Valuation Flashcards
What are the three steps needed prior to undertaking a valuation instruction? (3)
- Ensure competence
- Ensure no conflicts of interest
- Terms of Engagement
What is the definition of an internal valuer? (3)
- Someone employed by the company to value the assets of the company
- Valuation for internal purposes only
- No third-party reliance
What is the definition of an external valuer?
Someone who has no material links with the asset to be valued or the client
Why is statutory due diligence required for valuations?
To check that there are no material matters which could impact upon the valuation
Name some examples of statutory due diligence prior to a valuation (8)
- Asbestos register
- Contamination
- Equality Act 2010 compliance
- Environmental matters (power lines, sub-stations, flooding etc)
- EPC rating
- Legal title and tenure
- Planning history
- Health & safety compliance
What is the timeline of a valuation? (16)
- Receive instructions from the client
- Check competence
- Check there are no conflicts of interest
- Issue terms of engagement to the client
- Receive signed terms of engagement
- Gather information (legal documents etc)
- Undertake due diligence
- Inspect and measure
- Research the market and assemble, verify, and analyse comparables
- Undertake valuation
- Draft report
- Have valuation and report considered by another surveyor
- Finalise and sign report
- Report to client
- Issue invoice
- File it
What are the five methods of valuation? (5)
- Investment method
- Profits method
- Comparable method
- Residual method
- Contractor’s method (depreciated cost method)
What are the 3 approaches to valuation according to IVS 105 (and which approach does each method fall into)? (3)
- Income approach (investment, profits, residual)
- Cost approach (contractor’s/DRC)
- Market approach (comparable)
What is the main methodology for the comparable method? (6)
- Search and select comparables
- Confirm/verify details and analyse the head rent to give a net effective rent
- Assemble comparables in a schedule
- Adjust comparables using the hierarchy of evidence
- Analyse comparables to form an opinion of value
- Report value
What is the RICS document relating to the comparable method?
RICS Professional Standard: ‘Comparable Evidence in Real Estate Valuation’ 1st Edition, 2019
What is the hierarchy of evidence? (3)
- Category A - direct comparables
- Category B - general market data that can provide guidance
- Category C - other sources
What are examples of Category A of the hierarchy of evidence? (4)
- Completed transactions of near-identical properties where full information is available
- Completed transactions of other similar real estate assets
- Similar properties where offers have been made but not binding yet
- Asking prices (with careful analysis)
What are examples of Category B of the hierarchy of evidence? (4)
- Information from published sources or commercial databases
- Other indirect evidence like indices
- Historic evidence
- Demand/supply data
What are examples of Category C of the hierarchy of evidence? (3)
- Transactional evidence from other real estate types and locations
- Other background data like interest rates, stock market movements
When is the investment method used? (2)
- When there is an income stream to value
- The rental income is capitalised to produce a capital value
What are the different types of investment methods? (4)
- The conventional investment method
- Term and reversion method
- Hardcore/layer method
- Discounted cash flow
What is the conventional investment method? (3)
- Rent received or market rent multiplied by the years purchase equals market value
- This method relies on the importance of comparables for rent and yield
- Assumes a growth implicit valuation approach
When/what is the term and reversion investment method? (3)
- Used for reversionary investments (when under-rented)
- Term capitalised until the next lease event at an initial yield
- Then a reversion to market rent valued in perpetuity at a reversionary yield
When/what is the layer/hardcore method? (5)
- Used for over-rented investments
- Income flow divided horizontally
- The bottom slice is market rent
- The top slice is the passing rent less market rent until the next lease event
- A higher yield is applied to the top slice to reflect the additional risk
What is a yield?
A measurement of an investment return, expressed as a percentage of the capital invested
How is a yield calculated?
A yield is calculated by the income divided by the price times 100
What is Years Purchase and how is it calculated? (2)
- By dividing 100 by the yield.
- This is the number of years required for its income to repay its purchase price
What is obsolescence?
The gradual decline in value of a property due to factors such as age, deterioration, or changes in market conditions
What is an all risks yield?
The remunerative rate of interest used in the valuation of a fully let property let at market rent reflecting all the prospects and risks attached to the particular investment
What is a true yield?
Assumes rent is paid in advance not in arrears (traditional valuation practice assumes rent is paid in arrears)
What is a nominal yield?
Initial yield assuming rent is paid in arrears
What is a gross yield?
The yield not adjusted for purchaser’s costs
What is a net yield?
The resulting yield adjusted for purchaser’s costs
What is an equivalent yield?
The average weighted yield when a reversionary property is valued using an initial and reversionary yield (e.g. during hardcore/layer method)
What is an initial yield?
Simple income yield for current income and current price
What is a reversionary yield?
Market rent divided by the current price on an investment let a rent below the market rent
Running yield
The yield at any one moment in time
What is a Discounted Cash Flow (DCF)? (3)
- A growth explicit investment method of valuation
- Form of income approach valuations
- Seeks to determine the value of a property by examining its future net income or project cash flow from the property and then discounting the cash flow to arrive at an estimated current value of the property
What is the RICS document surrounding DCFs?
RICS Practice Information, Discounted Cash Flow Valuations, November 2023
When is a DCF used?
Where the projected cash flows are explicitly estimated over a finite period, such as:
- Short leasehold interest
- Phased development projects
- Non-standard investments
- Over-rented properties and social housing
What is the methodology to find the market value for a DCF? (5)
- Estimate the cash flow (income less expenditure)
- Estimate the exit value at the end of the holding period
- Select the discount rate
- Discount the cash flow at the discount rate
- Value is the sum of the completed discounted cash flow to provide the NPV
What is a net present value?
The sum of the discounted cash flows
How is the net present value used? (3)
- To determine if an investment gives a positive return against a target rate of return
- If positive, the investment has exceeded the investor’s target rate of return
- If negative, it has not achieved the investor’s target rate of return
What is the internal rate of return (IRR)
- The rate of return at which all future cashflows must be discounted to produce an NPV of 0
- Used to assess the total return from an investment opportunity making some assumptions regarding rental growth, re-letting and exit assumptions
How is the IRR calculated? (5)
- Input current market value as a negative cash flow
- Input projected rents over holding period as a positive value
- Input projected exit value at the end of the term assumed as a positive value
- Discount rate (IRR) is the rate chosen which provides an NPV of 0
- If NPV is more than 0, then the target rate of return has been met
When is the profits method of valuation used? (3)
- For valuations of trade-related property where there is a ‘monopoly’ position
- Where the value of the property depends on the profitability of its business and its trading potential
- E.g. pubs, hotels, nurseries, care homes