering Real Estate Investment

I’m hoping that, by now, you’ve heard I have a new book out: “Mastering Real Estate Investment: Examples, Metrics and Case Studies.” It was released just a few weeks ago, and like any proud author I’m pleased to say it’s doing well.

And so…  what’s it’s all about?  An why did I think anyone would read it?

I’d probably describe it best as being two books in one.  Quite a few readers of my first book, “What Every Real Estate Investor Needs to Know About Cash Flow…,” told me they wanted to see more examples of the 37 key calculations I discussed there. That’s an entirely reasonable request; most of us learn better from examples.

So, I began with the idea of creating a workbook of sorts.  For each of my 37 metrics I created a series of sample problems that the reader could work through.  And, of course, I provided the step-by-solution for every problem.

I would humbly submit (all right, maybe not so humbly) that this was a good idea, because to master anything you have to roll up your sleeves and get involved with it.  You can’t just read about these concepts, you have to practice them if you expect to internalize them as part of your approach to investing.  And that, by the way, is how “Mastering” got into the title.

It’s one thing to master these concepts, but it’s yet another to understand how to integrate them and apply them — and that’s why I wrote the second part of the book, the case studies.  I took four different type of properties — a single-family rental, a development project, and apartment building, and a commercial property.

What I tried to do here was to take real-life situations, where you have to deal with asking prices that may be realistic or not; where you encounter seller representations that may be accurate or not; where you have to make judgments and forecasts using imperfect current knowledge.

One of my goals in this part of the book was to show you how to play, “What if…” with your forecasts so as to give you a sense of the range of possible outcomes for your investment if things like rent projections, interest rates, resale costs varied.  Also, in a departure from some of my usual topics, I tried to show how to look at a re-hab project — specifically, how to estimate an appropriate price for a property that you plan to re-develop into an income-producing investment.

Part 2 of the book can stand on its own, so if you’re comfortable with concepts like NOI, cap rate, discounted cash flow and IRR, go ahead an read this part first.

You’ll find more about this book, and my others, here.

Welcome, Real Estate Investors and Developers

… to RealData’s blog. You probably know that we’ve always tried to provide a lot of useful content on this site, with educational articles, newsletters, and the like.  We want this blog to be a logical extension of that mission, but we also want it to be a place for more informal discussion.

This is a place that welcomes beginners, experience investors, and real estate professionals alike.  If a topic is pertinent and meaningful to you as a real estate investor, developer, appraiser, consultant, or educator, then it belongs in this blog.

So we may talk about where we think the real estate market is headed.  We’ll certainly discuss  nuts-and-bolts topics, like, “What exactly is a profitability index?” and “What’s a back-door approach and when do you use it?”

We want to tell you about useful resources as soon as we discover them (and so you won’t have to wait for our not-so-rigorously scheduled newsletter).  We definitely will talk about technology.  Do you know about the hidden gotchas lurking in Excel 2007?  And there are plenty of useful tips we can give you about using our RealData software to best advantage.

We’ll do our best to keep the conga line moving, but urge you to jump in with your comments.

Welcome aboard.

NPV, PI, IRR, FMRR, MIRR, CpA — Stirring the Alphabet Soup of Real Estate Investing, Part 2

IRR – Internal Rate of Return

Internal Rate of Return (IRR) seems to befuddle many investors, but if you understand Discounted Cash Flow and Net Present Value, then you already understand IRR. That’s because it is really the same process, but one where you are solving for a different unknown.

In DCF, you believe you know what the future cash flows will be, and you believe you know the rate at which those cash flows should be discounted. Your mission is to figure the Present Value of the cash flows.

With IRR, you still believe you know what the future cash flows will be, but now you know the Present Value and want to find the discount rate. How is it that you know the Present Value? This is a deal happening in the real world. The PV is the amount of cash you are paying for those future cash flows.

When you solve for the IRR, you are looking for the discount rate that accurately describes the relationship between those future cash flows and the money you put on the table on Day One.

When you’ve found the discount rate that makes the PVs of the future cash flow equal to your initial investment, you’ve found the IRR. You can express this another way: When you’ve found the discount rate that makes the NPV equal zero, you’ve found the IRR.

Admittedly, the math to find the IRR is ugly, but if you’re reading this then you probably have a computer (or a highly sensitive gold filling that also picks up the BBC on the Internet); there are plenty of tools, including Microsoft Excel and our own RealData software that will do the job for you.

IRR is the measurement of choice for many investors because it take into account both the timing and the magnitude of your cash flows. Consider this example:

You still have that $300,000 to invest, and you can invest it in the property you saw in the first example, yielding these cash flows and IRR:

Year 0 Initial Investment:
(300,000)
Year 1 Cash Flow:
10,000
Year 2 Cash Flow:
20,000
Year 3 Cash Flow:
25,000
Year 4 Cash Flow:
30,000
Year 5 Cash Flow:
385,000
(includes the proceeds of sale)
IRR = 10.32%

Or you can acquire this property:

Year 0 Initial Investment:
(300,000)
Year 1 Cash Flow:
80,000
Year 2 Cash Flow:
50,000
Year 3 Cash Flow:
30,000
Year 4 Cash Flow:
10,000
Year 5 Cash Flow:
300,000
(includes the proceeds of sale)
IRR = 12.97%

If you add up the cash inflows and outflows for both properties, you will find that each has $300,000 going out in Year 0, and a total of $470,000 coming in over the next five years. However, the second property shows a significantly higher IRR. Both properties have the same total number of dollars going out and coming in over five years, but the second property shows a greater return on investment. Why?

Because IRR is indeed sensitive to both the timing and amount of cash flow. The first property has a big payday, but you have to wait five years to get the money. In the meantime, annual cash flows are relatively modest.

In the sale year the second property returns combined cash from operation and resale that is only as much as you originally invested to acquire the property. However, the intervening cash flows are much larger, especially the earlier ones. The early cash flows are especially valuable because you don’t have to wait long to receive them and therefore you don’t have to discount their values so greatly.

But Wait…

This sounds terrific; we’ve found the perfect way to measure our investment’s return. But wait – on closer inspection, IRR has a few warts. Sometimes its results are imperfect, sometimes even misleading. In the third installment of this series, we will look at the problems with IRR and at some potential solutions. We’ll examine FMRR and Modified IRR, and how they provide us with a means of dealing with the shortcomings.

—Frank Gallinelli

####

Your time and your investment capital are too valuable to risk on a do-it-yourself investment spreadsheet. For more than 30 years, RealData has provided the best and most reliable real estate investment software to help you make intelligent investment decisions and to create presentations you can confidently show to lenders, clients, and equity partners. Learn more at www.realdata.com.

Copyright 2008, 2014,  Frank Gallinelli and RealData® Inc. All Rights Reserved

The information presented in this article represents the opinions of the author and does not necessarily reflect the opinions of RealData® Inc. The material contained in articles that appear on realdata.com is not intended to provide legal, tax or other professional advice or to substitute for proper professional advice and/or due diligence. We urge you to consult an attorney, CPA or other appropriate professional before taking any action in regard to matters discussed in any article or posting. The posting of any article and of any link back to the author and/or the author’s company does not constitute an endorsement or recommendation of the author’s products or services.

NPV, PI, IRR, FMRR, MIRR, CpA – Stirring the Alphabet Soup of Real Estate Investing, Part 1

NPV, PI, IRR, FMRR, MIRR, CpA–It may seem like a witch’s brew of random letters, but truly, it’s just real estate investing. You can handle it. Any or all of these measures can be useful to you, if you understand what they mean and when to use them.

NPV – Net Present Value

NPV, or Net Present Value, is connected to what all good real estate investors and appraisers do, namely discounted cash flow analysis (aka DCF, if you’d like some more initials).

Discounted Cash Flow is a pretty straightforward undertaking. You project the cash flows that you think your investment property will achieve over the next 5, 10, even 20 years. Then you pause to remind yourself that money received in the future is less valuable than money received in the present. So, you discount each of those future cash flows by a rate equal to the “opportunity cost” of your capital investment. The opportunity cost is the rate you might have earned on your money if you didn’t spend it to buy this particular property.

Consider this example, where you invest $300,000 in cash to earn the
following cash flows:

Year 1 Cash Flow:
10,000
Year 2 Cash Flow:
20,000
Year 3 Cash Flow:
25,000
Year 4 Cash Flow:
30,000
Year 5 Cash Flow:
385,000
(includes the proceeds of sale)

If you discount each of these cash flows at 10%, then add up their discounted values, you’ll get 303,948:

Year 1, Discounted:
9,091
Year 1, Discounted:
16,529
Year 1, Discounted:
18,783
Year 1, Discounted:
20,490
Year 1, Discounted:
239,055
Total PV of Cash Flows:
303,948

Now you have the Present Value of all the future cash flows. However, you also had a cash flow when you initially purchased the property (call that Day 1 or Year 0) – a cash outflow of $300,000, your initial investment. To get the Net Present Value, you find the difference between the discounted value of the future cash flows (303,948) and what you paid to get those cash flows (300,000).

NPV = PV of future Cash Flows less Initial Investment
NPV = 303,948 – 300,000 = 3,948

What does that mean to you as an investor? If the NPV is positive, it suggests that the investment may be a good one. That’s because a positive NPV means the property’s rate of return is greater than the rate you identified as your opportunity cost. The more positive it is in relation to the initial investment, the more inclined you’ll be to look favorably on this investment. Your result here is not stellar, but it is at least positive.

If the NPV is negative, the property returns at a rate that is less than your opportunity cost, so you should probably reject this investment and put your money elsewhere.

That’s all fine, to the extent that you’re confident about that discount rate, your opportunity rate. You estimated 10% in the example above. What if you adjust that estimate by one-half of one percent either way?

NPV @ 9.5%
= 10,284
NPV @ 10.0%
= 3,948
NPV @ 10.5%
= (2,244)

How about one full percent?

NPV @ 9.0%
= 16,789
NPV @ 10.0%
= 3,948
NPV @ 11.0%
= (8,238)

Clearly, the NPV here is very sensitive to changes in the discount rate. If you revise your thinking just slightly about the appropriate discount rate, then the conclusion you draw may likewise need to be revised. As little as a half-point difference could change your attitude from luke-warm to hot or cold. The prudent investor will test a range of reasonable discount rates to get a sense of the range of possible results.

While we’re beating up on NPV, let’s also note that it doesn’t do you much good if your goal is to compare alternative investments. To have some kind of meaningful comparison, you need at least to keep the holding period for both properties the same. But what if one property requires that $300,000 cash investment, but the alternative investment requires $400,000?

PI – Profitability Index

Fortunately, NPV has a cousin that can help you with that problem: Profitability Index. While the NPV is the difference between the Present Value of future cash flows and the amount you invested to acquire them, Profitability Index is the ratio. It doesn’t tell you the number of dollars; it tells you how big the return is in proportion to the size of the  investment.

So where the NPV in the example above was equal to 303,948 minus 300,000, the Profitability Index looks like this:

PI = 303,948 / 300,000 = 1.013

If, quite improbably, you expected exactly the same cash flows from the property that required a 400,000 investment, you would expect your Profitability Index to be much worse, and it is.

PI = 303,948 /400,000: = 0.760

A Profitability Index of exactly 1.00 means the same as an NPV of zero. You’re looking at two identical amounts, in one case divided by each other so they give a result of 1.00 and in the other case subtracted one from the other, equaling zero.

An Index greater than 1.00 is a good thing, the investment is expected to be profitable; an Index less than 1.00 is a loser. When you compare two investments, you expect the one with the greater Index to show the greater profit.

There is a good deal more stirring about in our alphabet soup, so join us for the next installment when we look at IRR – Internal Rate of Return.

—Frank Gallinelli

####

Your time and your investment capital are too valuable to risk on a do-it-yourself investment spreadsheet. For more than 30 years, RealData has provided the best and most reliable real estate investment software to help you make intelligent investment decisions and to create presentations you can confidently show to lenders, clients, and equity partners. Learn more at www.realdata.com.

Copyright 2008, 2014,  Frank Gallinelli and RealData® Inc. All Rights Reserved

The information presented in this article represents the opinions of the author and does not necessarily reflect the opinions of RealData® Inc. The material contained in articles that appear on realdata.com is not intended to provide legal, tax or other professional advice or to substitute for proper professional advice and/or due diligence. We urge you to consult an attorney, CPA or other appropriate professional before taking any action in regard to matters discussed in any article or posting. The posting of any article and of any link back to the author and/or the author’s company does not constitute an endorsement or recommendation of the author’s products or services.