Wintersemester 2007/2008

Study Course: Real Estate Management

Hauptseminar 5th Semester

Theme:

International Methods of Property Valuation

Date of Delivery: 1 October 2007

Author:

Tabea Söllner

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STRUCTURE

1.

Introduction 1

2.

Terms and Definitions 1

2.1

Price 1

2.2

Cost 2

2.3

Value 2

2.4

Market Value / Open Market Value 2

2.5

Sales Value 3

2.6

Loan Value 3

2.7

Rateable Value 3

3.

Reasons for a Property Valuation 3

4.

Influenced Value Factors 3

5.

Valuation Standards 4

5.1

Why Standards? 4

5.2

The European Group of Valuers′ Associations (TEGoVA) 4

5.3

The Royal Institution of Chartered Surveyors (RICS) 5

5.4

The International Valuation Standards Committee (IVSC) 5

5.5

The Appraisal Institute (AI) 5

6.

International Methods of Property Valuation 6

6.1

Direct Value Comparison Method 6

6.2

Investment Method 7

6.2.1

Valuation of Rack-Rented Properties 8

6.2.2

Valuation of Under-Rented Properties 8

6.2.3

Valuation of Over-Rented Properties 10

6.2.4

Discounted Cash Flow Method (DCF Method) 12

6.3

Residual Method 14

6.4

Profits Method 15

6.5

Depreciated Replacement Cost Method (DRC Method) 16

7.

Conclusion 18

8.

References 19

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International methods of property valuation · Tabea Söllner

1

1. Introduction

The international globalization in the real estate business started much later than in other

businesses. Historic grown specifics, topographic and cultural differences as well as judi-

cial, fiscal, and political basic conditions, which do not have an international standardiza-

tion are reasons for this reserve. But today many real estate companies and investors act

worldwide, so that the real estate business and so the property valuation too cannot longer

be seen as a national issue only.

Germany has an attractive real estate market for foreign investors because of its steady

currency, appealing lease contract structures and a rent growth potential. In recent years

foreign investors have increased their presence in the real estate business in Germany and

so there is a rising demand for property valuations using international methods. The con-

ventional national German systems of valuation are inadequately. A standardization of

valuation methods or at least comparable national valuation methods is an essential condi-

tion for foreign institutional investors. Standardized methods are necessary to ensure the

transparency for all participants in the real estate market.

The purpose of this paper is to point out established international property valuation me-

thods. At first I will describe the important terms and definitions which are used for valua-

tion methods, followed by an explanation why and when a property valuation will be ne-

cessary. I will also show you several valuation standards which have developed and I will

deliver an insight of different international property valuation methods with short simpli-

fied example which shall clarify each particular procedure.

2. Terms and Definitions

2.1 Price

"Price is the amount of money that is actually paid, asked, or offered for a good or service.

As such, price represents someone′s estimate of value in terms of money. Such an estimate

may be greater than, equal to, or less than the "objective value" of the good or service in

question."1

1 Wurtzebach, C./Miles, M., Modern Real Estate, 1994, p. 179

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International methods of property valuation · Tabea Söllner

2

Power or lacks of negotiating skills by either buyer or seller, optimism by the buyer or pes-

simism by the seller, or acting under unusual conditions (e.g. under duress) can result in a

difference between a real estate price and its value.2

2.2 Cost

"The cost of a particular commodity is a historical figure, a price paid in the past, or the

amount needed to construct a building today. A property′s cost may have little or no relev-

ance to its value today."3

The price which a buyer pays for a good or service becomes its cost to the buyer.4

2.3 Value

"Value is the power of a good or service to command other goods or services in the market

place...It is common to define value as the present worth of the future cash flow."5

Determining a real estate value by the future cash flow can be difficult in a special situa-

tion because e.g. raw lands do not have a periodic cash flow and also the benefits of living

in one′s own property are non-pecuniary.6

The term of the value forms the basis of the valuation and is as important as the valuation

method itself.

2.4 Market Value / Open Market Value

The Market Value which is also called Open Market Value is the most common type of

valuing a property in the real estate business.

The Market Value is defined as:

"The estimated amount for which a property should exchange on the date of valuation be-

tween a willing buyer and a willing seller in an arm′s length transaction after proper mar-

keting wherein the parties had each had acted knowledgeably, prudently, and without com-

pulsion."7

2 Cp. Wurtzebach, C. /Miles, M., Modern Real Estate, 1994, p. 179

3 Wurtzebach, C./Miles, M., Modern Real Estate, 1994, p. 179

4 Cp. International Valuation Standards, 2005, p. 25

5 Wurtzebach, C./Miles, M., Modern Real Estate, 1994, p. 178

6 Cp. Wurtzebach, C./Miles, M., Modern Real Estate, 1994, p. 179

7 IVSC, White Paper, International Valuation Standards, 2005, p. 27

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International methods of property valuation · Tabea Söllner

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2.5 Sales Value

The Sales Value or sales price must not conform to the Market Value. It is possible that

under particular circumstances (e.g. expectations, compulsion) the Market Value differs

from the sales price.8

2.6 Loan Value

The Loan Value is important to banks. The Loan Value always amounts below the Market

Value because of securities aspects.9

2.7 Rateable Value

For the taxation of properties a Rateable Value is necessary. The Rateable Value simply

consists of 20 to 30% of the Market Value.10

3. Reasons for a Property Valuation

A property valuation may be necessary for a number of different reasons. Possible reasons

can be:

Transfer of ownership

Financing (e.g. mortgage loans, bonds, securities)

Taxation (e.g. real estate transfer tax, property tax)

City planning (e.g. expropriation, rehabilitation and development measures)

Investment purposes (e.g. Cash Flow, rents, vacancy, trends)

Litigations (e.g. inheritance, divorce)

4. Influenced Value Factors

A valuation has to account for both positive and negative influenced factors. The most im-

portant influenced value factors are:

Location of the property

Size of the property

Rate of the effective area

Tenure

Existing tenancy

Overall picture of the property

8 Cp. Falk, B. (Ed.), Fachlexikon Immobilienwirtschaft, 2004, p. 160

9 Cp. Falk, B. (Ed.), Fachlexikon Immobilienwirtschaft, 2004, p. 160

10 Cp. Falk, B. (Ed.), Fachlexikon Immobilienwirtschaft, 2004, p. 160

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