MGMT E2035 Principles of Real Estate Lecture 1

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MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Lecture 1: Introduction September 2, 2015 Teo Nicolais mgmte 2035@dce. harvard. edu © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Lecture 1: Introduction “Lets it started in here. . . ” -Black Eyed Peas (anxious to start their Harvard Extension School course) September 2, 2015 Teo Nicolais mgmte 2035@dce. harvard. edu © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Introduction: 1. 2. 3. 4. 5. 6. Welcome and Introductions What is Real Estate? Reasons to Fall in Love Real Estate The Goals of This Course Tips for Making the Most of this Course Logistics © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 A few words about who we are… #Harvard. Real. Estate Annie Administrative TA Jeff Section TA and Grader © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? What is Real Estate? Instructor: Teo Nicolais September 2, 2015 Structures Physical Land …and everything that happens on the land within the structures! © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Introduction: 1. 2. 3. 4. 5. 6. 7. Welcome and Introductions What is Real Estate? Reasons to Fall in Love Real Estate The Goals of This Course Special Characteristics of Real Estate Course Logistics Who Becomes Successful Real Estate Investors? How do they start? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Reasons to Fall in Love Real Estate 1. Real Estate presents us with intriguing questions on every street corner. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Real Estate presents us with intriguing questions on every street corner. Why is this coffee shop located at this specific spot? Why not a mattress store? Coffee shop will be more profitable than a mattress store at that location. In fact, a coffee shop will be more profitable than any other type of store at that location. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Example: The Market for Coffee (Insights from Tim Hartford’s “Undercover Economist”) What do you think is the average cost of producing a Grande Latte in the United States? A: $0. 75 B: $1. 69 C: $2. 44 Answer: B: $1. 69 1 Wall Street Journal 09/04/13, 2 Wall Street Journal 03/01/13 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Example: The Market for Coffee (Insights from Tim Hartford’s “Undercover Economist”) Cost to Produce a Grande Latte in the US 1: $1. 69 On average, how much of a mark-up does Starbucks charge at its New York locations? A. Cost + 93% (i. e. charges almost double its production cost) B. Cost + 172% C. Cost + 254% Answer: 1 Wall Street Journal 09/04/13, 2 Wall C: 254% Street Journal 03/01/13 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Example: The Market for Coffee (Insights from Tim Hartford’s “Undercover Economist”) Cost to Produce a Grande Latte in the US 1: $1. 69 Average Price of Grande Latte in New York 2: $4. 30 Profit* Mark-up $2. 61 254% Why can Starbucks charge such a huge mark-up? Location, Location! 1 Wall Street Journal 09/04/13, 2 Wall Street Journal 03/01/13 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Reasons to Fall in Love Real Estate 1. Real Estate is everywhere and touches every part of our lives. 2. Real Estate reveals and informs other markets. 3. Real Estate is the ultimate interdisciplinary industry. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Real Estate Projects Involve…. Arc hite De ctura sig n l ring ee Engin Project Management Demographics Fin anc e r me o t s Cu rvice Se nning Interior Design Pla Urban © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Don’t Laugh, Real Estate Development Can Be Harder Than You Think! https: //www. youtube. com/watch? v=Rc. L 6 Dw. Suf. MI (Ok, you can laugh…) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Don’t Laugh, Real Estate Development Can Be Harder Than You Think! Google: Las Vegas Vdara Hotel “Death Ray” © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Reasons to Fall in Love Real Estate 1. 2. 3. 4. Real Estate is everywhere and touches every part of our lives. Real Estate reveals and informs other markets. Real Estate is the ultimate interdisciplinary industry. Real Estate is one of the largest asset classes in the world. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 U. S. Capital Market Sectors: a $70 Trillion Pie. Real estate represents over 1/3 of the value of the investable capital assets in the US. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Reasons to Fall in Love Real Estate 1. 2. 3. 4. 5. Real Estate is everywhere and touches every part of our lives. Real Estate reveals and informs other markets. Real Estate is the ultimate interdisciplinary industry. Real Estate is one of the largest asset classes in the world. Because the economics of Real Estate are scalable, investors of any size can participate. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Goals of This Course By the end of this course, our goal is to help you… Think like a real estate investor. Have a clear, intuitive understanding of the key financial and managerial concepts at play in the real estate world. Create financial projections and analyze investments. Develop an action-oriented plan to enter or grow in the industry. …and we want this to be the best course you’ve ever taken. (Seriously) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Goals of This Course Theoretical Approach You Real Life Experience Approach © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Tips for Making the most of this Course Ask questions. • “Who cares about this? ” • “Is that how it works in real life? ” Reflect on how the lessons we cover apply to your market and career. Get to know your classmates…. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Connect with Your Classmates on Facebook (Optional)… Facebook Group for MGMT E-2035 & MGMT E-2037: https: //www. facebook. com/groups/908121689231849/ © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Connect with Your Classmates on Facebook (Optional)… Facebook Group for a Student Group You Definitely Need to Check Out: https: //www. facebook. com/heerea? fref=ts © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Follow and Share Real Estate News with the World on Twitter (Optional)… #Harvard. Real. Estate © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 John Steinbeck on the importance of wonder in understanding land: “[Not stopping to think about the land ] is easy and efficient. So easy that the wonder goes out of work, so efficient that the wonder goes out of land the working of it, and with the wonder the deep understanding and the relation. ” © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Something to Wonder About… According to this information, where is it most profitable to sell Starbucks Coffee? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Something else to wonder about…. What does is the role of real estate in other markets? Q: What Business in Mc. Donalds in? #Harvard. Real. Estate © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Wait, Do Rents Drive Prices or Do Prices Drive Rents? How does Rent Really Work? Ricardo’s Law of Rent “The price of corn is not high because a rent is paid, But rent is paid because corn is high. ” -David Ricardo On the Principles of Political Economy and Taxation (1817) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 What Exactly is “Rent”? “A tenant’s payment to a landowner for the use of property or land. ” Why Would Someone Pay to Use a Specific Land? Because they need to use it! What Do They Need to Use it For? ? • Profit Directly from it (i. e. operate a business on the land) • Profit Indirectly from it (i. e. gain access to a nearby job or school) • Profit Socially / Spiritually (enjoy the space…yes, you can put a price on that) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Ricardo’s Law of Rent – An Example Superior Land Average Land What attribute are most interested in comparing? (i. e. In what way is land said to be “Superior” or “Average”? ) We are comparing the productivity of each parcel of land. (Remember: Productivity = output per unit of input) Higher Productivity Higher Output per Acre Higher Profit per Acre © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land Assume that…. Average Land One acre of Superior Land produces 10 bushels of corn per year. One acre of Average Land produces 6 bushels of corn per year. The price of corn is $10. 00 per bushel. Regardless of the quality of the land, it costs $40. 00 per acre to harvest corn (including the farmer’s minimum required profit). What can we conclude about the profitability of Superior Land? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land Average Land What can we conclude about the profitability of Superior Land? All other things equal, Superior Land is more productive, more profitable, and therefore more desirable than Average Land. So…. how much should we be willing to pay to use the Superior Land? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land Average Land Fundamental Pricing Principle: What is the next best alternative to renting the Superior Land? How much better off might would I be paying _____ rent for Superior Land as compared to paying no rent for the Average Land? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Option A: Pay Rent so you can grow on Superior Land. Option B: Settle for Average Land (pay no rent). Q: How much is a renter willing to pay for Superior Land? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Remember…. Average Land 6 Bushels per Year Rent = Free One acre of Superior Land produces 10 bushels of corn per year. One acre of Average Land produces 6 bushels of corn per year. The price of corn is $10. 00 per bushel. Regardless of the quality of the land, it costs $40. 00 per acre to harvest corn (including the farmer’s minimum required profit). © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Option B: Profit Analysis of One Acre of Average Land Revenue: Expenses: Profit: (6 Bushels x $10. 00 per Bushel) = $60. 00 Harvesting Costs -$40. 00 + $20. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Option A: Profit Analysis of One Acre of Superior Land Revenue: (10 Bushels x $10. 00 per Bushel) = $100. 00 Expenses: Harvesting Costs -$40. 00 Profit before Rent: +$60. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Q: How much is a renter willing to pay for Superior Land? Option A: Pay Rent so you can grow on Superior Land. Option B: Settle for Average Land (pay no rent) A: The highest rent such that… Profit from Option A ≥ Profit from Option B Profit from Superior Land – Rent ≥ Profit from Average Land © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Option B: Profit Analysis of One Acre of Average Land Revenue: Expenses: Profit: (6 Bushels x $10. 00 per Bushel) = $60. 00 Harvesting Costs -$40. 00 + $20. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Q: How much is a renter willing to pay for Superior Land? A: The highest rent such that… Profit from Superior Land – Rent ≥ Profit from Average Land ($20. 00) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Option A: Profit Analysis of One Acre of Superior Land Revenue: (10 Bushels x $10. 00 per Bushel) = $100. 00 Expenses: Harvesting Costs -$40. 00 Profit before Rent: +$60. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Q: How much is a renter willing to pay for Superior Land? A: The highest rent such that… Profit from Superior Land ($60. 00) – Rent ≥ Profit from Average Land ($20. 00) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Q: How much is a renter willing to pay for Superior Land? A: The highest rent such that… Profit from Superior Land ($60. 00) – Rent ≥ Profit from Average Land ($20. 00) Therefore…. $40. 00 ≥ Rent © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Example 1: If Superior Land could be rented for $35. 00, which would you prefer? Option B: Profit Analysis of One Acre of Average Land Revenue: Expenses: Profit: (6 Bushels x $10. 00 per Bushel) = $60. 00 Harvesting Costs -$40. 00 + $20. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Example 1: If Superior Land could be rented for $35. 00, which would you prefer? Option A: Profit Analysis of One Acre of Superior Land Revenue: (10 Bushels x $10. 00 per Bushel) = $100. 00 Expenses: Harvesting Costs -$40. 00 Profit before Rent: +$60. 00 Minus Rent -$35. 00 Profit After Rent: $25. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Example 2: If Superior Land could be rented for $39. 00, which would you prefer? Option B: Profit Analysis of One Acre of Average Land Revenue: Expenses: Profit: (6 Bushels x $10. 00 per Bushel) = $60. 00 Harvesting Costs -$40. 00 + $20. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Example 2: If Superior Land could be rented for $39. 00, which would you prefer? Option A: Profit Analysis of One Acre of Superior Land Revenue: (10 Bushels x $10. 00 per Bushel) = $100. 00 Expenses: Harvesting Costs -$40. 00 Profit before Rent: +$60. 00 Minus Rent -$39. 00 Profit After Rent: $21. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Example 3: If Superior Land could be rented for $40. 00, which would you prefer? Option B: Profit Analysis of One Acre of Average Land Revenue: Expenses: Profit: (6 Bushels x $10. 00 per Bushel) = $60. 00 Harvesting Costs -$40. 00 + $20. 00 © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Example 3: If Superior Land could be rented for $40. 00, which would you prefer? Option A: Profit Analysis of One Acre of Superior Land Revenue: (10 Bushels x $10. 00 per Bushel) = $100. 00 Expenses: Harvesting Costs -$40. 00 Profit before Rent: +$60. 00 Minus Rent -$40. 00 (Point of Profit After Rent: $20. 00 Indifference) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 How Should an Operator Decide How Much Rent to Pay? Superior Land 10 Bushels per Year Rent = ? Average Land 6 Bushels per Year Rent = Free Q: How much is a renter willing to pay for Superior Land? A: The highest rent such that… Profit from Option A ≥ Profit from Option B Profit from Superior Land – Rent ≥ Profit from Average Land So where are the profits from the increased productivity of Superior land really going? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Something to Wonder About: Do Rents Drive Price or Do Prices Drive Rents? © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Wait, Do Rents Drive Prices or Do Prices Drive Rents? How does Rent Really Work? (Insights from Tim Hartford’s “Undercover Economist”) Cost to Produce a Grande Latte in the US 1: $1. 69 Average Price of Grande Latte in New York 2: $4. 30 Profit Mark-up Profit as a % of Price $2. 61 254% 60. 7% Do you think Starbucks making a huge profit here? According to the Wall Street Journal, profit accounts for just 18% (not 60. 7%) of the market price. What accounts for the rest? Rent! © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Wait, Do Rents Drive Prices or Do Prices Drive Rents? How does Rent Really Work? Ricardo’s Law of Rent “The price of corn is not high because a rent is paid, But rent is paid because corn is high. ” -David Ricardo On the Principles of Political Economy and Taxation (1817) © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Real Estate Projects Involve…. Arc hite De ctura sig n l Project Management Demographics Fin anc e r me o t s Cu rvice Se © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Key Insights So Far… 1. Ricardo’s Law of Rents i. The Rent charged for a piece of land depends on it’s ability to produce profits (it’s “productivity”) for the operators of the land. Note: This can be direct profits (i. e. crops grown on the land) or indirect profits (i. e. proximity to a well paying job). © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Key Insights So Far… 1. Ricardo’s Law of Rents i. The Rent charged for a piece of land depends on it’s ability to produce profits (it’s “productivity”) for the operators of the land. ii. The Rent charged for a piece of land also depends on its productivity relative other pieces of land for the same activity. © 2015 Teo Nicolais

MGMT E-2035: Principles of Real Estate Lecture 1: Do Rents Drive Prices or Do Prices Drive Rents? Instructor: Teo Nicolais September 2, 2015 Next Time in MGMT E-2035…. . New Insight: Land Can Have Many Different Uses © 2015 Teo Nicolais