How to assess land for a construction company?

Objective

The aim of this article is to determine, among existing real estate valuation methodologies, which is most relevant for establishing a fair price for land from the perspective of a real estate developer or builder. To achieve this purpose, it is necessary, first and foremost, to be acquainted with existing real estate valuation methodologies, as well as their advantages and disadvantages.

Key Real Estate Valuation Methodologies

Market Comparison Method

This is the most common method in the real estate market and involves comparing the price per square meter of properties equivalent to the one being appraised in the local market. Variables such as location, sun exposure, floor, typology, waterfront view, parking spaces, and various others may be considered in this analysis for a more accurate assessment.

Its advantage lies in determining how equivalent properties are being negotiated and sold in the local market. It works well for common property types easily found in the market, such as apartments, houses, certain plots of land, and some commercial properties like offices, stores, and shops.

As a disadvantage, this method becomes imprecise for appraising atypical properties with few equivalent offerings in the local market, such as warehouses, schools, hospitals, and others. Another drawback is that it does not consider the intrinsic value of the property from the perspective of a specific investor.

Evolutionary Method

The evolutionary method of real estate appraisal is an approach that seeks to determine the value of a property considering the reproduction or replacement cost, deducting depreciation, and adding the value of the land.

As an advantage, its technical precision stands out, as the evolutionary method is considered a technical and detailed approach, taking into account specific costs associated with construction and depreciation. Suitable for specific properties, it is especially useful for unique or specialized properties where direct comparison with similar ones may be challenging.

Its weaknesses include complexity, cost, and difficulty in keeping up with dynamic markets where construction material prices or market conditions change rapidly.

Income Method

The income appraisal method, also known as the income capitalization method, is a commonly used approach to assess the value of commercial and investment properties. This method is particularly effective when the goal is to determine the value of a property based on the income it generates.

It is a relatively simple method that considers return on investment and is suitable for investments - its main advantage. However, it depends on the accuracy of income projections, and for certain types of properties, other complementary assessments should be considered. It is also sensitive to changes in capitalization rates.

Involutive Method

The involutive method is similar to the evolutionary method, excluding depreciation, and is combined with the market comparison method, making it quite complex. It aims to price a property based on a hypothetical project, validated by a technical feasibility study. In this method, the estimated value of selling or renting the finished project, as well as its total implementation cost, is considered. This estimation takes into account the market value at the analysis date and the total project cost to determine the value the appraised property should have, aiming to achieve a desired return - it's like working the calculation backward.

It is a technically precise method, suitable for lands where a project is planned, unfinished constructions, and capital-intensive investments. Another advantage is that it determines the value of the property for each project and investor.

However, its disadvantages include complexity, high dependence on income projection assumptions and the investor's minimum attractiveness rate, as well as the difficulty of keeping up with dynamic markets.

Conclusion

If we pause to analyze, the appraised land is the only tangible asset at the negotiation moment where the investor has some control over the cost. The project to be implemented is, at this stage, hypothetical and likely to undergo changes and refinements; its cost is nothing more than an estimate and will vary with that. The project's profitability will be in the long term, and this profitability may deviate from the projected.

Imagine acquiring land at the "market price" without first knowing what to do with it. Therefore, considering the goals and specificities of real estate development, it is understood that, from the developer's perspective, the most suitable method for evaluating land is the involutive method.