Professional real estate appraisers, commonly known as real estate appraisers, have an impressive responsibility to estimate or provide an opinion of a value on commercial properties. It makes sense for you to understand how appraisers assess commercial real estate so that you can apply their techniques to our valuation methodologies.
Approach # 1: Comparable sales
The comparable selling approach is the first and easiest method of appraising commercial real estate. If you have ever bought a house, you may recall that the bank asked an appraiser to go out. And give the property a value that you hoped would be at least equal to your buying price. Well, the same thing applies here in terms of commercial ownership. The trade appraiser makes a comparison of the prices of recently sold local properties. Which are similar in shape and depending on the property it evaluates. The comparison will produce an average price, and it is to this price that your prop part will be evaluated. But in the commercial comparison, rather than just looking at the total selling price, the selling price per square foot of the building is also considered to be one of the main factors.
Here’s a quick example:
· Property A, a 10,000-square-foot building, sold for $65 per square foot last spring. By performing the simple calculations to calculate the selling price, you calculate 10,000 square feet * $65 per square foot = $650,000.
· Property B, a 9,000-square-foot building, sold for $68 per square foot three months ago. Again, doing the math, 9,000 square feet * $68 per square foot = $712,000. Property C, the property that you want to price, is like Property A and Property B and measures 11,000 square feet. If you average the cost per square foot for Property A and Property B, the average is $66.50 per square foot. Use that price per square foot as your number to evaluate Property C. Doing the math, you get 11,000 square feet * $66.50 = $731,500 as the value for Property C.
When trying to evaluate apartment complexes, the price per unit or the price per door is used more frequently than the price per square foot.
When you have an average price per unit for more than one complex, you can estimate the value of a different complex. Although the comparable sales approach is the simplest method of determining the value of a commercial property, it can be imperfect. We've had some challenges with this approach.
When a market isn’t stabilized, or values go up or down, this can nullify the use of the comparable sales approach. There are no comparable sales in some small city markets due to a lack of aggregate sales.
Approach #2: Income
When you enter the real world of commercial real estate, you will discover that commercial properties are valued primarily by the amount of revenue they provide. Specifically, net operating income is the most important.
The income-tested property valuation method may be used where accurate financial and operational information is available on the property. This approach is based on the capitalization rate computed for an asset.
To calculate the ceiling rate, you must know the net operating income and the selling price of the property. After calculating the capitalization rate on a property, the next step is to compare the capitalization rate to the capitalization rates on similar properties. There is a capitalization rate in every part of your town where there are commercial properties. Your job is to find these other properties and their capitalization rates and come up with the average.
This average capitalization rate is the rate you use to calculate the value of the home when you know the net operating income. Look at this example: You want to value a 50-unit apartment building. You estimate that the net operating profit is $180,000. Your search for previous apartment sales tells you that the current capitalization rate for the neighborhood where the property is located is 8 percent. Now, if you know the net operating earnings and the capitalization rate, you can determine the sale price. Here’s how:
· Cap rate = net operating income ÷ sale price
· 7 percent = $180,000 / sale price
· Sale price = 180, 000/7 percent = 2,571,428
Now you know that the property should be appraised or assessed at $2,571,428. Depending on the average capitalization rates in the region and the owner's net operating profit. We enjoy dealing with millions of individuals. Sometimes you get the impression of playing Monopoly. Each investor who wants to know how to estimate the value of income-generating properties should know and understand the fundamentals of the income-based approach. It is an essential tool that investors, realtors, and lenders often use.
Approach #3: Cost to replace the property
The third method for determining the value of a property is the cost method, which evaluators rarely use these days. The theory behind it is this: The value of a property is how much it costs to build a new property over and above the cost of the land. The cost approach is preferable where ownership is new or near new. For older properties, because you can buy properties for a lot less than the construction costs of a new property, appraisers are likely to use this approach. To apply the cost approach to building valuation, you must first determine the value of the building's land. This is usually done through a sales comparison approach. Then you must figure out what it's going to cost to build, replicate, or replace the building as though you're building from scratch. Make sure you consider the damping and obsolescence of the building. You end up with a valuation of the property.
Land value + building cost - depreciation = estimated property value
How to understand What Creates Value?
· Use: The way the property is used provides value.
How a property is used is probably the most significant factor in understanding securities in commercial real estate. This means it can be used exclusively for purposes and cannot be used for any other use that changes the purpose of the property.
· Leases: A lease is a written legal arrangement between the landlord and the tenant, the tenant indemnifies the landlord for the use of the property for a specified period. There is no standard business lease, but here are some main differences between a lease for a commercial asset and a residential asset:
Here are a few things to keep in mind when reviewing a lease as an investor:
· Rent amount
· Lease term or how long the lease is for
· Additional costs that the landlord and tenant may be responsible for
· Subleasing
· Whether you need to make any improvements to the property before you move tenants in
· Location: The unchangeable factor