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You are an investment surveyor working in-house for a private high net worth individual.
As part of your remit, you are responsible for the management of a mixed portfolio of investments, which is currently valued at approximately £50m. The portfolio holds £5m worth of shares in the UK-REIT Redefine International PLC, which is listed on both the London Stock Exchange (LSE: see Ticker RDI) and Jersey Stock Exchange (JSE see Ticker RPL).
Your employer is a long-term investor and generally risk-averse with regards to its real estate investments.
Funds of £10m will shortly become available within the portfolio to invest directly/indirectly into real estate.
Your employer has asked you to assess the following two investment opportunities:
Investment Option 1:
Springfield House, Station Approach Business Park
- A modern two-storey office building.
- Located in a suburban office park.
- Floor area: approx. 1,858 sq m (20,000 sq ft) (measured in accordance with IPMS Office 3).
- 40 car parking spaces.
- The tenancy schedule is attached in Appendix 1.
- Annual rent: £400,000 p.a. exclusive of service charge, rates, insurance, etc.
- Asking price: £4.35m.
Assumptions for Investment Option 1:
- For the purposes of your calculations, the appraisal date is 1 January 2017.
- Reliable information on the local office market has shown that there has been an annual rental growth rate of 5% p.a. over the last three years. This trend is set to continue for the foreseeable future.
- There is no rental growth evident in rents for suburban car spaces.
- Client's target rate of return is 9%.
- The holding period for this investment is 10 years, after which the investment will be sold.
- The disposal value will be assessed on the basis of the expected rental value at the date of the disposal and subject to a capitalisation rate, which would reflect the age and obsolescence of the building.
- Rents are collected annually in arrears. Rent reviews occur at the end of the specified periods and affect rental levels thereafter.
- Both leases in the investment are on a full repairing and insuring (FRI) basis.
- You should assume a vacancy period of one year when the first floor of Springfield House becomes vacant. The annual service charge, rates and insurance liabilities for the first floor are £35,000.
- Choose a real estate market which you are familiar with and assume that this investment is located within this market.
- Acquisition fees will be at 5.8%.
- Disposal fees will be at 2.4%.
- Letting fees will be at 10% of the rent achieved.
- Rent review fees will be at 7.5% of the revised rent.
- The exit yield can be set at the net initial yield.
Investment Option 2:
A block of shares worth £5m in Green REIT plc which is listed on both the London Stock Exchange (LSE: see Ticker GRN) and Irish Stock Exchange (ISE: see Ticker GN1).
Prepare a client style professional report with recommendations/conclusions to present to your employer on the possible purchase of Springfield House and the shares in Green REIT plc. Analyse both investment opportunities before concluding whether or not to purchase one or both.
In your analysis of Springfield House, create a spreadsheet to calculate the net present value (NPV) and internal rate of return (IRR) using Microsoft Excel (or an equivalent). Your analysis of this property investment should incorporate quantitative measures to assess the potential risks associated with each investment.
In your analysis of Green REIT plc, you should include a risk appraisal of the property portfolio in Green REIT under the following headings:
1. Asset concentration
2. Location concentration
3. Company concentration
4. Segment volatility exposure
5. Income return
6. Development exposure
7. Vacancy rate
8. Unexpired lease term
9. Risky covenants
In your REIT analysis, you should also make comparisons between the property portfolios of Green REIT plc and Redefine International PLC.