All Forum Posts by: William Bonnet

Thanks Don. That makes sense and I'm familiar with the ideas. In addition to the issues brought up already, I'm grappling with is how to reconcile the large disparity between using these two methods of valuation. The cap rate method assuming cap rates of 8-10% which I was told were the conservative to aggressive ranges for an office like ours (class B off campus) by a CRE agent in our area, gives a value between 18-36% higher than the discounted cash flow analysis. That is a substantial difference and I wonder if it's becaue we've had built in escalators in the lease and the lease would be considered above market as the sale prices have been relatively stagnant. Any other thoughts?

Thanks for these thoughtful observations and suggestions.  

The members of both corporations are identical.  In regards to whether it's an arms length transaction and shifting the cash flow to or from one entity, our pricing has to be justified and at market rate due to regulations so we can't give a discount on one with hopes of making it up on the other otherwise we would favor income through the Realty Corp for tax purposes in light of current tax reform.  Our goal is to establish an approach that will be fair and acceptable to all, including those staying with, leaving, or joining the partnerships.  

Regarding valuation, we do stipulate buy-in's and buy-outs have to be at market value and have used the same professional appraiser several times already since the lease was signed and it is within our bylaws to use him or someone who uses similar methodology.  I've read through all of the appraisals and see that it is in part subjective.  For example the in the discount rate used for present worth of cash flow he seems to pick the 1-2% below the upper end of the PWC Real Estate Investor Survey. It's interesting he never seems to use a simple cap rate valuation.  Is one preferred over the other in certain circumstances?

We have engaged legal counsel in the past and no great solution has come up that everyone has been happy with.  One suggestion was to have members to stay on in perpetuity but that is not practical.  As a group we totally agree with Ronald's comment that we if we can work out a lease then these issues disappear, at least for a while.  The 10% discount idea or some type of discount is also something we can consider.  We have thought of other ideas like pricing the valuation based on an average of the value before and after the lease is signed although there is no guarantee a lease will be signed by a certain date, or fractional buy-in's like 25% per year with re-appraisals each year so the risk is spread out over time akin to dollar cost averaging.  Another idea is to put a moratorium on buy-ins and buy-outs for a year or two until we figure things out.   I am hoping for something that would be easy to structure and understand which would be be considered fair enough for our current situation and flexible enough to be applicable for future scenarios.  

Hi this is the situation and I'll try to make it as simple as possible:

I am part of a group of physicians who, through a corporation (let's call it Realty Corp) own a medical office.  This office is is leased to a clinic with whom we also have a professional service contract through another corporation (let's call it Medical Corp).  We had 7 year agreements but have less than 12 months left and due to change in management, the possibility of renewing another lease and service agreement and the details of the agreements are uncertain although we believe we should be able to work something out.  

In the meantime we have a physician who is retiring in a year and another who is joining both the Medical Corp and the Realty Corp in 6 months - we make it a requirement to join both.  There is no buy-in for the Medical Corp. However, the main dilemma is in the valuation of the Realty Corp buy-in and buy-out because from what I understand, the medical office would be much more valuable with a 7 year lease in place (and the tenant is reliable and reputable) than if there is only a few months left in the lease or no lease at all since the market.  Prior valuations have been based on income approach (using expected cash flow with reversion at end of holding period) which was significantly higher than the comparative sales approach by about 15-25%.  

My questions are:

1) All else being equal, how much value is there in having say 7 years left on a lease vs 1 year?  I suppose it depends in part on the value of the lease compared to the value of the property if it were to be sold.   Since the income approach continues to be higher it means the property has more value as a rental property assuming we can renew under similar terms.

2) How can we structure the buy-in and buy-outs to be fair to everyone if the valuation could change significantly within a short time frame depending on the outcome of the negotiations and details of the lease?

Hope this make sense but I'm happy to add more details or answer questions.