Ch 7
Decision Making in Commercial Real Estate Centers Around Valuation:
§ Valuation calculations are required when a:
considered
§ property acquisition is contemplated
§ structure is
§ modernized
h
§ renovated
§ abandoned
=
a
§ demolished
§ site is developed
§ property is used as collateral for a loan
Value Concepts:
§ Market value:lookingto previoussalesLorhowmoonthepropertywassow andwhatisaverageprice
to pay
inacaram tinsismarketrain
exwhenyouarelooking caramediumsizev§ Most probable selling price, assuming “normal” sale conditions.
#
am
seller
want
orbuyer
over aprice
§ 2 Investment value: ex avillaissellingcon ion marketvaluebut I am as buyer ithinkitworths in
§ Value to a particular individual (investor).
§
Transaction price:The
saleaccures attransactionprice
when themarketvalueofthevilla is ionbutthebuyer
ex ssay
an and
Iwill
pay
youboth agree
§ Price actually paid
for
a specific
property.
Why Do We Have To Estimate Market Value?
§ In markets with perfect competition & investment value revelation, all transactions take
place at true market value
§ In such markets, no need for buyers & sellers to search for “true” market value of an asset;
§ it is continuously revealed by transaction prices of perfect substitutes.
Who Uses Market Value Appraisals? is
endingvalueLorproperty
1) Buyers
2) Sellers
3) Corporate acquisitions, mergers or dissolutions
4) Courtswhen
thecourtwanttodividedueto
§ a Divorces
§ Eminent domain cases when ar takeproperty promcitizen it apply authority
§ c Settlement of estates exRiyadhmetroThey paidforsomecitizenstotakethierproperty
§ Bankruptcy
whensomeone diesandleave
properties
thecourtshould settlehispropertyLorhiswilechild
5) Mortgage Lenders
y
v
it I want to buy a
=
I dont have cash I go
to bank to get a loanAgainst that I older the property
As a security
S
house and
What About Private Real Estate Markets?
§ Every property is unique
§ Unique location
§ Many & varied attributes
§ These unique assets trade in:
§ Illiquid
§ highly segmented & it Iamlooking forvilla andyoushowmeaparmentx
§ informationally inefficient
§ local markets I want villainRiyadhandyoushowmein Koba
a
§ Search costs associated with matching buyers & sellers are significant
-
Implications?
§ Even the few transactions of comparable properties that we do observe may not be
indicative of value of the “subject” property
§ Thus…..we need an army of “fee appraisers” to estimate the market value of real estate
assets
§ Informal vs. formal appraisal?
·
Uniform Standards of Professional Appraisal Practice (USPAP)
maintainer
stonowed
Required
1) Required & followed by all states & federal regulatory agencies
states
and
byappraisal
byanagencies
§ Appraisers are state certified
at
§ MAI designation?
2) Imposes ethical obligations & minimum appraisal standards
3) Maintained by the Appraisal Foundation
§ Non-profit industry group that Congress (in 1989) charged with setting minimum
requirements for all (state) certified appraisers
4) To comply with USPAP, appraisers must follow the following process…
wantit
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aproper
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and
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sensiblemost
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a provable
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highest
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use
any
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must
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considers
tovalveseparatiycrom
important
improvements
a
property
that
that
thepastoneyearandcompareitwith
were
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car
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orsimilar
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cost
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p roper
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in
g ive
and
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generate
discount
based relative
approaches
t hree
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orthe
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approaches rino
when
average
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ss
Sales Comparison Approach:
1) Basic Idea: we compare those property they weresold recently or thepastoneyear
§ Value of RE can be determined by analyzing the sale prices of similar properties
2) Why?
§ In a competitive market, close substitutes should sell for similar prices
3) Major difficulty?
§ How many truly close substitutes exist & how many of these have sold recently?
Steps in Sales Comparison Approach:
⑭
attributes
noose
what
seem
to
matter
most
1 size
alotsize
house
sage allocation Selecting Comparable Sales:
1) Must be properties that prospective buyers would consider substitutes
2) Should be arms-length transactions
§ Fairly negotiated prices that occurred under “normal” conditions
§ For example, not a distressed sale
3) Select to minimize required physical and locational adjustments
Selecting Comparable Sales:
1) Data sources:
§ Public records (e.g., county property tax assessor)
§ Multiple listing service
§ Private vendors (title companies, others)
§ CoStar for commercial properties
2) Importance of personal relationships
3) Fee appraisers are researchers!
Adjustments to Comparable Sale Prices:
§ Goal?
Convert characteristics of each comparable to an approximation of subject.
Adjustments to Comparable Sale Prices:
- Sequence of adjustments
§ Transactional adjustments
§ Property adjustments
of
=>
2
Didentilyelement
comparisons
valueadjustment
selectcomparablesales
1) Transactional Adjustments
§ Concern the nature & terms of the deal
§ Property rights conveyed
§ If buyer of comparable purchased a different legal estate, should
be dropped
§ Financing terms it i is nigh Pe
§ ex,., below rate financing
§ Conditions of sale (arm’s length or not?)
§ Parents sell to daughter
§ Expenditures made immediately after purchase
§ Buyer probably received price concession
§ Market conditionscorona
§ i.e., changes in values since sale of comparable
2) Property Adjustments
§ Location
§ Physical characteristics
§ Economic characteristics (not applied to residences)
§ Important economic characteristics of income producing properties:
operating expenses, lease terms, tenant mix
§ Use
§ If comparable use if different from best use of subject, better not use as a
comparable
Sequence of Adjustments:
§ Transactional adjustments 1st…in order listed above
§ Property adjustments 2nd…in no particular order
§ Caution: mixing dollar & percentage adjustment
Example of Sales Comparison Approach:
§ Of average quality construction, home was in good condition at time of inspection
§ Floor plan & items of equipment are typical for this class of property
Info on Four Comparable Sales:
(1) One year ago a 2,400 sq. ft. property not adjacent to freeway sold for $160,000.
Improvements were nearly identical to subject dwelling in all but size.
(2) This year a 2,400 sq. ft. property not adjacent to freeway sold for $150,500. This dwelling
was highly similar to subject in all respects except for size.
(3)
A 2,000 sq. ft. property not adjacent to the freeway sold 1 year ago for $150,000. These
improvements are highly similar to subject.
(4)
A 2,400 sq. ft. property sold this year for $140,300. Located adjacent to the freeway, it
was very similar to subject except for size.
In the Real World...:
§ In "real life" situations, indicated values never line up identically as in above example
§ How many attributes of the homes should appraiser attempt to price?
§ Take a look at Exhibits 7-8 & 7-12
Cost Approach:
§ Procedure
Estimated reproduction cost of improvements
− Estimated accrued depreciation
= Depreciated cost of building improvements
+ Estimated value of site
= Indicated value by the cost approach
What kind of property we cannot find sale
comparism or incomeapproach
1school universities
toApply
2 historical
3Mosques
Major Assumption?:
Cost of creating a property is related to its market value
Cost Approach (continued):
§ Two concepts of cost:
I have oldvillaand I ask them to replace it sotheybuildsotheybuildsimilarvilla
1) Replacement cost: when
withequalvalidity newtech itcouldbelittlebetter
§ Cost to create something of equal utility (functionality)
2) Reproduction cost: costvery high
haramexpansion
s Always for historicalplacesexAl
§ Cost of an exact physical replica
§ Complication in application?
>
§
§
Methods to estimate replacement cost
§ Quantity survey method howmany semint bag dowe need
§ Cost per square foot or cubic footpriceperloot
§ Unit in placehowmuchdoorswindows
Sources replacement cost estimates
§ R.S. Means www.rsmeans.com
§ Marshall and Swift www.marshallswift.com
§ Consulting firms
§ Builders/contractors
5
niggah
Accrued Depreciation:
§ Not tax depreciation
§ Difference between replacement cost & market value of improvements
§ Types of accrued depreciation that must be considered:
1. Physical deterioration Doorsarebroken
Loss in market value due to aging, decay & ordinary use
can
notuse
we
2. Functional obsolescence
Loss in value due to changes in tastes, preferences, technological innovations, or market
standards
-
3. External (economic) obsolescence itis toomuchnoise alotofroadshasbeenbuiltthier itishardtolivethier
Loss in value due to changes beyond property boundaries (neighborhood effects)
§ Increased traffic congestion in area
§ Conversion of residential neighborhood from owner-occupied to rental
§ Environmental issues
§ Decline in desirability/demand fro neighborhood
§ Is it hard to estimate accrued depreciation?
Appraisal Assignments Where Cost Approach is Heavily Weighted?:
1. New buildings nothingsimilar
to it before
2. Insurance appraisals when a housecough
thlireitgotdamagestheinsurancewanttoknowthevalue
3. Specialty buildings schools churches
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