Terminal Value

Terminal value is what an investment is projected to be worth when the forecast ends. In real estate, it is the sale price at the end of the hold, also called reversion value. It is usually calculated by dividing the following year's projected NOI by an exit cap rate.

If the default house still earns $28,892 of NOI in its final year and the exit cap rate is 6.5%, the terminal value is about $444,500. Grow NOI to $32,000 by then and the same cap rate gives about $492,300.

In most real estate cash flow models, the sale is the largest single cash flow. Moving the exit cap rate from 6.5% to 7% on the same NOI cuts the sale price by about $31,700, more than a full year of income. Careful models test several exit cap rates.