Two analysts look at the same shopping-center REIT. One says it is worth $52 a share because that is what the buildings would fetch. The other says 16 times cash flow. Both are standard practice, and the exam expects you to run both.
Publicly traded real estate securities give indirect exposure to property equity, property debt, or both. Three families dominate globally.
- Real estate investment trusts (REITs): companies that own, finance, and to a limited extent develop income-producing property. They qualify for passthrough tax treatment by meeting statutory tests.
- Real estate operating companies (REOCs): ordinary taxable property companies. A business organizes as an REOC when its country has no tax-advantaged REIT regime, when it develops property for sale, or...
- Mortgage-backed securities (MBS): securitized debt representing rights to cash flows from mortgage pools. Residential MBS pools often hold thousands of loans; commercial MBS pools run from roughly 100 loans down...
By market value, real estate debt securities (especially residential MBS) vastly exceed publicly traded real estate equity.
Common mistakes
- Adding gains on property sales. They are subtracted. Turning −$25,000 into +$25,000 moves FFO per share from $3.80 to $4.70, roughly a 24% error.
- Capitalizing reported NOI. Straight-line rent must come out and mid-year acquisitions must be annualized first. Skipping the $7,667 non-cash rent inflates value by about $110,000 thousand at a 7% cap rate.
- Deducting deferred taxes in NAV. Deferred tax liabilities are accounting provisions, not economic debt, and deferred tax assets and goodwill are excluded from gross asset value.
Bottom line
- Three security types: REITs (equity and mortgage), REOCs (taxable, development or service-heavy), and MBS (residential and commercial)
- REIT tests: distribute 90% to 100% of taxable earnings, 75% of assets in real estate, 75% of income from rent or mortgage interest; US adds the 5/50 rule and a 100-shareholder minimum
- NAVPS: market value of assets minus market value of liabilities, divided by shares; excludes goodwill, deferred financing costs, and deferred taxes
- NAV build: reported NOI minus non-cash rent plus acquisition annualization, grown one year, divided by cap rate, plus other tangible assets, minus debt and other liabilities
Exam shortcut
Read the stem for which valuation lane it wants. Cap rate plus NOI means NAV. A stock price plus a per-share cash flow means a multiple. A payout percentage plus growth rates means discounted cash flow or a dividend discount model.
The full lesson (about 2,780 words, 19 min read) adds 2 worked examples, all 5 common mistakes, a self-check, free in the app.
Learning objectives
- publicly traded real estate
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