Valuation Ch3 PDF

1  Cont… At the end of this unit, you will be able to  Explain the principles of sales comparison approach  Explain the applicability and limitations of sales comparison approach  Identify the major sources of market data  Analyze the procedures of the sales comparison a...

1  Cont… At the end of this unit, you will be able to  Explain the principles of sales comparison approach  Explain the applicability and limitations of sales comparison approach  Identify the major sources of market data  Analyze the procedures of the sales comparison approach  Understand the elements of comparison  Describe the adjustments needed in sales comparison approach  Describe the different methods used in sales comparison approach  Apply this approach in determining the value of the property 2  3.1 Introduction  Sales comparison approach is a valuation technique in which the value of the subject property is determined by comparing the properties recently sold in the market to the subject property.  In this approach it is assumed that the subject property will be sold for an amount similar to the adjusted price of the comparable properties.  The sales comparison approach is preferable to determine the value opinion of the subject property when there are sufficient recent and reliable market data on properties that are similar to the subject.  The appraiser should have recently sold sales data of comparable since change in market situations may degrade the validity and applicability of older data. 3  Cont…  It is the easiest approach of estimating the value indication when market data is available.  In using this approach, an appraiser is required to know the comparable properties the subject property, the neighborhood, city and the region where the property is located.  It is not advisable to use sales comparison approach when there is shortage of market data on comparable.  In addition to these, it cannot be applicable for estimating the value of special purpose properties such as museum since it is difficult to get market data on comparables. 4  Cont…  In this approach, the appraiser has to  Verify the market date obtained and  Fully understand the behavioral characteristic of buyers and sellers involved in property transaction.  It is also mandatory for the appraiser to recognize and investigate the strength and weakness of the data compiled and the degree at which comparative analysis has been carried out in the sales comparison.  Prior sales or listings of the subject or the comparable sales used in an appraisal may help to validate the current data.  For instance, if an appraiser finds a comparable sale that was reportedly sold for 500,000 birr this year but a historical research shows that the same property was sold last year for only 250,000 birr, the appraiser ought to spend his/her time in investigating the probable causes of a 100% increase in sale price of the property in one year difference. 5  Cont…  In most markets, if a property sold for 500,000 birr this year, 480,000 birr before one year, and 250,000 birr before four years, property valuation experts would have little fear that the current data was reported incorrectly.  An appraiser uses sales comparison approach when there is  Availability of accurate and complete data on comparable Recent sales  Similarity of comparables to the subject property  Stability of local market conditions, regional and national economic factors 6  Relation to Appraisal Principles  The principles on which the sales comparison approach is based are described as follows. Supply and demand  The price of real estate is determined by the interaction of market demand and market supply of real estate assuming that there are many buyers and sellers that act for maximizing their interest.  The demand for a property can be estimated considering the number of potential buyers of a property, their purchasing power, taste and preferences, etc  Similarly, an appraiser may consider the existence of vacant properties properties that are under construction or planned to be constructed in order to determine the supply of a property in the market. 7  Cont…  The price of a subject property and comparable properties may be changed if there are changes in factors that affect demand and supply of properties. Substitution  The sales comparison approach is based on the economic concept of substitution that a knowledgeable and prudent person would not pay more for buying a property than the cost of acquiring an equally satisfactory property.  This implies that, within a suitable time frame, the values of properties that are considered to be close substitutes in terms of location, utility and desirability will tend to be similar.  This principle indicates the situation that the reliability of sales comparison approach shall be degraded unless there are substitute properties for the subject in the market 8  Cont… Balance  The market price of a property is determined by the interaction of market demand and market supply of a property in market economy. The market achieves its equilibrium at this point (point of intersection). Shift in any of the factors that affect market demand (for instance population, purchasing power, consumer taste) or factors which determine market supply (like construction of new buildings) of a property definitely disturbs this equilibrium.  In addition to this, The relationship between land and improvements, and Relationship between the property and the environment has to be in balance so that the value of the property can indicate the optimum market value. 9  Cont…  For example, if the property has too much land in relation to its improvement or too many amenities for its location, an imbalance is created. Externalities  As it is known, there are several external factors that affect the value of the property.  Some factors affect value of the property negatively and others may affect it positively.  The value of a property may vary depending on the condition and lighting of the street besides the property, the availability of transportation facilities, the adequacy of police protection, the enforcement of municipal regulations, and the proximity to shopping and restaurant facilities. 10  Cont…  For example, a property near to the drug addicted area has lower value than those far from it and a property which is located near to a lake side with nice view has higher value than other properties. Competition  Potential profits attract new buyers and sellers to the market. Competition among sellers may lead to an over supply/surplus which reduces prices and profits.  Competition among buyers may lead to shortages which increase price and profit to sellers. Relative to property, an excess of one type of facility will decrease the value of all similar facilities. Conformity  Conformity is the valuation principle which states that property value is created, and sustained when there is reasonable similarity among the improvements in an neighborhood. 11  Cont… Consistent use  The principle of consistent use states that the valuation of the entire property must be based on a single use.  It is improper to value the property on the base of one use for the land and another use for improvements.  This principle is especially important to remember when valuing a property in transition from one use to another use. Contribution  The cost of the improvement does not necessarily increase the market value of the property by the same amount. 12  3.2 Applicability and Limitation  The sale comparison approach is applicable to all types of property interests when there are;  Sufficient comparable recent sales and,  Reliable transactions to indicate value pattern of the market.  The sale comparison approach is the most widely known approach, and if it is used appropriately and correctly, it is the best indicator of value for real property.  It is reliable because it is based on verifiable data from arm’s- length transactions.  When data on comparable properties are available, this approach is the most direct and systematic approach to determine the value opinion.  However, the applicability of this approach is limited when there are insufficient number of market transactions of comparable properties. 13  Cont…  Rapidly changing economic conditions and legislations can limit the reliability of sales comparison approach.  For example, changes in Income tax laws and zoning regulations, Availability and cost of financing, Moratorium, Building codes and infrastructure development may result in lack of recent comparable sales.  Rapid inflation or deflation can also jeopardize the reliability of an appraisal’s adjustment.  Little comparable data will exist for the first property to be renovated in an area of deteriorated buildings or for the only property of a given type in a neighborhood. 14  Cont…  It is imperative for the appraiser to identify and analyze the strengths and weakness of the data compiled.  Care must be taken when sales data is provided by someone who is not a party to the transaction.  All the relevant facts and opinions must be communicated in the appraisal report.  Statements concerning  The availability of data  The analysis performed and  The final conclusion of value should be presented in the reconciliation section of sales comparison approach and, where appropriate, in the final reconciliation of the value estimate.  Income multipliers, capitalization rates and yield rates which are applied to the income capitalization approach can be extracted from comparable sales. 15  3.3 Procedure in Sales Comparison Approach  An appraiser follows a systematic procedure to apply the sales comparison approach.  The systematic procedures (steps) that an appraiser should follow in order to estimate the final opinion of value of the subject property using the sales comparison approach are described as follows. 1. Research the market for information on sales and listings:  It is the first step of sales comparison approach.  On this step an appraiser ought to gather data on: Sales and contract Offers to purchase Listing of comparable properties 16  Cont…  The data collected from completed transaction and conducted at arm’s length are considered as the most reliable source of value indicator as value conclusions must be market driven.  Initially, appraisers should research on The sales prices, Real property rights conveyed, Financing terms, Motivations of buyers and sellers, Dates of the property transaction, and costs incurred immediately after purchase.  Next to this, an appraiser should observe each properties location, physical and functional condition, economic characteristics, use and non-reality components of value. 17  Cont…  Appraisers can obtain the above data from different sources such as Buyers and seller of real property Brokers Public records Professional data companies Other appraisers Real estate periodicals Interviews with the parties to transactions, their employees, attorneys, counselors, appraisers, property managers, lenders 18  2. Verify the information  In estimating the value of the subject property, appraisers are responsible for providing enough evidence of value to support for value opinion.  Thus, they should verify the information to ensure its accuracy.  For instance, taking three comparable properties may be enough if they are considered as verifiable and give conclusive evidence of the value opinion.  Otherwise, an appraiser ought to include additional comparable properties to estimate the value of the subject property using this approach. 19  3. Select relevant units of comparison  The units that will be compared must be similar.  Therefore, each sales price should be stated in relevant units of comparison.  Units (elements) of comparison are used to facilitate comparison of the subject property with the comparable properties. Units of comparison are generally specific to a particular market.  For instance, the price per square foot of gross building area including land may be the relevant unit of comparison in some markets.  Units of comparison may be: Physical units of comparison such as price per square meter of gross building area and pries per square meter of net building area Income units of competition such as potential gross income multiplier (PGIM), effective gross income multiplier (EGIM) and net income multiplier (NIM). 20  Cont…  Therefore, an appraiser should select appropriate unit of comparison to reach at good value opinion of the subject property. 4. Analyzing and adjusting comparable sales  In this step, an appraiser should observe the difference between the comparable properties and the subject property using the elements of comparison.  Adjustment can be made either to total property price or to appropriate unit of comparison.  The following are the basic elements of comparison that appraisers should consider in estimating the value of a subject property using the sales comparison approach. Real property right conveyed Financing terms 21  Cont… Market conditions and Conditions of sale Expenditures made immediately after purchase Location Physical characteristics Economic characteristics Use (zoning) Non-realty components of value such as furniture’s and fixtures those are typical of presently. 5. Reconciliation of value indications in sales comparison approach  Reconciliation is the last step of valuation in sales comparison approach when there is two or more value opinions estimated from market data.  These different value estimates are reconciled into range of values or a single value estimate referred to as point estimate. 22  Cont…  In doing this, appraisers have to Consider the strength and weakness of each value indication estimated, Observe the reliability and appropriateness of the market data compiled and Observe the analytical techniques used.  For example, values opinion estimated based on the area method and assessment value method must be reconciled into arrange of values or a single value indication for the sales comparison approach. 23  Cont… Selection of Comparable Sales  Every property has its own unique feature that makes it different from others.  As a result, it may be difficult to get a recently sold property that is completely comparable to the subject property.  Thus, an appraiser should collect data that are as similar as possible to the subject In time of sale, Location and Other essential characteristics.  There is no specific number of comparables that is considered to be right for every appraisal. 24  Cont…  The number depends on the comparability of the sales to the subject property.  Three comparable properties can be enough for estimating the value opinion of the subject property if they are Very similar to the subject property Located nearby the subject property and Very recently sold  However, large number of comparables is deemed to be necessary when The sales are assumed to be less comparable or The appraiser has less confidence in the reliability of the information obtained about the sales. 25  Cont…  The sales price of a property has to fulfill three different conditions to be taken as appropriate comparable. These are: Competitive property Open market transaction Recent in time of sale Competitive property  A property sold before and considered as comparable should be a reasonable substitute for a potential buyer looking at the subject property.  A competitive property has to be Located in the area where the potential purchaser needs to buy the subject property Similar to the subject property in size, shape and other features to satisfy the need of the purchaser. 26  Cont… Open market transaction  The second condition that the sale has to fulfill to be taken as comparable is that the sale must be an open market transaction.  This means the transaction must be arm’s length.  A seller should have the possibility of exposing to several potential buyers to have a market determined price.  An appraiser must avoid a sales price of a property which is not arm’s length transaction.  If the sale is deemed to be so beneficial in estimating the value opinion of the subject, an appraiser has to Carefully examine the transaction and Make interview the participated in the transaction. 27  Cont… Recent in time of sale  The third condition that a sale has to fulfill to be considered as comparable is that the property must be sold recently.  In property appraisal, the date of sale refers to the date on which the parties were committed to the contract.  The most recently sold property is preferred to be more comparable than the previously sold one.  The reason is change in market conditions may affect the sales price of the property. 28 3.4 The Process of Analyzing and Adjusting Comparative Sales  It is a rare case that the comparable properties are identical to the subject property, particularly for nonresidential properties.  Thus, the determinants of property value such as Location Physical factors such as size, layout and configuration, quality and condition of accommodation and Legal factors such as ownership type and lease terms need to be quantified, adjusted and reconciled in determining the value opinion of the subject property using the sales comparison approach.  After collecting the sales data of comparable properties, it is necessary to undertake adjustments in several ways. 29  Cont…  We can apply quantitative adjustment and qualitative analysis techniques to minimize the differences between the subject property and the comparable properties.  These two different methods can be used separately or in combination.  They are complementary to each other.  An appraiser can apply mathematical techniques to make quantitative adjustments.  However, it is necessary to examine the qualitative relationship through: Direct comparison of market data and Analysis of market trends provided that they cannot obtain enough quantitative data that can support quantitative adjustment. 30  Cont…  Adjustment can be made either on total property prices or on appropriate units of comparison.  It is usual that adjustments on total prices are undertaken for Property rights conveyed Financing terms Conditions of sale Date of sale and Expenditures made immediately after purchase 31  3.4.1. Analyzing Comparables Sales  Each of the basic elements of comparison, used in sales comparison approach, must be analyzed to determine whether an adjustment is required.  If sufficient information is available, a quantitative adjustment can be made.  If there is insufficient support for a quantitative adjustment, the element of comparison can be addressed using qualitative analysis.  The most commonly used elements of comparison are explained as follows: Real property rights conveyed  Real property rights might be the sole subject of the contract when properties are being sold. 32  Cont…  The appraiser has to initially make sure that the sales price of the comparable property can be applicable to the property rights that are similar to those being appraised.  It is necessary to carefully observe and identify whether they may require certain adjustments before using them as comparables.  For instance, a property that is leased on a long term basis at a below- market rate cannot be compared to the property with no lease in place unless adjustment is made. 33  Cont… Financing terms  The term of sale can affect the selling price of a property.  For instance, a lender may participate in government sponsored low income home buyer program and grant below market interest rate loan to buyers.  Such a favorable financing situation may allow buyers to pay a somewhat higher purchase price to get below- market financing.  Therefore, a price adjustment ought to be made to indicate the situation before using the sales price for comparison purpose.  Downward adjustment is usually made when such financing occurs.  Conversely, interest rates at above-market levels often result in lower sale prices which need upward adjustment. 34  Cont… Condition of Sale  A forced sale or a desperation purchase can cause unequal bargaining power between buyers and sellers.  Personal relationship may cause a transaction price lower or higher than the market value of the property.  For instance, a parent may sale the property to a son or daughter at a reduced price, or a buyer may pay a higher price for a property because it was built by his ancestors.  A developer may pay more than a market value for lots needed in a site assemblage because of the plottage value expected from the greater utility of the larger site.  A sale may be transacted at a below-market price if the seller needs cash in a hurry.  The above situations affect transaction prices. Such transactions are not considered as arm's-length transactions (that is fairly negotiated transaction). 35  Cont…  Thus, an appraiser has to check each comparable sale whether it was an arm’s- length transaction between buyers and sellers who have relatively on equal position to bargain or not.  The circumstances of the sale must be thoroughly researched before an adjustment is made, and the conditions must be properly described in the appraisal.  Some sales may show a typical motivations or sale conditions which is different from the usual market situation due to Uncommon tax considerations Lack of exposure on the open market or The existence of expropriation proceedings  Thus, the condition of sale should be adjusted before using the data of such sales for comparison purpose. 36  Cont… Expenditures made immediately after purchase  A buyer who has sufficient knowledge concerning a property under consideration usually includes the expenses that he/she is going to made after purchase in the price of the property since they will increase costs for the buyer.  These expenditures are: Costs to cure deferred maintenance Costs to demolish and remove any portion of improvements Costs to petition for a zoning change Costs to remediate environmental contamination  Such costs are not actual costs but they are anticipated cost expected by the buyer and the seller. Market conditions  The comparable sales used in estimating the value opinion of the subject property are historical data collected from different sources. 37  Cont…  This means the transaction may have been taken place yesterday, several months or years ago.  Thus, it is important to recognize that the general market condition may have changed since the transaction occurred in using the data to determine the current value estimate of the subject property.  Changes in market condition may be emanated from Change in general price level (inflation or deflation), Change in local condition of supply and demand, Change in investors' perceptions, Changes in income tax laws and other economic factors  Market conditions that change over time needs to be adjusted.  Adjustment in the market condition is referred to as time adjustment. 38  Cont…  In this case, time is not the cause of the adjustment rather it is a measure of the adjustment.  The adjustment to change in market condition is usually made in percentage of the previous price and it is applied to the prices after adjustment is made on property rights conveyed, financing terms, condition of sale, and expenditure after sale. Location  The three most important factors that affect property value are: location, location and location.  A location adjustment is required when the location of the comparable properties is either superior or inferior to the location of the subject property. 39  Cont…  The following factors should be noted during location analysis  The condition and quality of the nearby properties,  The availability of utilities and transportation,  The proximity to trouble and hazards  If a location difference is higher for a sale, it cannot be qualified as comparable in sales comparison approach.  Location differences are often the most difficult elements of comparison since they are difficult to quantitatively measure the buyer’s subjective impression of the environment.  The nearest property to the subject is more preferable for estimating the value opinion of the subject property in comparison method.  Therefore, adjustments for location are needed to minimize the differences of comparable data with the subject property. 40  Cont… Physical characteristics  There may be difference in the sales price of comparables from that of the subject property due to difference in physical characteristics.  It includes differences in lot size Structure size Desirability of floor plan Architectural style Type of construction Condition of property Type of material Presence or absence of various features such as garage, fire place, swimming pool and etc. 41  Cont… Economic characteristics  It incorporates all features of a property which can have a direct effect on its income.  It is more relevant to income generating properties.  These features include : Operating expenses Quality of management Tenant mix Rent concessions Lease terms Lease expiration dates Renewal options and Lease provisions such as expense recovery clauses. 42  Cont…  Therefore, an appraiser has to examine these characteristics carefully to have proper analysis of the comparables and to come up with reliable estimate of a final value opinion. Use/Zoning  The current use or the highest and best use of a potential comparable sales and the subject property must be addressed.  Two properties located in the same area can be physically similar but used for different purposes need either an adjustment or need to be eliminated from the list of comparables.  In most cases, the buyer or buyer’s agent must confirm the ultimate use for which the comparable was purchased.  For example, an apartment complex purchased for conversion to condominiums may reflect a sale price above the market level for apartment properties. 43  Cont…  This property would not be an appropriate comparable for the “ As Is” valuation of an apartment complex for which no change in use is intended.  In determining the value of the vacant land, zoning is one of the primary determinants of highest and best use of the property, i.e zoning serves as the test of legal permissibility. Non-Reality Components of Value  In some cases the sales price of the comparable properties may include the price of personal properties such as Furniture, Trade fixture, Equipment, TV and etc.  Thus, the price of comparables must be adjusted for these non reality components of comparables 44  3.4.2 Adjustment to Comparable Sales Data  It is the most demanding step in sales comparison approach since the adjustments made should first and foremost be related to the market.  The main objective of adjustment is to change the comparable sales data in to an approximation of the subject property.  If the comparable sales are inferior to the subject property with respect to the elements of comparison, the comparable sales data will be adjusted to upward.  If the comparable sales are superior to the subject property, the comparable sales price must be adjusted downward. 45  Cont…  Appraisers commonly use three types of quantitative adjustments.  These are:  lump sum/monetary (dollar),  percentage and  units of comparison  The adjustment may be applied in various ways based on how the relationship between the properties under consideration is expressed in the market. Lump sum/monetary adjustment  Adjustments can be calculated in monetary (money) amounts. 46  Cont…  In this type of adjustment a specific monetary amount is used to adjust each sale for any property difference.  The comparable sales can be adjusted by adding or deducting some amount from the price of each comparable sale so as to approximate them to the subject property.  For example, let us consider that we have a comparable property which has a garage at the basement. However, the subject property doesn’t have a garage. Determine the adjusted sales price of the comparable with a sales price of $ 300,000 if the garage increases the sales price of the comparable property by $20,000 Sales Price ------------------------------------ $300,000.00 Less: Adjustment for garage ------------------- $20,000.00 Equals: Adjusted price of the comparable -- $280,000.00 47  Cont… Percentage adjustments  Adjustments for differences between a comparable property and a subject property are frequently expressed in percentages.  Percentage adjustments are often used to reflect differences in market conditions and location.  For example, the data may indicate that market conditions have resulted in a 10% increase in overall property prices during the past year.  Similarly, an appraiser may analyze market data and conclude that properties in one location are sold for prices approximately 10% higher than the prices of similar properties in another location  These percentages are often converted into monetary amounts that are then added to or subtracted from the price of the comparable. So that it can be approximated to the subject property. 48  Cont…  If the comparables are found to be similar to the subject, adjustment is not necessary.  For example, in a rapidly rising market a comparable with a sale date that is three months earlier than the date of valuation might be adjusted by 3% to show a 1% increase in market price per month. In other words, the sales price will be increased by 3% with in three months. If the comparable property is sold for $500,000 the adjusted sales price after three months will be: Sales Price ---------------------------------------- $500,000.00 Plus: Time adjustment ---------------------------- $15,000.00 Equals: Adjusted Price --------------------------- $515,000.00 49  Cont… Units of comparison adjustment  In this type of adjustment an appraiser has to first select an important property unit such as square foot of building area and analyze that sales on this basis.  Here, an appraiser would convert the sale from price to price per square foot.  Example: 50  Cont… Qualitative Analysis  After an appraiser has applied quantitative adjustments to the comparables or when quantitative adjustments cannot be made, the following forms of qualitative analysis can be applied:  Relative comparison analysis – it involves narrative discussion of the positive or negative attributes of comparables. E.g. This comparable is inferior to the subject, the subject would sell for a higher price.  Ranking analysis - the comparable sales are ranked in descending or ascending order. Then the appraiser can analyze each sale to determine the relative position of the subject property in the array.  Personal interviews – interviewing market participants will often give appraisers a good indication of the value of the property or what it is not worth. 51  Cont…  The most common required adjustments are adjustment to: Real property rights conveyed Financing terms Condition of sale Expenditure made after purchase Market conditions Location Physical characteristics Economic characteristics Use/zoning Non-reality component (personal property) 52  Cont… Real property rights conveyed  Suppose a fee simple estate in land improved with office building with an area of 100,000 square meter as subject property and a 100,000 square meter office building which is leased in a long term (10 years lease period) base at the time of sale as comparable property.  Estimate the adjustment that will be made provided that the market rent is 25 birr per square meter, the contract rent is 24 birr per square meter, and the market shows that the vacancy rate in which the subject is located is 5% and 4% of the effective gross income is the management expense. In addition to this, the rate of discount is given as 15%. 53  Cont…  We have seen from the given example that the market rent is higher than the contract rent which shows that there should be an upward adjustment in sales price.  To do this, we have to initially determine the effective difference between the market rent and the contract rent by subtracting vacancy allowance and the management expense from the actual difference between the market rent and the contract rent.  Then multiply this result with the area of the comparable property and thereby derive the annual rent loss from the lease. 54  Cont…  Actual difference b/n market rent and contract rent per square meter per year is 25-24= 1 birr  Effective difference b/n market rent and contract rent per square meter per year is 1 – 0.05 -0.04= 0.91 birr  Annual rent loss = 0.91 birr x100,000.00 = 91,000.00 birr per year  This annual rental loss has to be discounted over the lease period (i.e. 10 years) at a discount rate of 15% to determine its present value and to make adjustment of the price of the comparable. 55  Cont…  The present value of 91,000 birr for 10 years period @15% discount rate is 456,708 birr. It can be rounded to 456,700 birr.  This indicates that an upward adjustment of 456,700 birr is required because of difference in the interests in between the subject property (fee simple estate) and the comparable property (leased fee estate). Financing terms  The other factor which needs to be adjusted in sales comparison approach is the financing term. In some cases, properties may be sold with nonmarket financing. 56  Cont…  For instance, a lender may participate in a government sponsored low income home buyer program and give below market interest rate loan to buyers. In such cases, the loan has to be adjusted to a cash equivalent value of the mortgage. Example: Suppose a seller sales a property at a price of 200,000 birr with a down payment of 50,000 birr and a seller financed mortgage of 150,000 birr at an interest rate of 10% amortized in 20 years. Determine the sales price of the property adjusted to this financing condition when the appraiser finds that the market discount rate for sales financed by a similar arrangement is 20%. Cash equivalent value of the mortgage--- 150,000-(150,000x0.2)=120,000 Plus: Down payment -------------------------------------------------- 50,000 Sales price adjusted to financing term ------------------------------- 170,000 57  Cont… Expenditure made immediately after purchase  The market participants may identify the expected expenditures that will be made after the purchase of the property.  In this case, the sales price will be adjusted to these expected expenditures.  Example: Suppose that a 5,000 square meter property is recently sold for 500,000 birr and it is considered as comparable to the subject property. The new owner of this property expected to spend 50,000 birr for repairing it.  Thus, the value indication of the comparable property is 550,000 birr since 50,000 birr is deducted from the price that the property would command in the market if no expenditures were necessary. 58  Cont… Market conditions  The price of comparable sales might be changed due to change in market conditions.  The value movement attributed to change in market condition is best estimated by tracking the price of individual properties as they sell repeatedly over time.  This method is known as repeat sales analysis method.  Consider, for instance, four comparable properties that are sold recently (today) and at some time during the past 30 months as indicated in the following table. 59  Cont…  It indicates that the price of comparable properties has increased about 0.29% per month on average.  Appraisers can use this average figure in order to adjust the sales price of comparable properties for the number of months since they were sold. 60  Cont…  The result will be the market adjusted sales price of comparable properties.  Example: Determine the adjusted sales price of a comparable property which was sold 14 months ago for 600,000 birr, assuming the property was sold in an arm’s length transaction and under normal financing condition.  Adjustment = 600,000 birr x 0.0029 x 14 months = 24, 360 birr  This means, the price of the comparable property would be increased by 24,360 birr after 14 months.  Thus, the market adjusted sales price of the comparable property would be  The adjusted sales price = 600,000 + 24, 360 = 624,360 birr 61  Cont… Location  When the subject and the comparables are located in different locations, the appraiser must quantify the required location adjustment by comparing the price of similar properties  some of which are in the neighborhood of the subject property and  some of which are in the comparable property’s neighborhood  In doing so the appraiser can use a method referred to as paired sales data analysis.  In this method, it is possible to use one property in each pair of nearly identical properties in the subject property’s neighborhood (central place), while the other property is in the comparable property’s neighborhood (distant place) as indicated in the table below. 62 Cont… 63  Cont…  The result in the above table indicates that properties in the central place (in the subject property’s neighborhood) can be sold for an average of 8.21% more than that of properties in the distant place (comparable properties neighborhood).  Thus, the sales price of the comparable properties should be adjusted upward. Example 2:  Suppose we have a subject property which is an interior vacant lot and two sales of vacant lots (A & B) similar to the subject property in most respects except for location. Comparable A, a corner lot with frontage on two streets, was sold for 12 br/sq.ft. Comparable B, an interior lot with frontage on only one street, was sold for 9br/sq.ft. 64  Cont…  Show the adjustment process and the adjusted price of the comparables.  Since the subject is an interior lot, comparable A should be adjusted downward. The adjustment can be calculated as follows: 9 br per sq.ft/12br per sq.ft times 100= 0.75%  It can be concluded that an interior lot is worth only 75% of the value of the corner lot. Thus, the percentage adjustment of 75% is applied to the unit price of comparable A. Adjusted price of A=0.75 x 12br/sq.t=9br/sq.ft  Thus, it can be concluded that the value of the subject property is equal to 75% of the value of comparable A or equal to the value of comparable A less 25% of that value. Value of the subject=12br-(0.25 x 12br)= 9br/sq.ft 65  Physical characteristics  There is no perfect similarity between the comparables and the subject in their physical characteristics.  The differences in physical features should be adjusted.  Consider an apartment building which has one bed room unit and two bed room units. The average monthly rent for competitive apartment buildings are shown below. 66  Cont…  If the comparable apartment buildings are essentially the same, the increment rent attribute to a second bed room could be reconciled at 51 birr (average of the difference for the second bedroom) per month.  Given a 5% vacancy and collection loss, operating expense of 35% of rent collection, and market derived overall capitalization rate of 9%, calculate the incremental value of the second bed room. 67  Cont…  Our objective is not to know the value of the second bed room, rather we intend to use such value to make adjustment on the difference in physical characteristics between comparables and subject property.  Example: Suppose that the subject property is an apartment complex with two bed room units that is going to be appraised. The appraiser found six comparables which have sold very recently in the market where the subject is located in addition to the above comparables(A-F) mentioned above. The following recently sold comparables are already adjusted for other element of comparison. Determine the adjusted sale price of the following comparable apartment buildings. 68  Cont…  Information on comparables  Adjusted sale price of comparables  It indicates that the difference between sale 1 and sale 4 has been adjusted to the subject property by 4,200 birr upward. 69  Cont… Use/zoning  In applying sale comparison approach, appraisers must make sure that the highest and best uses of properties in question are the same as that of the subject.  Although it may be difficult to support an adjustment for difference in the highest and best uses, market data can be used to support an adjustment for different intensity of use allowed by zoning.  As a matter of fact small difference in possible uses or zoning can be quantified by paired data analysis.  Suppose that a 100,000-sq.ft office building on a 3.0-acre site (1 acre=43,560 sq.ft) where the current zoning allows for a maximum floor area ratio (FAR) of 0.50. The existing improvements predate a zoning change and are legally non- conforming use. The zoning regulation allows for improvement of equal size to build if the existing improvements are erased or destroyed. Most of the comparable properties are in area zoned for maximum floor area ratio (FAR) of 1.0 70  Cont…  What kind of relationship do you observe from the above table?  The price per square foot of land sale range widely, but the price per square foot of allowed building area by zoning indicate a much tighter range, suggesting a strong relationship.  The price per square foot of allowed building area could be reconciled at 21.50 (average of the price per square foot of allowed building area).  Therefore, with a floor area ratio of the subject 0.76 (100,000/(3X43, 560)), the value of the subject site could be estimated to be worth 16.34 per square foot (21.50 x 0.76), or 2,135,000 birr as rounded figure. 71  Cont… Non-reality component  Personal property or other intangible item may be included in many comparable sales and sometimes in the subject property.  Adjustments for difference in these items usually require the appraiser to estimate the contributory value of the item.  As discussed so far the appraiser has to use the current market prices of these components in the process of adjustment, not either original cost or today’s replacement cost.  In other words, these estimates are usually based on the depreciated cost of the personal property or the income or expense the item brings to the property. 72  Cont…  Example: Suppose you are using the sale comparison approach for the appraisal of a single family residence. During the assignment you are informed that the subject will not include non reality component in the development of an opinion of the market value.  You find three comparables to the subject property sold recently.  All comparable properties are single-family residences and they have same significant attributes to the subject. However, you also realize that Sale 2 has also included additional non reality item: furniture, in which others do not have including the subject. Sale 2 has a furniture, i.e, a compressor, which is five years old and has 10 years life. The current market value of air compressor is 1500 birr.  Determine the adjusted price of comparables based on the above information. 73  Cont…  The element of comparison which requires adjustment is the non-reality component found only in sale 2.  Since it has something more than subject property, the difference should be reduced from the adjusted price for comparables 2 for other unit of comparison.  The furniture had been working for the last 5 years and remaining half of its life span. Here we know that the current price of it which is 1500. So it is straight to find the half price of it to be deducted. i.e., 1500*50% = 750. 74  Cont…  The adjusted sales price of sale 2 becomes 145,950 birr. Sequence of Adjustment  According to the practice recommended by the Appraisal Institute of US, appraisers have to make adjustment of sales price of comparable properties in the sequences indicated below. 75  Cont…  Sales price of comparable property +/- property rights conveyed +/- condition of sale +/- financing terms = Normal sales price +/- adjustment immediately after purchase +/- Market conditions = Market adjusted normal sales price +/- Location +/- Physical characteristics +/- Economic characteristics +/- Legal characteristics +/- Use +/- Non-reality component = Final adjusted sales price of comparable 76 3.5. Methods Used in Sales Comparison Approach  77  Cont…  Estimate the value of the subject property which includes a residential area of 1,000 sqm. and commercial area of 500 sq.m based on the following given data of comparable properties using area method of sales comparison approach as of January 1, 2004. Table 4.1 Sales price of comparables 78  Cont…  As an appraiser requires the area of comparable properties in addition to the sales price, the following table shows the area data of comparables. Table 4.2 Area data on comparable properties 79  Cont…  By now we can determine the adjusted sales price per unit area of the comparable properties based on the data in table 4.1 and 4.2 as indicated below. Table 4.3 Sales price per unit area of comparable properties 80  Cont… Table 4.4 Market value of the subject property  This table indicates that the mean, maximum and minimum market value estimate of the subject property is 14,574,000 birr, 19,228,500 birr and 11,466,000 birr respectively. 81  Cont…  The exact choice of this estimated market value of the subject property depends on how the subject property compares with the comparable properties.  It will be the mean value if the subject property is as good as the comparable properties.  It will be the maximum value if the subject property is better than the comparative properties.  It will be the minimum values if the subject property is slightly inferior to the comparable properties. 82  Cont… B. Assessment Value Method  In this method an appraiser is required to identify the ratio of the sales price to assessed value of comparable properties Value of the subject property= (Assessed value of the subject x PAV ofcomparables) Example  Find the estimated market value of the above subject property, discussed in the area methods, with assessment value of 7,000,000 birr based on the following assessment value data of comparable properties using the assessment value method 83  Cont… Table 4.5 Assessment value data of comparables 84  Cont… Table 4.6 Adjusted sales price per assessment value of comparables 85  Cont…  By now we can easily determine the market value estimate of the subject property based on these figures and the assessed value of the subject property as summarized in the following table. Table 4.7 Estimated value of the subject property 86  Cont…  As table 4.7 summarizes, the mean, maximum and minimum estimated market values of the subject property are 14,350,000 Birr, 17,920,000 Birr and 11,970,000 birr respectively.  The choice of the exact value of the subject property depends on how the subject property is compared with the comparable properties as we discussed in the area method.  It will be the mean value if the subject property is as good as the comparable properties  It will be the maximum value if the subject property is better than the comparative properties  It will be the minimum values if the subject property is slightly inferior to the comparable properties 87  Cont… C. Net Capitalization Method  In this method, the appraiser is required to determine the  Net operating income (NOI) and  Yield of comparable properties  Example; Find the estimated value of the subject property discussed in the above two methods with market rents, operating and maintenance (O&M) costs, and property tax of 1,275,000 birr, 350,000 Birr and 184,000 Br respectively based on the following in come and expense data of comparable properties using the net capitalization method. 88  Cont… Table 4.8 Income and expense data of comparables 89  Cont… Table 4.9 Determination of yield rate 90  Cont… Table 4.10 Estimated value of the subject property 91  Cont…  As it is shown in table 4.10 above, the subject property has an estimated market value 14,529,412, Birr, 11,578,128 Birr and 18,073,171 Birr calculated based on mean, maximum and minimum net capitalization rates respectively using this method Reconciliation of the three value indications  If we consider the subject property as good as the comparable properties, the estimated market value of the subject property will be the average of the above three mean values. Estimated value of the subject property = =14,484,470 birr 92  o u! k Y h a n T 93