There are two methods in the income approach valuation. One is Direct Capitalization method, and the other is the Discount Cash Flow. With direct capitalization models, value estimates are based on a ratio or multiple of expected first year NOI. In the income approach, appraisers for first year estimated the periodic income of the property then convert the income forecast into value estimate. This method divides a single year’s net operating income by an appropriate overall capitalization rate, also known as the “going-in” cap rate, which is extracted from comparable sales in the current market. The indicated value of the subject property is determined by: Value = NOI1/R0, where R0 is the overall cap rate or “going-in” cap rate, NOI1 is the first year net operating income. The bond of investment method , Mortgage –equity rate analysis recognized that the NOI produced by a property represents the initial return on the total acquisition price of the property. Mortgage-equity rate analysis assume the investor’s minimum required cap rate is weighted average of the required cap rate on debt financing and the required cap rate on equity financing; Ro=MRm+(1-m)Re, Re=BTCF/Ve. The summation technique is add of the inflation, real return based on Treasury bill, risk premium and recapture premium. In the finally, General constant growth formula is that capitalization rate equals the subtraction of inflation growth rate form IRR on the equity. To get appropriate cap rate, these cap rate can be adjusted by reconciliation method.
The discounted cash flow method is the projection of the property’s annual net operating income over standard holding periods and discounts them back to present value of before tax cash flow by using the required yield or discount rate. Then with income from the sale of property at the end of the projected holding period, the total value is estimated. The incomes are discounted to present value utilizing the investor’s required rate of return to get the indicated value of subject property.
