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Pro Formas

Home Builder with Merchants Hospitality, Inc.

Creating pro formas for real estate developments, acquisitions, and dispositions can be a demanding undertaking as there are so many factors to consider when analyzing a development project. Adam Hochfelder is a real estate expert that has been working closely with his clients to ensure that their real estate strategy supports their overall business objectives. Being in this business for so long he knows how several calculations can quickly turn into a mess of spreadsheet tabs, formulas, and many sleepless nights. But going through this messy process can be an important step in developing properties. After all, even developers and investors like Adam Hochfelder have to make numerous decisions based on imperfect information and unknown outcomes.

Developing detailed and useful pro forma models doesn’t have to be terribly complicated, although it’s absolutely necessary to do proper due diligence for any project. For starters you need a framework and an understanding of the end goals and polish up an investment-grade pro forma.

The positive thing is that this industry deals with assets that we can touch and see, such as buildings and spaces. This means that compared to other industries, the relative timing of revenues and costs can be understood from a high level. Although it takes time, developing a pro forma around these revenues and costs can be a simple and direct process.

According to Adam Hochfelder, the managing director of Merchants Hospitality, every pro forma has three important elements that follow their design, structure, and use. In case you have a new project and you have a ton of messy information, start with these three pro forma elements.

Essentially pro formas are models that represent what we believe will happen in the future. They are mainly based on assumptions which are unknown at the beginning. But as the project develops, the assumptions get more refined and detailed. A typical example of assumption is the timeline that is when will the key stages of the project start, continue, and end. Initial assumptions of costs are also a great example. At the starting point you can’t definitely determine what are the hard and soft costs associated with construction, design, financing, etc.

Once assumptions are established, the next step is estimating the cash flow. Below Adam Hochfelder has mentioned the typical stages of a project for this part of the pro forma.

Pre-construction and construction includes the expenses in order to produce a finished building or space that’s ready to be leased or sold. Stabilization refers to the estimated revenues and expenses one incurs to operate the stabilized property.

Over time every development is analyzed in regard to its estimated return on investment. Returns allow the developer to understand the possible risks of the project, and compare that risk to other investment options.