ASA Income Approach to Value 1 — Questions and Answers
Question 1: Which capitalization method converts a single year's income into a value estimate by dividing by a rate?
- Direct capitalization (Correct answer)
- Discounted cash flow
- Gross income multiplier
- Band of investment
Correct answer: Direct capitalization
Direct capitalization divides a stabilized net operating income by an overall capitalization rate to produce a value estimate.
Question 2: In the income approach, what does NOI stand for?
- Net Operating Income (Correct answer)
- Nominal Outstanding Interest
- Net Ownership Index
- Normal Operating Index
Correct answer: Net Operating Income
NOI (Net Operating Income) is effective gross income minus operating expenses, excluding debt service.
Question 3: Which of the following is subtracted from potential gross income to arrive at effective gross income?
- Vacancy and collection loss (Correct answer)
- Depreciation
- Debt service
- Capital expenditures
Correct answer: Vacancy and collection loss
Effective gross income equals potential gross income minus vacancy and collection loss allowances.
Question 4: A property generates NOI of $120,000 and the overall capitalization rate is 6%. What is the indicated value?
- $2,000,000 (Correct answer)
- $1,500,000
- $720,000
- $2,500,000
Correct answer: $2,000,000
$120,000 ÷ 0.06 = $2,000,000 is the value indicated by direct capitalization.
Question 5: In a discounted cash flow (DCF) analysis, the terminal value is typically estimated using which technique?
- Applying a terminal cap rate to the final year's projected NOI (Correct answer)
- Summing all undiscounted future cash flows
- Multiplying gross rent by an income multiplier
- Using the cost approach for the reversion
Correct answer: Applying a terminal cap rate to the final year's projected NOI
The terminal (reversion) value is most commonly estimated by capitalizing the projected NOI in the year following the holding period.
Question 6: The band-of-investment technique is used to derive which rate in the income approach?
- Overall capitalization rate (Correct answer)
- Discount rate
- Equity yield rate
- Terminal capitalization rate
Correct answer: Overall capitalization rate
The band-of-investment method weights mortgage and equity requirements to develop an overall (Ro) capitalization rate.
ASA Income Approach to Value 1
Which capitalization method converts a single year's income into a value estimate by dividing by a rate?