Chapter 18RE Appraisal
Terms Appraisal:Estimate of Value of Something Capitalize: Convert Future Income into PV Valuation:Appraisers’ Step by Step Process Highest & Best Use: Use of land which will
produce the greatest Current Value 4-3-2-1 Rule: Land @ the back of a lot is
worth < front: [e.g. 50’x100’ >25’x200’] CMA Estimate price via sales & prospects
Competitive Market Analysis
Market Value aka Fair Market Value
Most probable price which a property should bring in a competitive and open market under all conditions requisite to a fair sale the buyer and seller each acting prudently knowledgeable and assuming the price is not affected by undue stimulus
Terms
Principle of Anticipation: Price = f(Anticipated Benefits to Buyer/Seller)
Principle of Substitution: Price = f(Cost of Equally Desirable Substitute)
Principle of Competition: Profits encourages Competition ... Supply
Plottage Value=Total > Sum(Small Lots)
Terms
Define the Appraisal Problem Conduct a Preliminary Analysis Formulate Appraisal Plan& Collect data Estimate Highest and Best Use Estimate Land Value & Improvements Reconcile Results =Defined Value Estimate Report Conclusion of Value
Uniform StandardsPro-Appraisal Practice
Transfer of ownership Financing or credit Compensation/Condemnation proceeding RE decision making Taxation Lease provisions Corporation to purchase employee home
Reasons for the Appraisal
Highest price definition The highest price in terms of money which a
property will bring in a competitive and open market under all conditions requisite to a fair sale, the buyer and seller each acting prudently, knowledgeably and assuming the price is not affected by undue stimulus
Principles of Appraisal
Sales Comparison (Market): Residential
Cost (Replacement Value) Residential (if < 3 sites) /Income
Income Capitalization Income/Commercial Properties
Three Approaches
Steps Identify all comparable sales Gather & verify data on these sales Select the most appropriate (3 is magic #) Adjust comparables for time and comparability Reconcile differ. values & Produce Best Est
Enhancements: Matched pair: Find 2 properties that differ in one
characteristic & calculate the difference OLS: P=a+b(baths)+c(closets)+d(appliances)
Sales Comparison
1) You want to figure the price of a house: These are its characteristics:Sale Date MaySite (View) Inside LotConstruction Quality GoodAge of the Structure 5 YearsDesign/Appeal GoodLocation of Building Quiet StreetCondition of Building FairGarage or # Cars 2 CarGross Living Area 2300SqFtAir Condition Central
Sales Comparison: Subject House
Three Comps & their characteristics:Item Comp 1 Comp 2 Comp 3
SalePrice 275,000$ 185,000$ 235,000$
Sale Date 12 Mos ago Current Sale 14 Mos ago
Site(View) Apt Com p Odd Shape Larger Lot
QualCons t Excellent Excellent Fair
Age 10 Yrs 1 Yr 10 Yrs
Des/App Fair Good Good
Condition Fair Good Poor
Garage 2-Car 3-Car 2-Car
GLA 2600 SqFt 2000 SqFt 2000 SqFt
Air Cond Central Room Central
Sales Comparison: 3 Comparables
Item Subj.Prop Com p 1 % Diff Com p 2 % Diff Com p 3 % Diff
Sales Price 275,000$ 185,000$ 235,000$
Sale Date May-98 May-97 5% May-98 0% May-97 5%
Site (View ) Inside Lot Apt Complex 5% Odd Shape 5% Larger Lot -5%
QualCons Good Excellent -5% Excellent -5% Fair 5%
Age 5 Yrs 10 Yrs 5% 1 Yr -5% 10 Yrs 5%
Des&App Good Fair 5% Similar 0% Similar 0%
Condition Fair Similar 0% Good -5% Poor 5%
Garage 2-Car Similar 0% 3-Car -5% Similar 0%
GLA 2300 2600 -5% 2000 5% 2000 5%
Air Cond Central Similar 0% Room 5% Similar 0%
Price /Sq Ft 105.77$ 92.50$ 117.50$
Net Difference 10% -5% 20%
Adjusted Price 250,000 194,737 195,833
Adjusted P/SqFt 96.15$ 97.37$ 97.92$
E(Price /Sq') 97.15$
E(Pr SbjProp) 223,437$
Sales Comparison: Final Adjustment
Reproduction Cost: The current cost of constructing an exact replica (Ideal)
Replacement cost: Cost of constructing similar utility using current standard of material, skill, etc. (Reality)
Cost Approach
Direct Construction of
improvements (labor, contractor fees & materials)
Indirect Appraiser, lawyers,
accountants, financing, architect, etc
Quantity survey: Add estimates of direct & indirect
Unit in place: Estimate
cost of putting components together (e.g.. all drywall, painting, etc
Per square foot: Cost/Sq’
Types of Costs Methods
Cost Approach EstimatingCosts
Types of Depreciation Physical Depreciation: Wearing out Functional Obsolescence: Technology (halls, floors,etc) Economic Obsolescence: Neighborhood or highway moves
Estimating Reproduction to market value:
Value now=100K, Reproduce then =120K 20/120 = 17% deterioration
Actual to Effective Life: Effective life=40yrs but 20 in actual=50% deprec.
Cost Approach
SubtractDepreciation
Hard Costs: Soft CostsExcavation 21,500$ Archictecture, Attorneys & Accounting150,000$ Foundation 42,000$ Construction Loan 65,000$ Exterior & Framing 350,000$ Builder Profit 125,000$ Interior 230,000$ Physical Deterioration (Repairable):Interior Finish 5,000$ Floor Covering 10,000$ Physical Deterioration (Nonrepairable):Age (Years) 20Economic Life (Years) 50Annual Expense for machinery, etc. inadequacies. 6,000$ Annual Expense for environmental changes: 3,000$
Cost Approach: Example
Const: Cost Bldg:Hard Costs:
Excav/Foundation 63,500$ Exterior & Framing 350,000$ Interior 230,000$
Total 643,500$ Soft Costs:
Arch.Att.Acct 150,000$ ConstLoan&Bldr 190,000$
Total 340,000$ Replacement @ Current Prices: 983,500$
Cost Approach: Example
Deterioration:Pys:Rep: Interior finish 5,000$
Floor Covering 10,000$ 15,000$
Subtotal 968,500$ Nonrepairable:
Pys:NRep: Age/EcLife=(20/50) 40%LessNR% 387,400$
Subtotal 581,100$ FnctObsol: Ann Exp Eff Loss: 6,000$
Less:PV 30Yr@10% $56,561Subtotal 524,539$
ExtObsol: AnnExp Rent Loss: 3,000$ Less:PV 30Yr@10% $28,281
Subtotal 496,258$ Land Value by Comparison: 75,000$
Value per Cost Approach: 571,258$
Cost Approach: Example
Gross Rent Multiplier Estimate economic rents on complex
What they should rent for now Note: Some rents may be grandfather’d
Check GRMs in the area GRM=Sales Prices(SPs)/Gross Rents (GERs)
Use E[GRM] to get E(Price) for propertyeg.AvgSPs= $120K & AvgGERs=$10K : E[GRM]=12
Sbj=GER=$130 Therefore: Price=12*130=$1,560K
Income Capitalization Approach
Capitalization= Conversion of NOI into estimate of PV or MV: MV=NOI/CR
Cap rates=Relationship: Income & Value Techniques to determine Cap Rate:
Estimate cap rates for comparables Check other investors: What do you expect?
Bands of Investment: Like RE WACC Return on property must be enough to pay all
financial claims & still give Equity E(ROR) BOI=WM*RM +WE *RE
Income Capitalization Approach
Gross Annual Income 175,000.00$ Vacancy Allowance (as % of GAI) 5%Property taxes 14,583$ Hazard insurance 4,375$ Property Mgt(5% of GAI) 8,750$ Maintenance 15,729$ Utilities 8,209$ Other 2,771$
E(Cost) Deprec YearsFurn/App 22,500$ 6Heat/Wat/Elect 31,250$ 10Roof/Paint 68,740$ 20
Capitalization Rate: 12.356%
Income Cap Approach: e.g.
Gross Annual Income 175,000$ Vacancy Allowance 8,750$ Effective Gross Income 166,250$ Operating expenses
Property taxes 14,583$ Hazard insurance 4,375$ Property Mgt(5% of GAI) 8,750$ Maintenance 15,729$ Utilities 8,209$ Other 2,771$
ReservesFurn/App 3,750$ Heat/Wat/Elect 3,125$ Roof/Paint 3,437$
Total Op Expenses 64,730$ Net Op Inc 101,520$ Operating Expense Ratio:TOE/EGI 38.94%Value = Income/CapRate 821,628.48$
Income Cap Approach: e.g.
Information: Income Properties Apart/Condo: Income&Expense Analysis:Apts,
Condos, Coops (Chi:Inst. or RE Mgt)
Office Bldgs Office Building Experience Exchange Report(WashDC:Bldg
Owners&MgsA)
ShopCtrs Dollars & Cents of Shopping Centers(Wash DC: Urban
Land Inst)
IndusPark Site Selection Hndbk (Atlnta: Conway)
Hotels/Leis. Trends in Hotel Industry (Houston: Pannell, Kerr & Foster)
The Report
Letter: 1-5 pages-When detail not important
Form: Preprinted Forms:Govt & Institutions
Narrative: Longest & Formal: When Clients
need to know complete details & methods