Valuation Flashcards
Can you outline the three approaches to valuation?
*Market approach: Uses comparable sales or rental evidence to determine value. Suitable for residential, commercial, and investment properties.
*Income approach: Based on the income-generating potential of a property. Includes methods like investment method and DCF (Discounted Cash Flow). Used for leased commercial properties.
*Cost approach: Calculates the cost to replace or reproduce an asset, minus depreciation. Used for specialised assets where comparable are limited (e.g., infrastructure, hospitals).
What are the five methods of valuation, and when would you use each one?
*Comparable method – Used for properties with sufficient market evidence (e.g., residential and commercial sales).
*Investment method – Used for income-producing properties (e.g., rented offices, retail units).
*Residual method – Used for development land to determine the land value after deducting development costs and profit.
*Profits method – Used where value of the property is based on profit, such as hotels, pubs, and care homes (based on a percentage of trading profit).
*Cost method – Used for specialised properties where neither comparable nor income-based methods are viable (e.g., schools, hospitals).
How do you determine the most appropriate valuation method for a specific property?
*Consider the purpose of valuation
*Assess the availability of market evidence
*Evaluate the type of property (e.g., leased properties suit the income approach, while unique properties may need cost or profits methods).
*Examine wider factors such as lease structure, use class, and planning considerations.
Why is adherence to the Red Book important for valuation professionals?
*Ensures professionalism, independence, and credibility in valuation work.
*Provides a standardised approach, ensuring clients receive consistent and transparent reports.
*Helps mitigate valuation risk and potential conflicts of interest.
Can you outline the key sections that should be included in a Red Book-compliant valuation report?
*Instruction details – Client name, purpose, and valuation date.
*Scope of work – Basis of value (e.g., Market Value, Fair Value).
*Methodology – Justification for valuation approach.
*Assumptions & Special Assumptions – Key considerations affecting valuation.
*Market analysis – Supporting evidence (e.g., comparables, market trends).
*Valuation conclusion – Stated value and rationale.
*Compliance statement – Confirmation of Red Book adherence.
What is the difference between a Red Book-compliant valuation and an informal valuation?
*Red Book-compliant valuation: Formal, regulated, and follows strict reporting and ethical guidelines. Used for secured lending, financial reporting, and legal purposes.
*Informal valuation: Less detailed, may not follow Red Book standards, and often used for internal purposes or advisory work.
How does lease term impact valuation?
*Short leases: Typically reduce value due to lack of long-term income security.
*Long leases: Enhance value, especially with strong covenants.
*Break clauses and upward-only rent reviews can also influence value.
How do location and use class affect the valuation of a property?
*Prime locations command higher values due to demand and accessibility.
*Use class restrictions can limit alternative uses, impacting value.
*Proximity to transport, amenities, and economic activity also plays a key role.
What market factors should be considered when conducting a valuation?
*Supply and demand in the local property market.
*Economic factors (e.g., interest rates, inflation).
*Government policies (e.g., tax, planning regulations).
*Investor sentiment and financing availability.
What sources of evidence would you use to support a valuation?
*Comparable transactions from reliable market data sources.
*Rental evidence from lettings of similar properties.
*Yields and investment data for income-based valuations.
*Cost estimates for new developments or specialist assets.
What are the two types of valuer?
*Internal Valuer - employed by company, internal use only
*External Valuer - no material links to asset or client
What are the first 3 steps to undertake before commencing a valuation?
- Competence - are you competent to undertake this work?
- Independence - any conflicts of interest?
- Terms of engagement
Name some statutory due diligence for valuations?
Asbestos register
Business rates/Council tax
Contamination
Equality Act 2010
EPC rating
Flooding
Fire Safety
Health and Safety
Legal title and tenure
Public right of way
Planning history and compliance
Why is statutory due diligence carried out?
This is required to check that there is no material matters that could impact upon the valuation
Steps of a Valuation Instruction?
Receive instruction
Check competence
Check no conflict of interest
Issue terms of engagement
Signed Terms of engagement
Gather information
Undertake due diligence
Inspect and measure
Research market and comparable evidence
Undertake valuation
Draft report
QA of report
Finalise and sign report
Report to client
Issue invoice
Save valuation for record purposes
5 main methods of valuation?
Comparative method
Investment method
Profits method
Residual method
Contractor’s method
What is the methodology of the comparative method?
- Search and select comparables
- Confirm/verify any details and analyse headline rent to give a net effective rent
- Assemble comparables in a schedule
- Adjust comparables using the hierarchy of evidence
- Analyse comparables to form opinion of value
- Report value and prepare file note
What is the hierarchy of evidence?
*Category A - direct comparables:
Completed transactions of near identical/similar properties which information available
*Category B - general market data that can provide guidance:
Information from published sources or commercial data bases
*Category C - other sources:
Transactional evidence from other real estate types
What does the Comparable evidence Guidance note outline?
‘Comparable Evidence in Real Estate Valuation, 1st Edition 2019’
Outlines the principles in the use of comparable evidence, provides advice on situations with limited availability of evidence
How to search for relevant comparables?
*Recent market activity - search agents boards
*Speak to local agents
*Auction results (be careful as gross price)
*In house records/databases eg Egi, Costar
When identifying/analysing comparable evidence, the potential valuer should seek to ensure?
*Comprehensive - have you for all the facts, several comps
*Similar transaction if not identical
*Recent transactions
*Verifiable as far as is practicable
When would the investment method of valuation be used and how?
When there is an income stream to value
The rental income is capitalised to produce a capital value
How would you apply the conventional investment method?
Rent received/market rent x years purchase = Market Value
When and how would you use the Term and Reversion Method?
*When property has an existing lease that is below market rent
*Capitalise the current rent with time remaining on the lease
*Capitalise the future rent, but discount it back to present value
*Present value of term + Present value of reversion
When would you use the layer/hardcore method?
*Used for multiple tenants with different lease terms and rent levels or overmarket rent and can separate stable income from the risky part
*Divide income horizontally, bottom = market rent, top slice = rent passing less market rent, use different yields
What is a yield and how is it calculated?
A measure of investment return expressed as a percentage of capital invested
Income divided by price x 100
What are the prime and secondary yields in Cambridge?
Prime lab 4.75%, Office 6%
Secondary Lab 5.5%, Office 6.75%
What kinds of risks do you have to factor when determining a yield?
*Quality of location and covenant
*Use of property
*Lease terms
*Prospects for rental and capital growth?
What is an All risks yield?
Using market rent of a fully let property reflecting all prospects and risks
What is a True yield?
Assumes rent is paid in advance not 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 cost
What is a net yield?
The yield adjusted for purchaser’s cost
What is an equivalent yield?
Balances initial yield and reversionary yield
What is an initial yield?
Current income and current price
What is a reversionary yield?
Return expects to get in the future when rent rises to its full market value
What is a running yield?
The yield at one moment in time
What is Discounted Cash Flow Technique?
*Growth explicit investment method
*Estimates the worth of an investment by predicting the future cash flows and then discounting them back to their present value
When would you use a DCF valuation?
Short leasehold interest and properties
Phased development projects
Overrented properties and social housing
Can you talk me through a simple methodology to find market value for DCF?
- Estimate the cashflow
- Estimate the exit value at the end of the holding period
- Select the discount rate
- Discount cash flow at discount rate
- Value is the sum of the discounted cash flow to provide the NPV
What is the RICS note for DCF?
RICS Practice Information: Discounted cash flows valuations, November 2023
What does the Net Present Value determine?
If an investment gives a positive return against a target rate of return
What is the Profits Method of Valuation used for?
Used where the value of the property depends upon the profitability of its business and trading potential, i.e. pubs, hotels etc.
What is a simple methodology of the Profits Method of Valuation?
1.Estimate annual turnover
2.Less cost and purchasers to get to GROSS PROFIT
3. Less reasonable working expenses UNADJUSTED NET PROFIT
4.Less operators remuneration to get FAIR MAINTAINABLE OPERATING PROFIT which can be expressed as EDITDA
5. Capitalised at an appropriate yield to achieve market value
What is EDITDA?
Earnings before interest, taxation, depreciation and amortisation
What is the difference between a development appraisal and a residual valuation?
Development appraisal financially assess the viability of a development scheme whereas residual valuation finds out the market value of the site.
What is the basic methodology of a residual site valuation?
GDV - (Development Costs + Profit) = Residual Land Value
What development costs should be considered for a residual/development?
Site preparation
Planning costs
Building costs
Professional fees
Contingency
Marketing costs and fees
Calculation of finance
What are site preparation costs for residual/development?
Demolition, remediation, clearance, leveling etc.
What’s included in planning costs for residual/development?
CIL, S278, S106
How would you estimate building costs for a residual/development?
Client info, BCIS, QS
How much would you estimate for professional fees for residual/development?
10-15% of total construction costs
What would professional fees include for residual/development?
Architect, M&E, Structures, Landscaping
What level of contingency would you allow for in a residual/development?
5-10% depending on level of risk and market movement
How do you calculate the cost of finance for your appraisal?
Sterling Overnight Index Average
Bank of England Base rate plus premium
What are the 3 elements a developer needs to borrow money for?
Site purchase - compound interest on a straight line basis
Total construction and associated costs - S-curve
Holding costs to cover voids until disposal (service charge, empty rates) - compound interest on a straight line basis
What level of developer profit would you apply?
15-20% depending on risk
What are the two main methods of finance?
Debt finance - lending money from a bank or other funding
Equity finance - selling shares in a company or jv or own money
What is overage?
Arrangement made for sharing of any extra receipts received over and above the profit originally expected or agreed
When is VAT payable?
On all professional fees
What is a profit erosion period?
Length of time it will take for development profits to be eroded/decrease due to making a loss
What are the limitations of residual valuation?
- Importance of accurate information and inputs
- Does not consider timing of cash flows
- Sensitive to minor adjustments
What are the 3 forms of sensitivity analysis?
- Simple - key variables
- Scenario - changes in development/timing/cost/design
- Monte Carlo simulation - probability theory
