Getting a valuation – A critical component of the property acquisition process

Today’s economic environment is one of rapid fluctuation -exchange rates, lending rates, inflation rates and economic confidence levels are ever changing. These factors have a major impact on the value of all assets. There is a constant need to determine the value of property for the purpose of financing, reporting to shareholders, cost accounting, mergers or takeovers through to rent determination and reviews, rates assessment, expropriations, arbitration and litigation. Other motivations could also relate to mortgage bond and security, leasebacks, insurance, deceased estates, municipal ratings, financial reporting and liquidations.

One of the frequent applications of the valuer’s skill is to determine values for purchase or sale, and for insurance purposes. In order to pursue this profession legally, a valuer must be registered with the South African Council For The Property Valuers Profession, a statutory body established in terms of the Property Valuers Profession Act, 2000. The act makes provision for three categories of registration, namely professional valuer, professional associated valuer, and candidate valuer.

But why exactly is a comprehensive valuation so critical?

• Establishing the market value of any asset is the first step and basis on which any financing, investment or asset transaction decision is made. Independent, professional valuations are obtained whenever a decision is being made to buy, sell, develop, insure, improve, refinance or securitise any asset.
• Besides providing an independent and accurate reflection of market value, a comprehensive valuation report can also offer an in depth understanding for any purchaser or other interested party of numerous aspects of a property, such as:

1. The Title Deed information, which is scrutinized to see whether any endorsements, conditions or servitudes attached to the property may impact on the market value.

2. An accurate description of a properties location and nature of its surrounds, which can offer an investor (regardless of where they are situated) a clear picture of the property’s location and its effect on value.

3. As above (2) but for accommodation and building condition. A detailed analysis of the condition of a property’s improvements can indicate the level of expenses attached to maintenance.

4. An analysis of the municipal information, such as the Town Planning information. This is vitally important in establishing whether the current use and structures on site adhere to council requirements, and even more importantly, whether the property offers any further development potential which can unlock further value.

5. A full break down of the building areas (both gross and lettable). It is interesting to note that few landlords actually know the size of their buildings. This is crucial when it comes to maximizing the potential of a property’s use and can often result in landlords identifying additional revenue generating components. A comprehensive valuation can also assess the efficiency of a buildings tenant layout, design and lettable components, thus identifying ways to improve a properties lettability and income generating ability.

6. The strength of its lettability, which can provide a accurate understanding of the type of tenant most suitable to the property and the period of time it may take to let (if vacant). Likewise for salability, it can assist a landlord in identifying the type of purchaser who would be interested and expected sale period if taken to market.

7. A thorough description of the methodology applied in establishing value, which is important as it is the job of a valuer to understand exactly how a potential purchaser is determining their offer price. Eg. Commercial properties are traditionally valued using the income capitalization approach. This method entails the determination of the first years net annual income, which is then capitalized at a market related capitalization rate or initial yield. However, in today’s market environment, most Industrial and Office Sectional Title units are being purchased on a rate per square meter basis, with market values far outstripping capitalized values and hence indicating the premium investors or owner occupiers are willing to pay, over and above the rental cash flow offered. The same applies with blocks of flats, where the purchasing market largely constitutes re-development specialists as opposed to traditional landlords. In this instance, it is NB that a residual sales value is determined to reflect the true market value inclusive of such re-development potential.

8. How the income applied to a commercial property’s cash flow was derived. The rental income applied in should always be fully motivated and justified by providing comparable rental evidence. In addition to justifying the rental income applied, a comprehensive report will also indicate which brokers the valuer contacted to discuss the lettability and rental rate applied. Due to the acute shortage of valuers, it becomes difficult to specialize in a particular property type and location. Hence the need to touch base with brokers who specialize in certain accommodation types and are active in specific nodes in order to re-affirm the rentals adopted.

9. Expenses – are they within acceptable market parameters or is there a particular reason why they should be more or less than the norm due to a buildings condition, improvement extent or tenant profile.

10. The capitalisation rate. This is the most important variable applied to the income capitalisation calculation when determining the market value of a commercial property. The capitalization rate is best determined referring to market transactions of comparable properties, as it is based on information derived from market analysis. A comprehensive valuation report will provide evidence of comparable sales, specifically identifying the initial yield at which these comparables transacted. The justification of the valuers capitalization rate adopted is based on the initial yield achieved on these comparables. The comparable properties analyzed should reflect similar risk profiles in terms of cash flow and tenant base, not withstanding property type and location. Valuation Alliances is superbly positioned in this regard as its sister company, Auction Alliance, is currently closing the largest volume of commercial transactions in South Africa, thereby offering the richest database available to draw on such information.

Current property financing protocols entail that banks carry out valuations as one of the final steps in the lending process. This adds a crucial time factor into the lender’s decision-making process. If a client can get a valuation upfront and ‘shop’ it around to banks, the process can be far more speedy and efficient, and can result in the client achieving a far better financing deal.

AUTHOR: Barry Kaganson, ALLIANCE GROUP

“Information courtesy of the Alliance Group Property Investor Guide, available at all Alliance Group offices nationwide. To find out more, call 0861 ALLIANCE, or visit www.alliancegroup.co.za to download an electronic version“