The Silent Seven: Office Valuation Assumptions Beyond Market Rent and Exit Cap
A few months ago, I completed a valuation for an asset manager on an office asset. The meeting ran long.
We spent most of it on four numbers: market rent, the expense recovery method, the exit cap rate, and the discount rate. Everyone had a view. These are the numbers every reviewer knows how to benchmark against the market.
Those four deserve the attention. But between market rent today and terminal NOI ten years out, the model runs through seven more assumptions that rarely get the same debate: rent growth, expense inflation, absorption, renewal probability, downtime, free rent, and selling costs at exit.
In that meeting, these seven were carried through largely as they came in. Not because anyone was careless. There just wasn't time, and they are harder to argue about than a cap rate. But they were doing just as much work shaping the income that got capitalized and discounted.
Here is what each one was quietly doing, and what they were doing together.
The Silent Seven
The Big Four assumptions set the frame: market rent, recovery method, exit cap rate, and discount rate.
The Silent Seven determine whether the projected NOI can actually be achieved.
Market Rent→Effective Rent→EGI→NOI→Terminal Value→Net Sale Proceeds
1. Market rent growth
Current market rent is widely discussed. Future rent growth can have an equally meaningful impact.
Assume current market rent is $40.00 per square foot.
For 100,000 square feet:
100,000 SF×$2.85=$285,000
That is $285,000 of additional annual gross potential rent in Year 6, before vacancy, free rent, TI, LC, and operating expenses.
A higher growth rate may be supportable for a strong Class A asset. The model should explain why the building can command that future rent. Current office leasing continues to favor higher-quality space. CBRE reported overall U.S. office vacancy at 18.3% in Q2 2026, versus 12.3% for prime office space, a gap of roughly 6 percentage points.
2. Expense inflation
A 3% expense-growth rate is common. But taxes, insurance, utilities, payroll, security, and repairs do not necessarily increase at 3%.
Assume starting operating expenses of $2.0 million.
A 1% annual difference creates a $114,758 Year 5 NOI difference.
At a 7.0% exit cap rate:
$114,758÷7.0%=$1.64 million
of implied terminal-value difference.
Insurance deserves separate attention. A Federal Reserve analysis of apartment buildings found average per-unit insurance costs rose from $39 per month in 2019 to $68 in 2024, an increase of more than 75%, with large geographic variation. Office-specific data is less centralized, but the same cost pressure, driven by climate and reinsurance markets, applies across property types.
3. Absorption period
The absorption period determines when vacant space begins contributing rent and recoveries.
Assume 20,000 square feet of vacancy at $40.00 per square foot.
20,000 SF×$40=$800,000
of annual face rent.
Assume 70% economic realization after vacancy and concessions:
$800,000×70%=$560,000
of annual effective revenue.
If the suite leases 12 months after valuation rather than six months after valuation:
$560,000× 6/12 = $280,000
of effective revenue is foregone in year one, before recoveries.
The appropriate absorption period depends on vacant-block size, suite condition, floorplate, TI requirement, asking rent, comparable leasing, and building quality.
4. Renewal probability
Renewal probability determines whether the model follows a lower-cost renewal path or a more expensive new-lease path.
For a 25,000-square-foot tenant, the difference in TI alone is:
25,000 SF×($60−$20)=$1.0 million
A 75% renewal probability gives more weight to the lower-cost outcome than a 60% renewal probability.
The key question: does the tenant, space, building, and submarket justify that probability? Hybrid-work strategies, tenant-rightsizing, lease economics, competing Class A inventory, and tenant credit all matter.
5. Downtime between leases
Downtime affects rent, recoveries, and the timing of the next cash-flow stream.
Assume a 10,000-square-foot suite at $45.00 per square foot.
10,000 SF×$45=$450,000
of annual face rent.
A three-month difference in downtime equals:
$450,000× 3/12 = $112,500
of delayed base rent.
That excludes lost recoveries, TI, LC, free rent, and carrying costs.
A six-month downtime assumption may work for a move-in-ready, small Class A suite.
It may not work for a 40,000-square-foot block in a dated Class B building requiring material build-out.
6. Free rent and concessions
Face rent is not effective rent.
Assume a 25,000-square-foot tenant signs a 10-year lease at $45.00 per square foot.
A three-month difference in free rent equals:
$45× 3/12=$11.25 per SF
For 25,000 square feet:
25,000 SF×$11.25=$281,250
of additional rent given up.
If the model assumes five months of free rent while recent comparable deals require eight months, projected rent begins three months too early.
That increases effective gross income, NOI, and present value. The market-rent assumption should therefore be paired with an equally credible concession package.
7. State-specific selling costs
Gross Terminal Value−Selling Costs=Net Reversion
Selling costs can include brokerage, transfer taxes, recording costs, title, escrow, legal fees, and jurisdiction-specific charges.
For a $50 million sale:
California is a useful reminder that selling costs vary by location. The baseline county documentary transfer tax is $1.10 per $1,000 of consideration, while some cities impose additional taxes.
A generic selling-cost percentage may therefore overstate net proceeds if state, county, or city charges are not captured.
The Connected Story
The combined effect is:
Higher Revenue + Earlier Lease-Up + Lower Concessions + Lower Expenses = Higher NOI
Then:
Higher NOI÷Exit Cap Rate=Higher Terminal Value
And:
Higher Terminal Value−Lower Selling Costs=Higher Net Reversion
Each input may be reasonable on its own. The model should show why they are reasonable together for the specific office property.
The Silent Seven Stress Test
For each assumption, the reviewer should:
Record the model input.
Identify the current market range.
Document the asset-specific evidence.
Decide whether the input is supported.
Test the value impact if the assumption moves.
The review should answer this question:
Does this asset deserve the position it has been given within the market range?
Example 1: Supported asset story
Illustrative asset: Renovated Class A office building; 85% occupied; 18,000 SF vacancy; transit-oriented location; recent executed leases at higher effective rents; limited near-term Class A competitive supply.
The assumptions above tell a connected story.
The property supports rent growth toward the upper half of the range because it is competitive Class A space. Its smaller vacancy block, suite divisibility, location, and recent leasing activity support a nine-month absorption assumption. Those same strengths support a moderate renewal probability and manageable downtime.
The model places the asset at a supportable point within the market range and explains why.
Example 2: Assumptions that need challenge
Illustrative asset: Dated Class B office building; 70% occupied; 35,000 SF vacancy; limited amenities; major tenant expires in 18 months; higher-quality competing buildings are available nearby.
This is also a connected story, but it points in the other direction.
The property has a large vacant block, limited amenities, a meaningful near-term rollover, and stronger Class A competition. Those facts may make above-range market-rent growth, six-month absorption, six-month downtime, five months of free rent, and a 75% renewal probability difficult to support at the same time.
The model may still retain some of these inputs after further evidence is reviewed. But the valuation should include a downside case that reflects the asset’s leasing and operating risk.
Closing takeaway
Good underwriting makes the full valuation story visible, whatever the inputs turn out to be.
A strong office property may justify higher rent growth, faster lease-up, lower downtime, stronger renewals, and lower concessions. But those assumptions should be supported by property quality, leasing evidence, tenant demand, and market conditions.
At RealAsset Edge, we help real estate teams build and review valuation models, lease-level cash flows, operating forecasts, asset-monitoring reports, and underwriting analysis. The work starts with the details: rent rolls, leases, budgets, operating statements, rollover schedules, and market evidence.
The gap is rarely one input. It is usually the cumulative effect of several assumptions that look small on their own.
Subscribe to my LinkedIn Newsletter - The Gap Sheet for more insights like these.
Comments