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Illlustrative analysis of acquisition of 135 Bowery in NYC.

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Of course. Does it generally? No.

The typical expectation for the IRR as the projection timeline is lengthened (say from a 3-year hold to a 7-year hold) is for the IRR to decrease.

However, we need to remember that the IRR is simply the result of math, so if the factors that are reflected in the math cause the IRR to go up instead of go down, it’s still a correct result even though it might not feel that way.

The primary reason that the IRR would rise when the timeline is lengthened is if the exit cap rate is significantly compressed (lower) than the going-in cap rate.

As shown in the embedded spreadsheet example above, if we assume that in the 7-year timeline the next buyer pays a lower going-in cap rate than the original buyer did (6.67% vs. 8.82%), the resultant IRR will be 18.4% vs. the 17.6% IRR for the 3-year hold. (Note: you can download the file by clicking on the Excel icon in the bottom border of the embed window)

A couple things to recognize here — the IRR is impacted by the interim year cash flows, not just by the final residual net sale cash flow, so the 18.4% is achieved in part by these additional operating year cash flows.

The third example in the Excel  shows the IRR decreasing, based on the exit cap rate being the same as the going-in yield.

This raises an important issue — which is, how do we select our future exit cap rate? See here for a great discussion.

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Included in the interview are Bruce’s

Best ever real estate book: Real Estate Finance and Investments: Risks and Opportunities by Peter Linneman, Ph D

Best personal growth experience and what you learned from it: Starting my own business and going through my first few years; every business needs customers… you have to be good at communicating your offering and satisfying your customers and getting them to come back

Best ever success habit your practice: Getting in early to get a couple of hours of work done before emails starting raining down on my head

Best ever deal that you have come across: … Listen to the full interview here

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