Shady Trail Harvard Case Solution & Analysis


            This paper attempts to analyze the assumptions and perform the valuation of the Shady trail property. Shady Trail property is basically a distribution center which is located at the West Dallas area and it is one of the industrial properties. The valuation of the property has been performed at a price of $ 4 million which is being offered by the Lonestar bank. The main objective for Lonestar in selling this property is that it wants to get rid of the exposure in the real estate ventures. Recently, there has been a lot of volatility in the real estate market.

            Holt Lunsford is one of the real estate investor who is interested in the valuation of this property in order to purchase it. He has gathered a total equity of around $ 1.2 million and the remaining $ 2.8 million would be raised through a loan from the Lonestar bank with a 6% interest rate and maturity period of 30 years. This paper has evaluated a range of assumptions related to the valuation of the property and its pre-tax internal rate of return calculations.


            First of all, the most sensitive assumptions relative to the valuation of the property have been changed and then the property has been valued on the basis of a number of assumptions.

Changes in Assumptions & their Analysis

            There are several changes that are recommended to be considered in the valuation of the Shady Trail property such as the current base rent of $ 3.9 per square foot does not conforms with the current market rates prevailing for this type of property. Therefore, it is advised that the base rent for the property should be adjusted to a fairer price such as $ 3.25 per square foot and the valuation of the property should be performed on a range of base rents. Furthermore, the vacancy rate currently is 5%, but it does not reflect the local average and the industry average vacancy rates of 7.6% and 9.6% respectively.

            However, as the future growth rates seem to be mildly positive therefore, a growth rate of 7.6% has been set. This would increase the cap rate from 9% to 11.7%. Lastly, the structural reserves for a property of this type are usually 10% to 20% of net operating income or 1% to 2% of the total property value. The current structural reserve seems to be low for the property and it should be increased, but for our valuation, it has assumed to be at same level. It has also been assumed that the lease of the current tenants would be extended for 5 years more at $ 3.9 per square feet.

            If we see the analysis for the current assumptions and two other scenarios in the excel spreadsheet, then it could be seen that as the cap rate, vacancy rate, rent/SF and annual rental growth rate has been adjusted based on the new assumptions, the pre-tax cash on cash return has been declined from 18.58% to 11.28% and the pre-tax return on the $ 1.2 million investment declined from 116% to 35%. These rates were quite high in scenario 2 but significantly lower than the current scenario or current assumptions as stated by Lonestar.

Property Value & Pre-Tax IRR

            Lastly, the valuation of the Shady Trail property has been performed in the excel spreadsheet based on a number of rentals per square foot. The vacancy rate of 7.6% has been used to calculate the adjusted gross income and the capitalization rate of 9% has been used to value the property. From the year 1992 to 2003, the base rent of $ 3.9 per square foot has been used and then for the sixth year of 2004, a range of base rents have been calculated and the valuation of the property has been performed on the total cash flows.

            The management fee and the structural reserve have been assumed to be constant at 13000 and 15000 respectively. The range of valuations of the property can be seen in the excel spreadsheet. The maximum property value that has been calculated is $ 205,095 at a base rent in the fifth year of $ 3.77 per square foot. A maximum pre-tax IRR of 17.09% will be achieved at this base rent........................

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