As a property investment company, which offers its clients a full estate agency service that is backed by professional advice and personal attention, we are often called upon to answer questions like …
"What is my commercial property worth?"
This is by no means an easy question to answer and to be perfectly honest it's only worth what someone is willing to pay. Having said this, we do however use a number of basic formulas so as to calculate the value of commercial property.
The first method
We will measure the land and determine the square meterage. We will then determine the market value per square meter which is dependent on the area in question. We then multiply the square meterage by the price per square meter. This will give us a rough indication of the value of the land. The price per square meter typically decreases as the size of the land increases. The price per square meter will also be affected by factors such as the purchase to road and rail networks as well as shop frontage, foot traffic and so on …
After we have evaluated the land, we will evaluate the improvements such as the height, size and general condition of the buildings. It is normally quiet simple to determine the replacement value of the facilities by keeping your finger on the local building costs. You can then compare the price of new build and marginally discount the price depending on the current state of the buildings. The ratio between the cost of new build and existing stock will vary depending on a number of economic factors. These factors are cyclical in nature but can be determined by an understanding of where in the property cycle we are at. (This will however unfortunately go beyond the scope of this article.) Finally, if you then add the value of the improvements to the value of the land, you will have the results of the first method.
The second method
This is more often than not the preferred method of evaluating what commercial property is worth. It is also favored by the vast majority of property investors. Using this method, we will simply evaluate the rental yield that the property can produce. The rule is simple: the higher the rent, the higher the value of the property. What most investors do, when contemplating their acquisitions, is to divide the annual rent that they will receive by the purchase price that they will have to pay. They will then compare one property with the next and will usually settle on the one that offers them the higher yield.
They will even also take into account the strength of the tenancy agreements. If they are buying A-Grade office space with a Blue Chip tenant, a long term lease and favorable escalation clauses they will normally accept a lower yield as there is less risk to worry about. If however there are any concerns as to the integrity of the tenant, or if the lease is about to expire, then the potential risk increases. The only way to compensate for increased risk and potential void periods is to lower the purchase price and offer a higher yield.
The third method
This involves a healthy mix of the above two mentioned methods. Firstly we will evaluate the results, this being the easiest method to compare apples with apples. We will then discount or add on to the value depending on the strength of the tenant and their lease agreement. Finally we will take a look at the value of the land and add to that the value of the improvements. That way, regardless of how the tenancy runs we will at least know that there is good value in the physical asset.
Having demonstrated to you the various methods of evaluating commercial property, please remember that at the end of the day, these methods and formulas only serve as a guideline. We always advise our clients that we can estimate the value but that only the market will determine the true selling price. Commercial property, like all property, is only worth what a willing buyer is prepared to pay for it!