Real Estate Investor Magazine South Africa March 2015 | Page 46
finance
How to
calculate the costs
The discounted cash flow method
of a property valuation
BY JONATHAN S SMITH
T
he discounted cash flow (at market level)
method of valuation requires us to value the
projected cash flow (net income projection)
over the projected length of our investment.
The discounted cash flow method (of property
valuation) requires us to project a net operating income
for each year of the entire holding period during which
we intend to own the property under considereation
(the subject property).
For the purposes of this discussion, we shall assume
a 10 year holding period. This means that we need to
project our net operating income for 10 years.
A discounted cash flow is used to record the
projected income and expenditure for each year of the
holding period. The discounted cash flow is as follows:
[The residual value is calculated by dividing the net income of the year immediately following the last year of the
cash flow by the terminal capitalisation rate.]
The value of the property represented by the table is the total number of each year’s real values.
Thus, from the table, the value of the property development is:
= R1 778 417 + R1 866 032 +R1949 527 + R21 754 592= R27 348 568 (say R27 350 000)
Cash flow item
YEAR 1
YEAR 2
YEAR 3
YEAR 4
Gross income
R5 000 000
R5 600 000
R6 272 000
R7 024 640
R31 551 082
Residual value
Expenses
R3 000 000
R3 240 000
R3 499 200
R3 779 136
Net income
R2 000 000
R2 360 000
R2 772 800
R34 796 587
Discount rate
11.80%
11.80%
11.80%
11.80%
Discounted real value of net income
R1 778 417
R1 866 032
R1 949 527
R21 754 592
A discounted cash flow with residual value
RESOURCES
A Guide to Commercial Property in South Africa
46
March 2015 SA Real Estate Investor
www.reimag.co.za