Question

consider a strip mall that has 50,000 square feet. the rental rate is $1 per square foot per month. operating expenses are 40% of revenue (a standard assumption). the current cap rate for retail space in orange county is 7%. a. what is the expected sale price for this building? b. if retail operating income is expected to remain flat, what is the expected rate of return on this investment? c. if retail operating income is expected to grow by 1% per year over the next few years, what is the expected rate of return? d. you could, after buying this building, put in $1,000,000 worth of improvements that would allow you to raise the rent by 10% (with zero growth). using the same cap, what would the sale price be, after these improvements? (note that i am not asking you if this is a good idea.)

Answer 1

To find the expected sale price of a strip mall in Orange County, calculate the annual rental income, subtract the operating expenses, and divide by the cap rate. The expected rate of return on the investment is 7% if income stays flat. If income grows by 1% annually, calculate the present value of the future income stream. With improvements allowing a 10% rent increase, recalculate the NOI and sale price using the same cap rate.

Step-by-step explanation:

To calculate the expected sale price for the strip mall, we first determine the annual rental income, which is 50,000 square feet multiplied by $1 per square foot per month, and then multiplied by 12 months. From this, we subtract the operating expenses, which are 40% of the revenue, to get the net operating income (NOI). Then, using the current cap rate of 7% for retail space in Orange County, the expected sale price is calculated by dividing the NOI by the cap rate.

For part b, since retail operating income is expected to remain flat, the expected return on this investment is simply the cap rate, which is 7%.

For part c, with a 1% annual growth in operating income, we need to calculate the present value of the future income stream taking this growth into account to determine the expected rate of return.

Lastly, for part d, after investing $1,000,000 in improvements that allow for a 10% increase in rental rates, we recalculate the NOI based on the new rental income and use the same cap rate to determine the revised sale price for the building.