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Comparison of German and Anglo Saxon Real Estate Appraisal MethodsSteffen Sebastian, Tobias Schnaidt
Slide 2 ERES 2010
Prof. Dr. Sebastian
Legal Sources and Transparency of Information
Legal Sources
The Construction Code (Bau-
gesetzbuch) contains the central
elements regarding the creation of
local committees of valuation experts
and the general definition of market
value
The principles of formulation for the
market value are stated in the
Valuation Decree (Wertverordnung
vom 06.12.1988 / WertV 98)
Even though the decree is not
mandatory for non-public
transactions, German property
valuations are based solely on this
legal framework
Transparency of Information
Solicitors are obliged to transmit to
the valuation committees a copy of
the contract for each property
transaction
The Committee constructs a
database from the information
gathered
Price development indices and
other key figures are made accessible
to the public
Transaction information remains
strictly confidential
Slide 3 ERES 2010
Prof. Dr. Sebastian
Definition of Value
Definition of Market Value
The market value if defined in §194
Construction Code:
"... the price which may be achieved
under regular trading conditions
depending on the legal
circumstances and characteristics,
depending on the general nature
and the site of the land [...] without
regard to any exceptional or
personal circumstances ".
Criteria of Market Value
Legislation interprets this definition
by establishing that the market
value is the price which would
"probably" be achieved under
normal conditions
“Price” Presumption of a previous
transaction
"Probable Value" A value that lies around the
average value of potential
values
Slide 4 ERES 2010
Prof. Dr. Sebastian
Differentiation to other Value Definitions
Mortgage Value (Beleihungswert)
Definition according to §12
of mortgage bank act
"The value which is assumed for the
loan security must not be greater than
the market value determined by a
cautious formulation. In determining
this value, only the durable
characteristics of the property [...] may
be taken into account“
In practice, the mortgage value is
based on the market value reduced
by certain allowances against the net
revenue
Allowance of 10 - 40%
British Market Value Definition
“The estimated amount for which a
property should exchange on the date
of valuation between a willing buyer
and a willing seller in an arm’s length
transaction after proper marketing
wherein the parties have acted
knowledgeably, prudently and without
compulsion” RICS Red Book 2003
Definition was adopted to the fit the
definition of the IVSC
.
Slide 5 ERES 2010
Prof. Dr. Sebastian
Valuation Methods
Determination of Market Value
The Valuation Decree specifies
formulation techniques for the following
valuation methods
Cost Replacement Method
Price Comparison Method,
which includes: the “By Comparison” Method the "By Revenue" Method
No provision for financial mathematical
methods in the German Valuation
Decree
(Included in the ImmoWertV2010)
Valuation Methods
“By Comparison” Method
“By Revenue” Method
Cost Replacement Method
The market value is determined by
the most significant result of the three
valuation methods
Slide 6 ERES 2010
Prof. Dr. Sebastian
Cost Replacement Method
Method
Based on the concept of "natural
value", i.e. the sum of all the
manuacturing costs
Different possibilities of use, and in
particular future revenue are not
taken into account
Only used when no income stream
can be determined (owner-occupied)
and no comparable transaction exists
Calculation
Market Value= Actual Costs of Reproduction
- Deductions depending on the level of wear and tear
Slide 7 ERES 2010
Prof. Dr. Sebastian
Comparison Methods
Comparison Problems
The comparison method has its roots in the concept of efficiency in the financial
markets
Theory: Prices reflect the amount that an average of all participants in the market were
prepared to pay at a specific time
Problem: properties are far more heterogeneous than securities because the individual
factors such as age, site, physical condition and current occupation are of great
importance
Problem: Property markets have infrequent trades, are intransparent and not capable
of managing all the information
Property markets are the opposite of an efficient market
Slide 8 ERES 2010
Prof. Dr. Sebastian
„By Comparison“ Method
Method
The whole market is segmented into
different heterogeneous categories
depending on the factors which
determine the value
§3 to 5 of the Valuation Decree
itemises the qualitative (type of use,
site) and quantitative (age, area,
etc.) value factors
Transaction data is used to
determine a representative price for
each segment
Segmentation
Seperate segments are formed for
properties which are distinguished by
qualitative value factors
Distinguishing quantitative factors
within a segment are considered with
adjustments in market value
Example: An office block in Berlin is
not compared with a hotel in
Frankfurt.
A residential property is
compared with
older/younger residential
properties in the same city
Slide 9 ERES 2010
Prof. Dr. Sebastian
„By Comparison“ Method
Conversion Coefficient
COS (COS) COS (COS)
0.8 0.93 1.4 1.16
1.0 1.00 1.6 1.25
1.2 1.08 1.8 1.34
The committee of valuation experts
establishes reference prices for land
for the whole region they manage
The technique consists of attributing a
reference value for a fictituous type of
land regarding its main
characteristics, in particular COS
Land value differences which are the
result of different COS are considered
with adjustments according to a
conversion coefficient
Land Price Valuation
Example: The value of the land type in Cologne is calculated at 200 €/m2, the COStype = 0.8. If we now look for the value of a similar plot of land with a COS = 1.2, the ground value VS is calculated as follows :
VS = 200 € / m2 x coefficient
C = F(COS) / F(COStype) = 1.08 / 0.93 = 1.61
VS = 200 € / m² x 1.61 = 232 € / m²
Slide 10 ERES 2010
Prof. Dr. Sebastian
„By Revenue“ Method
Method
Valuations of buildings intended for
investment are essentially done using
the by revenue method
All the factors which have not already
been included in the net revenue
factor and remaining lifespan are
implicitly taken into consideration in
the rate of capitalisation. The
potential of future plus values is
expressed in the rate of
capitalisation in particular.
The empirical formulation technique
for the rate of capitalisation derives
from the “by comparison” method
Calculation
The formula for the market value is
composed as follows:
V = (RN – TC x VS) x M + VS
V = Market Value
VS = Ground Value
RN = Net Revenue
TC = Rate of Capitalisation
M = Multiplier
Slide 11 ERES 2010
Prof. Dr. Sebastian
Major Differences
Ertragswertverfahren
the separation of the land and the
capital value
Investment method
net income will be received into
perpetuity
Slide 12 ERES 2010
Prof. Dr. Sebastian
Forecast
ImmowertV 2010
Valid from 1st July 2010
Further development of the WertV 98
Includes changes to fit the European Valuation Standards better• simplified by revenue method• DCF method (for special issues)
Base is now the common market rent • Misinterpretations expected• Government clarifies that common market rents are sustainable gained and that there
shouldn’t be a change in the valuation practice
Slide 13 ERES 2010
Prof. Dr. Sebastian
Criticism
German Valuation
Static (sustainable rent as base)
Not in line with the market
German Verkehrswert is an average price of normal business dealings and the British
market value as the price of best use.(Mansfield and Lorenz 2004)
Anglo Saxon = International = DCF
Morgan and Harrop (1991) argue that in some countries the net present value methods
have replaced the Ertragswertverfahren.
Empirical findings for lagging and smoothing (Glaesner 2010)
Valuations in the UK are far more objective and conceptually correct (Crosby 2005/07)
Very often criticism in the daily press
Slide 14 ERES 2010
Prof. Dr. Sebastian
Criticism
Contradiction
The personal circumstances disqualify the DCF method as a method of finding the market
value. (Engel 2002)
The DCF can’t replace the Ertragswertverfahren and the Ertragswertverfahren isn’t as static
as often claimed. It is basically comparable to the investment method of the RICS. The
expected developments on the real estate markets find reflection in the rate of capitalization
and any possible variations that can already be identified by the valuer can be considered in
the market value. (Simon 2000)
There is no international convention that pretends any method that isn’t used in Germany.
There aren't any international valuation methods that are contrary to the ones used in
Germany
DCF method can’t be seen as the international leading method for the market value valuation
(Kleiber 2004)
Slide 15 ERES 2010
Prof. Dr. Sebastian
Conclusion
German Property Valuation
well structured and conceived system of property valuation
basis in the Federal legislation and the additional published guidelines
Ertragswertverfahren that can be supported by the other valuation methods is highly oriented
to sustainability
Germany has very good data for the land values however the transparency despite the
Gutachterausschuss and Statisitische Bundesamt is quite low
(Downie et al. 1996)
Slide 16 ERES 2010
Prof. Dr. Sebastian
Conclusion
Empirical findings for smoothing and lagging (Glaesner , et al.2010)• Interest of German fund managers to stabilize and smooth value changes
Moral hazard GOEF Valuators (Crosby 2005/2007)
Majority of the business can be based on fees from only one client if the valuer counts two
funds of the same stable as two entities
Interest of UK fund managers to strive down mark to market in times of bearish markets
(Crosby 2009)
No consistent evidence that the German methods are the reason for eventual over- or
undervaluation
Slide 17 ERES 2010
Prof. Dr. Sebastian
Thank you for your attention!
Questions
Discussion• Arguments for criticism of the German methods?• Further research is mandatory !
Slide 18 ERES 2010
Prof. Dr. Sebastian
Bibliography
Crosby, Neil (2005/07), German Open Ended Funds: Was there a Valuation Problem? In:
Working Papers in Real Estate & Planning 05/07
Crosby, N., C. Lizieri and P. Mc Allister (2009), Means, Motive and Opportunity?
Disentangling Client Influence on Performance Measurement Appraisals, Paper presented at
the European Real Estate Society conference, Stockholm, Sweden, 2009
Downie, M. L., Schulte, K.-W., Thomas, M. (1996), Germany,. In Adair, A., ML. Downie, S.
McGreal ang G. Vos (Ed), European Valuation Practice, London: E & FN Spon, 1996
Engel, Ralf (2002): Das Aus für die DCF-Methode?, in: Grundstücksmarkt und
Grundstückswert 13. Jg., Nr. 6/2002
Glaesner, S. M., Thomas, M., Schiereck, D. (2010), Lack of German Real Estate Fund
Volatility – is the Market or the Valuer to Blame? In: Glaesner Return Patterns of German
Open-End Real Etstate Funds, Frankfurt a. M.: Peter Lang, 2010
Slide 19 ERES 2010
Prof. Dr. Sebastian
Bibliography
Kleiber W. (2004), Was sind eigentlich die sog. Internationalen Bewertungsverfahren?, in:
Grundstücksmarkt und Grundstückswert 14. Jg.., Nr. 4/2004 S.193-204
Mansfield, John R. / Lorenz, David P. (2004): Shaping the future: The impacts of evolving
international accounting standards on calculation practice in the UK and Germany, in:
Property Management Vol. 22 No.4/2004 S. 289-303
Morgan, John F. W./ Harrop, Martyn J. (1991): Neue Ansätze der Bewertung und Beurteilung
von Anlageobjekten, in: Grundstücksmarkt und Grundstückswert 2. Jg.., Nr. 3/1991, S.128-
132
Simon, Jürgen (2000): Europäische Standards für die Immobilienbewertung, in:
Grundstücksmarkt und Grundstückswert, 11. Jg., Nr. 3/2000, S. 134 – 141
Simon, Jürgen (2006),Internationale Bewertungsstandards in: Grundstücksmarkt und
Grundstückswert 17. Jg.., Nr. 5/2006, S.270-281