What is Adjusted Funds From Operations ?

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Adjusted funds from operations (AFFO) refers to the financial performance measure primarily used in the analysis of real estate investment trusts (REITs). The AFFO of a REIT, though subject to varying methods of computation, is generally equal to the trust's funds from operations (FFO) with adjustments made for recurring capital expenditures used to maintain the quality of the REIT's underlying assets. The calculation takes in the adjustment to GAAP straight-lining of rent, leasing costs, and other material factors.

Definition

Adjusted Funds from Operations (AFFO) is a key financial performance metric used to analyze Real Estate Investment Trusts (REITs). It is typically equal to the trust's Funds from Operations (FFO), adjusted for recurring capital expenditures necessary to maintain the quality of the REIT's underlying assets.

Origin

The concept of Adjusted Funds from Operations originated from the need for a deeper analysis of the financial performance of Real Estate Investment Trusts (REITs). As REITs became popular in the late 20th century, investors required more accurate metrics to assess their financial health, leading to the introduction of AFFO.

Categories and Features

Adjusted Funds from Operations is primarily used to assess the actual cash flow situation of REITs. Its features include accounting for straight-line rent adjustments, leasing costs, and other significant factors, making it a more accurate reflection of a REIT's true financial condition than FFO. AFFO is mainly applied in long-term investment decisions regarding REITs.

Case Studies

Case Study 1: A large REIT company reported that despite strong FFO performance, high capital expenditures resulted in a more conservative AFFO, helping investors more accurately assess its investment value. Case Study 2: Another REIT company improved its AFFO by optimizing its asset management strategy and reducing recurring capital expenditures, attracting more long-term investors.

Common Issues

Investors often misunderstand the difference between AFFO and FFO, thinking they can be used interchangeably. In reality, AFFO better reflects the long-term financial health of REITs as it accounts for necessary expenditures to maintain asset quality.

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Liquidity Risk

Liquidity risk refers to the potential difficulty an entity may face in meeting its short-term financial obligations due to an inability to convert assets into cash without incurring a substantial loss. This risk is inherent in both financial institutions and corporations, significantly impacting their operational and financial stability.Liquidity risk is often characterized by two main aspects: market liquidity risk and funding liquidity risk. Market liquidity risk is associated with an entity's inability to execute transactions at prevailing market prices due to insufficient market depth or disruptions. On the other hand, funding liquidity risk pertains to the inability to obtain sufficient funding to meet financial obligations.Liquidity risk is not confined to any particular sector, as it is an important consideration across banks, financial institutions, corporations, and even some individual investors. For banks and financial institutions, liquidity risk management is underscored by regulatory frameworks that mandate certain liquidity standards to ensure financial stability and protect depositor interests. Corporations, too, need to be vigilant in managing liquidity risk to ensure they have adequate cash or credit lines to meet their operational and financial commitments. The ability to manage liquidity risk is essential for ensuring it has enough cash on hand to meet its short term needs and obligations.

Zero-Proof Bookkeeping

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Zero-Proof Bookkeeping

Zero-proof bookkeeping is a manual bookkeeping procedure used in accounting in which posted entries are systematically subtracted from an ending balance to check for errors. In zero-proof bookkeeping, a balance of zero when all entries have been subtracted is proof that the accounting entries have been entered correctly. In this way, this practice is quite similar to keeping a balance sheet, which is a common financial statement issued by firms that balances assets with liabilities and shareholder's equity - such that subtracting the left side from the right side of the balance sheet results in a sum of zero.Zero-proof bookkeeping is employed as part of a double-entry bookkeeping system, where credits (liabilities) and debits (assets) are kept track of simultaneously.

Zero-Gap Condition

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Zero-Gap Condition

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Like-Kind Exchange

A like-kind exchange is a tax-deferred transaction that allows for the disposal of an asset and the acquisition of another similar asset without generating a capital gains tax liability from the sale of the first asset.Until the passage of tax legislation in December 2017, that could have included the exchange of one business for another—or one piece of tangible property, such as artwork or heavy equipment, for another. After 2017, a like-kind exchange applies only to the exchange of a business or real estate investment property for another property.

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Identifiable Asset

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Equity Multiplier

The term equity multiplier refers to a risk indicator that measures the portion of a company’s assets that is financed by shareholders' equity rather than by debt. The equity multiplier is calculated by dividing a company's total asset value by the total equity held in the company's stock. A high equity multiplier indicates that a company is using a high amount of debt to finance its assets. A low equity multiplier means that the company has less reliance on debt. The equity multiplier is also known as the leverage ratio or financial leverage ratio and is one of three ratios used in the DuPont analysis.