Valuation Competency Flashcards
Define External and Internal Valuer’s
External Valuer – no material links with the asset to be valued or the client
Internal Valuer – employed by the company to value assets of the company. For external use only
Describe steps prior to commencing a valuation instruction
- Are you competent to undertake the instruction? Correct level of skills, understanding and knowledge. Determine the purpose of the valuation
- Independence – Check for any conflicts
- Signed terms of engagement – Confirmation of instructions, confirm competence of valuer and extent and limitations of the valuers inspection must be stated. Agree on assumptions and special assumptions. Minimum requirements are set out in PS1 of the Red Book
- Check that valuers firm holds sufficient PII to cover the potential liability stemming from the instruction
What is the purpose of statutory due diligence?
Background checks such as EPC rating, council tax, flooding, highways, tenure and title to check there are no material matters that could impact value on the valuation
Describe the process / timeline for a valuation?
- Receive an instruction
- Check competence and independence so no conflicts
- Issue ToE inline with PS1 of Red Book (if compliant)
- Receive ToE from client
- Gather information – leases, title documents, OS plans
- Undertake due diligence – check there are no matters that could impact the valuation
- Inspect and Measure in line with Property Measurement and Surveying Safely
- Research market and assemble, verify and analyse comps
- Undertake valuation and draft report. Potentially cross check using another method if appropriate. Get report peer reviewed by RICS Registered Valuer
- Issue to client and issue invoice.
- Ensure valuation file is in good order for archiving
Name the five methods of valuation?
- Comparable method
- Investment method
- Profits method
- Residual method
- DRC (Depreciated replacement Cost) method
Name the 3 main valuation approaches
- Income approach – Investment, Residual, Profits
- Cost approach – DCR
- Market approach – Comparable method
Describe the main stages for the comparable method
- Search and select comparables, which are in a similar location, similar size / construction type to the Subject property
- Confirm and verify details with agents to ensure reliable and work out price per sqft/sqm
- Put comparables into a schedule and adjust comparables using the hierarchy of evidence. Most weight to completed transactions, recently sold
- Analyse and adjust comparable evidence (adjust for size, location, condition etc)
- Report value and prepare file note
Define a comparable
an item used during the valuation process as evidence to support the valuation of another similar item
Name guidance note on comparable method
RICS Guidance Note – Comparable Evidence in Real Estate Valuation, 1st Edition, 2019
Describe the RICS Guidance Note – Comparable Evidence in Real Estate Valuation, 1st Edition, 2019
Guidance Note = good practise for RICS members and RICS regulated firms
• Outlines principles in the use of comparable evidence
• When limited available comparable evidence, notes that the valuer should use professional judgement to assess evidence on a case by case basis
• Provides Hierarchy of Evidence information
Describe the Hierarchy of Evidence (outlined in RICS Guidance Note – Comparable Evidence in Real Estate Valuation, 1st Edition, 2019)
Hierarchy of Evidence – certain types of evidence usually take precedence over others
Category A Evidence (Direct Comparable Evidence)
• Recent completed transactions of near identical properties, possibly the subject property itself, with full and accurate data is available
• Similar real estate being marketed where offers may have been made but a binding contract has not been completed
• Asking Prices, with careful analysis
Category B Evidence (General market data)
• Information from published sources
• Indices – HPI index for housing
• Historic evidence
Category C Evidence (Other sources)
• Transactional evidence from other real estate types and locations
Describe sources of comparable evidence in residential valuations
Inspection of area to look at agents boards
• Ring local agents
• Auction results (EIG) – possibly a special purchaser or insolvency sale
• Rightmove Plus, EIG, EGi, Land Registry
Name different investment methods
Term and Reversion, Hardcore Layer and DCF
Describe the conventional investment method
Rental income is capitalised to produce the capital value
Rent received/market rent * Years Purchased = Market Value
Define Years Purchase / Present Value of £1 per annum
Years Purchased is defined as the number of years it will take the income (rent) to repay its purchase price, reflecting the time value of money.
YP = 1-(1+i)^-n/i
Reflects the time value of money, allowance for the risk, returns and expectations of growth
Define YP in perpetuity
=1/i
Define PV £1 formula
PV £1 = 1/(1/i)^n
n=number of years
Formula for Gross Initial Yield
= Rent / Capital Value
When is Term and Reversion method used
Used when market rent is more than passing rent (under rented)
Describe method
- Term is capitalised until next review / lease renewal at an initial yield
- Reversion to market rent valued in perpetuity at a reversionary yield
- At the reversion, need a YP to capitalise but in perpetuity but need to discount using Present Value of £1 (PV£1)
- At reversion, time value of money is a bigger issue as the time is further away, has more risks, there is less value to the money due to inflation and there is an inability to invest elsewhere.
- Use higher yield in reversion as higher risk
When is Layer and Hardcore method used
• Used for over rented investments (passing rent exceeding market rent)
Describe Layer and Hardcore Method
- Income flow is divided horizontally.
- The hardcore (Market rent) is valued into perpetuity at a net initial yield.
- The top slice (Passing rent – Market Rent) is capitalised to next lease event at a net initial yield with a risk adjustment.
- There is a yield differential; top slice at an inflated yield to reflect higher risk of over-renting.
Define yields
Yields measure the investment return and are expressed as a percentage of the capital invested
Define Gross Yield
yields not adjusted for purchasers costs (auction results)
Define Net Yields
yields adjusted to purchasers costs
Define Equivalent yield
Average weighted yield when reversionary property is valued using an initial and reversionary yield
Define Initial yield
Income yield for current income and current market value
Define all risks yield
yield used in the valuation of fully let property let at market rent reflecting all the prospects and risks attached to the particular investment
What determines the yield used
Risk = Factors - covenant strength, location, use of property, prospects for rental / capital growth, voids
Name Guidance note for DCF valuations
Discounted Cash Flows for Commercial Property Investments 2010
Why is DCF method used
To determine the internal rate of return of an investment or its net present value.
DCF can be used for market value estimates of income producing property, development properties in place of the residual method.
Define the NPV
- The sum of the completed discounted cash flows. and used to determine if the investment gives a positive return against a target rate of return
- If NPV is positive – investment has exceeded the investors target rate of return
- If NPV is negative – investment has not achieved investors target rate of return
Define the IRR
- IRR is the rate of return at which all future cashflows must be discounted to produce a NPV of 0
- IRR is used to assess the total return from an investment opportunity making some assumptions regarding rental growth, re-letting and exit assumptions.
- Normally calculated using software programme or via linear interpolation
How can the market value be estimated using the DCF method
- Estimate the cash flow (income less expenditure)
- Estimate exit value at the end of the holding period.
- Select the discount rate and discount cash flow at discount rate (discount rate reflects market and property specific risks)
- Value is the sum of the completed DCF to provide the NPV
Describe when the profits method is used for valuations
- Used for valuations of trade related property (pubs, petrol stations, hotels, guest houses, children’s nurseries, healthcare)
- Used where the value of the property depends on the profitability of the business and trading potential – value is profit generated from business rather than physical building or location.
- 3 years of audited and accurate accounts required
Describe the profits method
- Annual turnover (income received) - Less costs and purchases = Gross Profit
- Less reasonable working expenses = Unadjusted Profit
- Less operators remuneration = Adjusted Net Profit (Fair Maintainable Operating profit)
- Adjusted Net Profit capitalised at appropriate yield (years purchase multiplier) to achieve Market Value
- Cross check with comparable sales evidence if possible
Describe when the DRC method is used
Method used when direct market evidence is limited or unavailable for specialised properties e.g. sewage works, lighthouses, oil refineries, docks, schools, submarine base etc
Describe the DRC method
- Value land in its existing use (assume planning permission exists)
- Add current cost of replacing the building plus fees (Interest charges, architect fees, site works) less a discount for depreciation and deterioration (use BCIS)
If the existing building can be replaced at lower cost with a modern equivalent building, the modern equivalent cost figure is used.
Guidance Note - DRC method of valuation for financial reporting, 2018
Describe depreciation in DRC method
Depreciation estimated for physical, functional, and economic obsolescence
- Physical obsolescence (result from deterioration / wear and tear)
- Functional obsolescence (design/specification no longer fulfils the function)
- Economic obsolescence (changing market conditions for the use of the asset)
What is the name of the RICS valuation mandatory guidance
RICS Valuation – Global Standards (the Red Book)
Effective from 31st January 2020
Name the different sections of the Red Book
- Introduction
- Glossary
- Professional Standards
PS1: Compliance with standards and practice statements where a written valuation is provided
PS2: Ethics, competency, objectivity and disclosures - Valuation technical and Performance Standards (mandatory unless otherwise stated)
VPS 1 Terms of engagement
VPS 2 Inspections, investigations, and records
VPS 3 Valuation reports
VPS 4 Bases of Value, Assumptions and Special Assumptions
VPS 5 Valuation Approaches and Methods - Valuation applications
- International Valuation Standards 2017
Overall purpose of the Red Book-Global Standards
consistency, objectivity and transparency are fundamental to building and sustaining public confidence and trust in valuation.
In Red Book - Global Standards, name the five areas of exemptions defined in PS1 (in relation to VPS 1-5)
- The areas of exemption in relation to VPS 1-5 include:
1. Providing an agency/brokerage service in respect of the acquisition or disposal of one or more assets, except when a purchase report is required which includes a valuation. Guidance provided in ‘Real estate agency and brokerage guidance, 3rd edition 2016’.
2. Acting or preparing to act as an expert witness; exception is to recognise that a member acting as an expert witness must follow very strict rules / procedures laid down by the courts
3. Performing statutory functions except for the provision of a valuation for inclusion in a statutory return to a tax authority
4. Advice is expressly provided in preparation for or during course of negotiations or litigations
5. The valuation is provided for a client for internal purposes and not communicated to any third party
In Red Book - Global Standards, name main points in PS2 (Ethics, competence, objectivity and disclosure)
Professional and ethical standards
- Members undertaking valuations must act in accordance with the 5 RICS professional and ethical standards 2015 and be bound by RICS Rules of Conduct for Members and Firms, 2007
Member qualifications
- Individuals must be appropriately qualified to accept responsibility for a valuation
- Have appropriate academic / professional qualifications
- Membership of a professional body
Independence, objectivity and the identification and management of conflicts of interest
- Valuer and firm must act objectively and independently always and not be influenced by anu situation which could threaten professional objectivity
- No member should advice/represent a client where doing so would involve a conflict of interest. Members should keep records of the obtaining of informed consent, any measures taken to avoid conflicts of interest arising.
Terms of Engagement
- Members must understand client’s requirements and comply with the minimum terms of engagement. Members must be able to demonstrate professional competence
Name the minimum content in ToE outlined in Part 4,VPS 1
The minimum matters must be confirmed in writing to a client prior to commencing a Red Book valuation
a) Identification and status of the valuer
b) Identification of the client
c) Identification of any other intended users
d) The asset to be valued – if portfolio, lotting of assets should be considered
e) Currency
f) Purpose of valuation
g) Basis of Value
h) Valuation Date
i) Extent of investigation
j) Nature and source of the information to be relied upon
k) Assumptions and special assumptions to be made.
l) Format of the report
m) Restrictions for use, distribution, publication
n) Confirmation of Red Book Global / IVS compliance
o) Fee basis
p) Complaints Handling Procedure to be made available
q) Statement that the valuation may be subject to compliance by RICS
r) Limitation on liability agreed
Define Special Assumption and Assumptions
Assumptions – are made where it is reasonable for the valuer to accept something is true without the need for a specific investigation.
Special Assumption – is a supposition that is taken to be true and accepted as fact, even though it is not, for example, disregarding HS2 for CPO as a no scheme world assumption
Note, both assumptions and special assumptions to be agreed in writing prior to an instruction, included within ToE as shown as minimum in VPS1
In Section 4, VPS3 Valuation reports, name the minimum requirements to be stated within a Red Book compliant valuation
Minimum requirements to be stated within the report are
(a) Identification and status of the valuer
(b) Identification of the client and any other intended users
(c) Purpose of the valuation
(d) Identification of the asset(s) or liability(ies) valued
(e) Basis(es) of value adopted
(f) Valuation date
(g) Extent of investigation
(h) Nature and source(s) of the information relied upon
(i) Assumptions and special assumptions
(j) Restrictions on use, distribution and publication of the report
(k) Confirmation that the valuation has been undertaken in accordance with the IVS
(l) Valuation approach and reasoning
(m) Amount of the valuation or valuations
(n) Date of the valuation report
(o) Commentary on any material uncertainty in relation to the valuation where it is essential to ensure clarity on the part of the valuation user
(p) A statement setting out any limitations on liability that have been agreed.
Define Market Value as defined in VPS4 Bases of Value, Assumptions and Special Assumptions
- 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
• Where parties had acted knowledgeably, prudently and without compulsion.
Define Market Rent as defined in VPS4 Bases of Value, Assumptions and Special Assumptions
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
• On appropriate lease terms
• In an arms-length transaction
• After proper marketing
• Where parties had acted knowledgeably, prudently and without compulsion.
Define Fair Value as defined in VPS4 Bases of Value, Assumptions and Special Assumptions
- 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 on the measurement date
• Bases of value now required if the International Financial Reporting Standards are adopted by the client
• Adopted by the International Accounting Standards Board
Define Investment Value as defined in VPS4 Bases of Value, Assumptions and Special Assumptions
- Investment Value – The value of an asset to an particular owner, or prospective owner for individual investment or operational objectives
• May differ from Market Value and is sometimes used as a measure of worth to reflect the value against the clients own investment criteria
Background on RICS Valuation – Global Standards (UK National Supplement, 2018)
RICS Valuation – Global Standards (UK National Supplement, 2018)
• Published in 2018, effective from January 2019
• Supports the Red Book, Global Standards with specific requirements for members on valuations undertaken subject to UK jurisdictions – 18 Valuation Practise Guidance Applications (VPGA)
• Key changes – provides mandatory statements and advice for valuations
- UK VPGA 16 – Valuations for compulsory purchase and statutory compensation
Define Hope Value
value arising from any expectation that future circumstances affecting a property may change, for example, prospect of planning permission for development of land, where no planning permission currently exists or the realisation of marriage value arising from merger of two land interests
Define Purchasers Costs
deducted from Gross Market Value to provide Net Market Value as the purchaser will have to pay these costs
• SDLT
• Agents fees – 1% of purchase price plus VAT
• Legal fees – 0.5% of purchase price plus VAT
Define Marriage Value
created by a merge of interests. A valuation is undertaken before and after the merge and the marriage value level is created
- Negotiation outcome – split marriage value created 50/50 to the value of the individual interests
Define Ransom Strips
piece of land which controls the access to another piece of land. Tribunal suggests that value of strip is worth between 15-50% of the development value unlocked by the inclusion of the ransom strip within the development scheme. Stokes vs Cambridge – value 1/3 of the uplift in the development site value was awarded to the owner of the ransom strip.
Define WAULT
weighted average un-expired lease term remaining to lease break or expiry of the lease
Describe SDLT residential
Currently (July 2020 to June 2021), SDLT holiday on purchase on property below £500,000
July 2021 – September 2021 – SDLT holiday on purchase of property below £250,000
Nil rate band will return to stand amounts in October 2021 (£125,000)
SDLT charged on an incremental basis at different rates depending on the portion of purchase price that falls into each band
Describe zoning
• A valuation technique rather than method. Used for the comparison of retail properties to create a unit of comparison for different sized retail buildings as rental value reduces away from the store frontage
• Halving back principle with 6.1m zones. Zone A is the highest rent, Zone B is half of zone A rent etc
- Valued in terms of zone A
• Basement and first floor areas – A/10
Define special buyer / special value
- Special buyers – a particular buyer for whom a particular asset has special value because of advantages arising from its ownership that would not be available to other buyers in the market
- Special value is the amount that reflects particular attributes of an asset that are only value to a special purchaser
Describe the valuer registration scheme
- Regulatory monitoring scheme for all valuers carrying Red Book valuations from October 2011
- Aims – improve quality of valuations, ensure best professional standards and meet RICS requirements to self regulate effectively
- To be registered – type, purpose, number of valuations, firms total fee income from valuations, data sources used, history of negligence claims
Describe covid-19 and valuation uncertainty
- RICS issues a practise alert in March 2020 and updated in May 2020 re covid uncertainty
- RICS members should be aware of VPGA 10 and VPS 3 in the Red Book in the decision making process. If material uncertainty is declared, it should be explicitly state
