Towards better valuation of shopping centres

18-12-2002

The notoriously difficult valuation of shopping centres may be at an end, thanks to a new valuation tool developed by Rode Valuations.

Property valuers have over the past decade been using equations — generated by the property journal Rode's Report — that use the market rental rate that an office or industrial property commands to calculate its capitalization rate.

The capitalization rate is the property equivalent of the forward earnings yield of equity, and as such is a crucial determinant of market value. Thus property valuers widely use capitalization rates to arrive at market values of income-producing properties, albeit mostly in conjunction with discounted-cash-flow techniques.

Rode CEO Erwin Rode, in the latest issue of Rode's Report, says that arriving at a capitalization rate for individual shopping centres is difficult, as no two shopping centres are the same, and few sales take place. Market rental is influenced by a myriad of value-determinants, such as location, size and tenant mix.

"Even establishing the market rentals of individual centres is a problem, because some landlords as a matter of policy are not prepared to divulge the ruling rental rates of their centres to researchers. As a result, we have no way of directly linking the two most important value determinants — capitalization rates and gross market rentals — to arrive at a value."

However, a solution now seems to be at hand. Through their valuation of a large number of big and small centres all over the country in 2002, Rode linked the capitalization rates as per its Rode's Report surveys (i.e. the capitalization rates by type of centre/centre size) to the gross market rental rate these centres command per 100m² of space.

"In this way we ensured that our resulting capitalization rates were within the Rode's Report survey frame, and we ensured a consistent correlation between capitalization rates and market rental rates. "This relationship between the capitalization rate and market rental rate applicable to 100m² shops now allowed us to build a regression equation to estimate capitalisaiton rates of a centre, given its market rental rate. One can argue that this approach is not 100% empirical, but at least it is internally consistent," Rode says.

"Its widespread adoption by valuers will lead to improved and more consistent valuations of shopping centres, and it will immensely improve the efficiency of the shopping center investment market."

Rode intends to update the new capitalization rate equation regularly in Rode's Report.