Trammel Craw - Investment Opportunity - Case Study Example

Doral Costa Case study Trammel Craw, a real e investment company proposed a development project involving construction of the Doral Costa office park. In this project, Trammel Craw seeks an investment partner and in this case QRS, a public pension scheme is evaluating this investment opportunity. Celia Cabrera has to decide if the investment whether the investment is worth for QRS or it is a loss to the pension scheme which she works for. First she has to determine why Trammel Craw is seeking investment partners. From the case study, Trammel Craw is public company that has been listed in the financial market. Since its listing, its share price has been on the decline. From the information provided, the company’s share value has lost nearly half of its own value since it was listed (Poorvu, Vogel and Segel) This is a major concern that Cabrera ought to investigate. Why the company could want and an investment partner when its financial records are not so good should be the question guiding Cabrera. Evidence suggests that Trammel Craw raises 22% of its revenue from investment activities. As a result, the company has hired 200 personnel to focus on development (Poorvu, Vogel and Segel). The motive of this company, in undertaking development is to increase shareholder’s wealth. This means that they want to regain the initial share value of $22. Therefore, in undertaking this investment venture, Trammel Craw has no ill motive but to benefit itself as well as their investment partners. Cabrera should not be worried about the company’s motive to seek QRS as an investment partner. Another issue to be addressed by Cabrera is how this project puts Trammel Craw at risk since it was not investing any amount into this project. As explained above, this project forms a basis of Trammel Craw regaining its investor confidence since it has lost its share value. Failure to capitalize on this project could deny Trammel Craw that chance. Secondly, Trammel Craw has done a market analysis for first class rental office market. Year Construction rate Absorption rate 1994 250000 500000 1995 250000 275000 1996 240000 600000 1997 600000 700000 1998 300000 1100000 From the information provided, the market is its peak phase. This is well explained through the data provided. The table above shows high demand in the last year compared to the supply available. The major players in the demand of first class are about to enter the market; after their entry, demand is likely to drop significantly. The next year, 1999 is expected to have higher demand. With the reduced construction rate, Trammel Craw has anticipated a surplus on the demand side. This is the opportunity the company is seeking to cross. This means that the market for first class office space was about to attain its full capacity. This is also evident from the vacancy and occupation rates. From the data available on the existing first class office buildings, most of the existing offices are fully occupied with little or no vacancies. This means that no office occupant would want to shift due to the satisfaction they enjoy in their current areas of operation and also the good business in town is keeping them in those offices. This could apply to new tenants. Once they find space, they would not like to shift. All these factors presented the market situation for Trammel Craw. Any delay in the project time could mean that the company could not fill the office spaces in future. The major players in demand of the first class office space are Hewlett Packard Company, Jamaica Airlines, First Union, Sunglass Hut, American Airlines, Carnival Cruise Line and Burger King. All these have realized the business boom in the Miami Port town and wanted to secure a place in the city. As shown in the case study, the location in which the Doral Costa could be set up was among the last construction spaces allowed for by the authorities. A delay in this project could mean that another investor will come in and construct first class office space in the neighborhood. Since these players were setting up business in the city any time from the current date, Trammel Craw risked losing such big clients to other investor if the project delayed any further. This project came in at the right timing owing to the evidence provided in exhibit 3. In the graph, the rete of absorption in the first class office market has been growing over time. For the analyzed period, the construction rate for office buildings has been lower than the absorption rate. This means that the demand for first class office space is slightly higher than the supply. The Airport West Submarket shows that the rate of absorption is increasing and superseding the supply rate. This market segment is ahead of the other markets showing what is likely to happen in future. Exhibit 3 shows the sharp demand arising in the last year from the factors discussed above. It is for this reason that Trammel Craw seeks to venture in this investment to take advantage of the market opportunities. Another risk to be attributed to Trammel Craw is the subordination of its incentives. Trammel Craw had pledged to help QRS to attain an internal rate of return of 15%. This was possible since Trammel Craw offered to sacrifice it incentives for the sake of its development partner, QRS. Had Trammel Craw showed greed and ill motive, they could not have made this offer. They are risking in assisting their development partners recover their investment costs at their own expense. If things failed to go by plan, Trammel Craw risks losing the investment incentive. QRS should seek a national company as a partner in the investment project. This is because most public companies are owned by public individuals and regulated by public companies’ act. On this account, it will be easy for QRS to access the financial documents of Trammel Craw, since they are published annually. Unlike the private companies that may present wrong accounts, public companies are closed monitored due to the public interests. Therefore, Cabrera should not have doubts in choosing a national company since it may not easily be scandalous. If Trammel Craw was to contribute to the project’s equity, it was deemed that this could change the rules of the game. First, it was proposed that QRS needed to contribute 40% of the required capital as equity whereas the remaining percentage was to be borrowed capital. If Trammel Craw had to contribute any amount to the capital, either the capital structure could change or the 40% equity capital could be shared among the two partners. This will result in different rates of return. From the information provided, Trammel Craw was willing to help QRS attain an internal rate of return of 15% on capital. This rate was bound to change, and probably be lower due to the sharing effect. This could mean that QRS would require more time to recover the expenses incurred in financing this investment. On the other hand, the management rights exclusive to QRS were bound to change if Trammel Craw had to contribute to the capital. As proposed earlier, they could share the rent income in the ratio of 25% to 75% with Trammel Craw taking a lesser proportion. With a change in capital contributions, QRS stands at a risk of losing more benefits to Trammel Craw. This revenue sharing ratio is bound to change at the disadvantage of QRS. Therefore, inviting Trammel Craw to contribute capital may not be a good move for QRS. Capital contribution can also can as a security for QRS’ investment in this project. Owing to the fact that Trammel Craw may not take financial responsibilities for any unforeseen eventualities, QRS stands a risk of losses. Contributing to the capital will ensure Trammel Craw exercises care in operation of the project since it will be seeking to safeguard its invested capital. It will also ensure risk sharing between the two investors. In any business, risky ventures have the highest outcome. In this case, QRS will have to risk by being a sole capital contributor to the project for maximum benefit. The location of Doral Costa is another area of opportunity Cabrera should consider. The land on which the Doral Costa will be built is located in a city that is a growing business hub. The city has booming business; with the Miami port being amongst the busiest ports of the world, it is likely to attract blue chip companies in various sectors of the economy (Poorvu, Vogel and Segel). These are probable customers to the first class office suites that QRS seeks to invest in. From the information provided, this project will be located in Miami’s major speedways making it easily accessible. These are critical factors that make the proposed building highly competitive. If Cabrera should think about investing in the land ¾ of a mile from this site, several things are bound to change. This can be illustrated as follows: Since $6994275 could be spend on the Doral Costa site land at the cost $8.99 per square foot, then the total surface of this site = 6994275/8.99 = 778006 square feet. The same size of this piece of land at the new site will cost 778006 * 12 = $9336073 Location Cost of land New site 9336073 Doral Costa site 6994275 Extra amount spent on new site 2341798 The information presented above show that it could be expensive to acquire land in a different location from the current proposed Doral Costa site. As shown in the Miami map, ¾ miles away from this location is still with the central business district of the town. Since the rent rates are significantly similar among the different locations of the town, this new location has no benefit to QRS. By investing in this new location, QRS stands to spend more on land with little associated benefits. For instance, this expenditure is likely to increase expenses and reduce the associated revenue. Table 1 Summarizes comparison between the new location and initial proposed Doral costa location. Item Original location (A) New location (B) Cost of construction 39747324 42089122 The total annual operating cash flows as determined in table C of the case study = $4363000. The accounting rate of return is bound to change in the two circumstances ARR = For case A = 4363000/39747324 = 0.11 or 11% For case B = 4363000/42089122 = 0.10 or 10% This shows that location B is not favorable as it lowers current the rate of return for QRS. The payback period for the two locations can be evaluated to determine their suitability. Payback period = For location A = 39747324/4363000 = 9.1 years For location B = 42089122/4363000 = 9.6 years The above calculation shows that shifting the project to the new location could increase the time required to recover the project costs. The Doral Costa is a good investment opportunity for QRS as it shows good financial results. QRS want to undertake investment opportunities that have a return on equity rate over the lifetime of the investment opportunity is higher than the optimal rate. Based on the information, this investment on Doral Costa has an NPI of 500, which is slightly higher than the recommended NPI (Poorvu, Vogel and Segel). Work Cited Poorvu, W., J.H. Vogel and A.I. Segel. "Doral Costa ." Harvard Business School 20 June 2013. Web. Read More