Demand for new real estate valuation techniques

Copyright: David Lawson 1996

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Surveyors are† dragging their feet over† valuation reforms, according to a rising tide of criticism by leading figures in the property industry. Two years after the Mallinson Report and almost a year since the Red Book was rewritten, a huge number of issues appear to be going† nowhere, according to† Philip Nelson, a senior partner of Nelson Bakewell and a leading figure in the Investment Property Forum. 'People think they have done the job and are now sitting back,' he says.

Mallinson himself believes some valuers are working themselves out of jobs by clinging to old methods. 'Unless something is done soon, we are going to run into the sand,' he says. Similar frustrations have led† Alastair Ross Goobey, head of Hermes Pension Management, to publicly berate the industry. 'Nothing has changed since the Mallinson report,' he says.

He is campaigning for new† techniques such as discounted cash flow (DCF) to replace traditional† open-market value based on† an all-risks yield. Future-looking calculation of worth rather than market† price is among areas Mallinson said should be explored. 'Traditional methods are not suitable for the modern world,'† says Ross Goobey.

†† Leading developer Peter Freeman, joint head of Argent, has also fanned the flames by† suggesting that the valuation industry† could face extinction if it† cannot adjust to a new order. In future, there will be greater concentration on income rather than capital values, which are merely indications of what happened in the past, he says.One major fear is that even if top valuers adjust, smaller firms around the country will carry on the old ways. The RICS argues that it has made significant inroads through a Red Book 'road show' seen by more than 4,000 members over the last year.

'We still have some way to go, but we knew it was never going to be easy,' says Richard Baldwin of Weatherall Green & Smith, chairman of the Appraisal and Valuations Standards Board. †This does not impress critics, who can be even more vituperative in private.† One prominent valuer said it was 'a disgrace' that the RICS had allowed such issues to continue festering. 'If they† can't get their act together, surveyors will lose†† out† to accountants,' he said.

Eugene Bannon of Ernst & Young said† accountants already carry out property appraisals, although this was not on the scale of big surveying groups. 'We cannot do a Red Book valuation but we do a lot of evaluations' he says.† 'We do not go out looking for business. Clients ask us.'

This is because surveyors are still not giving† a range of valuation methods a client can choose from as the most appropriate for their use of a property.

Smaller accountants seem less of a threat. 'We would not get involved in freehold valuations,' says Chris Christou of the Chartered Association of Certified Accountants, who runs a practice in the Midlands.† Even for investment property, most firms would be wary of the implications† on professional liability, as† they lack detailed market knowledge.

Bank of England executive director Pen Kent has chimed in, warning that inflation will not rectify mistakes in future.† Investors will also be more cautious and an 'accurate and understandable' valuation will be crucial

Another powerful fund manager, David Hunter of Scottish Amicable, is more concerned with accuracy than technique.† He agrees that little has changed post-Mallinson, but argues that is because the emphasis was wrong anyway. Changes in rules were not required, he says.† People merely need to stop overvaluing.

'I still believe there is an enormous amount of this going on, which comes from a lack of realism about the future of buildings. Overvaluations are coming from agents in a competitive environment not giving the truth or not knowing it.'

Mallinson himself† keeps a watching - and at times despairing - brief on his proposals, citing†† personal experience of how some professionals† are digging a hole for themselves by sticking to old ways. He recently advised a client not to use surveyors on a property. 'They kept talking about rents and years' purchase figures. But this was a leisure scheme; a business, where those methods are not appropriate.'

He is also disappointed at lack of progress† explaining changes to clients such as bank managers, many of whom were 'still living in the dark ages'. Jeremy Waters of JLW follows this line, pointing out† that while high-profile financiers hog the limelight, local managers issue 90% of valuation instructions. And they† stick to traditional methods.

Only now are efforts being made to change client views. In the next month or so a† a booklet produced by the RICS in consultation with the† British Banking Association will go out to managers† simplifying the† Red Book recommendations.

'That was a huge document and was obviously not being read,' says Ed Lawton, head of real estate support at Midland Bank.

He insists that managers are not, however,† as black as painted. Those in the Midland ask not just for open market value but also the estimated realisation price, a measure introduced by the Red Book which gives a more current view on what a property would sell for. But chances of widespread use of† techniques like DCF are slim Lawton† says circumstances justifying these methods would rarely arise for an ordinary manager.

Grassroots support† among valuers is also crucial, says the† RICS, using this as a defence against accusations of delays. Priority was given to publishing the Red Book, which covers† suggestions† such as improving communication with clients, and getting this out to the mass of valuers, says Baldwin.

'Most work is done by the chap in Chipping Sodbury, not the high-profile London firms,' adds Nick French of Reading University. In most cases, the traditional all-risk yield method they use is† entirely appropriate, he adds. But they need to† learn about how to approach and report to clients.

The next stage comes in guidance notes being prepared by French and Robert Peto on† complex issues which are firing up people like Ross Goobey, such as differences between worth and price, and methods of carrying out DCF valuations. These have been in draft form for months but the RICS felt issuing them with the Red Book would have given valuers mental indigestion. They are due† by the autumn.

ROSS GOOBEY:† As over-renting, shorter leases and nil inflation become the norm, valuers will have to change or lose their business. Or funds will stop buying.

But surely he could order DCF valuations today? 'That is not the point,' he says. A valuer would come around at the end of the year and give an open market value under accounting regulations. 'That may imply we have made some rotten decisions. You can't build a portfolio based on your own views. The valuation profession dictates what we do.'

MALLINSON: Despite suggesting further studies of new techniques, he chides those who believe DCF will give clients values they prefer.'The correct figure is what the market will pay,' he says. That may or may not be determined by DCF - which itself can be difficult to apply without proper training.† But he believes the industry should work harder to develop† such methods, and is disappointed at lack of progress since his report.

RICHARD BALDWIN: Richard Baldwin, chairman of the Appraisal and Valuation Standards Board is irritated at suggestions that nothing has happened since† the Red Book, pointing out that it has been updated several times. He held back guidance notes on valuation techniques until later this year while valuers learned about the new rules. 'There is only so much you can do at once,' he says.

PETER FREEMAN: Traditional valuations could be heading for obsolescence as the industry changes, according to the joint head of developer Argent. In future there will be a greater concentration on income than capital values, which are merely indications of what happened in the past.

Obsolescence, replacement costs and future cash generation will all play a part. Securitisation will also put emphasis on performance of managers across a portfolio. 'Capital values will become much less of an issue,' he says.

PHILIP NELSON: 'The valuation process has to continuously evolve. I get the feeling that it has sat still,' says Philip Nelson, a senior member of† Nelson Bakewell and the Investment Property Forum.

The Mallinson Report did a lot of good outside London, bringing up quality of valuations. But there was a need for a system which provided figures for different purposes.

JEREMY WATERS: The top 10% of the profession can already provide alternative valuations like DCF, according to Jeremy Waters of JLW. But there is a difference between this† kind of investment advice and the objective current market values that must go into accounts - even if it offends landlords. 'DCF is already used for shopping centres; bids for the Metro Centre† carried out this way were within ú500,000 of each other.'

ANDREW NESBITT - AXA Equity and Law: Dealers have no valuation problems. They know what things are worth. Problems can arise where a valuation department in a big firm is isolated from the real world.

DAVID HUNTER - Scottish Amicable: Overvaluations are coming from agents in a competitive environment. The market is tarnished. We often negotiate values down. The fact that valuers have not changed proves that other problems were more important than Mallinson.

MARK BURTON - United Bank of Kuwait

There is an education process on both sides but there are still banks that do not have a clue. Things have changed. We are asking for, and getting, more detail. No-one should shut their ideas to valuation change because there is a danger that will harm the view of property as an investment.