Commercial Real Estate Valuation

Purpose of Commercial Valuation

Loan security: The lender will need to know the value that could be realised from the property in the event of lender default.

Corporate decisions: To support the operational use of the property and associated decisions to refurbish, move or expand to support manufacturing or services. The basis of valuation will be investment value/ worth and compared against the market value.

Strategic real estate: To implement a particular investment strategy. This will be at a portfolio level with a high-level strategy regarding say capital growth or income, short or long term. The basis of value will usually be investment value via an appraisal and compared against market value.

Rent review: To enable tenants and landlords to agree on the rent level at a rent review point within a lease. The basis of value will be as the lease requires.

Lease renewal: At a lease end, the valuation is needed to agree on the new rent level. The basis of valuation will usually be market rent.

Leasing and letting: To estimate the rental or letting value of a property. This will be on the basis of market rent.

Purchase and sale: To make a decision on buying or selling. This will be on the basis of market value.

Taxation: Like Inheritance tax require valuations to assess the level of tax to be paid. The basis is statutory but similar to market value.

Company accounts: To determine the fair value of an asset in the financial report of a company. The specialised property will be valued on the basis of existing use value.

Development appraisals: To establish whether the proposed development will meet a specified viability measure. The basis of value will be market value for the gross development value.

Transfer of ownership: Valuations may be needed to support the transfer of ownership as a gift or inheritance. The basis of value will be fair value.

Investment appraisal: To select or monitor an investment via appraisal techniques such as discounted cash flow. The basis of value will be investment value/worth compared against market value.

Insurance: To determine the coverage cost of replacing an asset. The basis will be a cost assessment and is not actually a valuation!

Commercial valuation depends on the income the property generates. Whether it is a complex, shopping centre, investment building, or development project, the value is an essential factor for the purchase, sale, borrow, or lease of the property. The valuer calculates the value based on criteria, such as rental or income forecasts, facilities, location, etc.

A property’s value is defined as the current worth of potential future financial benefits measured by the projected sum of all net income streams that may arise from owning the property, assets need an extended or longer period of years. Thus this long-term analysis must need a deep analysis of all the political, social, and economic factors of the current scenario which affect the future.

Commercial Valuation usually is for

Residential: Rented flats and whole buildings

Retail: Shops, shopping centres, Market, banks and building societies, petrol stations, offices, cafes, restaurants, etc.

Industrial: Mills, foundries, refineries, distribution warehouses, vehicle workshops, metal works, abattoirs, factories, plants


Income capitalization approach

This approach is based on the income amount an investor can expect to get from a property which can be derived from the comparison of other similar local properties, property that has income-generating potentials like retail centres, multifamily housing, office buildings, and other properties in which future benefits are expected Investors are essentially buying the cash flow stability of an asset.

Other methods

Cap Rate

A property's net annual rental income, divided by the property's current value(represents the expected return rate for a given property).

Gross Income Multiplier

This is a relative valuation approach assuming that the properties in the same area will be valued proportionally to the gross income they generate.
Gross income is the total income before the deduction of any operating expenses. Vacancy rates must be figured and the gross income multiplier must be decided and multiply it by the gross annual income. This income multiplier can be figured from the historical data. By dividing the sales prices of comparable properties by the generated gross annual income the average multiplier for the region will be yielded.
Mostly used for comparable transactions or multiples to value a stock.

Gross Rent Multiplier

If you take the sales price of a property and divide it by its annual gross potential rent, you come up with the gross rent multiplier. The Cap rate is similar to GRM in that it represents a multiple to earnings, but a notable difference between the two is that the cap rate takes expenses into account, while GRM looks at the total inflow of rental income.

Discounted Cash Flow Approach

DCF is the only method considering present money value and capturing future performance. We consider this as accurate revenue prediction, expenses, and future property value. This is a long-term beneficial method.

Factors that might affect the value

Location: Prime or secondary trading positions

Street plan: An overview of town retail locations

Comparable rents

Footfall: Counting visitors /passing crowd determining the zone A prime and secondary values

Online revolution

Recording: Size, shape, and quality of sales space

The number of sales floors

Number and position of entrances

Size and nature of display windows

Services, including drainage, water, gas, electricity supplies, heating, lighting, cooling, security, ventilation, and protection from fire

The convenience of storage facilities, access/loading for goods

Construction, condition, and use of buildings with an indication of approximate age