1. MARKET VALUATION BASED ON DISCOUNTED CASH FLOW ANALYSIS - CONSISTENCY IN ASSUMPTIONS Stellan Lundström Royal Institute of Technology Christina Gustafsson IPD Norden

2. Background 1997 Establishment of the Swedish Property Index in co-operation with IPD A quality control process for index valuations An ambition that assumptions should be consistent

3. Data source 1997 – 2008: 24 000 Valuations – 83 % with DCF technique –All DCF assumptions and results are in a database

4. Main initial observation Valuation accuracy tested to be on a good level. Feed back on DCF parameters raises question about the relevance in assumptions about discount rates, exit yields, rents, vacancies, operations and maintenance

5. Research questions Main question ”How are DCF assumptions related to each other Specific question ”What is the meaning of DCF yields and discount rates when DCF is used for market valuations”

6. The Swedish Leases – short and gross Operation & maintenance cost as % of gross rent Source: IPD Multi National Index Spreadsheet 2008

7. Office rents in Stockholm CBD Source: IPD

8. Initial and long term vacancy rate in valuations Office Stockholm CBD, 1st January 1998 - 2008 = Assumptions in valuations long term = Actual outcome = initial vacancy rate Source: IPD

9. Assumed operations and maintenace costs in relation (%) to actual outcome Sector / Year1998199920002001200220032004200520062007 Retail80818679676572787987 Office91948279696467737888 Industrial82868386787569888986 Residential878691817475 798269 All Properties88898580716971758074 Source: IPD

10. Sector Actual/Valuations NOI Retail 80 Office 91 Industrial 82 Residential 87 All Properties 88 NOI year 2007 Source: IPD

11. 6 6.5 7 7.5 8 8.5 9 9.5 10 5.566.577.58 Valuation yield (exit yield) % Discount rate, % Valuation of Office properties in Stockholm CBD 2004 - Discount rates and exit yields Source: IPD

12. Year Nominal Discount rate Nominal rental growth Implicit Exit Yield Explicit Exit Yield in valuations rg r-g ABA-B 199710.33.07.38.0-0.7 19989.02.66.47.5-1.1 19998.83.05.87.2-1.4 20008.93.45.57.2-1.7 20019.23.16.17.3-1.2 20029.23.16.17.3-1.2 20038.93.85.17.2-2.1 20048.73.65.16.7-1.6 20057.73.54.25.9-1.7 20067.33.83.55.5-2.0 20077.43.93.55.6-2.1 Average 1997-20078.73.35.36.9-1.5 Implicit vs explicit yields Source: IPD

13. Average values for input variables in the valuations 1997-2007 n NOI 0time 8.7 – 3.3 = 5.3 < 6.9

14. Conclusions ”All assumptions are biased – the result is OK!” The same discussion as 30 – 40 years ago Swedish valuers has developed; –An industry standard for valuation –A market monitoring system

15. Implications Valuers - legitimacy Investors – Interpretation of and need for decision support Auditors– new role due to IFRS –Opinion about Market value (fair value) Assumptions behind market value To value ”green buildings” there is a need for more explicit assumptions about NOI