Cost Approach and those who "mail it in"

[Terrel L. Shields]

The definition does not define what amount if EP is reasonable, or excessive, nor does it state WHO is supposed to be doing the building

just as in the SA we don't always know the nuances of the interior of the comps nor do we know many defects that may be hidden or unreported..MLS isn't everything

...seems like a composite builder an appraiser bases the approach on, with cost figures found by survey/and or using the cost manuals available.

Variation within the approach is possible in any approach.

It seems that some appraisers might use a relatively fixed EP, and others giving great range to EP to move with the market.

The bias of no bias is still a bias and we are biased....couldn't appraise if you weren't.. You judge which comp is best don't you? or do you always find 3 comps which are exactly equally weighted?

The definition leaves it up to the appraiser to derive their own assumption of "Who" is building and what profit they are charging, and whether the profit is reasonable and supportable in the market.

That's why we exercise "judgment"....And proper judgment is best supported when we can use ALL the tools available to us.

 

[PropertyEconomics]

Cost Approach:

A set of procedures through which a value indication is derived for the fee simple interest in a property by estimating the current cost to construct a reproduction of (or replacement for) the existing structure, including an entrepreneurial incentive; deducting depreciation from the total cost; and adding the estimated land value. Adjustments may then be made to the indicated fee simple value of the subject property to reflect the value of the property interest being appraised.

Nobody can agrue with the definition, and though it says to include an entrepeneurial incentive, it does not spell out whether the entrpreneurial inicentive should be equivalent to that a developer would charge.

The definition does not define what amount if EP is reasonable, or excessive, nor does it state WHO is supposed to be doing the building...seems like a composite builder an appraiser bases the approach on, with cost figures found by survey/and or using the cost manuals available. It seems that some appraisers might use a relatively fixed EP, and others giving great range to EP to move with the market.

The definition leaves it up to the appraiser to derive their own assumption of "Who" is building and what profit they are charging, and whether the profit is reasonable and supportable in the market.

JGrant .. I will throw you one little curve ball ... lets assume there is no developer and the builder is the homeowner acting as their own general contractor.

IS EI/EP still applicable (assuming it is found in your market)???



And based on Terrels post and his quote of JGrant ... its interesting ... more and more its sounding like the cost approach is based upon market indicators ... I wonder if that is why the cost approach is one indication of Market Value????

 

[Joyce Potts]

I may be off base here, as usual, but the cost approach is not about reproduction or replacement cost based on M&S or based on Home Depot specials or that you may be married to or sleep with a GC for 34 years.

It's about what the improvements would reasonably cost to replace or reproduce if the client had to hire a GC AT RETAIL cost or going market rates at either a cost plus or turn key basis.

On my own projects, while my husband is a GC, it was often about having a bond or life insurance in place in case he was unable to finish the job and the lender/client had to hire someone AT REASONABLE RETAIL costs and rates to complete the improvements that were affixed to the land for a full collateralization of the loan.

From then on, it's a matter of applying ALL FORMS OF DEPRECIATION.

 

[Terrel L. Shields]

It's about what the improvements would reasonably cost to replace or reproduce if the client had to hire a GC AT RETAIL cost or going market rates at either a cost plus or turn key basis

40 estimators will come up with 40 estimates...like appraisers do.

But if you uniformly apply your own methodology then you should have a uniform analysis of the comps and therefore, a reasonable and credible analysis... Unity of application

 

[Elliott]

One of the indicators I used to determine builders were charging too much to be
sustainable back in 2007 was the number of builders that were driving new, tricked
out trucks. Undoubtedly they were making too much.

Regarding the CA, over time you develop the cost curve formulas that fit your
market and you tweek it as you go. When you do new construction or spec homes
you adjust the curve. I gave up years ago on relying on a cost service to pin point
costs, but I love the cost curves they've developed which can easily be borrowed
with power curve correlation and a spreadsheet. I re-check them every few years
and the curve shapes don't change.

 

[KenAZ]

I remember taking a class about 20 years ago. The instructor was talking about builder sales. He stated at that time that builders make their profits off of the land and not the houses. They sell the houses with the intent of breaking even on the homes, but making their fortune on the land appreciation.

Back then, builders were typically land speculators. They would buy worthless land on the outskirts of town. They would wait until the right time, subdivide the land and start building houses. As soon as they started building, the land values would skyrocket.

I think that was true up until 2004. China all in a sudden created a shortage of cement. Home prices jumped $20,000. Investors and speculators jumped on these homes and created a panic market. Then the lending regulations were eased creating an oversupply of buyers, and a boom/bust market was created.

Would the CA have saved us? I really don't think it could. Was it the sudden cost of cement, the increase in land value or the sudden oversupply of buyers from investors and buyers that were never able to qualify for a home before.

How much was the land worth? No one knows. There were no vacant land sales in these subdivisions. Were appraisers including the sudden cement price increases? Probably not. I remember attending a CA class during this time. We talked about this. We talked about how the CA did not support the Market Values.

The Solution? (This was according to a CA instructor)

Costs are actually much higher than what we were assuming. He went over the M&S costs, and then showed how the real costs were actually much higher. I remember a number of about $10,000 for a covered patio. Some astronomical prices for landscaping, garages, etc. CA really couldn't of saved us, because we already build in excuses and adjustments to it so that it will come in close to Sales Comparison Approach.

Fortunately what will save us in the future is that we are now told to rely on spec homes and resales and not on builder sales for comps. If this had been taught BEFORE the boom, we might have been able to save a lot of people a lot of grief. I remember an instructor teaching us that upgraded new home sales prices should never be supported by the market, because the buyers cannot recover the full price of upgrades on the resale market.

The CA might have saved us if we had applied functional to all upgrades on new homes. (I have yet to see that done) :mellow:

 

[Doug DeMars]

builders were typically land speculators. They would buy worthless land on the outskirts of town. They would wait until the right time, subdivide the land and start building houses.

I think this is still a tried and true MO today. I don't know of any developers personally, but I hear rumors and rumors of rumors of speculators picking up land at very very very attractive prices. I'm smack in the middle of suburban growth of the Bay Area where it's only a matter of time before land will become subdivisions.

There's a local builder/developer in my county that probably has enough land to stay busy for the next 100 years. Also has some local politicians in their back pocket to help keep the tree huggers and lizard lickers happy. They're still building homes today...even among the current 80% REO/Short Sale market.

The dirt was paid for decades ago...plans already approved...just pluggin' along building more and more homes. Looking at the numbers...they essentially give the house away. They make the money on the dirt and/or overpriced "upgrades".

 

[David Mescon]

The CA might have saved us if we had applied functional to all upgrades on new homes. (I have yet to see that done) :mellow:

I've done it... Man did that ****** people off!

 

[J Grant]

Dave, good for you...one of the few. I just stopped adding in excessive PE/PI, and the cost approach was lower than SCA as the market went nuts....I never, ever relied soley on new home builder sales as comps. Cost approach aside, appraisers should have known better than to rely on just builder comps in the SCA.

 

[PropertyEconomics]

Dave, good for you...one of the few. I just stopped adding in excessive PE/PI, and the cost approach was lower than SCA as the market went nuts....I never, ever relied soley on new home builder sales as comps. Cost approach aside, appraisers should have known better than to rely on just builder comps in the SCA.

WHOA .... this is quite a telling post ... so you are now saying that in upward markets (like the one you stopped adding in PE/PI (EP/EI)) you relied upon the COST APPROACH as an indicator of MARKET VALUE ....

WOW .. now this is a revelation .....

Seems the same can be said of the cost approach being too high ... merely adjusting downward for External Obsolescence as dictated by the market will provide the same telling story as your previous experiences have ....


woohoo ... making progress here.