Commercial Real Estate Appraiser- all you need to know

The term appraisers are commonly used for residential appraising. This is because in most cases people get to interact with appraisers when they are financing their homes.

However, both the jobs of a commercial real estate appraiser and residential appraiser follow the same principles, but when it comes to popularity, residential appraisers win the race.

Residential appraisers must carry the CRA designation from the Appraisal Institute of Canada, commercial appraisers must have the AACI designation.

In simple words, the role of a commercial appraiser in Hamilton and beyond is to estimate the value of various commercial properties such as land, office and industrial buildings, hotels, multi-family residential properties such as apartments and mixed use buildings and shopping centers.

Each type of commercial property valuation demands different levels of proficiency. Real estate appraisers mainly depend on at least one of the three approaches to complete a valuation process which are the cost approach, the sales, or direct comparison approach and the income approach.

The cost approach

Under the cost approach, the valuation is done on the basis of the cost required to replace or reproduce the property. The approach is framed under the concept that market participants always link the cost with value. In simple words, a well-informed buyer would not invest in a property if it was cheaper to buy the land and construct the property new.

Firstly, the appraiser calculates the cost to construct the property and then makes necessary deductions for functional problems, physical deterioration and external market factors.

Secondly, this depreciated cost is then added to the land value to determine an estimate of value according to the cost approach. This approach is particularly effective when the improvements on site are relatively new and depreciation is easily estimated.

The income approach

This particular approach depends on the income producing characteristics of the property. Under this concept, it is believed that an investor will buy a property on the basis of an expected future income stream.

In order to estimate the net operating income of a property, appraisers review various sources including the subject property financial statements, comparable properties, historical operating data and other market information.

The appraiser will then create a stabilized income statement that more accurately reflects market-based dynamics. The most frequently used process of estimating market value using the income approach is the direct capitalization method.

In this case, an estimate of value is determined by dividing the net operating income by a market derived capitalization rate.

This capitalization rate, or Cap Rate, is calculated by dividing the net operating income by the sale price of similar or competing properties. This valuation technique is most effective when the property’s income stream is stable and market data is available.

The direct comparison approach

The direct comparison approach uses market transactions of similar properties to help the appraiser estimate market value.

Due to the fact that no two properties are identical, a number of adjustments need to be performed in order to reflect the inherent differences between the subject property and the comparable sale.

A market value estimate provided by this approach is premised upon economic principles such as supply, demand, substitution, conformity and contribution.

This approach is the most widely used valuation technique by both residential appraisers (CRA) and commercial appraisers (AACI) due to its relative simplicity and availability of market data.

Why commercial appraisals are needed?

It is the duty of a commercial real estate appraiser to employ all approaches to value when reasonably practical. Appraisals are most commonly needed for financing purposes.

However, some other situations for which an appraisal is required include real estate tax purposes, distributing assets during a divorce proceeding, expropriation, disposition/acquisition and financial reporting.

The appraisal process starts with defining the scope of the assignment and selecting the tools required to solve the valuation problem.

The appraiser then thoroughly scrutinizes the property to get an idea about the quality and condition of the property. The final step, is the valuation and analysis, mentioned above to estimate the value. Ideally all three approaches to value are employed and reconciled to reach a final estimate of value.