Valuation Flashcards
What is the aim of the Red Book?
Aim to provide consistency and transparency in valuations. Building trust and confidence in RICS members valuations. Provides an essential quality control check without the need for legislation
Do all valuations comply with the Red Book Global?
All valuations have to comply with PS1 and PS2
What do you need to do before undertaking a valution?
Competence = Skills, Understanding, Knowledge
Independence = Conflict of Interest
Terms of Engagement
Why do you undertake statutory due diligence?
Ensure there are no material matters which could impact values
Examples of statutory due diligence
Asbestos Report Business Rates / Council Tax Contamination Equality Act 2010 Planning History Compliance (CIL, S.106, conservation area, listed, planning conditions) Environmental Matters (high voltage power lines, sub stations, telecoms mask) Flooding (Environmental Assessment) EPC Rating Health & Safety Fire Safety Highways (check local highway agency) Legal title and tenure (check the boundaries, ownership, restrictive covenants, easements, rights of way, wayleaves) Public right of way (check OS map)
What are the 5 methods of valuation?
Comparable, Investment, Profit, Residual and Depreciated Replacement Cost method (Contractors)
Talk me through the profits method?
Used for trade related businesses where the value depends on the profitability of the business. Eg. Leisure, pubs, nurseries
Annual turnover less costs and purchases = gross profit – less reasonable working expenses = unadjusted net profit – less operators remuneration = adjusted net profit = EBITDA
Capitalised at an appropriate yield to determine market value
Talk me through the comparable method?
- Search and select comps
- Confirm/verify all details with relevant agents and analyse to get a net effective rent
- Assemble to produce a comps schedule
- Analyse comps having regard to the hierarchy of evidence
- Analyse comps to form opinion of value
- Report value
What RICS Guidance is there on comparable evidence?
RICS Guidance Note ‘Comparable Evidence in Real Estate Valuation’ 1st Edition 2019
What does RICS Guidance Note ‘Comparable Evidence in Real Estate Valuation’ 1st Edition 2019 say about the comparable method?
Advice on how to deal with situations with limited availability of evidence. The valuer should use a professional judgement to assess the relative importance of evidence on a case-by-case basis.
Sets out the hierarchy of evidence.
What is the hierarchy of Evidence?
CAT A – direct comparables of contemporary:
- completed transactions of near-identical properties (and self-generated evidence)
- completed transactions of other assets
- completed transactions of similar real estate
- similar real estate under offer
- asking prices (only with careful analysis)
CAT B - general market data that can provide guidance
- eg. Info from published sources or commercial databases
- indices
- historic evidence
- demand/supply data for rent
CAT C – other sources
- transactional evidence from other real estate types and locations
- other background data eg. Interest rates, stock market movements
How do you find good comparable evidence?
Inspect local area – marketing boards, local agencies
Speak to local agents
Inhouse records and databases – egi, costar
Look at auction results – note often a special purchaser or insolvency sale. Sale price is gross of costs
Market sentiment when lack of evidence
Date of evidence is crucial
What is the investment method?
when there is an income stream to value
rental income is capitalised to produce a capital value
conventional method assumes growth implicit valuation approach
an implied growth rate is derived from the market capitalisation rate (yield)
What are the different approaches under the investment method of valuation?
Initial Yield (conventional investment method)
Term and Reversion
Hardcore and Layer
Discounted Cash Flow
What is the initial yield approach?
Rent * YP = market value
What is term and reversion?
used for reversionary investments.
Term is capitalised until next review/lease expiry at an initial yield. (explicitly accounting for voids)
Reversion to market rent is valued in perpetuity at a reversionary yield. (softer yield to reflect risk)
What is hardcore and layer?
used for over rented investments. Bottom slice is market rent, top slice is rent passing less market rent to next lease event. Higher yield is applied to top slice to reflect additional risk. Split yields used depending on comparable evidence and relative risk.
What is a Discounted Cash Flow?
Growth explicit method of valuation. Involves projecting future cash flows over an assumed investment holding period, plus an exit value at the end of that period, usually arrived at on an ARY basis. The cash flow is then PV’d back at a discount rate that reflects the perceived level of risk.
What is the difference between term and reversion and hardcore and layer?
Term and Reversion = Explicitly values voids but may undervalue an asset as applies a softer yield to the whole of the reversion
Hardcore and Layer = Implicitly values voids through the ARY.
What is a yield?
a measure of investment return expressed as a percentage of capital invested
income divided by price * 100
What is a years purchase?
number of years required for income to repay its purchase price
What is incorporated in a yield?
Reflects the level of risk prospects for rental growth and capital growth quality of location and covenant use of the property lease terms voids security of regularity of income liquidity (ease of sale)
What is a return?
Performance of a property
What is an All Risk Yield?
a yield that reflects all the prospects and risks attached to a particular fully let property at market rent.
What is a True Yield?
assumes rent is paid in advance not arrears
What is a Nominal Yield?
initial yield assuming rent is paid in arrears
What is a gross yield?
the yield not adjusted for P. costs
What is a net yield?
yield adjusted for p. costs
What is a Equivalent Yield?
average weighted yield when a reversionary property is valued using an initial and reversionary yield
What is a running yield?
the yield at one moment in time.
What is a reversionary yield?
Market Rent divided by current price on an investment that is let below the MR.
When would you use a DCF?
Short leasehold interests – assets with income voids or complex tenures
Phased development projects
Alternative investments
Non-standard investments ie. 21 year rent reviews
Separates out and explicitly identifies growth assumptions rather than incorporating with the ARY.
What is a simple methodology for a DCF?
Estimate cash flow (income less expenditure)
Estimate the exit value at the end of the holding period
Select the discount rate
Apply the discount rate to the cash flow
Value = sum of the completed discounted cash flow to provide = NPV
What is the Net Present Value?
The sum of the discounted cash flow of the project. Used to determine if an investment gives a positive return against a target rate of return.
If NPV is positive = the investment exceeds the investors target rate of return
If NPV is negative = the investors required rate of return has not been achieved
What is an Internal Rate of Return?
The discount rate which the NPV equals 0. If the NPV is more than 0, then the target rate of return has been met. Therefore IRR is the minimum rate of return permitted.
Used to assess the total return from an investment opportunity making assumption for rental growth, reletting, and exit assumption. Can be calculated using linear interpolation if firm does not have appropriate software.
Talk me through the Depreciated Replace Cost Method?
Used for monopoly buildings where there is no/limited market evidence for specialised properties such as lighthouses, schools, sewage works
Value of the land in its existing use (assuming planning permission)
Less the current cost to replace the building and professional fees – less depreciation, deterioration and obsolescence
Physical (deterioration), functional (specification not fit for use), economic obsolescence
Is the DRC method suitable for Red Book valuations?
Not suitable for Red Book Global compliant valuations for secured lending. Suitable only for owner-occupied properties which require valuations for account purposes only.
What is the aim of the Red Book Global?
Aims to provide consistency, objectivity and transparency in valuations
To build public confidence and trust in RICS members’ valuations
Ensures valuers are working to the latest IVS
Provides an essential quality control check without the need for legislation
The changes made are effective from the 31st January 2020
What are the Key Parts of the Red Book Global?
Part 1 – Introduction
Part 2 – Glossary
Part 3 – Professional Standards (PS) (Mandatory Worldwide)
Part 4 – Valuation Technical & Performance standards (VPS) (Mandatory Worldwide)
Part 5 – Valuation Applications (Valuation Practice Guidance Applications – VPGAs)
Part 6 – International Valuation Standards 2017 (Mandatory)
Are all valuations Red Book compliant?
All valuations are compliant with PS1 and PS2 of the Red Book Global. PS1 outlines 5 type of valuations that are exempt
What is PS1?
Compliance with standards and practice statements where a written valuation is provided.
There are 5 exemptions:
Advice that is required for negotiation or litigation Statutory function (but is still required for a tax return)
Valuation is only used for internal purposes – not to be communicated to a 3rd party
Valuation is party of agency/brokerage work in anticipation of receiving the instruction to buy/sell the asset
Valuation advice when giving evidence as an expert witness
What does PS2 refer to?
Ethics, competency objectivity and disclosures
Members undertaking valuations must act in accordance with RICS Global and Professional and Ethical Standards (2015) and the RICS Rules of Conduct 2007, as amended in 2020
Valuers must act objectively and independently. Must not be in a position that threaten their objectivity
A valuer must apply ‘professional scepticism’ when reviewing date before relying on it
Members must demonstrate professional competence
Members must understand clients’ requirements and comply with the Terms of Engagements
What does VPS 1 refer to?
TOE must be confirmed in writing to a client prior to commencing a Red Book Global compliant valuation. The minimum requirement for VPS1 is (18 points);
a. valuer name and status
b. client name
c. name of any other intended users
d. asset or assets to be valued
e. currency
f. purpose of valuation
g. basis of value
h. valuation date
i. extent of investigation
j. nature and source of information to be relied upon
k. assumptions/special assumptions
l. format of report
m. restrictions of use, distribution and publication
n. confirmation of Red Book Global compliance
o. fee basis
p. CHP
q. statement that the valuation may be subject to compliance by RICS
r. limitation on liability agreed
What is the difference between an assumption and a special assumption?
Assumption = is where it is reasonable to accept that something is true without the need for specific investigation
A specific assumption = is something that is taken to be true and is accepted as a fact even though it is not. Must be agreed in writing in the TOE’s before commencing instruction.
What does VPS2 refer to?
Inspections, Investigations and Records
Are desktop valuations red book compliant?
Yes, unless one of the exceptions as set out in PS1
Called restricted information valuations where no inspection is undertaken
What 4 factors should a valuer consider when undertaking a desktop valuation?
- Nature of the restriction must be agreed in writing
- Possible valuation implications confirmed in writing
- Valuer should consider whether the restriction is reasonable with regard to the purpose of the valuation
- Restriction must be referred to in the report
Can a revaluation without re-inspection be Red Book Global compliant?
No, unless the valuer is satisfied that there has been no material changes to the property or location since last valuation and this must be confirmed in TOE
What does VPS 3 refer to?
Valuation Reports. Aligns with IVS 103 Reporting
Minimum requirements for a report are:
a. name and status of valuer
b. name of client and any other intended users
c. purpose of valuation
d. identification of asset to be valued
e. basis of value
f. valuation date
g. extent of investigation
h. nature and source of information to be relied upon
i. assumptions and special assumptions
j. restrictions on use, distribution and publication
k. instruction undertaken in accordance with IVS 103 Reporting
l. valuation approach and reasoning
m. valuation figure
n. date of valuation report
o. comment on market uncertainty
p. statement setting out any limitations on liability that have been agreed
What extra information do you include for a loan security report?
Suitability of loan, remaining life of the property, previous transactions at the property, valuation method, SWOT analysis, special assumptions
When might a property be unsuitable for a loan?
Wasting – less than 75 years on the leasehold interest
If the property has recently been purchased and the Market value is more than the purchase price
High risk of tenant default
Major structural or environmental issues with the property
Flood zone 3
What is preliminary (draft) advice?
Can be given but must be marked as draft, for internal purposes only, cannot be relied upon and cannot be published
Can be discussed with client but valuer is not to be influenced by the client
Any changes made to preliminary valuation must be noted on file and reasons provided
Any additional information supplied by the client as a result of the discussion regarding the draft report must be stated in the report
What is Market Value?
Market value is the estimated amount for which an asset should be exchanged at the valuation date between a willing buyer and willing seller, in an arm’s length transaction, after a proper marketing period where the parties had each acted knowledgably, prudently and without compulsion.
What is Fair Value?
The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at a measurement date.
What dose Fair Value have to comply with?
VPGA 1 (Red Book Global, IFRS 13, FRS 102
What is an arms length transaction?
Where there is a transfer of liability and the buyer and seller act independently of one another
What is Market Rent?
The estimated amount for which an interest in real property should be leased on the valuation date between a willing lessor and a willing lessee on appropriate lease terms in an arm’s length transaction, after proper marketing and when the parties had each acted knowledgeably, prudently and without compulsion.
What is Investment Value?
The value of an asset to a particular owner, or prospective owner for individual investment or operational objectives.’ May differ from market value.
What is Equitable Value?
The estimated price for the transfer of an asset or liability between identified knowledgeable and willing parties that reflects the respective interests of those parties. NOT USED IN THE UK.
What is Liquidation Value?
The basis of value can be used for a group of assets sold in a piecemeal basis considering the costs of getting the assets into a saleable condition
Not used in the UK
What part of the red book global refers to bases of value?
VPS 4 - bases of Value, Assumptions and Special Assumptions
What part of the Red Book Global refers to the valuation approach?
VPS 5 - Valuation Approaches and Methods (IVS 105)
What are purchaser costs?
SDLT, Agent and Legal fees plus VAT
What are the gradings for SDLT?
£0 - £150,000 = 0%
£150,000 - £250,000 = 2%
£250,000 = 5%
What are the Gradings for residential SDLT?
£0 - £125,000 = Nil £125,001 - £250,000 = 2% £250,001 - £925,000 = 5% £925,001 - £1,500,000 = 10% Over £1,500,000 = 12%
What are the limitations of Argus?
Human error, only as good as the person inputting the information
What information would you require from a telephone enquirer who asked you to carry out a valuation?
What is the purpose of the valuation
Where is the property
Who is the valuation for
When do you need it for
If you had no yield information what would you do?
Look at alternative asset classes and make the appropriate discount.
Use indices – go back to basics, how is a yield constructed. The market would start at gilts then add say 2% for inefficiencies of investing in property – illiquidity and obsolescence
What are business rates?
A tax on non-domestic properties. Charities have 80% relief
Set at a multiplier of 0.512 where the rateable value is over £51,000
Set at 0.499 where the rateable value is less than £51,000
Less than £12,000 annual rent = rates relief
Between £12,000 - £15,000 = some rates but not the full amount
What properties are exempt from rates during Covid-19?
Retail, leisure, hospitality = 100% rates relief for 12 months from 01/04/2020 to 31/03/2021
Offices, factories and warehouses = no relief
Why is money worth more today than in the future
Due to uncertainty and inflation
