Three Common Methods of Valuation

The industrial real estate appraisal is a valid and prudently documented opinion of value. The appraisal most commonly results from evaluating three universally accepted approaches of valuation. The approaches are Sales Comparison Approach, Income Approach and Cost Approach. These appraisals can only be prepared by a Certified, General Real Estate Appraiser who is licensed in the state in which the appraised property resides.

The Sales Comparison Approach (SCA)

The Sales Comparison Approach is a real estate appraisal technique that compares one property to several comparable (e.g., a property that is like the one being appraised) or other recently sold properties in the area with like features. Real estate agents and appraisers may use this approach when assessing properties to sell. This approach explains the result that individual elements have on the asset’s overall value; the full value of an asset is the sum of the value of all its features.

The Income Approach

Of the three approaches for appraising real estate, the Income Approach is the most complex. The Income Approach, is also known as the income capitalization approach. It is a real estate appraisal method in which investors estimate the worth of a property based on the revenue the property generates. The Income Approach is utilized by taking the net operating income (NOI) of the rent collected and dividing it by the capitalization rate.

Example of the Income Approach

Utilizing the Income Approach, an investor makes use of market sales or comparables for selecting a capitalization rate. For example, when valuing a twelve-unit multifamily property, the investor reviews recent selling prices of like properties.

INSIGHT: The capitalization rate is a rate of return stated as a percentage, used to derive a value opinion from anticipated net operating income. For example, if the twelve-unit multifamily property has a net operating income (NOI) of $350,000 and a chosen capitalization rate of 7%, it is worth $5 million.

The Cost Approach

The Cost Approach does not focus on the prices that other like homes in the area are selling for, or a property’s capacity to produce income. The Cost Approach prices real estate by determining how much an asset would currently cost if it were demolished and needed to be completely rebuilt. It also factors in the value of the land and makes deductions for any loss in depreciation. This is also the approach used for commercial properties with no comparables –houses of worship, historic homes, convention halls – buildings that are single use and special purpose. The Cost Approach is also used to support a value reached by one of the other methods.