THE PRO FORMA
What Is It & What Should it Do?
Investopedia says: "Pro forma means “for the sake of form” or “as a matter of form." When it appears in financial statements, it indicates that a method of calculating financial results using certain projections or presumptions has been used.
I Say: The ability to "run the numbers" for any monetary transaction requires Financial Literacy and is critical to functioning on any level in the Real Estate Industry.
Anyone involved with CRE needs to be able to "speak" its Language, understand and apply its Metrics and have a reliable Pro Forma they know how to use so that they can perform underwriting analysis.
The importance of the statement above cannot be over emphasized. I can't count the times I have seen folks waaaay too deep into their "Project" without having the slightest idea of the deal's performance on its most basic levels.
They are speaking with contractors, having site or building plans designed and spending time and money in a process that I call the "Illusion of Progress". No substantial actions should be taken with 3rd Parties without knowing what the deal costs or what it needs to be worth in order to cover all cost and a generate a target profit.
Defining and Analyzing Highest & Best Use through Preliminary Underwriting through Pro Forma Analysis is Step 1. Financial Feasibility and Performance form the basis of ALL of the negotiations and contracts the developer enters to execute the contact. Not the least of which is the Purchase and Sale Agreement for the Land upon which the Project rests.
Conducting Pro Forma Analysis is without a doubt one of if not THE primary step after a Site has been identified. Defining Highest & Best Use and its financial performance is needed to determine a go/no go decision and creates a Base Pro Forma.
The Base Pro Forma is needed to establish a purchase price for the Land that reflects and supports the value established as its Highest & Best Use.
All of the information needed to learn the language, metrics and conduct pro forma modeling is readily available in many places on the internet. And you can also find all of the unabridged works of William Shakespeare in a box of Alphabet Cereal.
The offered Courses, tools and services are designed to provide you with what you need to learn and apply development skills in the shortest time with the least pain and effort.
The pro forma tool provides a clearly understandable set of reports on the most critical factors associated with Project Analysis.
It gives a 30,000 foot view of the "sights" everyone needs to see when they run the numbers. When I do pro forma analysis, I want to know:
Project and Stakeholder Deal Performance 1 Year after Rent Up- Debt/Equity, Income, ROE [Return on Equity, aka cash on cash, ROI [Return on Investment (Cost)] & EM [Equity Multiple]
Project and Stakeholder Deal Performance at Sale After an assumed Holding Period- Rent Up- Debt/Equity, Income, ROE [Return on Equity, aka cash on cash, ROI [Return on Investment (Cost)] & EM [Equity Multiple]
The Cost for Major the Major Line Items- Land, Site, Hard, Soft & Finance and Carry Costs reported on Project and Stakeholder Levels [the Developer and its Investors] expressed as Cost in Total $, Per Unit, Per Square Foot of NRA (Net Rentable area) and as percentage of Total Cost.
All of these elements represent the vital organs of a project. The importance of being able to see them in this way and to test their sensitivity to "tweaking" Key Variables like Rental Income, Expenses and Exit Cap Rate cannot be overstated.
THE DEVIL'S IN THE DETAILS
The Data noted above are Recaps that are driven by a great deal of detail. For Example, Soft Cost, Operating Expense and Hard Costs often has dozens and in some cases hundreds of Line Items.
The introduction of Time to development phases requires cash flow worksheets that produce the industry-wide metrics required to define performance.