Is The Cost Approach Flawed?

[Terrel L. Shields]

The only question is this: When you are required to do it (by a condition of the assignment or because, in that rare situation, it is necessary) do you do it correctly?

It would shock me if they had a clue where to start

 

[Mr Rex]

It would shock me if they had a clue where to start

 

[Tru Red]

In my humble opinion AND what goes into most of my reports: Lack of recent sales data for vacant/unimproved land contributes to cost approach from being relevant. The cost approach is typically utilized with unusual and/or unique properties when no comparable's are available. Now......with that being said the cost approach can add support for the sales comparison approach.

 

[Ariba]

It would shock me if they had a clue where to start

Amen.

Most appraisers nor owner have any clue on depreciation, life cycle of different component, current building codes that go into a house. Do you interrogate every home owner as to the age of the kitchen appliances, hot water tank, furnace, roof, electrical system, sewer lines, hook-up fees, insulation, 2"4" or 2"x 6 framing" ...etc. Do you just take an average or have you conducted a comprehensive survey on profit margins, entrepreneurial, management fees. At best they are a guess. This does not even address the site value an other best guess assumptions.

 

[Terrel L. Shields]

Do you interrogate every home owner as to the age of the kitchen appliances, hot water tank, furnace, roof, electrical system, sewer lines, hook-up fees, insulation, 2"4" or 2"x 6 framing"

I inquire the age of components of poultry farms. Accrued depreciation can be determined from comparables, short term items break out isn't necessary & USPAP doesn't require it.

 

[Terrel L. Shields]

Lack of recent sales data for vacant/unimproved land contributes to cost approach from being relevant.

You don't even know the number of methods available to determine the site value, do you?

 

[Michigan CG]

Or, they said they got it by extraction, but then could not explain the very basics of how one used extraction to get a land value.

Abstraction, extraction, allocation......Because there are NO LAND SALES............... Been there, saw that movie. I offered an appraiser in a "meeting" my database of 300+ sales of rural 5+ acre sales. He didn't have much to say, his client was not happy.

Show me ten appraisers who work in non-urban settings who use the terms abstraction, extraction or allocation and I will show you nine that have no idea what those terms mean.

 

[Michigan CG]

OK, for all you CA geniuses, how many purchased their house or previous houses based on the CA? Did the CA have any impact on your decision to purchase the house?

It is not so much about knowing cost but rather the principal of substitution. Now they don't know what the principal of substitution means but they do make decisions that way. If Mr. and Mrs. Homebuyer can buy something for $200,000 that already exists that meets the desired utility they desire (another term they don't understand) but would have to pay $300,000 for a replacement then what is their choice?

What you are also ignoring is that the Cost Approach can EASILY give you total depreciation. Breaking down that depreciation into the three categories might be a bit more challenging.

Most appraisers who say the cost approach sucks don't know how to do one and more importantly don't understand what the approach can tell the appraiser.

 

[hastalavista]

Most appraisers who say the cost approach sucks don't know how to do one and more importantly don't understand what the approach can tell the appraiser.

The cost approach has been, and continues to be, my weakest tool in my toolbox.
That's why I've made it my personal mission to become as competent in it as I can.
As a consequence, I'm convinced that it is always applicable and can be applied in any market. And, when required (by assignment-condition or because it is necessary) I do it.
The sad thing, IMO, is this is one approach which requires significant judgment (supported by market analysis) that is difficult to replicate by means of automation. What's sad is the hue and cry of many is, "I'm not relevant". Here is a technique that appraisers can become easily and readily relevant in, with just a little of effort.
As long as I can credibly argue my conclusions (the value) I always have a leg-up on the alternative.

Further, it does reveal things that otherwise may not be readily apparent.
How that becomes part of the mix that bakes the cake, I deal with in my reconciliation. For a fact, all those that think the appraiser's duty is to call a bubble before it bursts, if you want to wear that mantle, then learn how to properly apply the cost approach, and your forewarning will gain a level of credibility that is hard to refute.


(I wonder how some do a feasibility analysis in he as-vacant H&BU if they don't think cost to develop means anything? Just another thing that we do that an alternative probably cannot do as well... assuming we do it and do it correctly.)

 

[Joe Flacco]

Can't be wrong again if you haven't been wrong before!

How about excessive entrepreneutial/management fees profit, grred..........Also, we were talking metropolitan areas nor rural. ..........

In many cities you can buy houses similar in style, appeal, GLA, bedroom, bathroom, school district, etc. however they differ in price by $200,000 to $300,00. Land prices, labor cost, material costs, building permits, etc are not the factors in these cases So mister wrong again, what is the answer?

Based on this, I am not even sure he can do the sales comparison approach. Obviously, a property that trades for $200k to $300k more than another is not similar in everything.