Sources and uses
Also called Sources and uses statement, Capitalization of the deal.
A sources and uses statement lists every dollar going into a transaction and every dollar it pays for, and the two columns have to be equal. Uses are the purchase price plus all the costs of closing and funding; sources are the debt and whatever equity is left to fill the gap.
How it works
It is the least glamorous page in a model and the one that determines the equity check. Equity is not price less loan. It is total uses less debt proceeds, and everything between those two definitions is real money that leaves an investor's account on the closing date.
The uses that get left out are consistent. Acquisition costs, meaning title, legal, transfer tax and third-party reports, run around one percent of price on an institutional deal. Financing costs, meaning the loan fee, lender legal, the appraisal and any rate cap, are the most often forgotten because they arrive after the price has been negotiated. Then funded capital, whether that is a renovation budget or deferred maintenance identified in the property condition report, and initial reserves and working capital, and the prorations of taxes, rents and security deposits that settle at closing.
The statement is also where a model's circularities live. Loan proceeds may size off a total cost that includes a loan fee calculated as a percentage of those proceeds. An interest reserve is funded by the loan and accrues interest on it. Both have to be solved iteratively, and a model that guesses at either will produce a statement that does not balance the moment the first interest payment accrues.
Formula
Total uses = purchase price + acquisition costs + financing costs + funded capital + initial reserves. Total sources = debt + equity- Equity = total uses - debt proceeds. It is never the purchase price less the loan
- Any cost the lender funds appears in both columns and must not be counted twice
- Prorations of taxes, rents and deposits move cash at closing and belong here
Worked example
The sample property. $55,900,000 price, $36,335,000 senior loan, acquisition costs at 1.0 percent of price and a 1.0 percent loan fee.
| Purchase price | $55,900,000 |
|---|---|
| Acquisition costs1.0% of price: title, legal, third-party reports | $559,000 |
| Loan fee1.0% of the loan | $363,350 |
| Initial reserves and working capital | $77,650 |
| Total uses | $56,900,000 |
| Senior loan | $36,335,000 |
| Equity required | $20,565,000 |
Price less loan is $19,565,000. The check is $20,565,000, five percent larger, and that extra million is the denominator of every return in the model. Omitting it raises the reported cash-on-cash return from 3.47 percent to 3.64 percent without a dollar of additional income.
Conventions worth knowing
- Build the statement before the returns page rather than after it. A model whose equity is an output of the returns tab has the causation backwards.
- Ask the lender which costs it will fund. Loan fees, interest reserves and capital holdbacks sit inside the proceeds on some term sheets and outside them on others, and the answer moves the equity by hundreds of thousands.
The common mistake
Treating price less loan as the equity
It is the shortcut everybody starts with and it understates the check on every deal, because acquisition costs, lender fees, funded capital and initial reserves are all real wires. The error then propagates: cash-on-cash, equity multiple and IRR all divide by an equity number that is too small, so every reported return is too high, and the shortfall surfaces at closing rather than in the model. The rule is that the denominator is every dollar that left the investor's account, and if the sources and uses balances, that figure is already sitting in it.
Related terms
- Cash-on-cash returnCash-on-cash return is a year's cash flow after debt service divided by the total equity invested. It measures the current income yield on the money actually at risk, ignoring appreciation and any eventual sale.
- Renovation budgetA renovation budget is the funded capital a value-add plan spends to lift rents: the scope and cost per unit, the pace at which units can be delivered, and the rent premium the finished unit is expected to earn. It belongs in the sources and uses at closing, not in operating expenses.
- Loan to costLoan to cost is the loan amount divided by total project cost. It is the leverage constraint used on construction and heavy value-add loans, where the property has no stabilized value to lend against and cost is the only verifiable basis.
- Replacement reservesReplacement reserves are an annual allowance set aside for the periodic replacement of building components that wear out: roofs, HVAC, appliances, parking surfaces, elevators. They smooth lumpy capital spending into a level annual charge.
- Loan sizingLoan sizing is the process of determining the maximum loan proceeds a property supports. A lender runs three independent tests, a loan-to-value cap, a minimum debt service coverage ratio at a stressed rate, and a minimum debt yield, and lends the lowest of the three.
- Capital expenditure versus operating expenseAn operating expense keeps a property running in its current condition and is deducted above the net operating income line. A capital expenditure replaces or improves a component with a life beyond the current year and is deducted below it. Which side of the line an item lands on changes the property's value.
Keep reading
Every figure, traced to its source
Altyst computes these in exact decimal arithmetic, not with a language model, and clicking any number shows the formula behind it.