Cost vs. Sales, which is normally higher?

[ccooper]

We have a commercial-residential company with several certified appraisers. We recently were asked by an underwriter why our Cost Approach was lower than the Sales on a residential. In discussion we had all remembered the premise about how the Cost should generally be higher than Sales. If Cost was lower than Sales then people would build not buy. Our Cost's are generally lower than Sales (usually within 10%) We were wondering if this was just unique to our market (retirement area, large percentage of buyer's rurally migrating and not familiar with land/builders). In discussions with other certifieds in town, they have said that they often go straight to "Good" quality in Marshall and Swift to ensure that Cost is at or above Sales (not what I consider to be Plan "A"). Our office discussions also thought that M&S Cost may not indicate enough entrepreneurial profit associated with the stress and time factors.

So, my question to the forum is, where are your Costs and Sales generally at? Is it a market trend that Cost is higher than Sales? Thanks for your responses in advance.

 

[George Hatch]

I appraise in San Diego County. For most property types, my Cost Approach analyses come in slightly higher than the Sales Comparisons do. I kinda doubt that M&S is projecting lower costs (in relation to actual costs) here in my region than for yours. Having taught the 8-hour Cost Approach classes (about 30 times), it has been my experience that many appraisers are not that proficient in using the books. Also, it may be that actual developer/entrepreneurial profit factors and/or indirect costs are higher in your market area than what you have been using. M&S is only a reference guide. You have to go with your local experience as well as the available data. Think of it as anti-AVM insurance.

Since I also do some construction appraisals, I routinely check actual builder cost breakdowns against M&S, just to verify that they are on track. For those builders whom I consider to be reasonable (which is about 50%) the M&S costs seem to be right on. The remaining cost breakdowns I see are either way too high (gouging) or way too low (lowballing to get the bid); those seem about evenly divided.


There are some exceptions to this general trend in my market. Certain market segments with explosive price increases have outpaced land costs; and a few property types are so stagnant in their price structure that their costs far exceed thier sales markets (by as much as 20%). But these variations are more closely related to the suppy/demand factors within the Sales Comparison itself, rather than weaknesses with the M&S data.


George Hatch