Commercial real estate (CRE) is one of the most lucrative investment asset class in the real estate landscape which provides investors with high and stable returns with consistent annual cash distributions through long leases tied up with Grade A tenants. Over and above the lease payments, the lessee bears the common area charges.
How are returns generated for investors through CRE?
1. Annual Gross Yields through monthly rent distributions.
2. Capital growth through appreciation- Location is the biggest factor in appreciation. As a neighbourhood evolves, the value climbs and the best commercial properties are always in demand.
Hence an investor would like to receive annual cash flows from the investment and capital appreciation from the asset when investor chooses to exit.
Before investing in CRE, investors should understand the key investment performance metrics for evaluating CRE investments to make informed investment decisions.
1.Annualised returns or Internal rate of return (IRR) – Technically, is the discount rate that makes the net present value of all investment cash flows zero. In simple terms, it is the rate of growth (or CAGR) of every rupee of your investment. It factors the time value of money and is an excellent metric to compare investments with different timing of cash flows to identify the most profitable one. It is calculated through an XIRR formula in excel.
But Annualized Returns (IRR) used independently does not give the full picture, as it has the following drawbacks. It does not take into account the size of the return and also does not factor the risk of an investment due to the timing of cash flows. Take for example below
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