Alternative Investments Angus Cartwright, Jr Case Analysis

Alternative Investments Angus Cartwright, Jr Case Analysis

J Srinivasan 2008PGP091B

Introduction:

Mr. Angus Cartwright, a financial planner, needs to make recommendations for his two long-time family clients, the DeRights. John and Judy DeRight are coming to Cartwright at different stages in their life and both are interested in diversifying their investment portfolio to include investments in real estate. Cartwright has four properties he believes to be perfect for his clients however he needs to narrow them down to just one property to each client. John DeRight, currently in retirement, will have $9 million from the sale of stock to invest in a property. He is comfortable with his retirement savings, but would like to diversify his retirement funds in real estate. He requires a 12% return. Judy DeRight has $16 million available to invest. She is at the peak of her career and is likely interested in longer-term possibilities compared to John. She also requires a 12% return on her investment.

Investor’s Profile: John DeRight is a retiree and has all of his wealth in securities; primarily in common stock of a company that bought his startup company. John currently has $6 million in stocks. Dividends from these stocks provide John his main source of income. Not diversifying but having all his net-worth in one basket can be very risky and especially in common stocks. John wants to diversify his portfolio by taking approximately $3 million out of securities to invest in real estate. Again, John is a retiree looking to balance his portfolio by including real estate investments. His investing profile can be stated as low risk investor looking for periodic income payments (steady income stream) in which John can use for daily living expenses. Judy DeRight is a much younger investor. She owns and operates her own company as President. The company performs well with annual income of $800,000 before taxes and $500,000 after taxes. Judy was able to accumulated $3.5 million and also wants to diversify her investments to include real estate. Judy presumably is in a high-income bracket and

does not necessarily need immediate cash-flows from her investments. Her investing profile can be characterized as higher-risk, higher return, no immediate income from investment is necessary, high potential gains in later years (targeting appreciation), and currently would like investments with tax shelter capabilities due to current high ordinary income from other sources.

Real Estate Industry: In investment finance, private equity real estate is an asset class consisting of equity and debt investments in property. Investments typically involve an active management strategy ranging from moderate reposition or releasing of properties to development or extensive redevelopment. Investments are typically made via private equity real estate fund, a collective investment scheme, which pools capital from investors. These funds typically have ten year life span consisting of a 2-3 year investment period during which properties are acquired and a holding period during which active asset management will be carried out and the properties will be sold. Private equity real estate funds generally follow core-plus, value added, or opportunistic strategies when making investments. Core Plus: This is a moderate risk/moderate return strategy. The fund will generally invest in core properties however some of these properties will require some form of enhancement or value-added element. Value Added: This is a medium-to-high risk/medium-to-high return strategy. It will involve buying a property, improving it in some way, and selling it at an opportune time for a gain. Properties are considered value added when they exhibit management or operational problems, require physical improvement, and/or suffer from capital constraints.

Opportunistic: This is a high risk/high return strategy. The properties will require a high degree of enhancement. This strategy may also involve investments in development, raw land, and niche property sectors. Investments are tactical.

Analysis: Properties:

NPV:

Alison Green

$454500

Stony Walk

$315429

Ivy Terrace

$327690

Fowler Building

$435029

Exhibit 1

Alison Green Apartme nts

Number of units/or square feet of rentable space A) Gross Purchase Price B) Deprecia ble Base

100

900 Stony Walk (Office ) 33,500

Ivy Terrace Apartme nts

$4,400. 00

$3,750 $3,600. .00 00

$4,700 .00

$3,900. 00

$3,350 $3,600. .00 00

$4,700 .00

80

The Fowler Bldg. (Office ) 38,000

C)

D)

E)

G)

H)

I)

J)

Deprecia ble Life (Capital Recovery Period in Years) Estimate d Sales Price Expected Year of Sale Annual Increase in CFO Leasehol d Payments Equity Investme nt Amount of 1st Mortgage 1) I-Rate

27.5

39

$6,200. 00

$7,000 $5,000. .00 00

$7,000 .00

10

10

10

10

3.00%

3.00%

3.00%

5.00%

$ -

n/a

$20.00

$70.00

$1,200. 00

$850.0 $1,300. 0 00

$1,400 .00

$3,200. 00

$2,900 $2,300. .00 00

$3,300 .00

9.50%

10.00 % 10 20

9.50%

10.00 % 10 25

11.75 %

10.17%

2) Term 10 3) 30 Amortizat ion Period 4) -10.16% Constant Loan Payments Alison

27.5

10 30

39

11.02 %

900 Stony Ivy Terrace The Fowler

Green Apartments $ 840.00 $ 25.00 $ 815.00

Walk (Office) $ 1,742.00 $ (87.10) $ 1,654.90

Apartments Bldg. (Office) $ $ 1,296.00 1,275.00 $ $ (90.72) (89.25) $ $ 1,205.28 1,185.75

$ 117.00

$ (209.04)

$ -

$ -

$ 221.00

$ (90.45)

$ (100.00)

$ (200.00)

$ 25.00 $ 452.00

$ (10.05) $ 1,345.36

$ (20.00) $ 1,085.28

$ (11.40) $ 974.35

$ 325.00 $ -

$ (340.63) n/a

$ (233.87) $ 20.00

$ (363.55) $ (70.00)

Before $ Tax Cash 127.00 Flow

$ 1,004.73

$ 871.41

$ 540.80

Gross Rents Vacancies Effective Gross Income Real Estate Taxes Other Operating Expenses Capital Reserves Cash Flow from Operation s Finance Payments Lease Payments

EXHIBIT 4 - BREAK-EVEN ANALYSIS Alison Green Stony Walk Ivy Terrace Current or Projected Occupancy 97.00% 97.00% 95.00% Added Margin 14.96% 5.95% 21.24% Break-even Occupancy 82% 91% 71% Loan to Value 72.73% 77.33% 63.89% Debt Coverage Ratio

1.46

1.20

1.87

Fowler 95.00% 7.68% 80% 70.21% 1.41

1= least risky 4=most risky

Simple Return Measures Capitalization Rate-Purchase Cap Rate-Sale Cash-on-cash Return( Y1) Discounted Return Measures IRR NPV Profitability Index (NPV/initial equity)

Alison Green Apartme nts

900 Stony Walk (Office )

Ivy Terrace Apartme nts

The Fowler Bldg. (Office )

Risk Assessm ent Weights

2

4

3

1

12.00%

2 1

3 3

4 2

1 4

12.00% 12.00%

3 1 3

4 2 4

2 4 2

1 3 1

30.00% 25.00% 9.00%

3.26

2.86

1.86

3.33

2.83

1.83

4.00

2.00

3.00

Overall Risk 2.02 (Calculated by weights) Overall Risk 2.00 (Average) Overall Risk 1.00 Assessment

EXHIBIT 6 - Financial Analysis Alison 900 Green Stony

Ivy Fowler Terrace Building

Equity Required Simple Return Measures Capitalization Rate - Purchase Capitalization Rate - Sale Cash-on-Cash Return (yr 1) Increase in Capital Value

Walk 120000 850000 0

130000 1400000 0

10.82% 10.93%

12.14% 10.89%

10.02% 9.07%

10.97% 10.18%

10.47% 4.22%

12.55% 3.96%

40.91% 57.33%

44.44% 65.96%

Discounted Return Measures Internal Rate of 16.51% 16.36% Return Net Present Value $ $ @ 12% 454500 3,15,429 Profitability Index 29.90% 37.11% (NPV)

16.01% 16.01% $ $ 3,27,69 4,35,029 0 25.21% 31.07%

Interpretation: From the NPV calculation we can see that Alison Green and Fowler Building are the best investment. But this calculation does not take into account the risk factor. IRR method was not used for calculation because there is a large re-investment risk. Now taking both NPV and the risk factor into account Alison Green and Fowler Building are the best investments.

Recommendation:

As a retiree, John’s future income is limited to whatever returns he’ll receive from his investments. He requires an investment that can shelter some of his income and producereliable future resources. Hence he should invest in Alison Green for his needs. Judy has more income earning potential, more years before retirement, and even more equity to invest in properties. This opens her up to potentially riskier investments, and possibly longer-term properties. With Judy’s ability to invest in higherrisk properties, she would get higher returns and shelter more income by investing in Stony Walk. Stony Walk has the greatest shelter, shows very solid returns both in the operating cash flow analysis and in the final sales price.