Valuation Principles

Value is a monetary estimation of an item’s benefit to a specific person at a specific time. It’s not just a price paid or a cost incurred but reflects an individual’s or the market’s desire to obtain a benefit.

Four Basic Characteristics of Value:

1. Utility: The ability of the property to satisfy a specific need or desire.
2. Scarcity: Limited supply relative to demand.
3. Transferability: The ability to legally transfer ownership of the property from one person to another.
4. Effective Demand: The existence of a desire and purchasing power❓ to acquire the property.

Value vs. Price vs. Cost:

• Price: The actual amount paid for the property in a specific transaction.
• Cost: The amount spent to create or improve the property.

Types of Costs:

• Direct Costs: Raw materials, labor wages, etc.
• Indirect Costs: Legal fees, permits, etc.
• Development Cost: All costs related to developing a new property.
• Construction Cost: Costs related to building the actual structure of the property.
• Replacement Cost: Cost of building a new property with the same utility, using modern materials and techniques.
• Reproduction Cost: Cost of building an exact replica of the property, using the same original materials and techniques.

Principles of Valuation (Economic Value):

1. Principle of Supply and Demand: The balance between supply and demand significantly affects value.
2. Principle of Substitution: A buyer will not pay more for a property if they can obtain a substitute with the same utility at a lower price.
3. Principle of Competition: Competition between sellers and buyers affects prices.
4. Principle of Change: Real estate values are not constant, but change continuously under the influence of economic, social, political, and environmental factors.
5. Principle of Anticipation: The current value of a property depends on the future benefits that the owner expects to receive.
6. Principle of Balance: To achieve maximum value, there must be a balance between the four factors of production: land, labor, capital, and management.
7. Principle of Surplus Productivity: Refers to the net income remaining after paying all production costs, attributable to the land.
8. Principle of Contribution: The value of any component of the property is measured by its contribution to the overall value.
9. Principle of Increasing and Decreasing Returns: Adding more improvements to the property will increase its value, but only up to a certain point.

Impact of Use on Property Value:

1. Highest and Best Use Principle: Determines the most profitable, legal, and feasible use of the property.
   • Physically possible.
   • Legally permissible.
   • Financially feasible.
   • Maximally productive.
2. Consistent Use Principle: Land and improvements must be valued based on the same use.
3. Conformity, Progression, and Regression Principles:
   • Conformity: Similar properties in an area tend to have similar values.
   • Progression: The value of a modest property in an area of high-value properties tends to increase.
   • Regression: The value of a high-value property in an area of modest properties tends to decrease.

Production as a Measure of Value:

Agents of Production Principle: The value of the property consists of contributions from the four factors of production:

1. Land: Location and natural resources.
2. Labor: Human effort used in developing the property.
3. Capital: Funds used to finance the development.
4. Entrepreneurship: Organizational and administrative skills to manage the project.

Types of Value:

1. Market Value: The estimated price at which the property would sell in an open and competitive market under fair conditions.
2. Price: The actual amount paid in a specific transaction.
3. Value in Use: The value of the property to a specific owner, based on its current use.
4. Investment Value: The value of the property to a specific investor, based on their expectations of future returns.
5. Liquidation Value: The value that can be obtained from selling the property quickly.
6. Assessed Value: The value determined by the government for property tax purposes.
7. Insurable Value: The value of the property used to determine the amount of insurance needed.
8. Going Concern Value: The value of a company or institution as a whole, including its tangible and intangible assets.

Forces Affecting Value:

1. Social Factors: Demographics, lifestyles, social preferences, crime rates, quality of schools, proximity to amenities and services.
2. Economic Factors: Interest rates, inflation, unemployment, economic growth, credit availability, exchange rates.
   • PV = CF / (1 + r)^n where PV=Present Value, CF= Future Cash Flow, r= Discount Rate, and n= Number of Years.
3. Political Factors: Government laws and regulations, tax policies, land-use restrictions, master development plans.
4. Physical/Environmental Factors: Climate, terrain, proximity to water, air quality, soil, natural hazards.