DCF formula: how a real estate DCF works
A DCF values a property by projecting its income for a holding period, adding the sale price at the end, and discounting every amount back to today at the return you require.[1]
The sale price at the end (the reversion or terminal value) is usually estimated with a cap rate: next year's NOI divided by an exit cap rate.[1] In the example, year-11 NOI of $51,198 at 7% gives a sale price of $731,397, or $694,827 after 5% selling costs.
| Part | Present value | Share |
|---|---|---|
| NOI, years 1–10 | $297,784 | 49% |
| Net sale price | $307,312 | 51% |
| DCF value | $605,096 | 100% |
Over half of the value usually sits in the sale, which is why the exit cap rate matters so much.
NPV and IRR at your price
Net present value (NPV) is the DCF value minus the price: positive means the property returns more than your discount rate at that price. The internal rate of return (IRR) is the discount rate at which NPV is exactly zero; measured on NOI and the net sale price, as here, it is a return on the property's total cost.[2] At $600,000, the example's NPV is $5,096 and its unlevered IRR is 8.62%; its going-in cap rate is 7.00%.
Sensitivity: the two numbers that matter most
| Discount rate | DCF value | NPV at asking price |
|---|---|---|
| 7.5% | $649,110 | $49,110 |
| 8.5% | $605,096 | $5,096 |
| 9.5% | $564,919 | ($35,081) |
| Exit cap rate | Sale price | DCF value |
|---|---|---|
| 6.5% | $787,658 | $628,735 |
| 7% | $731,397 | $605,096 |
| 7.5% | $682,637 | $584,609 |
A projection that sells at a lower cap rate than it buys at assumes buyers will pay more for each dollar of income in the future, on an older building. Setting the exit cap rate at or above the going-in cap rate keeps that assumption out of the result. When income is expected to grow, the discount rate is normally above the cap rate.[1]
DCF vs direct capitalization
Direct capitalization (NOI ÷ cap rate, on the cap rate calculator) values one stabilized year. A DCF handles income that changes: a lease-up, a planned renovation, a large expense in year 3. When income grows at a steady rate forever, the two methods give the same answer; the test suite for this calculator checks exactly that case.
Assumptions, not forecastsGrowth, exit cap and discount rate are inputs you choose. The result is only as reliable as they are, and property values can fall.[3]
To include a mortgage and measure the return on your own cash, use the investment property calculator. To build year-one NOI, use the NOI calculator; to compare with a simple cap-rate or GRM value, the rental property value calculator.
Frequently asked questions
What discount rate should I use for real estate?
For investment analysis, your own required rate of return. One way to build it is a near risk-free rate plus a risk premium and a liquidity premium. Running several rates, as in the table above, is more useful than one precise guess.
What is an exit cap rate?
The cap rate used to estimate the sale price at the end of the holding period: the following year's NOI divided by the exit cap rate.
Is DCF value the same as market value?
No. It is the value to an investor who requires your discount rate and believes your projections. Market value comes from what buyers actually pay.
Does this DCF include a mortgage?
No, it is unlevered: it values the property itself. Financing is handled in the investment property calculator.