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The topic of ground leases has come up several times in the previous couple of weeks. Numerous A.CRE readers have actually emailed to ask for a purpose-built Ground Lease Valuation Model. And I remain in the procedure of producing an Advanced Concepts Module for our real estate financial modeling Accelerator program covering the mechanics of modeling ground leases. So I thought now would be a good time to share my Valuation Model in Excel.

This design can be used standalone, or included to your existing property-level design. In any case, it is helpful for both landowners aiming to size a ground lease payment or leasehold owners aiming to understand the worth of the leasehold (i.e. enhancements) relative to the fee simple interest (i.e. land).
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Excel design for assessing a ground lease

What is a Ground Lease and Leasehold Interest?

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 genuine estate investor leases the land (i.e. ground) just. When it comes to a ground lease, usually one celebration owns the land (i.e. fee simple interest) while a separate party owns the improvements (i.e. leasehold interest). In a lot of cases, the owner of the land rents the land to the owner of the enhancements for an extended time period (20 - 100 years)."

Leasehold Interest - "In property, a leasehold interest refers to a structure where a specific or entity (lessee) leases the land (i.e. ground lease) from the fee basic owner (lessor) of the land for an extended amount of time. The lessee of a leasehold estate will generally own the improvements on the land and use the land and improvements as if the lessee were the owner of the land. During the regard to the ground lease, the lessee will pay lease 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 common to prime locations, where landowners don't always desire to offer however where they might not have the competence (or desire) to operate. Thus, they rent the land to someone who owns and operates the improvements on the land, and receive a ground lease payment in return. You see this quite frequently with office complex in the downtown core of significant cities.

Another case where you'll run into ground leases are in retail shopping centers. Oftentimes, popular retail occupants choose to construct and own their area but the designer does not necessarily wish to offer the land. So, the retail occupant will agree to rent the ground for 40+ years and build their own structure on the rented land. Banks, nationwide restaurants in outparcels, and big outlet store are examples of tenants that often accept this structure.

Quick Note: Not thinking about DIY analysis? Consider working with A.CRE Consulting to handle your bespoke modeling project.

How to Use the Ground Lease Valuation Model

All sections of the Ground Lease Valuation Model are contained on one worksheet. This is deliberate to enable you to insert this model into your own property-level design to make it simpler to add a ground lease part to your analysis.

All analysis is performed on the tab entitled 'Ground Lease'. A 'Version' tab is likewise consisted of where you can see a change log for the design, in addition to find important links associated with the model.

The Ground Lease worksheet is broken up into seven areas as outlined and described below:

The Residential or commercial property Description area consists of 5 inputs associated to the financial investment. These inputs are:

SF/M2 - In cell I3 get in whether the measure of size is in square feet (SF) or square meters (M2). Residential or commercial property Name - Name of the financial investment. It is common in property to append the name of the financial investment with (Ground Lease) to denote that the investment is for the fee simple 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 number of acres or hectares will than instantly be calculated 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 separate individual or entity. So for instance, you might be thinking about obtaining the arrive at which a Target Superstore is developed. Target owns the building and is leasing the land for some prolonged time period. The total rentable area of the building is the 'Leasehold Net Rentable Area'.

Section 1 - Residential Or Commercial Property Description

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

Ground Lease Start Date - The month and year when the ground lease started. This need to 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 variety of years remaining. The maximum length is 100 years. Based on the ground lease length, the design then determines the Ground Lease End Date (i.e. maturity date). Analysis Start Date - The month and year that the analysis is to begin. This usually 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 examining a much shorter hold period, simply alter the orange font cell I17 to the preferred analysis end date.

Section 2 - Investment Timing

The Ground Lease Terms area includes the organization terms of the ground lease, consisting of payment quantity, frequency, and lease increases. This section includes 5 inputs plus the alternative to by hand model the rent payment quantities.

Initial Payment Amount - The quantity of the first lease payment. Depending on the payment frequency input (see listed below), this quantity may be for an annual or regular monthly payment. Lease Increase Method - The approach used to model rent boosts. This can either be: None - No rent increases. % Inc. - A portion increase over the previous lease quantity. $ Inc. - An amount increase over the previous rent quantity. Custom - Manually design the rent payment quantities by year. If Custom is picked, the yearly rent payment amounts in row 26 become inputs for you to by hand change (i.e. font turns blue). Important Note: If you choose Custom and begin to alter the yearly rent payment amounts in row 26, there is no other way 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 worth of the land (i.e. ground lease), today value of the land (i.e. ground lease), and the imputed worth of the leasehold interest. This area is separated into 3 subsections, with 5 inputs and one optional input across the three 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 in other words, a normal direct cap evaluation of a property financial investment. Inputs consist of: Current Net Operating Income (Annual Before Ground Lease Payment) - Enter the annual net operating earnings derived from renting the improvements, 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 idea being to get to a worth 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 get back 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 cost (i.e. before inflation). Retenanting may consist of easy leasing costs, it might consist of renovation and leasing, or it might include tearing down the structure and rebuilding something new. The concept is to reach a 'Net Reversion Value (Nominal)' after representing the cost to retenant. Reversion Growth Rate (Per Year) - All of the above computations are done before accounting for inflation (i.e. growth). Enter a development rate here, and the 'Net Reversion Value (Nominal)' will be grown to reach a 'Reversion Value (Adjusted for Growth)' utilized as the reversion value in the ground lease present worth estimation. Reversion Value (Adjusted for Growth) - Optional Input. The reversion worth utilized in the ground lease present worth estimation. It is calculated by taking the residential or commercial property value net of any retenanting costs, and after that growing it by a development rate. The value is an optional input in case you want to customize the reversion value.

Discount Rate - The discount rate at which to calculate today worth of the ground lease money circulations. Think of this discount rate as an obstacle rate (i.e. necessary rate of return) for a ground lease financial investment.

Section 4 - Valuation (Fee and Leasehold)

The Ground Lease Returns (Unlevered) section enables you to determine the unlevered (i.e. before financial obligation) returns of a ground lease financial investment. If you are thinking about acquiring a ground lease, it is within this section where you can enter your acquisition/investment cost, and see the matching returns from that investment. The area includes simply one input.

Ground Lease Investment Cost - This is the cost to get land with a ground lease. It ought to consist of the acquisition cost, together with any other due diligence, closing, and pursuit expenses associated with the financial investment.

After getting in the Ground Lease Investment Cost, the section calculates 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 highly reliant on the analysis duration, payment schedule, and reversion worth.
  
  Section 5 - Ground Lease Returns (Unlevered)
  
  The Ground Lease Returns (Levered) area enables you to compute the levered (i.e. with debt) returns of a ground lease financial investment. If you are thinking about acquiring a ground lease and intend to finance the purchase, it is within this area where you can go into the debt presumptions, and see the matching return from that levered financial investment. The section includes 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 amount.
• Annual Rates Of Interest - The yearly rate to be paid on the mortgage. Note that the design presently only enables an interest-only loan.
• Interest-Only Payment (Annual vs. Monthly) - Enter whether the mortgage payment will be due monthly or each year.
  
  After entering the debt presumptions for the ground lease financial investment, the section calculates five return metrics:
  
  - - Levered Internal Rate of Return
• Levered Equity Multiple
• Net Profit
• Average Rate of Return
• Average Cash-on-Cash Return
  
  Similar to the unlevered analysis, the resulting returns are highly depending on the analysis duration, payment schedule, and reversion worth. The quantity and rate of the debt will also heavily drive the levered return. And as a suggestion, in the meantime the model just permits financial obligation with interest-only payments and a balloon at the end of the analysis duration.
  
  Section 6 - Ground Lease Returns (Levered)
  
  The last section is where backend inputs utilized in the different information recognition lists are found. Unless you plan to customize the model, there is no reason to change the values in this section.
  
  Section 7 - Data Validation
  
  Video Walkthrough - Using the Ground Lease Valuation Model
  
  In addition to the written assistance above, I have actually assembled a short video that walks you through the numerous sections of the model. Note that this video is based on v1.0 of the model.
  
  Download the Ground Lease Valuation Model
  
  To make this model accessible to everybody, it is provided on a "Pay What You're Able" basis without any minimum (go into $0 if you 'd like) or optimum (your assistance helps keep the content coming - common property appraisal models cost $100 - $300+ per license). Just enter a price together with an e-mail address to send the download link to, and then click 'Continue'. If you have any concerns about our "Pay What You're Able" program or why we provide our models on this basis, please connect to either Mike or Spencer.
  
  We regularly upgrade the model (see version notes). Paid contributors to the model receive a brand-new download link by means of email each time the model is updated.
  
  Version Notes
  
  Version 2.33
  
  - Rewrote 'Flying Start Guide' with updates and for enhanced readability
• Updates to placeholder worths
• Fix to misspelled word on Version tab
  
  Version 2.32
  
  - Removed redundant information 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 problem where the OFFSET() range in the optional formula for 'Reversion Value' (I59) was missing out on the last cell
  
  Version 2.2
  
  - Revised formula in M26: DG26 to solve for problem when payment is Monthly and not % Inc (thanks to Accelerator member JS for the repair!).
• Updates to placeholder values
  
  Version 2.1
  
  - Updates to placeholder values.
• Added additional notes under 'Flying start Guide' to clarify common confusion around start dates for different sections.
• Misc. formatting updates
  
  Version 2.0
  
  - Moved 'Analysis Start', 'Analysis Period', and 'Analysis End' inputs above Ground Lease dates for enhanced user experience.
• Added a 'Flying Start Guide' to offer a tutorial for using the model.
• Renamed 'Lease Increase Method' to 'Lease Payment Increase Method' for clarification functions.
• Renamed 'Ground Lease Reversion Value' to 'Current Fee Simple Value and Ground Lease Reversion Value'.
• Added 'Investment Term' presumption to enable for financier to examine returns on an Analysis Period shorter than the Ground Lease term - Renamed 'Investment Timing' to 'Valuation Timing' to distinguish 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 formatting to much better separate between Valuations areas 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 commercial realty. He has 20+ years of CRE experience and has underwritten over $30 billion in property throughout top institutional firms.
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