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Discounted Cash Flow Video

The business plan for all commercial real estate CRE assets is essentially the same.

How is DCF Calculated?

An investor purchases a property and leases the space Disscounted it to a series of tenants. Given this business plan, it follows that the value of a commercial real estate asset is driven by the amount of cash flow that it produces. The first step in this process is determining exactly what the cash flows are.

Forecasting recurring cash flows can be tricky. This estimate requires a Discounted Cash Flow of assumptions about income and expense growth rates as well as a series of leasing assumptions about market and renewal rates at the time leases expire. Calculating recurring cash flows is part art and part science and it is understood that they are estimates only, but they should be supported by data to the Discounted Cash Flow possible. At the end of the holding period, the typical business plan requires a property sale, which results in a large cash inflow. Estimating the sale price with a high degree of accuracy is also tricky because it occurs many years in the future.

However, the best practice is to apply a capitalization rate cap rate to the cash flow in the final year. Once these components have been estimated, the next step is to choose a discount rate. The discount rate is one of the most important choices when performing discounted cash flow analysis.

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Remember, property cash flow forecasts are just estimates. And, the further into the future they click here, the less accurate they are. Thus, the choice of a discount rate should reflect the expected variability in cash flow estimates over Discounged and the identified risk factors in the transaction. An easy way to think about the discount rate is as the expected Internal Rate of Return IRR for the investment holding period. With the inputs known, DCF analysis can be Discounted Cash Flow. Although it is commonly done in a spreadsheet program like MS Excel, it can also be calculated manually using the following formula:.

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To illustrate how this works, an example is helpful. Assume that an investor is considering the purchase of a commercial property. The cash flow in the final year represents both the cash flow from operations as well as the proceeds from the sale.]