Determining actual value
Simon Townsend, Director—Head Valuation & Consulting, CBRE Middle East clarifies the importance of correct assessments in real estate transactions.
Middle East investors were major buyers of commercial real estate in 2015 and 2016, accounting for approximately 15 per cent of all cross regional investment. In the first half of 2016 capital investment from the Middle East was close to $10 billion. The destinations of investment flows from the Middle East are becoming increasingly diverse and no longer concentrate only on London and New York, with cities in US and Asian markets moving up the agenda of international investors.
The global commercial real estate market faced difficulties in 2016. The relentless growth in the total value of transactions stalled as investors in all asset classes became wary of risk. Despite the increase in uncertainty there was continued pressure on investment activity. Increases in international capital flows has not been restricted to the Middle East investors with strong outbound capital flows being witnessed from Asia/Malaysian investors which has put pressure on the spending of Middle East investors with an increase in competitive capital for many of the same transactions.
The changes in this investment landscape has had a positive impact on Middle East investors starting to direct capital to markets closer to home across the MENAT region. Many potential hurdles to investment within the region for these foreign investment vehicles remain whether these are restrictions on investment currency, land-ownership structures, debt availability and market nuances. These investments bring an increased caution from foreign capital and an enhanced diligence requirement, underlying value of the asset and more importantly the determination of this remains at the fore.
Noting the increasing uncertainty in the real estate markets both locally, regionally and internationally the importance of taking the right independent real estate advice has never been more important. The valuation process is one that serves many purposes and despite the nuances of local laws, customs and real estate practises adhering to best international standards provides an element of protection or even increased certainty in respect of the valuation outcome.
The importance of the integrity of the value reported by the valuer is not just relevant for the investor but also the capital sources whether debt or equity—the key premise being that in the event of any default (and legislation permitting) that the lender can take possession and liquidate the asset to recover any debts attributed thereto. The selection of the valuer therefore becomes a key consideration, it is important to ensure that the selected valuer is qualified in accordance with one of the key international organisations such as RICS (to qualify and achieve chartered status the valuer must undergo a prescribed period of relevant training, sit a professional examination and maintain annual levels of competence), be regulated by the relevant local authority and have experience in not only the market but also the subject asset class—noting that the valuation of a retail mall has differing challenges/methodologies than say a large commercial property or a land valuation brings to a hotel appraisal.
We are regularly asked to explain how the valuation process differs across the MENAT region—the clear answer is that the methodology should not materially change in any of these locations. Adopting international best practises and the methodology for valuing a shopping mall in Rabat would be no different than the same valuation in Paris and the same goes for Dubai and any other country. Having said that, the market relevance of the inputs will alter by sub-market—whether its rent, discount rates, investment returns, void periods, expenditure recovery and differing tax provisions.
The methodologies mentioned vary depending on the asset class—the most common methods rely on a basis of comparison with other transactions or components of transactions whether that be investment or occupancy. One of the key challenges to the valuer is the availability and reliability of the market data required by the valuer to benchmark or undertake the valuation—for example, for the US it is possible to quickly obtain details about transactions of real estate in the public domain that can be evidence when considering an appraisal.
In the UAE the Lands Department has taken significant steps in increasing its transparency by publishing real estate data that is available to the market to assist in making an informed decision. The remainder of the GCC has yet to follow suit and undertaking valuations in many of these other markets often requires a reliance on data that can not be substantiated. This provides an increased level of uncertainty and as such risk.
The risks associated with valuations have been raised across MENAT and in a majority of the regions now initiatives are in place to register and regulate the performance of valuers—in the UAE this is being managed by RERA and in KSA by Taqeem; in Egypt the central bank has a new policy which restricts the undertaking of valuations to only valuers qualified against their criteria. This is already increasing the awareness of international best practise, the risks around valuations and most importantly provides a level of recourse for investors or borrowers against a valuer where a loss has been suffered as a result of reliance on a negligent or incorrect valuation. It is important for the client to ascertain whether the valuer has an adequate level of professional indemnity insurance to provide this protection and under the regulations of RERA within Dubai, to be a qualified valuer you must demonstrate that your organisation has such insurance in place.
It is expected that investor interest in the region will continue to strengthen as political instability in some of the neighbouring geographies continues and the more established investment markets such as UK and US are in a period of transition following political changes (whether it be Brexit or presidential change). Many regional governments are working on ways to encourage foreign investment into the real estate sectors whether through changing legislation to ensure more transparency or opening financial markets to enable foreign investors to secure capital from the local markets.
There is a continued growth in the REIT markets with established REITS already existing within Dubai and registered on the local stock market, with more recent announcements in Kingdom of Saudi Arabia around several newly established REITs. New legislations has been announced in Morocco that which will further bolster the REIT markets—this not only enables indirect investment into these real estate vehicles but also provides another source of capital interest in the investment markets.
We have thus far focused on the investment assets or completed assets, investor appetite and from discussions with lending institutions they have indicated the same selective appetite. The importance of the experience of the valuer in undertaking such appraisals is paramount as these rely on an increasing number of assumptions which the valuer will need to make based on their view of the market whether it be the proposed use of the land, the costs to construct but also and often more importantly the exit strategies both around pricing but also timing.
Despite this limited engagement from foreign groups in the development sphere, several regional developers are expanding their footprints across the MENAT region, notably companies like Eagle Hills from within the UAE who have recently announced a number of major projects across the region. There continues to be interest in large development and infrastructure projects from several of the state companies particularly in China but despite their obvious track records globally the tightening of export capital is resulting in these groups looking a lot more selectively at these projects and certainly the valuation becomes a very important piece of their consideration puzzle.
Finally, it must be said that the valuation is often seen (especially in the financing world) as merely a process piece and more so another document needed to close a mandate. One should never underestimate the importance of this valuation process and certainly always make sure the valuation process is robust and that the valuer is experienced in what is being asked. You would not risk your health with a surgeon who has no experience just because he was the cheapest—why would you do it with your real estate?