Deep Dive - The Cost Approach

[TerryRohrer]

I know what you're advocating for, and I would agree that tweaking each approach just so that they fall in line with each other and look nice is not appropriate methodology. However, it is not the same as deriving information from another approach to make each approach stronger. I was working on some mini-storage facilities recently and surveying the available supply in a given market area. If there was an over-supply, causing a rent ceiling and/or higher vacancy rates, would it or would it not indicate a form of obsolescence when reconstructing depreciated cost in a sale of one of these facilities? This isn't for expedient results (quite obviously that entails a fair amount of time), rather, it may be necessary for credible results.

I think the expediency would arise from, say, capitalizing the rent loss to estimate the obsolescence. Also, there would be no need. If all three approaches were properly completed, relying on comparable sales, they should be in agreement even if an appraiser missed the connection you made. I don't believe it would be a fail to estimate total depreciation without breaking it down among the three components (unless that was an assignment condition or you were completing a demonstration report requiring it). Nor would I be critical of someone who observed what you did and outlined the rents and vacancies as evidence that some part of the overall depreciation is obsolescence.

 

[Ricky LaFleur]

Without direct sales comparison analysis, how do you estimate the functional superadequacy adjustment if that big boy was sitting in the back yard of a residential property?

The classes don't teach that one should be able to obtain obsolescence depreciation from thin air. SA is one of the ways. It's recognized methodology. You main be gleaning a ratio of depreciated cost of a shop building (contribution value vs mere physical depreciation, indicating any obsolescence present) on residential tracts from a few sales 5-10 years ago. So you may not use them as comps in the SA, but the adjustments are from sales nonetheless.

depreciated cost doesn't necessarily equate to value.

depreciated cost of components likely doesn't reflect their contributory value

Definitions certainly matter. Maybe not everyone is meaning the same thing when using the same terms. When you say depreciated cost, what all forms are you including or how are you determining this?

I wouldn't want my name on a report that included the summation of a laundry list depreciated costs of amenities not represented in the local market.

I understand some properties are much harder to gather all forms of depreciation on. That one might require looking over a number of states (that buyer pool may be too, right?). Obviously, one wouldn't have to worry about how much EI is included... heh.

 

[Ricky LaFleur]

Sorry, I didn't get far as a graphic artist. When that monster home was built in that location, it had to have been known that cost wouldn't equal value, but that doesn't mean that correctly depreciated cost in a cost approach wouldn't approximate market value. Correctly identifying any FO/EO would have deducted this in a CA, even if it were 60-70%, to reflect the super-adequacy that it was. My .02.

 

[TerryRohrer]

I understand some properties are much harder to gather all forms of depreciation on. That one might require looking over a number of states (that buyer pool may be too, right?). Obviously, one wouldn't have to worry about how much EI is included... heh.

I think the stats I offered from the local market are telling. Unless one could find sales in equally constrained markets, there is some danger in relying on sales where there is a market for an asset to value one with no established market. Sadly, I bid too much to buy the assignment when it was offerred!

 

[Ricky LaFleur]

Sadly, I bid too much to buy the assignment when it was offerred!

Sometimes too much is the right amount, ya know?!

 

[TerryRohrer]

Sometimes too much is the right amount, ya know?!

I haven't lost a minute of sleep over it!

 

[Terrel L. Shields]

how do you estimate the functional superadequacy adjustment if that big boy was sitting in the back yard of a residential property?

How do you estimate the FO when that big boy is sitting in the back yard without the cost even being known? I mean if there is no data to estimate the contribution, then where do you go. I mean you are pointing out "as a residential property" but wouldn't being in the country vs in town make a difference too? Doesn't your judgment count? Why not use another FO item you do have data for as a proxy. But when was the last such item you saw? 5 years ago? 15? 20?

A few years ago, I appraised a 4,000 SF house with indoor pool and 5 air-conditioned shop buildings on 5 acres 5 miles out of town. The guy restored antique and muscle cars. Guess what? A year later it sold for almost exactly what I appraised it for. I estimated 6-12 months marketing time. Did I have comps with 5 shop buildings? Did I have even one air-conditioned shop on a residential property? Am I the world's best appraiser? No. Was I just lucky my Ouija board worked out? Or did I use a dart board? Neither. Did I cost out these buildings and deduct for physical obsolescence? Yes. Then I looked at them and the obvious over-improvements. What percent was I going to apply? With those base costs, I made a subjective estimate based upon long gone sales where I knew the obsolescences were approaching 50% or even more. And i applied those as a proxy for the subject.

And I did that in both the CA and the SCA. And I weighed my estimate of FO on the high side because there were simply way too many buildings. If only one building, I probably would have applied much lower FO. But again, what applied to the SCA applied in the CA. How could it not? Did I have other sales that were suffering from FO? Sure. But was it air-conditioned outbuildings? No. In one case, it was a horse barn, a corral, outdoor fireplace and built in BBQ under a canopy. And the sale was 60 miles away. Another had a huge barn. Another was a lake property with an ADU, enclosed pool as a separate building on a lake lot. I had to estimate the RCN, the land value, makes physical depreciation estimate, and then analyze the difference between the sales price and the projected costs of the component items. The difference was the FO in my opinion. And so going back thru my comps from 10-20 years ago (and yes, I have them) I looked at other sales to predict a % of FO.

Ultimately it is a judgment call for the appraiser to make and you make that call by reverse engineering the CA on the comps and keeping that in mind for the lifetime of your career. The sales found that demonstrate a lot of FO might be on a small house unlike the house you are appraising, but its likely to be one of the best indicators of FO in a paucity of such sales. And again, it applies to both the SCA and the CA.

 

[Terrel L. Shields]

I have no idea why that double posted. I only clicked once.

 

[sputnam]

Long ago I attended an appraiser meeting at our FHA Regional Field Office where they instructed us all to use 50-75% of the RCN of the dwelling for our GLA adjustments. Falls in line with your "rule of thumb".

I learned it from an appraiser... but he may have gotten it from FHA. And yeah, as I think abou it now, he did say 50-75%.

 

[alebrewer]

How do you estimate the FO when that big boy is sitting in the back yard without the cost even being known?

Why do you need to? Unless you're doing a CA, you only need to know contributory value - and you get that via sales comparison analysis (or at least I do). Sans any sales with which to perform some kind of technique (grouped sales, regression, etc.), then I'd agree - you'd need a depreciated cost. My point, though, is that - without the sales - you have no idea if that depreciated cost is truly reflective of 'market' contributory value or not.