An appraiser values a 200-unit apartment complex three ways: sales comps peg it at $48M, the income approach says $52M, the cost approach says $56M. All three are defensible. The exam tests whether you know which one the institutional buyer will trust.
Development is the riskiest path to owning real estate because you are creating the asset rather than buying it stabilized. The curriculum classifies every dollar of spend as either hard cost, soft cost, or contingency.
- Hard costs (physical goods): land, site work and horizontal infrastructure, building construction
- Soft costs (services): engineering studies, architectural plans, legal expenses, permitting (zoning, entitlements, building permits, inspections), and construction loan interest
- Contingency: a reserve, typically a few percent of cost, to cover unexpected overruns
Note two items that often surprise candidates. Land sits inside hard costs, not as its own bucket. Construction loan interest sits inside soft costs, not as a separate financing line.
KEY: Total project cost = hard (incl. land) + soft (incl. construction loan interest) + contingency.
Common mistakes
- Mis-bucketing land or construction loan interest. The curriculum places land inside hard costs and construction loan interest inside soft costs. If a question asks you to identify a soft cost and lists construction loan interest, that is the answer; if it asks you to identify a hard cost and lists land, that is the answer.
- Reciting the wrong appraisal assumptions. The four assumptions are willing buyer/seller, well-informed parties, sufficient market time, and cash-or-traditional financing. They are transaction-condition assumptions, not USPAP report components like "highest and best use" or "scope of work."
- Assuming the reversion cap rate equals the going-in rate. Exit cap is almost always 25-50 bps higher because the property is older at exit. Either use a current cap rate on similar-aged comps (Method 1) or compute r − g (Method 2). Using the going-in rate overstates DCF value.
Bottom line
- Development yield = stabilized NOI / total project cost: spread = yield − market cap rate, with 150-200 bps the normal hurdle
- Hard costs include land; soft costs include construction loan interest: contingency rounds out total project cost
- Three valuation approaches (sales comparison, income, cost): institutional CRE leans heavily on the income approach
- Four appraisal assumptions and six report items are testable enumerations: memorize the curriculum's lists
Exam shortcut
On a development pro forma, group costs into the curriculum's three buckets (hard incl. land, soft incl. construction loan interest, contingency) before computing yield. A spread below 150 bps means the deal is thin regardless of how attractive the headline yield looks. Remember: "Cap rate down, value up. Exit cap up, terminal value down." In DCF, the exit cap dominates terminal value.
The full lesson (about 4,397 words, 29 min read) adds 2 worked examples, all 7 common mistakes, a self-check, free in the app.
Learning objectives
- natural resources
- land
- timber
- farmland
- contagion indices
- timber farmland returns
- commodities no futures
- term structure
- rolling contracts
- backwardation contango
- commodity diversification
- expected returns
- commodity indices
- commodity returns
- commodity producers
- mlps
- infra overview
- infra classifications
- investing infra
- infra risks
- ip overview
- ip cash flows
- art
- patents
- re categories
- cre advantages
- re styles
- re office
- re industrial retail
- re multifamily
- cre debt
- cre equity leases
- mortgage underwriting
- commercial mortgages
- cre financing
- cre vehicles
- liquid cre
- re development
- cre valuation
- income approach
- public re vehicles
- reit returns
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