Development Appraisal

Question 1

Which RICS Professional Standard covers Development Appraisals?

Answer 1

Valuation of
development property
RICS PROFESSIONAL STANDARD
Global
1st edition, October 2019
Effective from 1 February 2020

Question 2

What are the acquisition/disposal costs?

Answer 2

Legal and agent fees, as well as any purchase or sales taxes.

Question 3

What is a Comparable property transaction?

Answer 3

A property used in the valuation process as
evidence to support the valuation of another
property

Question 4

What is a Discounted cash flow?

Answer 4

A method of valuation explicitly setting out
the inflows and outflows of an investment/
development, adjusting for IRR /NPV.

Question 5

What is a development appraisal?

Answer 5

A financial appraisal of a development. It is
normally used to calculate either the residual site value or the residual development profit.

Question 6

How do you calculate the development yield?

Answer 6

The rental income divided by the actual cost
incurred in realising the development.

This can be based on either current or future estimates of the rental value of the completed development.

Question 7

What is the discount rate in a development appraisal?

Answer 7

The rate, or rates, of interest selected when
calculating the present value of some future cost or benefit

Question 8

How is GEA calculated?

Answer 8

The combined external area of a building
or footprint, taking each floor into account,
measured with reference to the appropriate
code of measuring practice.

Question 9

What is Hope Value?

Answer 9

An element of market value in excess of the
existing use value, reflecting the prospect of
some more valuable future use.

Question 10

What is IRR (internal rate of return)?

Answer 10

It calculates the break even point of a development.

The rate of interest (expressed as a percentage)
at which all future project cash flows (positive
and negative) will be discounted in order that
the net present value (NPV) of those cash flows,
including the initial investment, and be equal to zero.

IRR can be assessed on both gross and net of
finance.

Question 11

Define Market rent?

Answer 11

Defined in International Valuation Standards
(IVS) 104 as

‘the estimated amount for which
an interest in real property should be leased
on the valuation date between a willing lessor
and a willing lessee on appropriate lease terms
in an arm’s length transaction, after proper
marketing and where the parties had each
acted knowledgeably, prudently and without
compulsion’.

Question 12

Define market value?

Answer 12

Defined in International Valuation Standards (IVS) 104 as

‘the estimated amount for which an asset
or liability should exchange on the valuation
date between a willing buyer and a willing seller
in an arm’s length transaction, after proper
marketing and where the parties had each
acted knowledgeably, prudently and without
compulsion’.

Question 13

What is the Net development value (NDV)

Answer 13

The gross development value (GDV) minus
assumed sale costs.

Question 14

What is Net internal area (NIA)?

Answer 14

The usable space within a building measured to
the internal finish of structural, external or party walls, but excluding toilets, lift and plant rooms,
stairs and lift wells, common entrance halls,
lobbies and corridors and car parking areas

Question 15

Net present value (NPV)

Answer 15

It’s the total value today of all the money you expect to receive and pay in the future, after adjusting for the fact that money now is worth more than money later. Each future payment or receipt is “discounted” using an agreed rate.

Where the NPV is zero, the discount rate is also the internal rate of return (IRR).

Question 16

What is an opportunity cost?

Answer 16

The return or benefit foregone by pursuing an
alternative action

Question 17

What is an Oversailing licences?

Answer 17

An oversailing licence allows a structure – a
crane, for example – to overhang public or
privately-owned property.

Question 18

What are two ways to measure profit?

Answer 18

Profit on cost
Profit on value

Profit on cost: The profit of the project expressed as a percentage of total development costs.

Profit on value: The profit of the project expressed as a percentage of the project’s net development value (NDV).

Question 19

What is a Residual method of valuation?

Answer 19

A valuation/appraisal of a development based
on a deduction of the costs of development
from the anticipated proceeds (including profit) . The residual calculates the land value.

Question 20

What is ROC (Return on capital)?

Answer 20

Net income/capital

The ratio of annual net income to capital derived from analysis of a transaction and expressed as
a percentage.

Question 21

What is Sensitivity analysis?

Answer 21

A series of calculations resulting from the
appraisal involving one or more
variables (rent, sales values, build costs, etc.) that are varied to show the differing results.

Question 22

What is a Simulation in an appraisal?

Answer 22

Computer models can be built to simulate real life scenarios. The model will predict what range of returns an investor could expect from a given decision without having risked any actual cash.

Models can become extremely complex and probability distributions may be difficult to formulate.

Question 23

What is a standing investment?

Answer 23

Properties that are income-producing, usually
with a tenant in occupation.

Question 24

What is a turn key development?

Answer 24

A type ofdevelopment in which the property is
constructed and fitted out by the landlord/owner to a fully operational standard whereby an
operator can commence trading with immediate effect. It also assumes all necessary licenses or
registrations have been obtained.

Question 25

What is AUV

Answer 25

Alternative Use Value The market value, or any other appropriate basis, with the special assumption of an alternative use to the existing use or permitted highest and best use.

Question 26

What is EUV?

Answer 26

Existing Use Value The market value, or any other appropriate basis, assuming the property continues in its existing use with no expectation of that use changing in the foreseeable future

Question 27

What is Weighted average cost of capital?

Answer 27

the weighted average cost of the various sources of financing (equity, debt, preferred stock, etc.) used by a company to fund its operations

Question 28

What is a yield?

Answer 28

Annual Rent/Property Value Yield can be applied to different commercial elements of a project, for example, office, retail, leisure, etc. It is usually calculated as a year’s rental income as a percentage of the value of the property. It includes capitalisation or cap-rate, all-risks yield, equivalent yield, income yield and initial yield.

Question 29

What factors are typically including in the Gross Development Costs? (7 + other)

Answer 29

• site clearance, remediation or preparation costs • costs of construction, including any contingencies • professional fees related to construction • costs and professional fees relating to planning, any planning obligations or levies linked to the development • finance for the development, including the site • land value • any other costs or inflows related to the development and • site costs where land value is not the residual.

Question 30

How do you calculate the development appraisal?

Answer 30

NDV - GDC = profit

Question 31

What are the two approaches to residual valuation?

Answer 31

Simple and DCF Two different applications of the residual method have been developed: discounted cash flow and a more basic application of the residual method. The basic residual valuation might be used for less complex assets or early in the development process to consider optimum development. A discounted cash flow may be used for more complex assets with phased construction or disposal where the timing of events needs to be fully accounted for in the valuation

Question 32

What should a development appraisal report include?

Answer 32

1. Purpose and Client details 2. Brief overview of methodology and headline figures (GDV, GDC, residual land value) 3. Assumptions and special assumptions (planning permission, market conditions) 4. Basis of valuation (e.g. RICS Red Book compliant; Market Value as per IVS) 5. Valuation date 6. Property Description Site location, size, boundaries, topography. Access and infrastructure. Current use and planning status. Legal title and ownership. Any restrictions, easements, or covenants 4. Planning Context Current planning policy and framework (e.g. Local Plan). Existing or potential planning permissions. CIL/S106 obligations (if known) 5. Development Proposal Scheme details: number of units, floorspace, tenure, use class. Phasing and development timeline. Market positioning (target occupiers/users) 6. Market Evidence & GDV Analysis Sales and/or rental comparables. Estimated sales prices/rents per unit. Discount rate/yield assumptions. Timeframe for achieving sales or letting. 7. Cost Analysis Build costs (often based on BCIS data). Professional fees and SDLT, Finance costs (including interest and arrangement fees). Marketing and disposal costs (legal, agents' fees). Planning/CIL/S106 contributions. Contingency allowance. Developer’s profit (as % of cost or GDV) 8. Residual Valuation Calculation Clear summary of inputs: GDV, costs, land cost. Sensitivity analysis (optional but best practice). Cashflow model if complex/phased 9. Valuation Conclusion Opinion of residual value (rounded, with rationale). Commentary on the strength or weakness of the appraisal. 10. Caveats, limitations, and valuation uncertainty statement (if applicable) 11. Appendices Supporting evidence (comparables, cost estimates). Plans and maps. Residual valuation spreadsheet (e.g. Argus/Excel)

Question 33

What is the industry standard for contingency allowance in a development appraisal.

Answer 33

Depends on risk level. Usually 5-10% of construction costs.

Question 34

Optimum GEA to NIA ratio

Answer 34

75-85% Depends on asset office less than industrial

Question 35

What is industry standard developer's profit margin?

Answer 35

15-25% risk dependant

Question 36

What’s the difference between profit on cost and profit on GDV? When would you use each?

Answer 36

→ Profit on cost: viability and appraisals. → Profit on GDV: investor perspective or valuation.

Question 37

Explain the difference between gross development value (GDV) and net development value (NDV).

Answer 37

GDV = total expected sale value; NDV = GDV minus costs like letting, purchaser’s costs, or sales fees.

Question 38

What data sources do you use to inform inputs into your appraisals?

Answer 38

BCIS, Land Registry, EGi/RADIUS, CoStar, sales evidence, QS inputs, agency advice, tender costs.

Question 39

How do you deal with uncertainty in appraisal inputs?

Answer 39

sensitivity testing, scenario analysis, and using a range of values

Question 40

Can you explain the implications of planning obligations (e.g. CIL, S106) on land value?

Answer 40

Planning obligations are a cost to the developer. In residual valuation terms, they reduce the land value.

Question 41

What are the key inputs in a residual appraisal and how do changes to them affect land value

Answer 41

Key inputs include: GDV: based on rent or sales values and capitalisation/yield Construction costs: using BCIS or QS estimates Professional fees, finance, contingency Developer’s profit Land value/profit is highly sensitive to these inputs. For example, a 25bps shift in yield can significantly alter GDV. Similarly, higher build costs or land value reduce profit.

Question 42

Give 5 examples of development appraisal assumptions?

Answer 42

Clear title. No charge Compliance with covenants

Question 43

Can you describe the primary differences between Residual Valuation and Development Appraisals in terms of their use in determining land value and project viability?

Answer 43

* Residual Valuation to determine the land price. * Development Appraisal determine the profit and viability of the deal.

Question 44

What are the key components in the calculation of Gross Development Costs? Do they include any financial aspects such as interest, taxes, etc.?

Answer 44

* Site clearance, planning, surveyors' fees, professional fees, landscaping, construction, contingency, finance and land acquisition.

Question 45

Could you explain how to calculate the Gross Development Value?

Answer 45

* GDV is calculated by capitalising the income less the purchaser costs. * In Ascebi House, I capitalised the rent at 5% and deducted 6.5% purchaser costs to arrive at the net value.

Question 46

What does the return as a % of costs or % of value represent? How is it used in relation to the Hurdle rate?

Answer 46

* This measures profitability. * It is benchmarked against the hurdle rate to determine viability. * In Ascebi House the say 24% return on costs exceeded the hurdle rate of 8%.

Question 47

How can Development Appraisals be adjusted for risk and what types of risks are typically considered?

Answer 47

* It is usually adjusted using sensitivity and scenario analysis to stress test the appraisal. * Common risks include yield or build costs moving out. * Other risks include changes to income, planning delays and funding availability.________________________________________

Question 48

You mentioned s102 funds, can you explain what they are and why they are usually considered a developer cost?

Answer 48

* S102 funds are a planning contribution to the Local Authority paid by the developer to offset development, to fund infrastructure or community initiatives. * It may be a fee or an obligation, such as allocating a % of the housing to affordable homes.

Question 49

What are some of the internal and external sources used to obtain cost information for a development appraisal?

Answer 49

* External: Quantity surveyors, Tender and BCIS * Internal: Historic projects and schedule of fees. * For Ascebi, I used data from historic projects and fixed fee schedules.

Question 50

How are costs adjusted as new information becomes available? Can you provide a specific example of this process?

Answer 50

* Costs are updated as tender returns, QS reports, or market data are received.

Question 51

Can you describe the role and importance of a quantity surveyor in obtaining cost information for a development appraisal?

Answer 51

* A QS provides accurate build cost estimates, advised on contingencies and validates tenders. * They help mitigate overspending and financial risks. ________________________________________

Question 52

What exactly is sensitivity analysis and how is it used in Development Appraisals?

Answer 52

* Sensitivity analysis tests how changes in key variables (e.g. yield, build cost) affect viability. * In my appraisal, I modelled -25bps in cost and +25% yield movement to assess the scheme’s resilience under adverse conditions.

Question 53

What is the role of a development appraisal in extension projects?

Answer 53

* To determine whether the scheme is viable. * This informs investment decisions and funding strategies

Question 54

What data fields did you input into the Excel model to refine the appraisal?

Answer 54

* TDV o NIA 279sqm o Rent £220psqm o Car parking income £19,500 o S106 rent abatement 65% o Adjusted Rent £44,731 o FRI adjustment 5% deduction o Cap Yield 5% o Purchaser costs 6.5% o Void space adjustment (do nothing) £311,542 and 7.9% yield o TDV E483,104 * TDC o Extension build costs £4,200psm o Refurbishment costs £2,500psm o Continency 5% o Professional & legal fees £162,482 o Land acquisition £152,812 o Finance - £0 o S106 contributions - £700,652 o TDC £389,857 * Outputs o Gross profit £93,247 o Return on costs 23.92% ________________________________________

Question 55

What factors were considered in estimating the construction costs?

Answer 55

* TDC o Extension build costs £4,200psm o Refurbishment costs £2,500psm o Landscaping £6,000 o Continency 5% o Professional & legal fees £162,482  Architect  Principal designer  Project management/EA  QS  M&E  Structural & civil engineer  Geotechnical/Environmental Consultant  Highway engineer  Site survey and clearance  Topographical fee  Planning and building fees  Planning consultant  Legal £15,000 o Land acquisition £152,812 o Finance - £0 o S106 contributions – (£700,652) o TDC £389,857

Question 56

How did you determine the professional fees and finance costs?

Answer 56

* Professional fees - we have a fixed schedule of fees based on scale of the project. * Finance fees were excluded as the scheme was funded through equity and s106 funds. ________________________________________

Question 57

What was the source of the property valuation that you based on market yields?

Answer 57

* Our Investment Team provided the yield based on comparable evidence. 5% reflecting minimal risk and strong tenant covenant. * The base rent rate was determined by negotiations with the District Valuer.

Question 58

Why was it necessary to acquire accurate build costs from tender documents?

Answer 58

* Tender documents provide market-tested costs, reducing the risk of underestimating expenditure.

Question 59

Why was a contingency of 10% applied?

Answer 59

* I applied 5% contingency in this case. * This was applied to reflect the low risk to the income which is reimbursed by the NHS. That site investigations had been completed in 2015 so it was unlikely that anything new would emerge (though not impossible). * Moderate risk due to the project being managed internally rather than via a Design and Build Contract.

Question 60

How was the continued market uncertainty affecting the development project?

Answer 60

* Construction costs have recently been impacted by labour shortages and rising material costs, due to inflationary pressures, supply chain disruption, container prices and most recently tariffs. * I accounted for this market uncertainty in the appraisal by using conservative costs and robust sensitivity testing. ________________________________________

Question 61

What impact did the development appraisal have on investment decisions for the project?

Answer 61

* The DA showed that the scheme was profitable at 24% return on costs, supporting the decision to proceed.

Question 62

How has this experience enhanced your understanding of development viability assessments?

Answer 62

* It strengthened my ability to model appraisals and to understand the factors that impact costs, yields and returns.