What is reversion value in real estate?
What is Reversion Value?
In real estate, reversion value refers to the projected value of a property at a future point in time, typically at the end of an investment period or at the end of a forecasted holding period. This value is based on the anticipated sale price or the value of the property when it is expected to be sold or revalued. The calculation of reversion value takes into account various factors such as future cash flows, expected changes in market conditions, potential appreciation or depreciation of the property value, and the prevailing capitalization rates at the time of sale.
In a DCF model, the reversion value represents the terminal value or exit value that an investor expects to receive from selling the property, in addition to the cash flows generated during the holding period. This terminal value is then discounted back to the present value using an appropriate discount rate, which reflects the risk associated with the investment.
Calculating the reversion value often involves estimating the property's net operating income (NOI) at the time of sale and applying a capitalization rate (cap rate) that is appropriate for the property's location, type, and the market conditions expected at the time of sale. The formula is as follows:
- NOI at the time of sale: This is an estimate of the annual income generated by the property, after operating expenses, just before the sale.
- Capitalization Rate: This is the rate used to convert the NOI into an estimated property value. It reflects the investor's required rate of return and the risk profile of the investment.
The reversion value helps investors estimate the total return on a real estate investment, combining both the income generated during the holding period and the expected gain (or loss) from the sale of the property.
