Case Study

Question 1

When was the property extended and did you carry out any checks to establish valid permissions had been granted?

Answer 1

I checked the Edinburgh Council Planning portal and the owner did have PP to build this extension.

Question 2

Explain why you measured using NIA, why Zone the unit, what do you mean by Zone A and Zone B?

Answer 2

I complied with RICS Code of Measuring Practice 2007 (effective May 2015) Reinstated in 2018.

The rationale behind zoning is associated with the principle that the space closest to the front of the shop (the zone A area) has the highest value because it benefits the most from window display and foot traffic, making it the prime retailing area. Therefore, it attracts the highest rent per square foot. After zone A, the value of retail space typically diminishes the further it is from the shop front

Measure to zones of 9.14 m depth
Market custom prevails
Zone A 100%, Zone B 50%, Zone C 25% etc. ancillary at 10%
Give a floor area In Terms of Zone A ‘ITZA’
Return frontage – market standard 9.14x9.14
For properties with a heavy frontage (small windows, typical old banks etc.) may apply a reduction factor to zone A as it will not benefit from the exposure

Question 3

Did you not discuss with your client what was likely to happen regarding existing lease – was it going to be extended rather than simply assume it would be vacant in 10 months’ time and factor in void period in your valuation?

Answer 3

I did, while at the time of valuation discussions were in place, nothing had been agreed and as agreed in the TOE with the client I valued this property assuming that the tenant would not renew their lease agreement.

Question 4

From an inspection perspective, what sort of defects would you be looking out for when surveying a property such as this one?

Answer 4

As the purpose of inspection was for valuation reasons. I was insepocting to understand any factors which could influence the valuation. From a construction strand point this included the current condition and defects such as:
* Movement such as cracking in in the brickwork
* Any evidence of leaking or damp.
* As this was a period building with a modern fit out I was looking for dry rot, wet rot, water ingress around the door and window openings, tile slippage.

Also looked at the surrounding area in terms of vacant borads and footfall

Question 5

Why adopt £26/sqft to establish market rent? You could be criticised why not opt for a lower figure given that some comps used were much lower in floor area and analysed figure cold include element of inverse quantum. Furthermore, you have referred to new leases in your analysis – was the analysed rate net of any incentives granted? Did you make any other adjustments to reflect rent review pattern, insurance liability etc?

Answer 5

there have been a number of new leases signed in recent times which has established a relatively distinct rental tone which I feel sits comfortably between £20-£30 per sq ft Zone A and therefore I regarded the property as Broadley rack rented.

On this basis, I applied a Zone A rate of £26 per sq ft over our calculated reduced floor area (ITZA)

The comparable evidence shows the headline rate. The new leases were analysed taking into account the rnet free period which each had 3 months and therefore as market practice dictates, this 3 month period was ignored.

Each of the comps were on an FRI bases and therefore did not have to account for this. Regarding rent review patterns, market practice dictates analysing to the nearest lease event such as a rent review or break option.

Question 6

hierarchy of evidence?

Answer 6

I was aware the heriarchy of evidence as highlighted in RICS professional standards and guidance, global Comparable evidence in real estate valuation 1st edition, October 2019.

1. Open market lettings
2. Lease renewals
3. Rent reviews
4. 3rd party determinations
5. Sale and Leasebacks
6. Intercompany transactions

Question 7

Explain what you mean by, “rack-rented”?

Answer 7

A property that is rack rented means it’s let out at the full market rental value. Rack rent represents the sum that a tenant will reasonably pay in open market conditions without taking into account any premium or other beneficial lease terms.

Question 8

Why do you apply different capitalisation rates in a Term & Reversion valuation?

Answer 8

different capitalisation rates are applied for the present term income and the reversionary income to reflect the different risk profiles and timing of the cash flows.

The term income or the current rent is usually regarded as less risky. It’s a contractually agreed upon - ideally with a good covenant tenant - and will typically be received in the near future. Therefore, a lower yield or capitalisation rate is applied to reflect that this income is more secure. 2. The Reversionary Income: The reversionary income on the other hand is the rental income that the property might achieve when it is re-let in the future after the expiry of the current lease. This kind of income is regarded as being more risky because it is not guaranteed and is dependent on future market conditions. Therefore, a higher capitalisation rate is applied to reflect these uncertainties and potential risks.

Question 9

Would the layer/hardcore method produce the same result?

Answer 9

• Used for over-rented properties
• Bottom slice = market rent – done in to perpetuity at an IY
• Top slice = difference between PR and MR – capitalised at a higher yield up until the next lease event (riskier)
  The two methods will produce different results unless the incremental rent in the hardcore method is capitalised at an appropriate marginal rate that reflects its risk. The marginal rate is the rate that equates the value of the incremental rent with the difference between the values of the term and reversion in the term reversion method1. The choice of valuation method may depend on the availability and reliability of comparable evidence, as well as the preferences and expectations of clients and valuers.

It’s critical to note that while all these methods are useful as part of a RICS APC candidate toolkit, none provide a definitive market value without relevant market evidence to back up the yield applied. Therefore, it’s important to highlight that though these methods are fundamentally different in their approaches, they will likely produce similar results for simple income profiles, but for more complex profiles, the results could have variations.
The Term and Reversion method is simpler, dealing with a single lease to expiry or out of the option to break, then placing the reversion to the full rental value. This can be faster but lacks the more precise granularity of the Layer Method.

Question 10

How did you measure covenant strength to your comparable when calculating MV?

Answer 10

While a number of the comparable were regarded as having local covenants with only one comparable which was occupied by boots a national retailer.

Dunn and Broadstreet reports are used to check covenants.

Question 11

What are Dun & Bradstreet report ratings?

Answer 11

• Financial Strength (1A-5A, A-H)
• Risk Indicator (1-4)

Question 12

How would you use accounts for a covenant check?

Answer 12

• Profits text – net profit is 3 times the annual rent payable
• Creditsafe checks

Question 13

Why might management accounts be of use?

Answer 13

• When undertaking a tenant covenant check, the annual audited accounts may not be prepared for the year at that time and management accounts may be able to give an indication of the tenant’s financial position at the time of the transaction rather than relying on historical account data

Question 14

Why add 50 points to initial yield – why not 100?

Answer 14

Adjusting the capitalisation rate or initial yield by adding points is a subjective decision that involves careful judgment based on the property, its perceived risk, and market conditions. An adjustment of 50 basis points (0.50%) is typically added to the initial yield to account for inherent risks and uncertainties in the property market. Adding 100 basis points or 1% would imply a significantly higher level of risk associated with the property or investment.
The extent of the yield adjustment is very much down to the valuer’s assessment of the risk profile of the investment based on how I risky I perceived the re-letting of the unit.

Question 15

You will need to be ready for questions on your justification of 6 months marketing, 3 months RF, and what the actual costs applied were for empty rates, marketing etc.

Answer 15

Local market dynamics and the supply / demand imbalance for retail space in this area suggests a 6-12 month letting void would be appropriate should the Property become vacant and available to lease on the open market. 6 months marketing is based of speaking with agents and 3 months rent free is market norm.
line with market norms we have assumed that the Tenant will vacate in October 2023 and thereafter applied a 9 months’ expiry void. This void is inclusive of a 6 months’ marketing period to secure an alternative occupier, plus short 3 months’ rent free period towards shop fit-out.

Question 16

what costs were factored in during the void etc

Answer 16

Vacant business rate shortfall payments have been adopted at the appropriate rates over the expiry void and agent letting fees applied at 15% of the first year’s gross rental income.
Under the Empty Property Relief Scheme, commercial properties i.e. shops and offices only pay 50 per cent business rates for the first three months from when the property becomes empty, 90 per cent of the rates is payable for any remaining vacant period.
Empty Rates £10,054
Marketing 3,140
Legal fees 1570
Stamp duty 2,583

Question 17

Explain difference between initial, reversionary and equivalent yields.

Answer 17

equivalent yield is the Average weighted yield when a reversionary property is valued using an initial and reversionary yield.
Initial yield is the simple income yield for current income and current price.
It is an essential key performance indicator in commercial property investment and serves as an indicator of the potential return on property investment. The initial yield is computed by taking the net initial income of a property (after transaction costs) and dividing it by the property’s purchase price. The result may then be used to draw a comparison with other potential investment opportunities or the yields on different types of assets. It’s worth noting, however, that while initial yield is an important indicator of immediate income potential, it doesn’t provide a view of the property’s long-term profitability or of future changes in value or income.
The reversionary yield is the yield that an investor expects to receive from a property investment in the future once the current lease or rental agreements have expired or ‘reverted’.

Question 18

In the case of your valuation, why is the initial yield higher than the reversionary yield?

Answer 18

The initial yield 9.13% is higher than the revisionary yield due to the short time to expiry which is only 10 months away and therefore the guaranteed rental income represents a smaller proportion of the properties market value. Furthermore as we have stated, the property is Broadley rack rented and therefore on re-letting we do not anticipate much rental growth which is factored into the reversionary yield.

Question 19

Terms of Engagement – why we have them

Answer 19

Valuers have terms of engagement to establish a clear understanding between them and their clients. These terms determine the scope of the task, the basis on which the valuation will be conducted, the fee structure, and the timeline for delivery of the final report. It’s also important as these terms of engagement help to mitigate risks. They define the professional standards which the valuer adheres to, like those dictated by the Royal Institution of Chartered Surveyors (RICS), ensuring that all parties maintain expected levels of integrity, objectivity and competence. In essence, terms of engagement serve as a contractual agreement that outlines what the client can expect from the valuation process and in turn what the valuer needs from the client. They help to streamline the process and to minimise any potential miscommunication or misunderstanding

Question 20

Terms of Engagement – what’s included etc.

Answer 20

• Terms of engagement are a written agreement of the client’s acceptance of proposed fee basis, payment of expenses and that a complaint handling procedure can be made available upon request. These are defined in VPS 1 of the Red Book
• There are THREE steps to follow for ToEs:
  o Check professional competence
  o No conflicts of interests or personal interest
  o Confirm terms of engagement in writing and get written approval for the client BEFORE starting work
• Agency work is required to comply with Section 18 of the Estate Agents Act (1979) and money laundering checks (Money Laundering Regulations, 2017)
• There is a 14 day cooling off period allowed for under the Consumer Rights Act (2015)
• It may be appropriate to decline an instruction for the following reasons:
  o Not competent to undertake the work
  o Insufficient facts on the issue
  o Client will not sign ToEs or comply with AML checks
  o There is a conflict of interest or personal interest
  o A PII liability cap cannot be agreed
  o Advice is for friend or pro bono and your PII will not cover work undertaken on a personal basis
  o Potential client is on the UK Govt sanction list
  o If you would not be content for your actions to be made public
• The minimum inclusions that must be in terms of engagement issued PRIOR to commencing a RBG valuation are:
  o Identification and status of valuer (internal, external)
  o Identification of client
  o Identification of any other intended users/parties (ex. Client needs valuation to provide to lender?)
  o Identification of asset to be valued (if portfolio, consider lotting assets)
  o Currency
  o Purpose of Valuation (Loan Sec, Tax Return, Financial Reporting)
  o Basis of value (market, cost, income)
  o Extent of investigation (did you inspect and measure or desktop)
  o Nature and source of information to be relied upon (from client etc.)
  o Assumptions and special assumptions (Assuming VP or planning permission at date of valuation.) Special assumptions are assumptions taken to be true and accepted as fact, even though not true and must be agreed in writing at commencement of instruction.
  o Format of report
  o Restrictions for use, distribution and publication
  o Confirmation of compliance with RBG and IVS
  o Fee basis
  o Complaints handling procedure to me made available
  o Statement that the valuation may be subject to compliance by the RICS
  o Limitation on liability agreed

Question 21

What are prime zone a rates in edinburgh

Answer 21

£200

Question 22

You used MV as the basis? is this correct

Answer 22

Could use FV as this is more often used for internal purposes however RICS stipulate this is one in the same as MV. Client agreed

Question 23

What is the def of MV

Answer 23

The estimated amount from which an asset or liability should exchange
* on the valuation date
* between a willing buyer and a willing seller
* in an arm’s length transaction
* after proper marketing
* where the parties had acted knowledgeably, prudently and without compulsion

Question 24

def of MR

Answer 24

The estimated amount for which an interest in real property should be leased
* on the valuation date
* between a willing lessor and a willing lessee
* on appropriate lease terms
* in an arms length transaction
* after proper marketing
* where the parties had acted knowledgeably, prudently and without compulsion

Question 25

use class

Answer 25

was use class2 now 1A as of march 2023

Question 26

Principles behind zoning?

Answer 26

area at the front of the shop closet to the street is the most valuable

Question 27

What are the current LBTT tax bandings are in commercial property

Answer 27

For the purchase price or lease premium:

Up to £150,000 - No tax
Over £150,000 to £250,000 - 1%
Over £250,000 - 5%
For the net present value of rent payable:

Up to £150,000 - No tax
Over £150,000 to £2 million - 1%
Over £2 million - 2%