There is an abundance of different ways to evaluate the market value of real estate. These include analyzing comparable sales that have occurred recently, studying other properties listed for sale that are similar to the subject, and performing financial analytics of a property. Buyers, sellers, realtors, assessors, appraisers and the IRS use different methods of evaluation, depending upon their goals and their reason to determine a value. As a realtor, I work mainly to determine fair market value of buildings. Loosely defined, this is what a Seller would be willing to sell a property for and what a willing, ready, and able buyer would pay to purchase that same property. While my job is to negotiate a value that satisfies all parties involved, there is often a large discrepancy in asking price and offer price at the outset of a transaction.
The reason for the spread between a seller’s asking price and a buyer’s first offer is often due to the valuation process used to procure these prices. Using comparative transactions and sales can be tricky as many features are unique to each property and the comparisons can be subjective. If you have two of the exact same building and one is downtown and one is a mile away, how much of a difference in price can be justified based on location alone? Also, since two building are never alike, how much more is one worth if it has taller ceilings? Better visibility? Better parking? A more stable tenant?
Using a financial analysis removes some of these subjective items and can be based on income, expenses, strength of tenants, competitive rents, and rent escalations. However, there are almost as many different ways of performing financial evaluation as there are physical differences to two different properties. Some investors use capitalization rates or gross rent multipliers, while others use the IRR (internal rate of return) of an investment, and yet others only care about their cash-on-cash return. Values will vary using the same methods for different individuals too. Variable factors include the buyer’s risk tolerance, vacancy rates, anticipated income and the discount rate based on the return the buyer could get from alternative investments.
Even the experts often don’t agree. There are general appraisers, commercial appraisers, certified public accountants, tax assessors and real estate agents all trying to determine “fair value”. If you ask buyer’s what they would pay for a property based on what they have seen for sale, you will get just as much variation in their thoughts on value as well. With all of these different models it is extremely important to work with a professional who understands these differences and can help guide you through the process and show you the reasoning behind an asking price or offer price. The valuation needs to be custom tailored to the individual’s needs and the purpose for the valuation.
Sellers who over price their property, often don’t sell it. Buyers who make a low offer on a property often don’t get a chance to buy it. If you can show the sellers why an offer price is a fair value, they are much more likely to accept the offer, or at least come back with their best sale price. While there is no exact science to determining market value, having a clear understanding of why a property has been given a certain value is the best way to get a meeting of the minds between a buyer and seller and negotiate the best price possible for all parties involved.
-Dan Stiebel, CCIM