Valuation • Section 14


ology for determining the property value is the same in all scenarios. When determining the value of a property, there are generally three approaches that are considered:


A


1. Cost Approach 2. Sales Comparison Approach 3. Capitalization Approach


Cost Approach The cost approach is based on the premise that market par- ticipants relate value to cost. Appraisal concepts relating to this approach include substitution, supply and demand, con- tribution, externalities, and highest and best use.


In the cost approach, an opinion is formed of the cost of


all improvements, depreciating them to reflect any value loss from physical, functional, and external causes. Land value, entrepreneurial incentive, and depreciated improvement costs are then added, resulting in an opinion of value for the subject property.


The downside of the cost approach is that the deprecia-


tion estimates used are highly subjective, which can limit the reliability of the approach. Additionally, land sales within the local area, while well researched, can be limited; therefore, in today’s market, the most important and common use of the cost approach is to determine the feasibility of a new or a recently constructed project.


Sales Comparison Approach Using the sales comparison approach, an opinion of market value is determined by analyzing similar, recently sold prop- erties, and comparing them to the subject property. This method relies on the concepts of anticipation and change, including the principles of supply and demand, substitution, balance, and externalities.


This approach typically uses a unit of comparison such


as price per square foot of building area or effective gross income multiplier. Adjustments are applied to the unit of comparison from an analysis of comparable sales, and the adjusted unit of comparison is then used to derive an opin- ion of value for the subject property.


The sales comparison approach is applicable when there


is sufficient data on recent market transactions. In the case of the self-storage industry, the sales comparison approach provides good support but is not typically considered the pri- mary value indicator as self-storage facilities are purchased for their income streams. Additionally, the comparable sales can vary widely in terms of physical and locational character- istics which are typically addressed through an adjustment


Income Capitalization Approach The income capitalization approach first determines the income-producing capacity of a property by using contract rents on existing leases and by estimating market rent from rental activity at competing properties for the vacant space. Deductions are then made for vacancy and collection loss and operating expenses. The resulting net operating income is divided by an overall capitalization rate to derive an opin- ion of value for the subject property. The capitalization rate represents the relationship between net operating income and value. This method is referred to as direct capitaliza- tion. A discounted cash flow is also often utilized, and this creates a multi-year cash flow projection with a reversion in the final year. A variety of assumptions can be made to test the sensitivity of the cash flow. Additionally, this method al- lows for any anticipated variances in the 10-year hold of the investment, such as capital expenditures and/or changes in expenses. In this method, periodic cash flows are discount- ed to a present value using discount rate that is determined by analyzing current investor yield requirements for similar investments.


In today’s market, the income capitalization approach is


the most utilized method to determine the value of a prop- erty. The following is a step-by-step guide to developing a proforma and ultimately determining the value.


INCOME The first and most important step of valuing a facility is to understand and examine the income that is currently be- ing collected at the facility. The main source of income for self-storage properties is derived from the storage units. The most typical report utilized by valuation professionals is not actually the rent roll, rather it is the occupancy statistics re- port or unit mix report. This report sorts the units by type (typically drive-up and climate-controlled or by story) and then by size. From this report, a clear picture of the facility is


2018 Self-Storage Almanac 149


valuation of a property can be necessary for a variety of scenarios: buying, selling, refinancing, or challenging the real estate assessment. Fortunately, the method-


process. Furthermore, it is better to select newer sales from a broader geographic area than older sales with the same geographic area in today’s market where capitalization rates have declined. In fact, capitalization rates derived from recent sales are the most useful data extracted from this ap- proach for an investor.


Furthermore, it is better to select newer sales from a broader geographic area than older


sales with the same geographic area in today’s market where capitalization rates have declined.


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