3 Commercial Real Estate Valuation Methods

Your savings are the foundation of your financial strength. You can make the most of them with smart investments that help create a source of continuous income. 

Investing in commercial property is one such investment option since it provides regular as well as long-term gains. However, before investing your hard-earned money, you must have a thorough knowledge of its value. Therefore, this article is going to cover 3 ways of valuing commercial real estate.

3 Commercial Real Estate Valuation Methods

When investing in commercial property, you, as a buyer, want the lowest possible price, while the seller desires the greatest possible price, both in an effort to maximise their profits. Thus, it is important to get a fair and just commercial property appraisal. Now the question is: How do you do this? Let us look at some common methods of commercial real estate valuation:

1. Cost Approach 

This is a very basic but an effective approach. It uses the concept of estimating the cost of a ground-up build for the commercial property. It also takes into account deterioration and other factors to arrive at an acceptable price.

Suppose there are only a few properties with the same features that are different from the general designs of the locality. In this situation, the cost approach is a very good way to conduct commercial real estate valuation. 

It is calculated by accounting for 3 simple factors- the land cost, the cost of construction (Labour and Overhead), and adjusting the cost for depreciation. The depreciation cost is basically considered due to the age and the general wear and tear of the commercial property.

2. Sales Comparison Approach 

The sales comparison approach used for evaluating the correct value of a commercial property is one of the most common methods used across the country. 

In this approach, the value of the commercial property is determined by evaluating the cost of similar properties in the area. There are, of course, some differences in every property, but this method is great for getting a just estimate.

The difference in amenities and other aspects are taken into account while evaluating the final price. This method is strengthened and more robust if there are multiple sales in the local area of similar commercial properties.

3. Income Capitalisation Approach

When it comes to commercial property, income capitalisation is one of the best ways to determine the correct value for the property. In this method, there is a term called “Cap Rate” or “Capitalisation Rate.” It is the key to understanding how it works.

Capitalisation Rate, in simple terms, is the expected annual return percentage the buyer can expect from the commercial property. To understand with an example, let us assume a property with a price tag of INR 10,00,000. 

For this property, the annual income after all the maintenance costs is INR 1,00,000. The cap rate is calculated by Net Income/Cost. This brings out the cap rate as 10%. It is important to note that the cap rate is always expressed as a percentage.

Now, with an understanding of what the cap rate is, the income capitalisation approach involves dividing the net annual income by the cap rate. Taking the help of the previous example itself, assuming that an acceptable cap rate is 10% and the property is generating a net income of INR 5,00,000, we can get a commercial real estate valuation of INR 50,00,000.

Conclusion

The real estate market has been booming and bouncing back in recent years. Thus, before investing in a commercial property, you must conduct a thorough research and determine its accurate value. However, you can also consider consulting a professional to ensure you do not make any mistakes in a commercial real estate valuation. To learn more about different investment opportunities and earning passive income explore Grip Invest today.

Frequently Asked Questions On Real Estate Valuation Methods

1. What is a commercial valuation?

Commercial valuation is the process of determining the approximate value of a commercial property. It involves multiple methods and works on several guidelines and rules to arrive at a just valuation.

2. Which valuation approach is most common for commercial real estate?

The income capitalisation method is the most common method for commercial property appraisals as it includes tangible and immediate annual financial returns for investors.

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