How to Value Design in Real Estate Development Projects? A Design-Oriented Model Proposal

Traditional models such as Discounted Cash Flow (DCF) form the basis of most commercial real estate development / investment decisions. In these models, a real estate investment project is completely described by a specified deterministic model of expected cash flows with no design or managerial flexibility. The traditional static models such as the DCF model fail to incorporate the dynamics of real estate investment processes. As a result, their application to any real world situation is quite limited. Many investors, therefore, claim to be dissatisfied with these static methods of valuation. This paper introduces a design-oriented valuation model that incorporates the value of the design and flexibility that exist in real estate investments.After a discussion of why traditional models systematically undervalue projects and their shortcomings have been surveyed, Real Options are introduced to address the shortcomings of the traditional models. Real Options Models (ROM) take up a decision theory approach to analyze flexibilities and optimal timing from design perspective.With the help of these relatively dynamic models, real estate investment decisions must take into account the limitations on the ability of the project’s design to defer, abandon, expand, re functioning and phasing capacity. This paper try to show how design opportunities for future decisions can be valued as options and flexibility, how their valuation relates design of project, and their effect on the project whole life cycle.The model is based on both the traditional models and the more recent real options, decision tree and simulation based models. The design-oriented valuation model incorporates elements of all models that are most applicable to design process. This model shows how design-oriented thinking determines the effect of uncertainty and flexibility on investment, how they are changed by design of future profitability, and how the design and investment decisions are related.