Warning Signs When Looking at a Commercial Building – Part I

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Valuation Management Group thought clients might find it useful to share a list of important characteristics to note, as well as potential situations, and the impact they may have on the valuation of a commercial property. We will discuss things one may see when either viewing commercial property directly, or in photographs depicted in an appraisal report. We will present a two-part blog entry to address certain features and/or concerns to watch for in commercial properties.

We will explore a few physical features for commercial improvements in Part I and how it may impact the appraisal process and/or value. Physical features are as particular to the property type as are the methods to value a specific property type. The examples we offer here are not meant to be all inclusive but offer a starting point when evaluating the most common commercial property types:

1. Roof condition: When you walk the interior of a building, look for signs of leaks in the form of stains on ceiling tiles, stained walls, buckled flooring, etc. Roofing for larger industrial, office or retail buildings can be very costly. For example, assume you buy a building that is 50-feet long, the cost to repair or replace the roof covering could be in the realm of $200,000, depending on the state of deterioration. An appraiser will typically reference such needed repairs as deferred maintenance and make a negative adjustment to comparable sales that do not suffer from similar deferred maintenance. The adjustment is usually relative to the estimated cost to cure the roof in disrepair.

2. Cracks/settling: When you perform a visual inspection of a building, walk the entire interior and exterior to look for cracks or signs of settling in the walls, foundation or floor. A large crack could be an indication of a much bigger problem. If the cracks and/or signs of settlement appear to be structural in nature, the appraiser may call for an inspection to be done by a qualified structural engineer and an estimate for a cost to cure the issue. Real estate appraisers are not engineers, nor are they trained in identifying the integrity of a foundation or to estimate a reliable and credible cost to cure on such an issue. However, an estimate will need to be provided to the appraiser in order to use as a basis for adjusting market data that does not have similar structural issues. Rarely will an appraiser have the luxury of having sales with similar improvements and also has needed structural repairs. That is what it would require for an appraiser to have information to extract the dollar amount of the impact to value that is a result of needed structural repairs. Lacking similar properties with similar deferred maintenance or structural issues, an appraiser must have a credible and reliable cost to cure from a qualified professional to estimate appropriate adjustments.

3. Ceiling height: Most industrial building users are seeking a ceiling with a height clearance of at least 14 feet (for many users they require 18 feet or more in order to stack product, production materials, and store equipment). Anything less than that may suffer in appeal to potential purchasers.

When a property suffers from some of the issues noted above, needed repairs, structural issues or physical features not in line with the current expectations or desires for potential purchasers, this is referred to as “obsolescence.” There are several forms of obsolescence appraisers deal with in the valuation process which are broken down and typically classified as follows (which provides further clarity to what a specific issue may be):

  • Functional – how do the features of the property function in light of current-day user expectations?
  • External – are there situations adjacent or immediately surrounding the property that directly influence the property?
  • Curable – can the issue be reasonably fixed? (usually only Functional issues are “curable”)
  • Incurable – is it worth the expense to remedy, if it can be remedied? (Functional issue. External issues are not considered “curable”, since the subject property owner has no control over external influences).

Given insight into how obsolescence is classified, the above roof and settlement/foundation issues are likely curable. Such deferred maintenance is usually handled under adjustments to the “condition” of the property. The ceiling height issue for an industrial building is not “curable.” Most appraisers will usually handle the negative impact of a less-than-desirable ceiling height in a different manner. Most often, ceiling height is listed as an individual line-item to be adjusted in the sales comparison grid since it is such an important feature for industrial properties.

It is important to utilize qualified and trained individuals for commercial appraisal reviews. It may be reviewed initially by an independent, qualified individual or outsourced to an appraisal management company, such as Valuation Management Group. Qualified appraisal reviewers understand the considerations that should be made on the real estate appraisal for these concerns.

Next time we will focus on a few important site and external issues on the site or surrounding a property that can impact a valuation.

Valuation Management Group is a national appraisal management company that manages the appraisal process for community banks, mortgage bankers and credit unions. We offer the full array of commercial and residential appraisal products and services. We take the appraisal process from ordinary to extraordinary. VMG welcomes your call to discuss our national appraisal management services.

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