Valuation 2.0 Flashcards
Define Investment Value (worth)
The value of an asset to the owner of prospective owner for individual investment or operational objectives
Define fair value
The price that would be received to sell an assetor paid to transfer a liability in an orderly transaction between market participants at the measurement date
Define 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 arms length transaction, after proper marketing, and where the parties each acted knowledgably, prudently and without compulsion
Define Market Rent
he estimated amount for which an interest in real property should be leased on the valuation date between a willing lessee and willing lessor on appropriate lease terms in an arms length transaction, after proper marketing and where both parties had each acted knowledgably, prudently and without compulsion
Define basis of value
Statment of the fundemental measurement assumptions of a valuation
What are the different bases of value?
- Fair value
- Market value
- Investment value / Invesment worth
- Market rent
What is expected to be included in terms of engagement?
- Identification of valuer
- Identification of Client
- Identification of property
- Basis of value
- Method of valuation
- Special assumptions
- Limtations on inspections
- Currency
- Purpose of valuation
- Complaints handling
- Valuation date
- Fee
What is an assumption?
An assumption is made where it is reasonable for the valuer to accept that something is true without the need for specific investigation
What is a special assumption?
A special assumption is made where an assumption either assumes facts that differ from those existing at the valuation date or would not be made by a typical market participant on that valuation date
Give examples of a special assumption
- PLanning consent has or will be granted
- Property has been changed in a defined way
- The property is vacant (when occupied at the valuation day)
- The property is let on defined terms (when vacant at the valuation date)
What is a yield?
A measure of investment return -> expressed as a percentage of capital investment
Calculated by expressing rental income as a % of property cost -> (income/price x 100)
What is gross yield?
The yield not adjusted for purchasers’ costs (such as an auction result)
What is Net Yield?
The resulting yield adjusted for purchasers cost
What is a reversionary yield?
Yield achieved if the passing rent adjusts to the level of estimated rental value
Market rent divided by current price on an investment let at a rent below the Market Rent
What is an equated yield?
The internal rate of return taking into account growth (growth in future income)
What is an equivalent yield?
Weighted average yield
-> Average weighted yield when a reversionary property is valued using an initial and reversionary yield
What is initial yield?
Simple income yield for current income and current price
What is true yield?
Assumes rent is paid in advance not in arrears (traditional valuation practice assumes rent is paid in arrears)
What is nominal yield?
Initial yield assuming rent is paid in arrears
What is running yield?
The yield at one moment in time
What is All Risks Yield?
The remunerative rate of interest used in the valuation of fully let property let at market rent reflecting all the prospects and risks attached to the particular invesmtent
- The construction (age, design, specification)
- The quality of the tenants covenant
- The amount of rent (i.e. market-rented, over/under-rented)
- The unexpired lease term
- The other lease terms
- Anticipated rental growth (location)
What effect does rent receieved quarterly in advance have on the yield?
It goes up
Why os statutory due diligence done prior to valuation?
This is required to check that there are no material matters which could impact upon the valuation
What could statutory due diligence include for a valuation?
- Asbestos register
- Business rates / council tax
- Contamination
- Equality Act compliance
- Environmental matters
- Fire safety and H&S compliance
- EPC rating
- Flooding
- PLanning history and compliance
What is the timeline when receiving a valuation instruction?
- Check competance upon receiving instruction
- Conflicts of interest check
- Issue ToE and receive signed
- Gather information (leases, licences, title docs, planning info, OS maps)
- Due diligence check (ensure no matters could adversely impact value)
- Inspect and measure
- Research market and assemble, verify and analyse comparables
- Undertake valuation
- Draft report
- Have report reviewed by another surveyor
- Finalise and sign report
- Report to Client
- Issue invoice
- Ensure files kept for archiving
What is the Red Book?
RICS Global Valuation Standards, 2022
Contains mandatory rules, best practice guidance and related commentary
What is the Red Book?
RICS Global Valuation Standards, 2022
Contains mandatory rules, best practice guidance and related commentary
Why does the Red Book exist?
- To promote and support high standards in valuation delivery worldwide
- Establish a framework for best practice for valuers
- Enables consistency, transparecy and avoids conflicts
What is the current edition of the Red Book? // WHen was The Red Book last updated?
RICS Valuation - Global Standards 2022
-> Rplaced 2020 edition
What changes were made to the current edition of the Red Book?
Reflect changes in International Valuation Standards, published by IVS council and progress in international standard for ethics and measurement
What are the International Valuation Standards Coundil (IVSC)?
Not for profit organisation, sponsored by RICS, that acts as the gloabl standard setter for the valuation profession
What are the International Valuation Standards Coundil (IVSC)?
Not for profit organisation, sponsored by RICS, that acts as the gloabl standard setter for the valuation profession
What other refinements were made to the Red Book from 2020 to 2022?
- More detail on terms of engagement when applying any exceptions to VPS1-5
- Definitions and commentary on sustainabulity / ESG
- Improving and clarifying existing text
What is the Red Book made up of?
2 mandatory sections and 2 advisory sections
Which sections of the Red Book are mandatory and which are advisory?
mandatory: Part 3 - Professional Standards (PS)
Part 4 - Valuation Technical and Performance standards (VPS)
-
Advisory; Part 5 - Valuation Applications (VPGA)
Which sections of the Red Book are mandatory and which are advisory?
mandatory: Part 3 - Professional Standards (PS)
Part 4 - Valuation Technical and Performance standards (VPS)
-
Advisory; Part 5 - Valuation Applications (VPGA)
When can you deviate from the Red Book?
- Agency or brokearage
- Acting as expert witness
- Performing statutory functions
- Internal Purposes
- During negotiation of litigation
When can you deviate from the Red Book?
- Agency or brokearage
- Acting as expert witness
- Performing statutory functions
- Internal Purposes
- During negotiation of litigation
Is there a seperate UK Red Book?
Yes -> UK National supplement issues seperately since 2015
What is the key difference between the UK National Supplement?
Assists with the application of global standards in a local context
What is the key difference between the UK National Supplement?
Assists with the application of global standards in a local context
What does PS1 and PS2 relate to?
PS 1 - Compliance standards where written valuation is provided
PS 2 - Ethics, competancy, objectivity and disclosures
What does VPS 1-5 relates to?
VPS 1 - terms of Engagement
VPS 2 - Inspections, investigations, records
VPS 3 - Valuation reports
VPS 4 - bases of value, assumptions and special assumptions
VPS 5 - Valuation approaches and methods
What do the VPGA relate to?
VPGA 1-10
Valuaion of various things such as intangible assets, plant and equipment etc
What do the VPGA relate to?
VPGA 1-10
Valuaion of various things such as intangible assets, plant and equipment etc
What are the 5 main methods of valuation?
- Comparative method
- Investment method
- Profits method
- Residual method
- Contractors method (Depreciated Replacement Cost)
What are the associated valuation approaches?
- Income approach - converting current and future cash flows into capital value (Investment, residual and profits method)
- Cost approach - reference to the cost of he asset whether by purchase or construction (DRC method)
- Market appraoch - using comparable evidence
What is the method for completing comparable valuation?
- Search and select comparables
- Confirm/ verigy details and alayse headline rent to give a net effective rent
- Assemble comparables in a schedules
- adjust comparables using hierarchy of evidence
- Analyse comparables to form opinion of value
- Report value and prepare file note
What is headline rent?
Rent payable after short-term incentive/rent free period has expired (inflated rent as ignores rent free period)
What is net effective rent?
The actual rental cost with deductions related to incentives and concessions
What is the hierarchy of evidence?
Weight / rank applied to each piece of comparable evidence
1. Open market lettings
2. lease renewals
3. Rent reviews
4. Independent expert examination
5. arbitrators awards
When is the investment method of valuation used?
Used when there is an income stream to value
-> rental income capitalised to produce a capital value
Where do you find comparable evidence?
- local letting agents
- in house data bases
- External data bases -> CoStar, Egi, Focus
Where do you find comparable evidence?
- local letting agents
- in house data bases
- External data bases -> CoStar, Egi, Focus
What is the conventional invesmtnet method of valuation?
Rent eceived or market rent x Years Purchase @ chosen yield = market value
* comparables for rent and yield
What s the term and reversion method?
- Valuation approach used to value a reversionary investment
- Used to value investments with specific lease structures over two-time windows (term & reversion)
Explain the term and reversion process
Term capitalised until next review (remaining term)
-> passing rent x YP @ capitalisation rate (yield)
Reversion to market rent valued in perpetuity at a reversionary yield
-> MR x YP perp @ reversionary yield
-> PV it back for term length at reversionary yield
What is the hardcore and top slice method?
Used to value reversionary investments (over-rented)
How do you undertake a hardcore and topslice valuation
Income flow divided horizontally -> combines bottom slice and top slice to give market value
Bottom slice - passing rent capitalised into perp (at lower yield due to lower risk)
Top slice - top slice rent is capitalised from reversion into perp -> less secure so higher yield
What is top slice rent?
Difference between Market rent and rent passing (hardcore rent)
What is top slice rent?
Difference between Market rent and rent passing (hardcore rent)
How does risk affect yields?
higher risk = higher yield
prospects for rental and capital growth
Quality of location and covenant
Use of property
Lease terms
Voids
Security and regularity of income
What is a DCF?
Discounted Cash Flow
Method of valuation that projects estimated cash flows over an assumed holding period
The cash flow is then discounted back to the present day at a discount rate that reflects perceived levels of risk
When would you use a DCF?
If the property is complex and explicity wanted to include assumptions not included in the yield, such as long marketing periods
Give some examples of when you would use DCF
- Large multi-let properties with frequently changing income
- Phased development projects
- Alternative investments
- Short leasehold interests and properties with income voids or complex tenures
What is the method for DCF?
- Estimate the cash flow (income less expenditure)
- Estimate the exit value at the end of the holding period
- Select discount rate
- Discount cash flow at discount rate
- Value is the sum of the completed discounted cash flow to provide the NPV
What is the method for DCF?
- Estimate the cash flow (income less expenditure)
- Estimate the exit value at the end of the holding period
- Select discount rate
- Discount cash flow at discount rate
- Value is the sum of the completed discounted cash flow to provide the NPV
How does term and reversion and DCF differ?
DCF is useful to value multi-lete properties with frequently changing rental income
Term and reversion is a simplified DCF prcoess whereby only two time window are considered, the term and the reversion
How would you value an under-rented investment property?
term and reversion
How would you value an over-rented property?
hardcore/ layer method
What is GPV?
Gross Present Value
GPV is the worth to the investor
What is NPV?
Net Present Value (GPV - purchase price)
- Sum of the discounted cash flows of the project
- used to determine if an investment gives a positive return against a target rate of return
- NPV is positive = investment exceeded target rate of return
- NPV is negative = not achieved target rate of return
What is IRR?
Internal Rate of Return
- The rate of return at which all future cash flows must be discounted to produce an NPV of 0
- Determines the profitability of a potential investment
What is YP?
Years Purchase
- amount yielded by the annual income of the property
What is YP in perp?
Years Purchase into Perpetuity
- income of the property where a stream of cash flows continue indefinitely
What is PV?
Present Value
- Present Value is the current value of a future sum of money or stream of cash flows given a specified rate of return
When would you use the profits method?
Used for valuations of trade related property
-> used for valuing a business property and when the investment method and comparable method cannoy be used
When would you use the profits method?
Used for valuations of trade related property
-> used for valuing a business property and when the investment method and comparable method cannoy be used
What type of properties would you use the profits method for?
- pubs
- petrol stations
- hotels Cinemas
- Casions
- Leisure and healthcare proeprties
What type of properties would you use the profits method for?
- pubs
- petrol stations
- hotels Cinemas
- Casions
- Leisure and healthcare proeprties
What is the basic principle of the profits method?
Basic principle is thatthe value of the property depends on the profit generated from the business, not the physical building or location
What is required to undertake the Profits Method?
Accurate and audited accounts (if possible for last 3 years) -> audited accounts superior to management accounts
- use estimates / business plan if needed for a new business
- Adjust for maturity of business and any unacceptable or exceptional items of expenditure
What is required to undertake the Profits Method?
Accurate and audited accounts (if possible for last 3 years) -> audited accounts superior to management accounts
- use estimates / business plan if needed for a new business
- Adjust for maturity of business and any unacceptable or exceptional items of expenditure
What is the simple methodology for the Profits Method?
Annual turnover (income received)
less costs / purchases
= gross profit
less reasonable working expenses
= unadjusted net profit
less operators remuneration
= adjusted net profit = Fair Maintainable Operating Profit
- Can be expressed as the EBITDA
- Capitalised at appropriate yield (YP multiplier) to achieve market value
- Cross check with comparable sales evidence if possible
What is fair maintainable trade?
The level of trade that a reasonably efficient operator would expect to achieve on the assumption that the property is in good repir and suitably equipped
What is fair maintainable operating profit?
The analysis of accounts (profits method)
How do you calculate a tenants proportion of rent in a profits valuation?
A % of the net operating profit, or divisible balance, is taken to arrive at the Market Rent
Usually at 50%
What is EBITDA?
Earnings Before Interest, Tax, depreciation and Amortisation
Calculated by adding interest, tax, deprecitation and amortisation to net income
What is EBITDA?
Earnings Before Interest, Tax, depreciation and Amortisation
Calculated by adding interest, tax, deprecitation and amortisation to net income
How do you calculate divisible balance?
The divisible balance is the amount to be shared between the tenant and the landlord (tenant as gross profit and remaining as rental value to the landlord)
- Calculation is therefore -> gross profit of the hereditament minus working expenses = divisible balance
What accounts would you review for a profits valuation?
Profit / loss account -> audited accounts
Need to see turnover and net operating profit (turnover minus expenses, such as purchases, wages, utilities, repairs, insurance, rates, general expenses)
What is RLV?
Residual Land Value
When is the Residual method of Valuation used?
Valuation of Land and properties with development, redevelopment and refurb potential
When is the Residual method of Valuation used?
Valuation of Land and properties with development, redevelopment and refurb potential
What is the purpose of the residual method of valuation and development appraisal?
Tool to financially assess the viability of a development scheme -> assess profitability of scheme and sensitivty to variable changes
Is Residual Valuation and Development appraisal the same?
No, they are two different activities -> development appraisal have a role in residual valution of development sites
What is a development appraisal?
A calculation or series of calculations to establish the value/viability/profitability/suitability of a proposed development based upon the Clients inputs
-> a valuation is one of the possible outputs from the appraisal
Name a form of development appraisal?
Residual Land Valuation
Name a form of development appraisal?
Residual Land Valuation
Does RICS provide any guidance on RLVs or valuing development property?
RICS Valuation of Development property (1st Edition), October 2019
What is the basic process of undertaking a RLV?
Value of completed development
less development costs and developers profit
= Land Value (Gross Development Value)
What is the basic process of undertaking a RLV?
Value of completed development
less development costs and developers profit
= Land Value (Gross Development Value)
What do development costs include?
Demolition
Remediation works / building costs
Site clearance
Levelling
etc
What do planning costs include?
- Town and Country Planning Act 1990 Section 106 paymnet
- Community Infrastructure Levy (CIL)
- Planning application and building regulation fees
- Cost of planning consultant
- Cost of environmental impact assessment
What is a S.106?
Agreement between developer and local planning authority about the measures the developer must take to reduce their impact on a community
-> make a development possible that would otherwise not be possible
What is CIL?
Community Infrastructure Levy
A charge that local authorities can set on a new development to raise funds to help infrastructure, facilities and services in the community
What are building costs and where did you find them?
Estimate total costs of building works
- Building surveyor estimate
- RICS Building Cost Information Service (BCIS), usually based on a GEA basis
-> BCIS obtain monthly updates from QS/BS sources and recent contract pricestenders agreed
-> Paid subscription service for member
What purchasers costs do you deduct from a valuation?
- Agent fee
- Legal fee
- Stamp Duty Land Tax
- Cost of an EPC
Assume a realistic marketing budget
-> Normal sale fee around 1-2% of GDV and normal letting fee around 10% of initial annual rent
What are professional fees in a RLV?
- 10-15% +VAT of total construction costs for the professional fees for architects, M&E consultants, project managers etc
- CDM principal designer costs
What is contingency?
5-10% of total construction costs depending on risk and market
What are the 3 elemants for finance in RLV?
Devloper needs to borrow money for the:
1. Site purchase - compund interest
2. Total construction costs and associated costs - calculation based on an S-curve and taking half of the costs over the length of the build programme
3. Holding costs to cover voids until the disposal scheme -> compound interest on a straight line basis
What choice of interest rate is there for RLV?
- London Inter Bank Offer Rate (LIBOR) - variable lending rate plus premium to reflect interest rate achievable
- Bank of England rate plus premium
- Rate at which Client can borrow money
How did you determine developers profit?
% of GDV or total construction cost -> usually around 15-20% depending on risk
-> low risk = lower %
How did you determine developers profit?
% of GDV or total construction cost -> usually around 15-20% depending on risk
-> low risk = lower %
What are the limitations of the RLV method?
Importance of accurate info and inputs
Very sensitive to adjustments
What is a sensitivity analysis?
- Simple sensitivty analysis of key variables such as yield, GDV, build costs, interest
- Scenario analysis -> change scenarios
What is GDV and how do you calculate it?
Gross Development Value
Market Rent x YP into perp @ initial Yield
What is NDV and how is it calculated?
Net Development Value
Take off disposal costs from GDV
What is GRV and how is it calculated?
Gross Residual Value
Take away building costs, interest, contingency, and developers profit from NDV
How do you calculate Gross Acquisition Price?
PV of £1 in 12 months @ interest rate x GRV
How do you calculate site value?
Gross Acquisition Price less agents fees, legal fees, SDLT
How are Rents and yields established in a RLV?
Comparative method
What does a development appraisal show?
Profit erosion and maximum build/development costs
What is DRC?
Depreciated Replcaement Cost
-> method of valuation, not basis of value
When should DRC be used and what is its purpose?
Only used when direct market evidence is limited or unavailable for specialised properties (sewage works, lighthouses, schools etc)
- Used for owner-occupied property
- Accounts purposes for specialised property
- Rating valuations of specialised property
Is DRC suitable for Red Book compliance?
- Not suitable for Red Book Compliant valuation for secured lending
- Can be used to Calculate Market Rent for specialised properties in valuations for financial statements
What is the simple methodology for DRC?
- Value of Land in its existing use (assuming planning permission exists)
- Add current cost of replacing the building plus fees, less a discount for depreciation and obsollescence/deterioration (use BCIS and judgement)
When ould you use a dual rate investment calculation?
To value a leasehold interest with value
i.e. When a leasehold interest has a profit rent and unexpired term of 1 year
What is profit rent?
Difference between annual rent determined by the market and rent achieved
How would you value a leasehold interest // ascertain is a premium can be charged for the assignment of a lease?
i would capitalise the profit rent at
- YP dual rate
- YP dual rate, tax adjusted
- Single rate
What is turnover?
The amount taken in a particular period
What is fair maintainable turnover?
The level of turnover that a reasonably efficient operator would expect to achieve on the assumption the property is in good repair and suitably equipped
What is gross profit?
Profit taken before any deductions are made
What is net profit?
Profit taken after deductions are made
Explain what you know about the Stokes v Cambridge Corporation case?
Compulsory purchase of a road widening scheme -> resulted in 1/3rd of the increase in development land
- Valuation of 12.6 acres farmland
- Subject to satisfactory acccess and provision of estate road
- Planning permission for industrial development land assumed
What is a ransom strip?
Strip of Land for which development cannot be accessed unless using that land
How would you value a ransom strip?
Usual for one third of the increase in value of the development land resulting from the access
-> stokes v Cambridge Corporation
What is a marriage value? (synergistic value)
An additional element of value created by the combination of two or more assets interest, where the combined value is more than the sum of the seperate value
What are the current SDLT bands?
from 17th March 2016:
- 0% on first £150k
- % on next £100k
- 5% above £250k
What is your duty of care as a surveyor when undertaking a valuation
Duty of care and skill to the Client
What is an implied term?
Terms implied into contracts by the court because the term hasn’t been expressly included by the parties
What is an express term?
A term that is expressly agreed between the contracting parties
What sources would you consider when preparing a valuation report?
- Own database
- For sale / letting boards
- Agents
- Land Registry
- External databases, Egi, CoStar, Focus
What is interpolation and extrapolation?
Adjustments made to comparable evidence to value a property may be referred to as interpolation and extrapolation
What is interpolation?
Calculating, or plotting on a graph, a value that is between two extreme points
What is extrapolation?
Calculating, or plotting on a graph, a value that lies outside two extreme points
Why is independence and objectivity important when valuing?
- Confidentiality of information
- Conflicts of interest
What is WAULT?
Weighted average Unexpired Lease Term - remaining to the first break or expiry of a lease across asset weighted by the contracted rent
- Calculation often undertaken when valuing an asset or considering appropriate investment yields comparables for multi-occupied individual investments or portfolios
What is zoning?
Valuation technique (not method) based on the halving back principle -> front of shop is more valuable than back
What are typical zone lengths?
20 ft (30ft oxford street and bond street)
How many zones are common
A, B, C, D, Remainder
What is ITZA?
In terms of zone A
Why is zoning used?
for comparison of retail units to create comparison for different sized buildings
How do you value a long leasehold interest?
Rent received less ground rent = net rental income
Capitalised at appropriate yield for remaining term
= Market Value of leasehold interest
What is hope value?
The value arising from any expectation that future circumstances affecting the property may change
- i.e. Future prospect of securing planning permission
- The realisation of marriage value
What is a building cost reinstatement valuation
Cost of reinstating the building without profit
-> used for insurance purposes
is there any RICS guidance on Right To Light?
RICS Guidance Note on Rights of Light 2016
-> 20 years uninterrupted enjoyment of light = right to light
What is a party wall?
Stands astride the boundary of land belonging to 2 or more parties
- Party Wall Act 1996
