Valuation

Question 1

Tell me what the 5 methods of valuation are.

Answer 1

1. Comparable
2. Investment
3. Residual
4. Profits
5. Depreciated Replacement Cost

Question 2

What do you include in TofE?

Answer 2

・In TofE, I included
a) Identification and status of the valuer
b) Identification of the client(s)
c) Identification of any other intended users
d) Identification of the asset(s) or liability(ies) being valued
e) Valuation (financial) currency
f) Purpose of the valuation
g) Basis(es) of value adopted
h) Valuation date
i) Nature and extent of the valuer’s work – including investigations – and any limitations thereon
j) Nature and source(s) of information upon which the valuer will rely
k) All assumptions and special assumptions to be made
l) Format of the report
m) Restrictions on use, distribution and publication of the report
n) Confirmation that the valuation will be undertaken in accordance with the IVS
o) The basis on which the fee will be calculated
p) Where the firm is registered for regulation by RICS, reference to the firm’s complaints handling procedure, with a copy available on request
q) A statement that compliance with these standards may be subject to monitoring under RICS’ conduct and disciplinary regulations
r) A statement setting out any limitations on liability that have been agreed.

・I used T&R because the units were under rented

Question 3

When do you use term and reversion?

Answer 3

When a property is under rented

Question 4

Tell me about how you would value a building using the 5 methods of valuation.

Answer 4

・Comparable Method
Select comparables, verifying with agents. Analyse and adjust comps for net effective rent. Display in matrix. Value property. Stand back and look

・Investment Method
Term and reversion for under-rented properties. Capitalise the value of the term at passing rent and reversion at market rent into perpetuity deferred for x years using YPs to reflect riskiness of each yield. Add values together. Deduct costs @6%. Stand back and check.
Hardcore and layer method is an alternative (capitalise term & reversion into perpetuity at equivalent yield + reversionary top slice at an equivalent yield deferred for x years). Hardcore and top slice for over-rented properties (Capitalise market rent into perp + top slice for x years)

・Profits Method
Use 3 years’ company accounts to find ‘fair maintainable operating profit (FMOP) for a reasonably efficient operator. FMOP X YP = Capital value. For rental value, ½ FMOP = market rent (FMOP – cost of working capital = Divisible balance, which is split 50:50 between L & T, hence rent)

・Residual Method
Residual land value = GDV – all costs to develop (including profit). Costs include: Profit, fees, S.106 payments/CILs, Finance (finance rate X ½ total cost^n). Undertake sensitivity analysis (what if completion delayed or construction costs go up)

・Depreciated Replacement Cost
Last resort as cost doesn’t = value. Establish replacement cost modern equivalent. Depreciate for age and obselesence. Add site value

Question 5

When and why would you use one of these methods?

Answer 5

・Comparable - Owner occupied property
・Investment - Used when there is an income stream to value
・Residual - Used to find site value and / or profitability of a development scheme
・Profit - Where the value of a property depends on the profitability of its business and trading potential, rather than physical attributes (pubs, hotels etc)
・DRC - Used as last reort where there is no direct comparable evidence for specialised properties like lighthouses or oil refineries

Question 6

What is a years purchase multiplier?

Answer 6

・The reciprocal of the yield. Yield at 12.5% = YP of 8. Used to determine CV by multiplying net annual income.

Question 7

Give me an example of a good covenant and how this might impact a valuation.

Answer 7

・A stronger covenant will have a lower yield thus a higher YP and higher CV.

Question 8

What is PI Insurance (PII)?

Answer 8

・Professional Indemnity Insurance
・Insurance that covers cost of compensating clients from loss or damage due to negligence

Question 9

Why do surveyors need PII?

Answer 9

・Protects the firm from financial loss it can’t pay and clients from suffering financial loss due to negligence

Question 10

Tell me about the RICS requirements in relation to PII.

Answer 10

・Minimum level of indemnity based on firm’s turnover
・Minimum policy wording and ensure policy wording is written on a full civil liability basis
・Each and every claim basis or aggregate plus unlimited round the clock reinstatement basis

Question 11

How did the decision in Hart v Large affect PII?

Answer 11

・Mr Large’s PI insurance was limited to £250k so Mr Large was liable for a big chunk of the damages.
・The case has increased the cost of PII

Question 12

What level of PII cover does your firm have?

Answer 12

・Prime is >£10m - has to be at least £1m since turnover is over £200k

Question 13

How would you distinguish limitations on liability in your valuations?

Answer 13

Liability cap

Question 14

What relevance does Hart v Large have on your valuation practice?

Answer 14

・Normally damages awareded in the difference between the surveyor’s valuation and the actual value of the property (SAAMCO cap)
・In hart v Large, the court deviated and awarded significantly more damages for disruption to lives etc.
・Where there may be unseen defects, valuation reports should state that the bvaluation amount is based on the assumption that a property doesn’t have any defects and that a Professional Contractors Certificate should be obtained to verify this.

Question 15

Tell me why terms of engagement are important.

Answer 15

・Mandatory under VPS 1
・Apply the IVS 101 Scope of Work to ensure compliance with IVS
・Agree the format and details of the proposed valuation report
・Agrees restrictions on use, distribution and publication of the report

Question 16

What checks do you undertake before accepting a valuation instruction?

Answer 16

・Conflicts of interest
・Competence in undertaking the instruction

Question 17

How do you ensure you know who your client is when undertaking a valuation instruction?

Answer 17

・Confirm instructions and identifying the client in writing prior to undertaking any workk
・KYC - Obtain ID and proof of address

Question 18

Are there any additional requirements when undertaking a valuation in which the public has an interest or third parties may rely?

Answer 18

・Regulated purpose valuations must disclose relationship with the client and the valuer’s previous involvement
・Rotation policy
・Time as signatory
・Proportion of fees the client makes up for the valuing firm

Question 19

Are there any additional requirements for loan security valuations?

Answer 19

・VPGA 2
・Must disclose any previous involvement in the property with the borrower (in last 24 months)
・The lender may specify the basis of value and any special assumptions

Question 20

Talk me through an example of when you have agreed terms of engagement with a client.

Answer 20

Queens Walk, East Grinstead
・I confirmed instructions in writing and attached TofE
・I included: valuation purpose (Agency purpose), basis of value (MR), asked if there had been any recent tranasctions, comfirmed no conflict of interest, confirmation of fee

Question 21

What are the key elements included within terms of engagement?

Answer 21

A) Identification and status of the valuer
B) Identification of the clients
C) Identification of any other intended users
D) Identification of the asset or liability to be valued
E) Valuation currency
F) Purpose of the valuation
G) Basis of value adopted
H) Valuation date
I) Nature and extent of the valuer’s work – including investigations and any limitations
J) Nature and sources of information upon which the valuer will rely
K) All assumptions and special assumptions to be made
L) Format of the report
M) Restrictions on use, distribution and publication of the report
N) Confirmation that the valuation will be undertaken in accordance with the IVS
O) The basis on which the fee will be calculated
P) Reference to the firm’s complaint handling procedure, with a copy available upon request (where the firm is RICS registered)
Q) A statement that these standards may be subject to monitoring under RICS conduct and disciplinary regulations
R) A statement setting out any limitations on liability that have been agreed

Question 22

What does the Red Book say about terms of engagement?

Answer 22

・TofE should convey a clear understanding of the valuation requirements and process and should be readable in layman’s terms

Question 23

What does the Red Book say about inspections?

Answer 23

・VPS2 - inspections, Investigations and Records
・Inspections and investigations must always be carried out to the extent necessary to produce a valuation that is professionally adequate for its purpose
・Must take reasonable steps to verify any information relied upon
・Any limitations or restrictions on inspection must be recorded in Terms of Engagement and the report
・Proper records of the inspection should be kept in a business format and be retrievable in the event of a future enquiry

Question 24

What does the Red Book say about reporting requirements?

Answer 24

・VPS3 - Valuation Reports
・The report must clearly and unambiguously set out the conclusions of the valuation
・Reports must deal with all the matters agreed between the client and valuer in TOEs

・List of matters that must be addressed is similar to TOEs but must also include:
・Valuation approach and reasoning
・Amount of the valuation (stated in words & numbers)
・Commentary on any material uncertainty

Question 25

What are the differences between a desktop and a full valuation report?

Answer 25

・Desktop valuation doesn’t require inspection
・Lots more assumptions
・Less reliable

Question 26

Tell me about how you ensure that information relied upon in your valuation is appropriate and reliable?

Answer 26

・Where possible, information provided by the client e.g title and tenant info is checked with verifiable sources like land registry and the lease itself

Question 27

What would you do if you received a notice of a PII claim from a client or their solicitor?

Answer 27

・Do not respond other than to acknoweldge receipt of the notice and inform my line manager / insurance provider

Question 28

Is there a difference between being negligent when undertaking a survey/valuation and providing negligent advice?

Answer 28

・Determines whether you can be sued under breach of contract or negligence
・Can only be sued under breach of contract if the person was a party to the contract

Question 29

What is run off cover?

Answer 29

・Cover after the firm ceases to operate (minimum of 6 years)

Question 30

What is the Red Book?

Answer 30

・RICS Valuation - Global Standards 2021
・A set of RICS mandated global standards that set out procedural rules and guidance for written valuations

Question 31

Why does the Red Book exist?

Answer 31

・To set a global standard for how valuations are done
・Ensure best quality valuation advice is provided
・Protect the public interest and confidence in the profession by upholding standards

Question 32

In a scenario where rents are static and the capital value increases, would you expect yields to increase or decrease?

Answer 32

・Yields decrease

Question 33

What does heterogenous mean in terms of comparable evidence?

Answer 33

・It will be rare that comparable evidence is the exact as the subject and will be different in some nature

Question 34

What does the term ‘tone of value’ mean to you?

Answer 34

・Tone of value = General prices in that location for similar type of property

Question 35

What liabilities may be created through valuation?

Answer 35

・The valuing firm takes on some liability for being sued in breach of contract or tort of negligence

Question 36

What is a liability cap and when would one be used?

Answer 36

・Limits damages that a client can claim to an agreed amount

Question 37

Explain why the RICS are carrying out an Independent Valuation Review.

Answer 37

・In 2021, the Standards & Regulations Board commissioned an independent review of investment valuations and one of the recommendations was increased valuer rotation to better mitigate conflicts of interest

Question 38

Explain what you understand by the term, margin of error.

Answer 38

・10% either side of a valuation is permitted - established in Singer & Friedlander v John D Wood & Co [1977]

Question 39

What caselaw relates to margins of error?

Answer 39

・Singer & Friedlander v John D Wood & Co [1977]

Question 40

What is your duty of care as a surveyor when undertaking a valuation?

Answer 40

・Valuers owe a duty to take all reasonable skill and care when undertaking a valuation
・Both in contract and in tort (for negligence)

Question 41

To whom do you owe this duty of care?

Answer 41

・To clients, but they may also owe a duty of care to third parties where the court decides a duty of care was assumed to a third party

Question 42

Why is independence and objectivity important when valuing?

Answer 42

・PS2 - Ethics competency, objectivity and disclosures: Valuation work often has particular complexity and sensitivity to confidentiality and conflicts of interest. Independence and confidentiality is vitally important in ensuring valuations are doen correctly - can’t allow to be influenced by the client or show the client the valuation before completed

Question 43

Tell me something about the UK National Supplement

Answer 43

・VPS3 - Regulation purpose valuations: supplementary requirements
Additional requirements for UK valuations for the purpose of financial reporting, takeovers and mergers etc. If the valuing firm acquired the property for the client, the cannot value the same property within 12 months unless another firm has valued it since the transaction. Must disclose whether proportion of total fees payable by the client to the firm make up either less than 5% of the total fees, or if more than 5%, an indication within a 5% range.

Question 44

Which do you follow - the latest IVS or the Red Book Global?

Answer 44

・The Red Book - this incorporates IVS and is mandatory for RICS members

Question 45

Which sections of the Red Book are mandatory and which are advisory?

Answer 45

・Mandatory - PS1, PS2, VPS-15
・Advisory - VPGA 1-10

Question 46

What does PS1-2/VPS1-5/VPGAs relate to?

Answer 46

・Professional Standards
PS1 – Compliance with standards e.g IVS, and IPMS
PS2 – Ethics, competency, objectivity and disclosures

・Valuation Technical and Performance Standards
VPS1 – Terms of Engagement
VPS2 – Inspections, investigations and records
VPS3 – Valuation reports
VPS4 – Bases of value & Assumptions
VPS5 – Valuation approaches and methods

・Valuation Practice Guidance Applications
VGPA1 – For inclusion in financial statements
VGPA2 – Secured lending
VGPA3 – Business and business interests
VGPA4 – Individual trade related properties
VGPA5 – Plant and Equipment
VGPA6 – Intangible assets
VGPA7 – Personal property, e.g art & antiques
VGPA8 – Real property interests (notes the importance of inspection for factors that impact value, condition, services, planning etc)
VGPA9 – Identification of portfolios, collections and group properties
VGPA10 – Matters that may give rise to material valuation uncertainty

Question 47

If you provide preliminary advice / draft valuation report, what should you state in writing to your client?

Answer 47

・The opinion is provisiona nd subject to the completion of the report
・The advice is for the client’s internal purposes only
・Declaration of any fundamental matters that aren’t reflected

Question 48

What type of valuations might be relied upon by a third party?

Answer 48

・Valuations included in published financial statements
・Valuations for secured lending purposes may also be relied upon by the borrower
・A valuation listed on the stock exchange
・Valuations prepared for stakeholders and mergers

Question 49

Tell me what the definition of MR/MV/investment value/fair value?

Answer 49

・Market Rent: The estimated amount for which an interest in real property should be leased on the valuation date between a willing lessor and willing lessee in an arm’s length transaction, after proper marketing, where both parties act knowledgably, prudently & without compulsion.

・Market Value: the estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and willing seller in an arm’s length transaction, after proper marketing, where both parties act knowledgably, prudently and without compulsion.

・Investment Value (IFRS): The value of an asset to a particular owner or prospective owner for individual investment operational activities.

・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 the measurement date. (Not dictated by the current state of the market, and unlike market value, is accepted by the IFRS & GAAP)

Question 50

What is the difference between an assumption and a special assumption?

Answer 50

・Assumption - Where it is reasonable for a valuer to accept something is true without the needs for specific investigation (snagging to be rectified)

・Special assumption - Where the valuation report assumes facts that either differ from facts as at the valuation date or that would not be made by typical market participant in a transaction at the valuation date. (Must be confirmed in wirting with the client beforethe report is issued and the instruction should be turned down if the valuer deems it unrealistic and invalid)

Question 51

If you have previously valued an asset, do you need to make any additional disclosures and what might they be?

Answer 51

・Relationship with client and previous involvement
・Rotation policy (RICS recommends 7 years)
・Time as signatory (time the signatory has held the post and their relationship with client)
・Proportion of fees (% of the firm’s fees that were made up by work for this client in the last year)

Question 52

If your firm is too small to have a rotation policy or valuation panel, what else can you do to ensure objectivity?

Answer 52

・In 2021, RICS and the Standards and Regulations Board commissioned an independent review of investment valuations and one of the recommendations was increased valuer rotation to better mitigate conflicts of interest
・If the firm is too small, periodically have another independent member review the valuations at intervals of 7 years or less

Question 53

When might a conflict of interest exist in relation to a valuation instruction?

Answer 53

・Valuing for a lender where advice is also being provided to the borrower
・Where the valuer has previously valued the same asset, for the same purpose, or for the property’s purchase within the last 12 months
・Valuing both parties’ interest in a leasehold transaction

Question 54

What is a yield?

Answer 54

・A measure of investment return, expressed as a percentage of capital invested
・Income divided by price x 100

Question 55

What factors impact yield on an investment property?

Answer 55

・Property type
・Lease term
・Covenant strength
・Wider economic environment and market conditions

Question 56

What is a Net Initial Yield?

Answer 56

・Rent / Price + Purchasers Costs

Question 57

What is a reversionary yield?

Answer 57

・The yield adjusted to Market Rent after a lease event adjusts the current passing rent to OMR

Question 58

What is an equated yield?

Answer 58

・The yield on a property investment taking into account growth in future income (more holistic than just applying a reversionary yield that assumes MR at the present time into perpetuity)

Question 59

How would you value a property in uncertain market conditions - does the Red Book give any guidance?

Answer 59

VGPA 10 - Matters that may give rise to material valuation uncertainty
・Where the valuation coincides with an unforeseen macro-economic event, for example there may be a lack of empirical comparable evidence data to base the valuation on
・The context of the valuation and reference to the uncertainty should be expressed in the report
・Material uncertainty should be expressed qualitatively in words, rather than in the valuation figure itself (unless sensitivity analysis is appropriate)

Question 60

How does a term and reversion differ to a DCF?

Answer 60

・T&R only captures constant incomes and expenditures
・DCF captures irregular patterns of income and expenditure of an asset, and appreciates the time value of money

Question 61

What is the difference between a growth explicit and a growth implicit yield?

Answer 61

・Growth implicit = ARY (assumes no change in rental income over time)
・Growth explicit = DCF (models cash flows period by period)

Question 62

How would you value an under/over rented investment property?

Answer 62

・Under rented - T&R
・Over rented - Hardcore and top-slice

Question 63

When would you use a dual rate investment calculation?

Answer 63

・Where there is a sinking fund there are two rates -
Remunerative rate - the yield of the property
Accumulative rate - the rate of interest in the sinking fund

Question 64

What is the hierarchy of evidence?

Answer 64

・Category A: Direct transactional evidence
・Category B: General market data providing guidance rather than a direct indication of value, such as evidence from published sources, historical evidence, demand/supply data
・Category C: Other sources, sucgh as transactional data from other property types and locations and other relevant background data

Question 65

What is IRR?

Answer 65

・Internal Rate of Return - The dicount rate that makes the NPV of all cash flows equal to zero.
・The annual rate of growth that an investment is expected to generate

Question 66

What is a Discounted Cash Flow (DCF)?

Answer 66

・Form of valuation that calculates an investment’s value based on the ability to receive a predicted future cash flow

Question 67

What is a short-cut DCF?

Answer 67

・The shortcut DCF valuation can allow for a more considered reflection of the target rate and growth rate, analysed from the capitalisation rate, than the income capitalisation method.
・It enables the valuer to report on the broad assumptions behind the market pricing rather than just the current cap rate.
・It does rely on an assumption of either target rate or growth rate, but this assumption does not make much difference to the valuation solution as an increase in target rate generates a similar increase in implied growth rate.

Question 68

When would you use a DCF?

Answer 68

・When valuing a property where expenditure and income may be in irregular patterns

Question 69

What are the advantages of a DCF?

Answer 69

・Appreciates the costs and income can vary over time periods
・Projections can be tweaked to provide different results in different situations - refurb costs higher than expected or the building is worth less at the end of the term

Question 70

What are the disadvantages of a DCF?

Answer 70

・Uses estimates, not real figures so discount rate and cash flows need to be estimated carefully
・Future cash flows rely on a variety of factros such as demand and the state of the economy and cannot be quantified exactly

Question 71

What is a YP/PV/YP in perpetuity?

Answer 71

・The present value of the right to receive £X for ‘n’ years at ‘i’ compound interest

Question 72

What is marriage value?

Answer 72

・Additional value created by the combination of two or more assets or interests where the combined value is more than the sum of separate values

Question 73

What is a dual capitalisation rate and when would you use one?

Answer 73

・A separate capitlisation rate is applied to different elements of the property with different levels of risk assigned e.g. freehold and leasehold

Question 74

What is turnover / gross profit / net profit?

Answer 74

・Turnover - Revenue generated from a business’ activities
・Gross Profit - Profit after costs of the goods / services have been paid
・Net Profit - Profit left after all expenses have been paid (tax etc.)

Question 75

How could you value a long leasehold interest?

Answer 75

・Market Rent minus ground rent, capitalised for x years (or into perp if effective freehold)
・Apply a YP dual rate where a sinking fund is theoretically created to extend the long leasehold when required

Question 76

What is an equivalent yield?

Answer 76

・A weighted average between the term and reversionary yields

Question 77

What is the definition of Market Value?

Answer 77

The estimated amount for which an asset or liability should exchange on the valuation date between a willing buyer and a willing seller in an arm’s length transaction after proper marketing where the parties had each acted knowledgeably, prudently and without compulsion.

Question 78

What is the definition of Market Rent?

Answer 78

The estimated amount for which an interest in real property should be leased on the valuation date between a willing lessor and willing lessee on appropriate lease terms in an arm’s length transaction, after proper marketing and where the parties had each acted knowledgeably, prudently and without compulsion