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APC 2024 > Valuation > Flashcards

Valuation Flashcards

1
Q

When would you use the profits method of valuation?

A

When valuing a trade-related property, where the value of the property depends on the profitability of the business that occupies it and its trading potential

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2
Q

What types of asset would be suited to the profits method of valuation?

A

Trade-related properties such as pubs, cinemas and self storage assets

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3
Q

What is the simple methodology of the profits method?

A

Annual turnover less costs = gross profit
less reasonable working expenses = adjusted net profit
Less operator’s remuneration = Fair Maintainable Operating Profit (FMOP) or EBITDA
I would then capitalise this figure at an appropriate yield to reach Market Value

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4
Q

What is some of the key information you would need to obtain prior to undertaking a self storage valuation using the profits method?

A
  • Floor areas (both existing and planned)
  • Last three years’ audited accounts
  • Any future planning applications (e.g. to add a mezz)
  • Competition analysis - who are the key competitors and are there any proposed new entrants to market?
  • demographic data - e.g. are customers predominantly commercial or domestic?
  • capex for any proposed future works
    -comparable transactional evidence
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5
Q

what is a Reasonably Efficient Operator?

A

It is an assumption made by the valuer when conducting that profits method that the market participants are competent operators. It relates to estimating the trading potential of an asset, as opposed to the actual performance under the existing ownership.

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6
Q

What is Fair Maintainable Turnover (FMT?)

A

The level of trade that an REO would expect to achieve on the assumption the property is appropriately equipped and maintained

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7
Q

What is Fair Maintainable Operating Profit (FMOP?)

A

The level of profit, stated prior to depreciation and finance costs, that an REO would expect to derive from the FMT, based on the market’s perception of the asset’s trading potential

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8
Q

What is a multiplier?

A

It is an appropriate rate of return reflecting the risk profile of the asset and its trading potential. It is the inverse of the yield.

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9
Q

What steps (high level) would you take when doing a profits method valuation?

A
  1. Analyse the accounts/EBITDA
  2. Assess the FMT
  3. Deduct costs to derive your FMOP
  4. Capitalise at an appropriate yield/multiplier, referring to comps.
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10
Q

What are the different types of valuer?

A

Internal and external

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11
Q

What is the difference between an internal and external valuer

A

Internal - appointed by a company to value their assets; for internal use only; no third party reliance
External - the valuer has no material relationship to the asset to be valued or the client

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12
Q

What steps would you take prior to accepting a valuation instruction?

A
  1. Assess competence (Do I have the necessary knowledge, understanding and skills to accept the instruction?)
  2. Assess independence - are there any personal conflicts that would adversely impact on my independence?
  3. Issue Terms of Engagement - receive written confirmation from client
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13
Q

Why is statutory due diligence required prior to undertaking a valuation?

A

To ensure there are no material matters that could impact upon the valuation

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14
Q

What statutory due diligence might you undertake prior to a valuation?

A

Check:
-Legal title and tenure
- Planning history and compliance
-Statutory compliance (e.g. with Equality Act 2010, H&S, building safety etc.)
- Environmental issues (EPCs, flood risk etc.)
- Contamination
- Business rates

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15
Q

What is the rough timeline of a valuation instruction?

A

-Receive instruction from client
- Assess competence/independence
- Issue TOEs and receive signed version from client
- Gather relevant info (lease packs etc.)
- Due diligence - any material matters which could impact on valuation?
- Inspect and measure
- Research market/compile comps
- undertake valuation
-draft report and get it peer-reviewed
-finalise and sign report and send to client
- issue invoice and ensure valuation file in good order for archiving

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16
Q

What are the different approaches to valuation?

A
  1. Income - current and future cash flows are converted into a capital value (i.e. Investment, residual and profits method)
  2. Cost - relates to the cost of purchasing or constructing an asset (i.e. DRC method
  3. Market - referencing comparable evidence (i.e. comparative approach)
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17
Q

What are the main methods of valuation?

A

Investment
Residual
Profits
Depreciated Replacement Cost/Contractor’s
Comparative

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18
Q

What is the methodology of the comparative method?

A
  • Search and select comps
  • Verify details and analyse headline/net effective rents as appropriate
  • Adjust evidence with regard to the hierarchy of evidence
  • Analyse comparable evidence to form opinion of value
  • Report value and prepare file note
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19
Q

Are you aware of any RICS documents relating to the comparative method?

A

RICS Professional Standard on Comparable Evidence in Real Estate Valuation, 2019 - sets out hierarchy of evidence

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20
Q

What is the hierarchy of evidence

A

Remember caveat that valuers should use professional judgement to assess the relative importance of evidence on a case-by-case basis.
Cat A - comparable evidence directly related to the property (e.g. transactions of very similar properties)
Cat B - general market data (e.g. on rents, supply and demand etc.
Cat C - other sources, including financial indicators such as interest rates

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21
Q

What makes a good comparable?

A

-Relevance
-Date
- Accuracy

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22
Q

How would you value an over-rented investment property?

A

Core and Top Slice Approach - Property is Over Rented

Workout the market rent and establish what proportion of your current income is over-rented
Split out the under rented and over-rented income streams
Apply two different yields –> higher yield to the over rented, lower yield to the under rented
Capitalise the under rented into perpetuity (assuming that the property will always be able to achieve the market rent)
Capitalise the over rented until lease expiry at which point you assume the property will revert to market rent

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23
Q

How would you value an under-rented investment property?

A

Term and reversion Approach
- Value the rent until lease end capitalising using an all risks yield
- Capitalise the market rent into perpetuity using a reversionary yield

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24
Q

What is years’ purchase?

A

The number of years of income it would take to reach the capital value of an asset

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25
Q

If the yield is 5%, what is the YP?

A

YP = 1/0.05 = 20

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26
Q

How would you go about finding relevant comparable evidence?

A

-Speaking to local agents
- Reviewing auction prices (n.b these should be treated with a degree of caution as there may be a special purchaser or insolvency sale; also they are gross figures)
- reviewing internal/3rd party transaction databases

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27
Q

what is a special purchaser?

A

A particular buyer for whom a particular asset has a special value because of advantages arising from its ownership that would not be available to other buyers in a market.

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28
Q

When would you use the investment method of valuation?

A

When there is an income stream to value

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29
Q

How does the conventional investment method work?

A
  • MR multiplied by YP to reach MV
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30
Q

What is a yield

A

A measure of investment return, measured as a percentage of capital invested

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31
Q

What types of risk are factored into a yield?

A

-Location risk
-Obsolescence risk
-Leasing risk (i.e. risk of vacancy)
- Rental growth
-security of income
- liquidity

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32
Q

Why are yields softer for secondary assets compared to prime assets?

A

To compensate for additional risk inherent in the secondary assets (e.g location/quality of asset etc.)

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33
Q

What are current prime office rents in West End and City?

A

Core West End - 4%
City Prime - 5.25 - 5.50%

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34
Q

What are current prime industrial yields?

A

Greater London estates - 5.00%
SE estates - 5.25%
Good modern rest of Uk - 5.50%

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35
Q

What is an all risks yield?

A

A yield that reflects all of the risks associated with an investment (e.g. leasing risk, obsolescence risk)

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36
Q

What is a true yield/

A

assumes rent is paid in advance, not in arrears

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37
Q

What is a nominal yield/

A

initial yield, assuming rent is paid in arrears

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38
Q

what is a gross yield/

A

a yield not adjusted for purchasers’ costs (e.g. at an auction)

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39
Q

What is an equivalent yield?

A

The average weighted yield when an over-rented property is valued using an initial and reversionary yield

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40
Q

what is an initial yield?

A

simple income yield for current income and current price

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41
Q

what is a reversionary yield

A

ERV/current valuation

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42
Q

what is a running yield?

A

the yield at one moment in time

43
Q

DCFs are a form of which valuation approach/

A

Income approach

44
Q

Describe your understanding of a DCF?

A

It is a valuation model that makes explicit assumptions as to the future cash flow of an asset for a certain holding period and then discounts those cash flows to arrive at an opinion of value

45
Q

What is your understanding of Net Present Value?

A

It is the sum of the discounted cash flows in a DCF model. It determines whether an investment will give a positive return against a target rate of return (if the NPV > 0 it has achieved the investor’s target rate of return

46
Q

What is the internal rate of return (IRR)?

A

It is the discount rate that causes the NPV to equal 0.
- It is used to assess the total return of an investment, making explicit assumptions on rental growth, voids etc.

47
Q

How would you calculate the IRR if you didn’t have access to software?

A

Linear interpolation

48
Q

Are you aware of any RICS guidance on DCFs?

A

RICS Practice Information: DCF Valuations, Nov 23
-It sets out the differences between inputs for market value and investment value (i.e. when undertaking a valuation on the basis of market value, it is inappropriate to use inputs related to a specific investor unless there is evidence that these inputs are representative of wider industry trends

49
Q

What is the purpose of a residual valuation?

A

It is used to determine the market value of a piece of land based on its developed value, applying explicit market inputs

50
Q

Give a brief overview of the methodology of the residual method of valuation?

A
  1. Determine GDV
  2. Deduct development costs (incl. profits)
  3. Arrive at residual land value
51
Q

When would you use the contractor’s method of valuation

A

For specialised properties, when there is a lack of direct comparable evidence or sometimes for owner occupied properties

52
Q

What is a specialised property?

A

Unique/not much transactional evidence - e.g. lighthouses/bandstand in a park

53
Q

Give an overview of the methodology for doing a DRC valuation?

A
  1. Determine the value of the land in its existing use (assuming planning permission in place)
  2. Add current cost of replacing the building + fees then deduct an allowance for depreciation/obsolescence
54
Q

What are the different types of obsolescence?

A

Physical - the result of deterioration over a building’s life
Functional - design/specification of an asset no longer fulfills the function for which it was originally designed
Economic - i.e. market conditions render an asset obsolete

55
Q

Is the DRC method of valuation suitable for loan security valuations?

A

No, it can be used for the calculation of MV only for valuations for financial statements
N.B. when reporting a DRC valuation, the valuer must also state the MV for any readily identifiable alternative use

56
Q

What is the structure of the RICS Valuation Global Standards 2021 (Red Book)?

A
  1. Introduction
  2. Glossary
  3. Professional Standards
  4. Valuation technical and performance standards (VPS)
  5. Valuation applications (VPGA)
  6. International Valuation Standards (IVS)
57
Q

Are you aware of the section of the red book which relates to profits method for trading assets?

A

VPGA 4 - provides a non-exhaustive list of properties including self storage and PBSA

58
Q

What are some of the changes in the 2021 Red Book compared to the previous version?

A

-Need for valuation reports to explicitly outline whether they are red book compliant or not
- Greater focus on sustainability, including definitions and that ESG and sustainability factors should form an integral part of the valuation approach for secured lending vals, with commentary potentially required on maintainability of income and future cost liabilities to meet changing regulations and investor demands

59
Q

When are valuations exempt from compliance with the standards and practice statements set out in the Red Book?

A
  • The valuation advice is given in anticipation of providing evidence in the capacity of an expert witness
    -The advice is given in an agency capacity, particularly in anticipation of receiving an instruction to dispose of/acquire a property
  • The advice is provided to a client for internal purposes only, with no third party reliance
  • valuation provided for negotiations/litigation
  • valuation provided in a statutory function
60
Q

What are some of the obligations of valuers under PS2?

A
  • Valuers must comply with the five rules of conduct
  • Valuers must be objective and independent; they should apply professional skepticism when reviewing information and data before relying on it
  • they must understand the client’s requirements and comply with the minimum terms of engagement
61
Q

What does the Red Book stipulate with regards to terms of engagement?

A

The valuer must set out in writing to the client, prior to undertaking a red book valuation, terms of engagement including the following:
-Identity/status of the valuer
- Identity of the client
-Asset(s) to be valued
-Purpose of valuation/currency/basis of value/date of valuation
-Confirmation of compliance with Red Book Global (RBG)/IVS
- Fee basis
-Format of report
-Complaints Handling Procedure
-nature and source of the information to be relied upon
- extent of investigation
- limitation on liability agreed
- any assumptions/special assumptions to be made

62
Q

What is an assumption?

A

something that it is reasonable for a valuer to accept without the need for specific verification/investigation - e.g. compliance with building regs/permitted planning use

63
Q

What is a special assumption?

A

An assumption made by the valuer that something is true, even though it is contrary to reality - e.g. valuing on the basis of vacant possession, despite a building being let

64
Q

What is a desktop (restricted) valuation

A

A valuation undertaken without inspection

65
Q

What should a valuer consider when undertaking a restricted desktop valuation?

A
  • agree the nature of the restriction in written terms of engagement
  • confirm the possible valuation implications of the restriction
  • the valuer should consider whether the restriction
66
Q

Can a valuer conduct a re-valuation without a re-inspection?

A

Only if the valuer is satisfied that there have been no material changes to the property or the nature of its location since the last inspection; this must be confirmed in terms of engagement and in the valuation report

67
Q

In addition to the minimum information in the terms of engagement, what must be included in the valuation report?

A
  • The valuation figure
  • restrictions on use, distribution and publication
  • valuation approach and reasoning
  • comment on market uncertainty
68
Q

What is the Red Book guidance on preliminary (draft) valuation reports?

A
  • Draft reports must be clearly marked as a draft for internal purposes only and cannot be relied upon; it must be stated that the draft is subject to completion of the final report
  • a draft valuation may be discussed with the client but the valuer must not be influenced by the client in any way
  • any changes to the preliminary valuation must be stated and explained on file
  • Any further information supplied by the client following the draft valuation must be stated in the report
69
Q

What are main bases of value?

A

-Market Value
-Market Rent
-Fair Value
- Investment value

70
Q

What is market value?

A

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 have each acted knowledgeably, prudently and without compulsion

71
Q

What is market rent?

A

It is 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 where both parties have acted knowledgeably, prudently and without compulsion

72
Q

What is fair value and when is it required

A

The price that would be received to sell an asset or transfer a liability in an orderly transaction between market participants at the measurement date
- it is required if IFRS has been adopted by the client

73
Q

What is investment value ?

A

the value of an asset to a particular owner or prospective owner based on individual investment or operational objectives

74
Q

What does VGPA 2 cover?

A

Valuations for secured lending

75
Q

What does VGPA 2 stipulate must be declared before undertaking a valuation for loan security?

A

Any current, previous or anticipated involvement or professional relationship with the prospective borrower or the property to be valued must be declared by the valuer to the lender

76
Q

what are examples of “involvement” that a valuer would need to declare prior to undertaking a loan security valuation?

A
  • Having a longstanding relationship with the property to be valued or the borrower
  • Being retained to act in the disposal or letting of the completed development
  • When the valuer will gain a fee from introducing the transaction to the lender
77
Q

Can a valuer proceed if there are potential conflicts?

A

Yes, assuming they are agreed with the client and recorded in writing in the terms of engagement

78
Q

What are some of the additional reporting requirements required for loan security valuations under VGPA 2?

A
  • Explanation of methodology used, supported by calculations where appropriate
    -Disclosure of any involvement in the terms of engagement
  • A comment on the increasing importance of sustainability and its potential impact on valuation
79
Q

What does VGPA 8 relate to ?

A

The valuation of real property interests; it emphasises some of the key ESG and sustainability factors to consider when undertaking a valuation, including flood risk, carbon emissions and regulatory change

80
Q

What does VGPA 10 cover?

A

Matters that may give rise to material valuation uncertainty

81
Q

What are some examples of matters that may give rise to material valuation uncertainty?

A

-Restricted information
- Asset-specific factors, for example the asset being very unique
- Geo-political events/pandemics etc that coincide with the valuation date and lend themselves to additional uncertainty

82
Q

What does Part 6 of the Red Book cover?

A

International Valuation Standards

83
Q

How is the section on IVS comprised?

A

General standards - e.g. terms of engagement, approaches to valuation, bases of valuation, methods of valuation
Asset standards - e.g. requirements relating to specific types of property

84
Q

What is the relationship between the Red Book and the UK National Supplement?

A

the UK National Supplement is there to augment the Red Book and is not a substitute - this was confirmed by the Pereira Gray review. It includes UK VPGAs

85
Q

What are regulated purpose valuations?

A

-Valuations relied upon by third parties who did not commission the valuation
- They are subject to valuation monitoring

86
Q

What are some examples of regulated purpose valuations?

A

Financial reporting
stock exchange listing
takeovers/mergers

87
Q

Is secured lending a regulated purpose valuation?

A

No because it does not entail third party reliance.

88
Q

What are some of the monitoring requirements for regulated purpose valuations?

A

-Valuers must declare the length of time they have acted for a client for regulated valuation purposes and the firm must disclose the length and extent of its relationship with the client
-Valuers must declare if the client’s fee income is greater than 5% of total fee income

89
Q

What does UK VPS 3 say in relation to valuations of a property purchased by a firm?

A

When an asset is purchased, or an introductory purchase fee is accepted by the firm, it cannot be valued for a regulated purpose valuation for 12 months by the same firm

90
Q

As of May 2024, what does the national supplement outline regarding mandatory rotation requirements for valuers?

A
  • Max 10 year period before rotation for a valuation firm (can include multiple engagements)
  • Max 5 years for single engagement
  • Max 5 years for individual responsible valuation
  • Min 3 years break after rotating off an engagement
91
Q

What is your understanding of the Pereira Gray review?

A

It was commissioned in 2021 by the RICS’ Standards and Regulation Board to futureproof practices for the valuation of real estate for investment purposes.
It set out several recommendations, including new rotation policies for valuations for regulated purposes and the adoption of the DCF as the main model to be used for the valuation of investment property

92
Q

What is an acceptable margin of error in a valuation?

A

KS Lincoln vs CB Richard Ellis (2010) established that a margin of +/-10% for commercial property valuations is acceptable (+/- 15% is there are unusual characteristics)
Dunfermline Building Society Vs. CBRE (2017) upheld the +/- 15% margin for unusual characteristics (this case referred to a development site with limited comparable evidence)

93
Q

What is hope value?

A

The value that arises from the expectation that the current circumstances of a property will change in the future.
For example, the hope that planning permission will be granted for a site where it currently does not exist

94
Q

What is marriage value?

A

The increase in value caused by the combination of two or more properties, where the combined value is greater than the separate value

95
Q

What is Stamp Duty Land Tax and what are the current bands for commercial property?

A

A tax paid by the purchaser upon the transfer of land or buildings
Current bands:
0 - 150k: 0%
150k - 250k: 2%
250k+: 5%

96
Q

How would you value a long leasehold interest?

A

Deduct the ground rent from the rent received to derive net income
Then capitalise at an appropriate yield for the remainder of the term

97
Q

What are typical purchaser’s costs?

A

5% - SDLT
1% + VAT - agent’s fees
0.5% + VAT - legal fees

98
Q

How would you calculate the WAULT of a property?

A
  1. Multiply the unexpired term of each tenant by their rent and sum these figures.
  2. Divide this figure by the current annual rent for the whole property to reach WAULT
99
Q

How would you calculate the net effective rent?

A
  1. Multiply lease length by headline rent
  2. Deduct incentives
  3. Divide this figure by lease length
100
Q

What is the significance of Stokes vs Cambridge (1961)?

A

Established the principle that the value of a ransom strip is a percentage of the development value that would be unlocked by the addition of the strip

101
Q

What is the rationale of zoning in retail valuations?

A

The rental value of the shop space reduces the further it is away from the street

102
Q

What is zoning?

A

It is a valuation technique used for retail properties, which is based on the principle that the rental value of a retail property reduces the further away it is from the frontage.
To derive your zone A figure you would apply the halving back principle, applying 100% to area occupying 20 feet of depth, 50% to the next 20 feet and so on. You would generally apply 10% of zone A for basements and upper floors and a 10% uplift for return frontage.
The zone A figure you arrive at is a unit of comparison for comparing rents of retail properties of different sizes and layouts.

103
Q

What is the RICS Valuer Registration Scheme?

A

A regulatory monitoring scheme for all valuers carrying out Red Book Valuations

104
Q

What are the aims of the RICS Valuer Registration Scheme?

A
  1. To improve the quality of valuation and ensure the highest possible professional standards.
  2. To meet the RICS’ requirement to self-regulate effectively.
  3. To protect and raise the status of the valuation profession

APC 2024 (27 decks)

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