Cost Approach Flashcards
3 Methods of Cost Estimating
- Comparative-Unit Method
- Unit-In-Place Method
- Quantity Survey Method
Comparative-Unit Method of Costing
It is the simplest, quickest, least complicated, and most used method of estimating costs. However, it is alas the least accurate method of estimating costs. Costs are computed on a per square foot or per cubic foot basis using costing services such as Marshall & Swift and RSMeans.
Example: Cost estimates for Class A office space might be $140 per square foot, and cost estimates for Class C warehouse space might be $60 per cubic foot.
Unit-In-Place Method of Costing
Costing method where total building cost is estimated by adding together the unit costs for the various building components. Costs are computed based on the quantity of materials used plus the labor involved in assembly.
Example: Flooring costs might be estimated at $80 per square foot of floor area, and drywall costs might be estimated at $50 cost per lineal foot of wall area.
Quantity Survey Method of Costing
Costing method that estimates and applies the quantity and quality of all materials used and all categories of labor required. It is the most comprehensive, detailed, and accurate method but requires extensive knowledge and ample time to complete. It is more likely to be applied by a contractor or professional cost estimator than an appraiser.
3 Methods of Estimating Depreciation
- Aged-Life Method
- Market Extraction Method
- Breakdown Method
Aged-Life Method of Depreciation
(Formula)
- Effective Age / Total Economic Life = % of Deprecation
- % of Depreciation X Costs New of Improvements = $ Amount of Deprecation
Example: A building would cost $220,000 to build new today. The estimated effective age is 15 years and the estimated total economic life is 60 years.
- 15 / 60 = 25% Depreciation
- $220,000 x 25% (0.25) = $55,000 Depreciation
3 Methods of Determining Land Value
- Extraction Method
- Allocation Method
- Land Residual Method
Extraction Method of Determining Land Value
(Definition and Formula)
A method of estimating land value in which the depreciated cost of the improvements on the improved property is estimated and deducted from the total sale price to arrive at an estimated sale price for the land.
Example: An improved property recently sold for $250,000. The improvements have accrued 60% depreciation since they were originally constructed, and has been estimated cost of $280,000 to rebuild new. What is the value of just the land?
- $280,000 (Cost New) x 60% (Depreciation) = $168,000
- $280,000 (Costs New) - $168,000 (Depreciation) = $112,000 (Depreciated Value of Improvements)
- $250,000 (Sale Price) - $112,000 (Depreciated Value of Improvements) = $138,000 (Value of Land)
Allocation Method of Determining Land Value
(Definition and Formula)
A method of estimating land value in which sales of improved properties are analyzed to establish a typical ratio of land value to total property value and this ratio is applied to the property being appraised or the comparable sale being analyzed. The basic assumption in the Allocation Method is that there is a normal or typical ratio between the land value and total value. So we estimate the value of the land by applying this ratio to total value (or sales price).
Example: An improved property recently sold for $250,000. Research has indicated that improvements are typically 60% of the overall value of the property. What is the value of just the land?
- 100% (Total Value) - 60% (Ratio of Improvements to Value) = 40% (Ratio of Land to Value)
- $250,000 (Sale Price) X 40% (Ratio of Land to Value) = $100,000 (Value of Land)
Land Residual Method of Determining Land Value
(Definition and Formula)
A method of estimating land value in which the net operating income attributable to the land is isolated and capitalized to produce an indication of the land’s contribution to the total property. The land and the building are typically capitalized at different rates because buildings depreciate over time while land does not
Example: An improved property has a Net Operating Income (NOI) of $100,000. We were able to determine that the appropriate cap rate to be applied to the building improvements only was 11%, and the building value was determined to be $800,000. Further research indicates that someone investing in land only would typically expect a 6% return on their investment. What is the value of just the land?
- $800,000 (Building Value) x .11 (Building Cap Rate) = $88,000 (NOI of Building Only)
- $100,000 (Total NOI) - $88,000 (NOI of Building Only) = $12,000 (NOI of Land Only)
- $12,000 (NOI of Land Only) / .06 (Land Cap Rate) = $200,000 (Residual Value of Land Only)
Procedure for Estimating All Forms of Functional Obsolescence
(Formula)
- Cost of Existing Item
- Less Depreciation Previously Charged
- Plus Cost-To-Cure OR Value Loss (whichever is greater)
- Less Cost If Installed New
- Equals Depreciation for Functional Obsolescence
4 Criteria for Highest & Best Use
- Legally Permissible
- Physically Possible
- Financially Feasible
- Maximum Productivity
Principal of Consistent Use
The concept that land cannot be valued on the basis of one use while the improvements are valued on the basis of another use.
Direct Costs
Expenditures for the labor and materials used in the construction of improvements; also called hard costs.
Indirect Costs
Expenditures or allowances for items other than labor and materials used to construct improvements, but are not typically part of the construction contract. Indirect costs may include administrative costs, professional fees, financing costs, and the interest paid on construction loans; taxes and the builder’s all-risk insurance during construction. Also called soft costs.
