Chapter 4 - Valuation and Market Analysis

Chapter 4 - Valuation and Market Analysis

• Appraisal terms 

  • Appraisal - an estimate (opinion) of value

  • Purpose of an appraisal

    • Function of an appraisal

    • Many types of value, the type of value depends on the purpose/function of an appraisal

  • Market value

    • Most probable price in a competitive and open market

    • Under condition of a fair sale with buyer/seller acting knowledgeable and prudently

  • Price

    • What one paid for “something”

    • Much different than “value”, which is what oe would be willing to pay for “something”

  • Comparative market analysis (CMA)

    • Uses the sales comparison approach to establish value

    • Term used by real estate agents to describe market value of a property 

  • * MAI: member of the appraisal institute 

  • * USPAP: uniform standard of professional appraisal practice 

  • Market value and market price 

    • Market price is what one paid to add a garage

    • Market value is what a typical buyer would be willing to pay to have a garage before they opt for a property with no garage

  • Value 

    • * characteristic/element of value (DUST)

      • Demand - how many buyers are seeking this property?

      • * utility - does the property have everything a buyer wants?

      • Scarcity - is there enough supply for all buyers?

      • Transferability - can a seller convey title to a buyer?

• Economic principles of value

  • Supply and demand 

    • Many homes for sale and few buyers will decrease value

    • Few homes for sale and many buyers will increase value 

  • Highest and best use

    • The first step in determining value

    • When determining current market value;

      • A property can only be appraised according to how it is currently being used

      • Cannot appraise a property for what it could be used for

  • Substitution 

    • Used by real estate agents to determine market value

    • Using properties that are similar which have recently sold to determine market value

  • Contribution

    • Determine elements that contribute to value of some properties which other properties do not benefit from

      • Ex: community pool, clubhouse, playground, etc.

• Value 

  • Economic principles of value

    • Change

      • The only constant is change

      • Value today can change tomorrow 

    • * Conformity 

      • Never out build the neighborhood

      • Large homes surrounded by smaller homes will suffer from regression *

      • Small homes surrounded by large homes will benefit from progression *

    • Anticipation of value

      • Present worth of anticipated future benefits

      • Used primarily with income producing properties

    • Competition

      • Works much like supply and demand

      • If several similar properties are for sell in the same area, competition will drive down prices

    • * plottage

      • The increase in value resulting from consolidating two or more adjacent lots into one larger lot 

• Influences on value

  • Social focus - appraisers consider things such as:

    • Marriage rates

    • Divorce rates

    • Birth rates

    • Death rates

  • Economic forces - what is the economy doing to affect value?

  • Political forces

    • What the government is doing to affect value

  • Physical forces - appraiser considers such things as:

    • Primarily rental property or owner occupied?

    • Primarily low income or high income?

• Approaches to value 

  • * sales comparison approach 

    • Most useful way for a broker to assist a seller determine sales price

  • Income approach

    • Must be an income producing property 

  • Cost approach 

    • Method of estimating the buildings replacement cost

  • * sales comparison approach

    • Types of properties

    • Market comparison

    • Make adjustments for differences such as:

      • Time of sale

      • Location

      • Physical characteristics 

      • Sales concessions 

Subject                                       Comp 1                               Comp 2                                               Comp 3

3 BR                                           3 BR                                    3 BR                                                    3BR

2 BA                                           2BA                                     1 ½ BA (½ BA = $1,500)                     2 ½ BA

1400 SF ($30 per foot)              1425 SF                               1375 SF                                              1475 SF

                                                  $115,000                              $109,000                                             $120,000

Adjustments                            - $ (750) SF                          +$750                                                  -$2,2500

                                                                                             +$ (1,500) Bath                                   -$1,500

Adjusted sales price                 $114,250                               $111,250                                             $116,250

• Income approach to value

  • Used for income prodicing properu

  • Two method to the income approach

    • * capitaliaszation approach (best for commercial)

    • * gross rent multiplier (best for residential)

• Capitalization approach

Sub                     comp

NOI = $73,400                   NOI = $87,200

     CAP = 11%                         Value = $825,000

                                                       Value = $667,272…                CAP = 11%

• Gross rent multiplier (GRM) approach

Sales price

Monthly gross income (rent) = GRM

Monthly gross income (rent) * GRM =estimated value

Subj                                   Comp

Rent = $900                 Value = $85,000

GRM = 103                  GRM = 103

Value = $92,700           rent = $825

• Approaches to value

  • * cost approach

    • Method of estimating the buildings replacement cost

  • 5 steps

    • Estimate value of the land (cannot depreciate)

    • Estimate replacement or reproduction cost

    • Estimate accrued depreciation (economic life)

    • Subtract estimated depreciation from cost new

    • Add depreciated value to the land value 

• Types of depreciation

  • Physical deterioration

    • Normal wear and tear

  • Functional obsolescence

    • Something that may have been normal when built but may not be very functional today

  • External obsolescence

    • Something external to the property that will depreciate value

    • Such as:

      • Property underneath the runway of an airport

      • Property located next to a railroad track

      • Property located next to a interstate

      • Poorly maintained property next door or nearby

  • Curable and incurable

    • Curable 

      • Forms of depreciation that can be cured such as physical deterioration or functional obsolescence 

    • Incurable

      • Forms of depreciation that cannot be cured such as external obsolescence 

• * comparative market analysis (CMA)

  • Used by real estate agents

  • Utilize the sale comparison approach

  • Mist make adjustments to sales prices of similar properties that have recently sold

  • data/information is available to agents via the multiple listing service (MLS)

  • If no similar or comparable properties exist, agents should seek help from an appraiser

  • Similar terms and use

    • * broker price opinion (BPO)

    • Broker opinion of value (BOV)

    • Convicted by real estate agents for banks. Much cheaper for the bank to hire a real estate agent to do a BPO/BOV rather than pay an appraiser to do an appraisal

    • If doing a BPO, the lender would be your client 

• The appraisal process

  • Define the problem

  • Preliminary survey and appraisal plan of action

  • Collect data

  • Analyze and process data collected 

  • Application of three approaches to value

  • Correlation of final estimate

• * reconciliation

  • Process of appraiser using all three approaches to value in estimating value