There are many types of ‘return’ you may hear when coming across your first (or even second or third commercial property investment). One of the most common when comparing multiple investments is the annualised return.
There are many types of ‘return’ you may hear when coming across your first (or even second or third commercial property investment). While yield and total return are perhaps the most common, there’s another which is used by property professionals that you’ll want to be accustomed to when choosing which property investment company to invest alongside. This type of return is called the annualised return.
Also known as the compound annual growth rate (CAGR), the total annualised return is useful when you want to see an investment’s annual return over a period of time or compare one investment’s performance against another’s. Maybe the investment was held for two years, eighteen months, maybe it was only held for eight months. But you want to see the return it provided on an annual basis. In comes the annualised return.
What is the Annualised Return?
The annualised return is the average of annual returns over the investment period.
It evidences the performance of an investment, typically using the buy and sale prices (or prospective sale price) over the total time you’ve held the investment.
Importantly, because the total annualised return standardises the holding period into one year, you can compare the return on investment for two or more investments which have different holding periods.
Annualised Return formula
Working out the annualised return can be done in two ways, depending on the information you have on hand.
Let’s say you’ve owned a stunning office asset in Sydney’s western precinct for the last two and a half years (that equals 912 days). You bought it for $10 million and have agreed on a sale price of $15 million. Not a bad capital appreciation in 30 months.
So, what’s the annualised return?
We’ll use the below formula:
Annualised return = ((Sale price / Purchase price) ^ (365 / # days held)) – 1
So, we’d calculate the annualised return as:
Annualised return = (($15m / $10m) ^ (365 days / 912 days)) – 1 = 17.61%
This is very handy when comparing two investments to see which has performed best.
Say, you’re also considering divesting an industrial logistics asset in Queensland for $38 million. You purchased it seven years ago for $20 million. The investment value has nearly doubled. What a result.
But you don’t want to offload both the office asset and the logistics asset. You want to enjoy the passive income from at least one investment. So, which one will you choose to divest?
For this example, let’s use years instead of days:
Annualised return = (($38m / $20m) ^ (1 year / 7 years)) – 1 = 9.6%
Interestingly, despite the additional $13 million in capital gain the industrial logistics investment has provided you, it’s the office asset that has provided a far substantial annualised return over its holding period. It’s by far the better performing of the two investments.
There are of course mountains of data and considerations needed before choosing which of these investments to divest. And it depends on your investment strategy and forecasting: Is passive income your priority? Or capital appreciation?
Either way, you can now see how calculating an annualised return can help with such decisions.
Properties & Pathways is a dynamic commercial property investment company. Our completed syndicates have provided investors an average annualised return of 19%. For more information on how you can invest alongside us, get in touch today.
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