Level 1 Valuation Flashcards
(128 cards)
1
Q
What is the new RICS guidance on DCF?
A
This is the RICS Practice Information on Discounted Cash Flows Valuations - November 2023?
2
Q
What is this in response to?
A
The information is in response to the RICS’s independent review of real estate investment valuations which was overseen by then Wellcome Trust chief executive Peter Pereira Gray in January 2022.
His 13 recommendations called for more oversight over and stricter rules governing property valautions.
3
Q
What was one of the main changes?
A
This included a shift from estimating the ‘exchange price’ to values based on future income calculated using discounted cash flow.
4
Q
What is a DCF?
A
A DCF is an growth explicit valuation which calculates an investments value based on the ability to receive a predicted future cash flow.
5
Q
What is an alternative definition of a DCF?
A
A DCF is a growth explicit method of valuation that involves projecting estimated cash flows over an assume holding period with an exit value at the end of this period. The cash flow is then discounted back to the present day to reflect the perceived level of risk.
6
Q
When would you use a DCF for a valuation?
A
Where the project cash flows are explicitly estimated over a finite period such as
- Short leasehold interests and properties with income voids.
- Phased development projects.
= Some ‘Alternative’ investments.
7
Q
What is the methodology to find MV via DCF?
A
Estimate the cash flow, estimate the exit value, select a discount rate, discount cash flow. The value is the sum of the completed discounted cash flow to provide the NPV
8
Q
Define NPV
A
Net Present Value = sum of all the discounted cash flows of the project. Can be used to determine viability of an investment given a certain level of desired return.
9
Q
Define IRR
A
Internal rate of Return,
“The rate at which all future cash flows must be discounted to produce an NPV of 0”
10
Q
What is an IRR?
A
IRR is a measure of the profitability of an investment over time.
It represents the discount rate at which the net present value (NPV) of all cash flows from the investment equals zero.
11
Q
How is the IRR calculated?
A
- Input current MV as a negative cash flow
- Input projected rents over holding period as a positive value
- Input projected exit value at end of term assumed as positive value
- IRR is the rate chose which provides a NPV of 0
- If NPV is more than zero, then target rate of return is met.
12
Q
What are the five methods of valuation?
A
Comparable method
Investment method
Profits method
Residual method
Contractor’s method (Depreciated replacement cost)
13
Q
Describe the comparable method?
A
looks at similar properties within the same area that has been recently sold
14
Q
What is the investment method of valuation
A
Used when there is an income stream to value, rental income is capitalised
15
Q
What is the conventional method?
A
Rent received, or Market Rent multiplied by the years purchase = Market Value
16
Q
What is a yield
A
A yield is a measure of investment return, expressed as a percentage of capital invested. Formula is Income / (Price x 100).
17
Q
What is a year’s purchase?
A
A Years purchase shows us how many years would be required for the income to repay the purchase price. It is calculated by dividing 100 by the yield.
18
Q
Define Equivalent Yield
A
The weighted average yield between the initial and reversionary yields.
19
Q
All Risks Yield
A
The remunerative rate of interest used in the valuation of fully-let property, let at market rent, reflecting all the prospects and risks attached to the investment.
20
Q
Define Nominal Yield
A
Initial yield assuming rent is paid in arrears
21
Q
Define True Yield
A
Assumes rent is paid in advance not in arrears
22
Q
What is the difference between a Gross & Net Yield
A
A gross yield is not adjusted for purchaser’s costs, e.g. during an auction purchase. A net yield is adjusted for purchaser’s costs.
23
Q
What is a running yield
A
The yield at a moment in time.
24
Q
When is the Profits Method of Valuation Used and How does it Work?
A
Used to value a property when the value depends on the trading potential of the business
Used for pubs, stations and hotels.
applies an all-risk YP (years’ purchase)/multiplier to the fair maintainable operating profit to provide a capital value.
25
How Many Years of Audited Accounts would you ideally like to see for a Profits Method Valuation?
3 years
26
What is the methodology?
1. Annual Turnover (income received)
* Less costs and purchases = Gross Profit
* Less reasonable working expenses = Unadjusted Net Profit
* Less operator remuneration = Fair Maintainable Operating Profit (FMOP)
2. Capitalised at appropriate yield to achieve MV
3. Cross check with comparables
27
What does EBITDA stand for?
Earnings before income taxation, depreciation and amortisation.
28
When should you use the depreciated replacement cost method of valuation? And How is it calculated? What is the guidance note on DRC?
It should be used when there is limited availability of market evidence. Examples could include a listed ruin.
It is calculated in two steps
valuing the land in the current use
add cost of replacing the asset plus fees and less a discount for depreciation.
RICS Guidance Note on Depreciated Replacement Cost Method of Valuation for Financial Report, 2018.
29
What does the Red Book say about DRC Method of Valuation?
The Red Book says that the method should not be used for loan security valuations, but may be used for valuations to form part of a financial statement.
There is an RICS Guidance note on Depreciated Replacement Cost Method of Valuation for Financial Reporting 2018
30
What must a valuer include when reporting a DRC valuation?
They must state the value for any readily identifiable alternative use if it is higher than the current use if appropriate, or if appropriate a statement that the market value would be lower on cessation of the business use.
31
What are the principal changes to The Red Book Global effective from January 2022?
In line with VPGA 2
Terms of reference must be clear and unambiguous over whether a valuation is Red Book compliant or not
Sustainability and ESG brought to the forefront:
- Valuers should have regards to relevance and significant of ESG and Sustainability factors which form an integral part of the valuation approach and reasoning during the inspection, reporting and valuation for loan securing purposes.
32
What is a loan security valuation?
A report for a lender to make an informed decision if they could lend money on the property safely
33
Do you advise on security of the loan?
Yes but you would caveat that the amount of loan in relation to the values reported is entirely at your discretion, as lender.
You would also recommend that you should review the value.
Also your solicitors should confirm the existence of proper insurance arrangements prior to entering into a commitment to advance a mortgage loan secured on the property
34
When would a property provide reasonable security for a loan?
Strong covenant
good location
When it is liquid
35
When would a property be perceived as having weak loan security?
If the property is not liquid
Say if the property is obsolete
When there is a risk of the saleability of the property
36
What are the different types of valuer?
An internal valuer is employed by the company to value the assets for internal purposes only, there is no third party reliance. An external valuer has no material link with the company or assets.
37
What three things should you consider as first steps before undertaking a valuation?
Your professional competence to undertake the valuation
Your independence (No conflict of interest)
Terms of Engagement
38
Describe the timeline to a typical valuation instruction?
Preamble:
- Receive instruction from the client
- Check competence
- Check independence
- Issue terms of engagement (inc. Scope of works, fee, PII, CHP)
- Receive Countersigned terms
Due Diligence
- Gather information – leases, title, planning doc, OS plans etc.
- Undertake statutory due diligence (listed previously)
- Inspect and measure
- Research market / analyse comps
Valuation & Reporting
- Undertake the Valuation
- Draft Report
- Have another Surveyor review your work
- Finalise and sign report
- Report your valuation to the client
Completion
- Issue invoice
- Ensure filing in good order for audit.
39
What are the Three Valuation Approaches and Methods According to International Valuation Standards (IVS) 105
1. The Income Approach (Converting Current and Future Cash flows into Capital Value)
2. The Market Approach (Using Comparable Evidence in the Market)
3. The Cost Approach (Considering value with reference to the Cost of Replacement or Purchase)
40
Describe the Methodology Behind Using the Comparable Method of Valuation?
1. Search and select comps
2. Verify information (triangulated approach)
3. Produce Schedule
4. Adjust comparables according to a hierarchy of evidence
5. Analyse comparable evidence to form opinion of value
6. Report value and prepare file note
41
What did the RICS Recently publish in relation to valuation and the use of comparable Evidence?
RICS Guidance Note Comparable Evidence in Real Estate Valuation (October 2019). Highlights that a valuer should use professional judgement to assess the relative importance of evidence on a case by case basis.
42
How would you find relevant comparables?
Inspect local area to find recent market activity by seeking agent’s boards, speak to local agents, third party databases, auction sites.
43
Why should one be careful of using auctions for comparable evidence?
Price shown is gross price, there may be a special purchaser or it may be an insolvency sale.
44
What is a term and reversion valuation, when is it used, and can you draw it?
Term and reversion methodology is used for reversionary assets (ERV>Passing). The term is valued until break / review at initial yield, the reversion capitalised into perp at the reversionary yield.
45
What method of valuation do you use when a property is over rented?
You use the Layer / Hardcore Method. The income stream will be divided horizontally. The bottom slice is the market rent while the top slice is the rent passing less market rent until the next lease event. A higher yield is applied to the top slice to reflect the uncertainty and risk in achieving the market rent.
45
In what situation would your yield between the term and reversion reflect less risk?
When it is indexed linked. You have an idea of where the reversion is going to go to.
46
What is the red book?
Mandatory rules and best practice for members who undertake valuations
47
When is the red book used?
Mandatory for all valuations except
valuation for internal purposes
valuation for agency work
valuation required by law
48
What is the most recent update to the UK VPS?
UK VPS 3
the new rules will prevent valuation firms from valuing an asset for regulated purposes for more than ten consecutive years. This will improve transparency serving public interest
49
What are the 3 approaches to valuation?
MIC
Market approach
Income approach
Cost approach
50
Describe residual method?
how much a purchaser should pay for a development site
GDV - less costs gives site value
51
What is the structure of the Red Book?
A
Introduction
Glossary
Professional Standards
Valuation Performance Standards (VPS)
Valuation Practice Guidance Applications (VPGA)
International Valuation Standards
52
What was the aim of the Red Book Update?
Reflect changes to the International Valuation Standards 2022
53
What is a recent change to the Global Redbook?
VPGA 2 - ESG and Sustainability should form an integral part of the report.
The need to agree clear and unambiguous terms of engagement
54
Explain the two professional standards?
PS1 - compliance with standards and practice statements when written valuation is provided.
PS2 - ethics, competency and disclosure
- comply with Rule of Conduct
- must act independently and objectively
- comply with terms of engagement
55
What goes into terms of Engagement?
In line with VPS1
Valuation date
currency
extent of investigation
identify and status of valuer
client
asset to be valued
purpose of valuation
basis of value
fee basis
PII confirmation
complaints handling
56
What are the different purposes of valuation?
financial reporting
secured lending
tax purposes capital gains
57
What is an accounts valuation?
Used for accounting purposes, could be internal or more formal year end accounts.
Refer to UKGAAP (General Accepted Accounting Practice) and IFRS requring fair value. Caveat that you would look at VPGA1 in the red book if you were to undertake an accounts valaution.
58
What would you expect to see covered in a Banks Letter of Instruction?
Borrower
Property
Purpose
Details of Loan
Special assumptions
59
What does VPS stand for?
Valuation Technical & Performance Standards (VPS)
60
What does VPS 1 cover?
Terms of engagement (IVS 101 scope of work)
61
What does VPS 2 cover?
Inspections, Investigations and Records
Vaulers must take steps to verify all the necessary information being relied upon to ensure information is adequate
62
What does VPS 3 cover?
Valuation reports
The minimum requirements that must be stated within the report.
63
What are the minimum requirements to be stated within a valuation report?
1. Identification and status of the valuer.
2. Client and any other intended users.
3. Purpose of the valuation
4. Identification of the asset to be valued
5. Basis of value
6. Valuation date
7. Extent of investigation
8. Nature and source of information relied upon
9. Assumptions and special assumptions
10. Restrictions on use, distribution and publication
11. Instruction undertaken in accordance with IVS standards
12. Valuation approach and reasoning
13. Valuation figure
14. Date of valuation report
15. Comment on market uncertainty
16. Statement setting out any limitations on liability that have been agreed.
64
What does VPS4 cover?
Basis of value.
65
What does VPS 4 state?
The valuer must determine the basis of value that is appropriate for every valuation to be reported.
66
What are the different basis of value?
Market Value
Market Rent
Fair Value
Equitable Value
Investment Value
Liquidation Value
67
What is fair value (IFRS13)?
The price that would be received to sell an asset or paid to transfer the liability in an orderly transaction between market participants at the measurement date.
68
What does VPS5 cover?
Valuation approaches and methods.
Valuers are responsible for choosing and justifying their valuation approach and use of model
In some cases, more than one approach may be appropriate.
69
Can you carry out a re-valuation without inspecting the property?
A revaluation without a re-inspection must not be undertaken unless the valuer is satisfied that there have been no
material changes to the physical attributes of the property, or the nature of its location, since
the last assignment.
It is recognised that the client may need the valuation of its property updated at regular
intervals and that re-inspection on every occasion may be unnecessary. Provided that the valuer
has previously inspected the property, and the client has confirmed that no material changes
to the physical attributes of the property and the area in which it is situated have occurred, a
revaluation without re-inspection may be undertaken. The terms of engagement must state that this assumption has been made.
70
What is Investment Value?
The value of an asset to a particular owner used to measure worth against a clients criteria
71
What is an Assumption?
A supposition taken to be true.
(It involves facts, conditions or situations affecting the subject of, or approach to, a valuation that, by agreement, do not need to be verified by the valuer as part of the valuation process. Typically, an assumption is made where specific investigation by the valuer is not required in order to prove that something is true (RICS Valuation – Global Standards, 2022).
72
What is an example of an Assumption?
73
What is a special assumption?
A special assumption is an assumption that either assumes facts that differ from the actual facts existing at the valuation date or that would not be made by a typical market participant in a transaction on the valuation date.
74
What is an example of a special assumption?
75
What is a Depreciated Replacement Cost
The current cost of replacing an asset with its modern equivalent asset less deductions for physical deterioration and all relevant forms of obsolescence and optimisation (RICS Valuation – Global Standards, 2022).
76
What is existing use value?
The estimated amount for 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 and where the parties had acted knowledgeably, prudently and without compulsion, assuming that the buyer is granted vacant possession of all parts of the asset required by the business and disregarding potential alternative uses and any other characteristics of the asset that would cause its market value to differ from that needed to replace the remaining service potential at least cost (RICS Valuation – Global Standards 2022, UK national supplement).
77
What is an External Valuer?
A valuer who has no material links with the asset to be valued or client.
78
What is an Internal Valuer?
Employed by company to value the assets of the company/ enterprise
Valuation for internal use only
No third party reliance
79
Equitable Value
The estimated price for the transfer of an asset or liability between identified knowledgeable and willing parties that reflects the respective interests of those parties (IVS 104 – Bases of Value), (RICS Valuation – Global Standards 2022).
80
Fair Value
The price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (RICS Valuation – Global Standards 2022).
81
Gross Development Value
The aggregate market value of the proposed development, assessed on the assumption that the development is complete at the date of valuation in the market conditions prevailing at that date.
82
Investment Value (or Worth)
The value of an asset to a particular owner or prospective owner for individual investment or operational objectives (RICS Valuation – Global Standards 2022).
83
Market Rent (MRV)
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 arm’s length transaction, after proper marketing and where the parties had each acted knowledgably, prudently and without compulsion (RICS Valuation – Global Standards 2022).
84
Market Value (MV)
The estimated amount for 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 and where the parties had each acted knowledgeably, prudently and without compulsion.
85
What are some statutory due diligence for valuation?
Asbestos register
EPC rating
Flood risk
Planning History
Legal title
86
What can a NPV be used to show?
used to determine if an investment gives a positive return against a target rate of return
87
What does a positive NPV show?
investment has exceeded the target rate of return
88
what does a negative NPV show?
not achieved investors target rate of return
89
What is the IRR?
The rate of return at which all future cashflows must be discounted to produce an NPV of 0.
90
what is the IRR used for?
to assess the total return of an investment opportunity
91
What is the margin of error in relation to valuations?
Judge concluded that an appropriate margin error for a straightforward residential property would be 5%, one of commercial property 10% and a property with exceptional features 15%.
92
What is marriage value?
created by merger of interests - if two adjacent landowners decide to merge their properties to create the combined property’s value may be significantly higher than the sum of the individual values
93
What are the Stamp Duty Land Tax for non residential?
£0 - £150,000 - Nil
£150,000 - £250,000 - 2%
over £250,000 - 5%
94
What are the Stamp duty tax for residential?
£0 - £250,000 - Nil
£250,000 - £925,000 - 5%
£925,000 - £1.5m 10%
over £1.5m 12%
95
How would you value a long leasehold interest?
Rent received less ground rent
capitalised at appropriate yield for the remaining of the lease
96
How do you value a ransom strip?
need to consider the increase in value of the developers land
how much of that increase in value you should be owed in some cases has been assumed to be between 15% and 50% of the increase.
97
What is a party wall?
stands on the boundary of land belonging to two or more owners.
98
How would you deal with a situation when there was a lack of comparable evidence?
I would ensure that I was still competent to take on the instruction
I would look further afield and across a wider range of indicators when
transactional evidence of directly comparable real estate is lacking.
In line with the Red Book I would comment on any material uncertainty in relation to the valuation.
99
What is the most recent update to the UK VPS?
UK VPS 3
the new rules will prevent valuation firms from valuing an asset for regulated purposes for more than ten consecutive years. This will improve transparency serving public interest
100
Where in the red book do you find the definition of Market Value?
VPS4
101
Tell me about the UK Red Book National Supplement?
provides advice and mandatory statement for UK valuations.
102
What are some of the UK VPGAs?
Valuation for Charity Assets
Valuation for UK Residential Property
Valuation of Social Housing for loan security
103
What does a WAULT show?
it’s a way to measure how long a property is likely to keep generating income from its leases.
104
How do you calculate a WAULT?
it’s a way to measure how long a property is likely to keep generating income from its leases.
It is a calculation often undertaken when valuing an asset or considering appropriate investment yield comparables for multi-occupied individual investments or portfolios.
105
How do you work out a WAULT longhand?
106
What are the three approaches to calculate net effective
rent?
Straight line method
Straight line method assuming time value of cash flow using a yield
Use of DCF
107
What is the aim of the red book?
to main confidence in clients, and public that an RICS valuer anywhere in the world can undertake a valuation to the highest standard.
108
Who can undertake a Red Book valuation?
1. qualifications
2. member of professional body
3. sufficient current, local, market knowledge
4. compliance with country regulations
109
Give me an example of a conflict of interest in valuation and how you would manage it?
valuing a property for another client that you have previously valued
The relationship with the client and previous involvement
Rotation policy
Time as signatory
Proportion of fees
110
What is the income approach?
based on capitalisation of present or predicted cash flows
111
What is the basis on value?
fundamental measurements of assumptions of a valuation
market value
investment value ect
112
What is the cost approach?
based on the economic principle that a purchaser will pay no more for an asset than the cost to obtain one of equal utility
113
Can you use asking prices to ascertain market value?
Asking prices do not provide reliable evidence of value and should be treated with caution because they often differ substantially from the agreed final transaction price.
Asking prices can be useful when combined with information on the level of demand and offers received, though the valuer is required to verify that the properties are being effectively marketed.
114
What is the discount rate in a DCF model based on?
The discount rate in a discounted cash flow model is based on the time cost of money and the risks and rewards of the income stream in question.
115
what is fair maintainable operating profit (FMOP)
reflects the profit that a business can reasonably generate on an ongoing basis.
116
Tell me about the Pereira review?
review of valuations
values will need to rotate to ensure best interest in the public, can’t value the same property for 10 consecutive years
to use the discounted cash flow as the
principal model applied in preparing property investment valuations in addition to traditional
the issue with DCF there are many variables that influence the value.
117
If you reduced your fees because you were changing the scope of service what service would you change?
A
I could push out the timescales instead of 7 days it could be 14 days
118
What is a net initial yield?
A
return on investment less costs
calculated by rental income divided by value less purchasers costs
119
What is a gross yield?
return on investment without costs deducted
120
What is a all risks yield?
factors in market risk, vacancy rates, location.
121
what is fair maintainable operating profit
reflects the profit that a business can reasonably generate on an ongoing basis.
122
How would you value a property that was contaminated?
1. do not provide any advice until specialised report has been commissioned
2. caveat advice provided with appropriate disclaimer highlighting issue / use of special asumption
123
Can you provide preliminary valuation advice?
can be given
must be marked as draft
for internal purposes only
cannot be published
124
How do you calculate IRR?
1. input market value as negative cash flow
2. input rental income as positive cash flow
3. input exit value as positive cash flow
4. discount (IRR) rate is the rate that makes NPV 0
5. if NPV more than 0 = target rate of return is met
125
What is a report on title?
A report on title, is a certificate that is provided to the lender by solicitors to confirm that the lender's instructions have been complied with in accordance with the CML handbook (Council of Mortgage Lenders) and the mortgage offer.
126
1. New valuation requirements regarding rotation
1. a maximum period of ten years before the rotation of a valuation firm; this might include multiple engagements
2. a maximum single engagement period of five years
3. a maximum period of five years before the rotation of an individual responsible valuer
4. a minimum three-year break after rotating off an engagement
5. a transition policy to allow that a smooth transition to the new arrangements has been incorporated, allowing two years before the new rules will be enforced.
127
2. Valuation for public-sector accounting guidance amended
UK VPGA 4 Valuation of local authority assets for accounting purposes has been completely revised to make it more user-friendly and remove some of the duplication of the previous edition.
