The subject of ground leases has turned up numerous times in the previous couple of weeks. Numerous A.CRE readers have emailed to request a purpose-built Ground Lease Valuation Model. And I remain in the procedure of creating an Module for our property financial modeling Accelerator program covering the mechanics of modeling ground leases. So I thought now would be a good time to share my Ground Lease Valuation Model in Excel.

This design can be utilized standalone, or contributed to your existing property-level design. In any case, it is practical for both landowners seeking to size a ground lease payment or leasehold owners wanting to understand the worth of the leasehold (i.e. improvements) relative to the cost basic interest (i.e. land).

Excel model for examining a ground lease

What is a Ground Lease and Leasehold Interest?
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If you unfamiliar with the principles of Ground Lease and Leasehold Interest, I'll refer you to the definitions in our Glossary of CRE Terms:

Ground lease - "A lease structure where a real estate financier rents the land (i.e. ground) only. In the case of a ground lease, generally one celebration owns the land (i.e. charge basic interest) while a separate party owns the enhancements (i.e. leasehold interest). In a lot of cases, the owner of the land rents the land to the owner of the improvements for a prolonged amount of time (20 - 100 years)."

Leasehold Interest - "In genuine estate, a leasehold interest refers to a structure where an individual or entity (lessee) leases the land (i.e. ground lease) from the cost easy owner (lessor) of the land for a prolonged duration of time. The lessee of a leasehold estate will normally own the improvements on the land and use the land and enhancements as if the lessee were the owner of the land. During the regard to the ground lease, the lessee will pay rent to the lessor for usage of the land. At the end of the ground lease term, the lessee should return usage of the land, and any enhancements thereon, to the land owner.

Ground leases are typical to prime locations, where landowners don't necessarily desire to offer but where they may not have the competence (or desire) to operate. Thus, they rent the land to somebody who owns and operates the improvements on the land, and receive a ground lease payment in return. You see this quite typically with office buildings in the downtown core of major cities.

Another case where you'll face ground leases are in retail shopping centers. Oftentimes, popular retail occupants prefer to develop and own their space however the designer doesn't always desire to offer the land. So, the retail occupant will accept rent the ground for 40+ years and construct their own structure on the leased land. Banks, nationwide dining establishments in outparcels, and big outlet store are examples of renters that typically accept this structure.

Quick Note: Not interested in DIY analysis? Consider working with A.CRE Consulting to manage your bespoke modeling job.

How to Use the Ground Lease Valuation Model

All areas of the Ground Lease Valuation Model are included on one worksheet. This is deliberate to allow you to place this model into your own property-level design to make it much easier to include a ground lease component to your analysis.

All analysis is carried out on the tab entitled 'Ground Lease'. A 'Version' tab is also consisted of where you can view a change log for the design, as well as discover important links associated with the design.

The Ground Lease worksheet is broken up into 7 sections as described and explained below:

The Residential or commercial property Description area includes five inputs associated to the financial investment. These inputs are:
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SF/M2 - In cell I3 enter whether the step of size remains in square feet (SF) or square meters (M2). Residential or commercial property Name - Name of the investment. It is common in real estate to append the name of the investment with (Ground Lease) to represent that the financial investment is for the fee basic interest in land with a ground lease. Address - Address, city, state/province, zip/postal code, and country. Land Size - Total SF or M2 of land. The variety of acres or hectares will than automatically be computed in cell E6. Leasehold Net Rentable Area - Total net rentable area in SF or M2 of the physical improvements (i.e. the leasehold). The land is assumed to be owned by one person or entity, and the leasehold interest (i.e. improvements) to be owned by a different individual or entity. So for example, you may be thinking about getting the land on which a Target Superstore is built. Target owns the building and is leasing the land for some extended time period. The total rentable location of the building is the 'Leasehold Net Rentable Area'.

Section 1 - Residential Or Commercial Property Description

The Investment Timing area consists of 4 required inputs and one optional inputs. These inputs are related to the chronology of the ground lease and financial investment.

Ground Lease Start Date - The month and year when the ground lease started. This must also be the month and year of the first payment. Next Ground Lease Payment - The month and year when the next ground lease payment is due. Ground Lease Length (Years) - The length of the ground lease in years from ground lease beginning through ground lease maturity. This is the overall length of the ground lease, not the number of years remaining. The optimum length is 100 years. Based upon the ground lease length, the design then calculates the Ground Lease End Date (i.e. maturity date). Analysis Start Date - The month and year that the analysis is to start. This normally is equal to the Next Ground Lease Payment date, although the design was constructed to enable analysis to begin prior to the Next Ground Lease Payment date. Analysis End Date - An optional input, this is by default the Ground Lease End Date. In case you're evaluating a shorter hold duration, merely change the orange font cell I17 to the preferred analysis end date.

Section 2 - Investment Timing

The Ground Lease Terms area consists of business regards to the ground lease, including payment amount, frequency, and rent increases. This section consists of 5 inputs plus the choice to by hand design the lease payment amounts.

Initial Payment Amount - The amount of the first lease payment. Depending upon the payment frequency input (see listed below), this amount might be for an annual or monthly payment. Lease Increase Method - The approach utilized to model lease increases. This can either be: None - No lease increases. % Inc. - A percentage boost over the previous rent amount. $ Inc. - An amount boost over the previous rent quantity. Custom - Manually design the lease payment quantities by year. If Custom is picked, the annual rent payment amounts in row 26 end up being inputs for you to by hand change (i.e. font turns blue). Important Note: If you select Custom and begin to alter the annual lease payment amounts in row 26, there is no method to revert back to another Lease Increase Method.

Section 3 - Ground Lease Terms

It is within the Valuation (Fee and Leasehold) area where you compute the reversion value of the land (i.e. ground lease), the present value of the land (i.e. ground lease), and the imputed value of the leasehold interest. This section is separated into three subsections, with five inputs and one optional input throughout the 3 subsections.

Ground Lease Reversion Value - Within this subsection you model the worth of the residential or commercial property as if there was no ground lease. Or simply put, a common direct cap valuation of a real estate investment. Inputs consist of: Current Net Operating Income (Annual Before Ground Lease Payment) - Enter the annual net operating earnings originated from leasing the enhancements, unique of any ground lease payment. Market Cap Rate - The cap rate for the residential or commercial property, as if no ground lease was included. The concept being to get here at a value of the residential or commercial property before accounting for the ground lease. Retenanting Costs (Nominal) - At the end of the ground lease term, the ground lessor will return the land plus any improvements on the land. What will it cost (i.e. Retenanting) to retenant the residential or commercial property in today's expense (i.e. before inflation). Retenanting may consist of easy leasing costs, it may consist of remodelling and leasing, or it might include taking apart the building and reconstructing something new. The concept is to come to a 'Net Reversion Value (Nominal)' after representing the expense to retenant. Reversion Growth Rate (Each Year) - All of the above calculations are done before representing inflation (i.e. growth). Enter a growth rate here, and the 'Net Reversion Value (Nominal)' will be grown to come to a 'Reversion Value (Adjusted for Growth)' utilized as the reversion worth in the ground lease present value estimation. Reversion Value (Adjusted for Growth) - Optional Input. The reversion value utilized in the ground lease present value calculation. It is calculated by taking the residential or commercial property value web of any retenanting expenses, and after that growing it by a development rate. The value is an optional input in case you desire to personalize the reversion worth.

Discount Rate - The discount rate at which to determine the present worth of the ground lease cash flows. Consider this discount rate as an obstacle rate (i.e. necessary rate of return) for a ground lease investment.

Section 4 - Valuation (Fee and Leasehold)

The Ground Lease Returns (Unlevered) section enables you to compute the unlevered (i.e. before financial obligation) returns of a ground lease investment. If you are considering purchasing a ground lease, it is within this section where you can enter your acquisition/investment expense, and see the corresponding returns from that financial investment. The area includes just one input.

Ground Lease Investment Cost - This is the cost to obtain land with a ground lease. It ought to include the acquisition cost, together with any other due diligence, closing, and pursuit costs connected to the investment.

After entering the Ground Lease Investment Cost, the section computes five return metrics:

- Unlevered Internal Rate of Return

• Unlevered Equity Multiple
• Net Profit Average Rate of Return
• Average Free-and-Clear Return
  
  Note that the resulting returns are extremely based on the analysis duration, payment schedule, and reversion worth.
  
  Section 5 - Ground Lease Returns (Unlevered)
  
  The Ground Lease Returns (Levered) area allows you to compute the levered (i.e. with debt) returns of a ground lease investment. If you are considering purchasing a ground lease and plan to finance the purchase, it is within this area where you can get in the financial obligation presumptions, and see the matching return from that levered investment. The section consists of 3 inputs.
  
  Ground Lease Permanent Loan Amount LTV- Enter the loan-to-value of the ground lease mortgage, and the design will calculate the loan quantity.
• Annual Interest Rate - The yearly rate to be paid on the mortgage. Note that the design presently only allows for an interest-only loan.
• Interest-Only Payment (Annual vs. Monthly) - Enter whether the mortgage payment will be due regular monthly or each year.
  
  After going into the debt presumptions for the ground lease investment, the area calculates five return metrics:
  
  - - Levered Internal Rate of Return
• Levered Equity Multiple
• Net Profit
• Average Rate of Return
• Average Cash-on-Cash Return
  
  Just like the unlevered analysis, the resulting returns are extremely depending on the analysis duration, payment schedule, and reversion value. The quantity and rate of the financial obligation will likewise greatly drive the levered return. And as a suggestion, in the meantime the model just enables financial obligation with interest-only payments and a balloon at the end of the analysis period.
  
  Section 6 - Ground Lease Returns (Levered)
  
  The last section is where backend inputs utilized in the numerous data recognition lists are discovered. Unless you plan to modify the model, there is no reason to alter the values in this area.
  
  Section 7 - Data Validation
  
  Video Walkthrough - Using the Ground Lease Valuation Model
  
  In addition to the written assistance above, I have actually put together a short video that strolls you through the different areas of the model. Note that this video is based on v1.0 of the design.
  
  Download the Ground Lease Valuation Model
  
  To make this design available to everyone, it is offered on a "Pay What You're Able" basis with no minimum (enter $0 if you 'd like) or optimum (your assistance helps keep the content coming - typical realty assessment models cost $100 - $300+ per license). Just go into a price together with an e-mail address to send the download link to, and after that click 'Continue'. If you have any questions about our "Pay What You're Able" program or why we provide our models on this basis, please reach out to either Mike or Spencer.
  
  We routinely upgrade the model (see version notes). Paid factors to the design receive a new download link via email each time the design is updated.
  
  Version Notes
  
  Version 2.33
  
  - Rewrote 'Flying Start Guide' with updates and for improved readability
• Updates to placeholder worths
• Fix to misspelled word on Version tab
  
  Version 2.32
  
  - Removed redundant details in E17: G17.
• Updated I22 to reflect more precise years of term remaining.
• Updates to placeholder values
  
  Version 2.31
  
  - Further revisions to reasoning in I59
  
  Version 2.3
  
  - Fixed issue where the OFFSET() range in the optional formula for 'Reversion Value' (I59) was missing the last cell
  
  Version 2.2
  
  - Revised formula in M26: DG26 to resolve for concern when payment is Monthly and not % Inc (thanks to Accelerator member JS for the fix!).
• Updates to placeholder worths
  
  Version 2.1
  
  - Updates to placeholder worths.
• Added extra notes under 'Flying start Guide' to clarify typical confusion around start dates for various areas.
• Misc. formatting updates
  
  Version 2.0
  
  - Moved 'Analysis Start', 'Analysis Period', and 'Analysis End' inputs above Ground Lease dates for improved user experience.
• Added a 'Flying Start Guide' to provide a tutorial for using the model.
• Renamed 'Lease Increase Method' to 'Lease Payment Increase Method' for explanation functions.
• Renamed 'Ground Lease Reversion Value' to 'Current Fee Simple Value and Ground Lease Reversion Value'.
• Added 'Investment Term' presumption to enable for investor to evaluate returns on an Analysis Period much shorter than the Ground Lease term - Renamed 'Investment Timing' to 'Valuation Timing' to differentiate in between assessment and financial investment returns.
• Renamed 'Analysis Start Date' to 'Valuation Start Date', 'Analysis Period' to 'Valuation Period', and 'Analysis End' to 'Valuation End'.
• Updated heading format to much better separate between Valuations sections and Investment Returns areas.
• Adjusted return solutions to make dynamic to Investment Hold Period
  
  Version 1.0
  
  - Initial release
  
  About the Author: Spencer Burton is Co-Founder and CEO of CRE Agents, an AI-powered platform training digital colleagues for industrial property. He has 20+ years of CRE experience and has actually underwritten over $30 billion in realty across top institutional companies.