AN ALTERNATIVE APPROACH TO THE ...

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Peter Bill, editor of the Estate Gazette, exposes the returns on serviced offices of up to three ... internet access has on value (Stapleton and Margetts). This work ...
AN ALTERNATIVE APPROACH TO THE VALUATION OF FULLY SERVICED ACCOMMODATION. RESULTS FROM A PILOT SURVEY.

Alan L. White University of the West of England, School of Land and Property Management, Coldharbour Lane, Bristol, BS16 1QY. Tel. (01179) 656261 Fax. (01179) 763895 [email protected]

Peter R. Dent Oxford Brookes University Gypsy Lane Campus, Headington, Oxford, OX3 0BP. Tel. (01865)483481 Fax. (01865 483927 [email protected] ISBN 0-85406-980-1

AN ALTERNATIVE APPROACH TO THE VALUATION OF FULLY SERVICED ACCOMMODATION. RESULTS FROM A PILOT SURVEY. Introduction.: The intention of this report is to question whether current valuation techniques need to be adapted to reflect a buildings income prospects. Maximum income must be strived for by allowing one of two decisions to be made, either to keep the property in some way or, dispose of it. This has been seen during the last recession and wide spread use of downsizing and asset reallocation. The work will look to the provision of service and distinguish that from a service charge.

Methodology: This report is based on a literature review and pilot survey carried out during the summer of 1999. The main difficulty to be over-come is the lack of written information in this area and to this end valuer’s and providers of property have been contacted for their views together with looking to the American view point of the income approach to valuation. An initial literature review was based on academic and journalistic information sources as well as internet searches. The lack of refereed information and unsuccessful searches resulted in a course of action based on interviews and a questionnaire. A pilot questionnaire was aimed at Bristol serviced office providers. A list of 44 was founded by use of telephone enquiries and Scoot searches on the internet. All serviced office centres identified were located in the CBD, secondary and out of town locations and providers ranged from global to single operators. A database was created in Microsoft Access and the questionnaire was sent out in June 1999. The responses were analysed in August 1999 and interviews followed for clarification of certain ideas. A questionnaire was drafted picking up on the following points: 1.

Current business operation of a Serviced Office.

This allowed investigation of the size and type of accommodation, rental payment levels and rental variation with office size. Locational issues were also sought as were voids in occupancy. The respondents views on their business was also sought in terms of expansion. 2.

What service was provided.

The tariff of service was examined as to what was included in the rent and what others were demanded.

3.

Lease/licence details.

Detail was sought as to occupancy lengths and the type and of agreement made. 4.

Valuation.

This section investigates valuation techniques employed in the valuation of the building, its effectiveness and the effect of variables of yield, voids and profit on service.

Literature review: Naisbitt in his book The Global Paradox identifies the way in which the largest organisations continue to expand and increase profits by concentrate on their smaller constituent companies. Economies of scale allow a greater profit return on turnover. So with a focus on the smaller organisation how can these expand and change to meet the needs of customers? Peter Bill, editor of the Estate Gazette, exposes the returns on serviced offices of up to three times of base levels which can be made in offering very flexible and high specified accommodation in London. However, this is not without risk. Void periods are often associated with accommodation on short term agreements. Also, the percentage cost on service allocation varies tremendously (between 50-90%). In the same issues of the Estates Gazette (30.1.99) more evidence is shown for the large fully inclusive rents being achieved headlined by “Arlington lets serviced space at double normal rent”. These types of deal are being made with major organisations like Volvo and Shell. But with comments such as these very little other information can be found regarding the valuation of such accommodation. More companies are moving into the arena of providing fully serviced space including providing serviced apartments. A very brief information gathering exercise in Bristol of a prime provider of serviced offices shows that income varies with office size but ranges from £80 to £90 sq.ft where the accepted base rent level in the area is £20 sq.ft. In the latest edition of Michael Bretts ‘Property & Money’ (1997) he clearly states that the three main factors affecting values of investment property are: 1. 2.

Rise or fall in the rental value of a building. Rise or fall in the yield basis on which a building is valued.

3.

The approach given to rent reviews or reversion.

An important aspect of his view is the focus attached to the building. Obviously the building cannot adapt to the investors best interests, but management techniques can help. So, in term’s of property investment a decision has to be made regarding whether the investor looks to the longevity of building occupancy or to a legal life, term absolute. Current opinion (RICS ‘Right space, right price’.(1997)) show how lease lengths are diminishing and most organisations will not sign leases of more than 15 years. This may be put down to changing corporate views on business and the use of modern working practices (Dent and White, 1998) but leaves the investor with the need to maximise returns in the short term. This is the area in the market where service offices are making a huge impact. Mark Dixon, Executive Chairman, of Regus, believes that growth is set to continue and is still expanding their global office product (EG 17.1.98). The view that the building income potential should have greater emphasis when considering value is also raised by Fisher and Martin (1991). In their book ‘Income Property Appraisal’ they consider two points: 1. Consider business value (goodwill) - “a non-realty interest is frequently part of a real estate transaction” - common in ‘going-concerns’. 2. “Application of the income approach involves analysing the income producing capabilities of property, forecasting the periodic income and transforming the income expectations into a value estimate.” These points focus on the view of what is income and what can be considered potential income. Other than looking to a base rent taken from comparable market transactions are there ways of enhancing this income level? In an article in the Estate Gazette (10.1.98) ‘Wired up for extra value’ an investigation is made of what effect, if any, offering space with installed internet access has on value (Stapleton and Margetts). This work looked to the rise and use of IT in the work place and the widespread use of modern working practices. The capital cost of installing the Local and Wide Area Networks (LANs and WANs) is recouped by value adjustments. Four possible value routes were set out: a. b. c. d.

Lower yield. Quicker leasing (flexibility). Higher rent. Occupational charge (net occupancy charge).

The answer they suggest involves looking to asset valuations for portfolios of serviced offices.

Results: A pilot survey was sent to 44 serviced office providers and a response of 29% was received. In terms of rent both the smallest and the largest office units were investigated. Illustration of levels of service office inclusive rents shown against local office rents. £90.00 £80.00 £70.00 £60.00 £50.00

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£30.00 £20.00 £10.00 £0.00 CBD

CBD Comparable

Secondary

Secondary Comparable

Out of Tow n

Table 1.0 Comparison of serviced office rents and local office rents.

Within the CBD rents ranged from £57.50 to £90 sq.ft for serviced offices compared to £20 sq.ft for new office lettings. Secondary rents ranged from £29.23 to £41.57 sq.ft compared to rents in the region of £6 sq.ft. Of the response the tenure issue is illustrated by table 2.0

Tenure of Property Assets

Freehold 44% Leasehold 56%

Table 2.0 Tenure allocation.

showing that the majority of property held by serviced office providers is leasehold. This holds implications for valuation with regard to whether the interest is considered an asset or not. The identification of profit rents will be important and bearing in mind the levels of rent, as seen above, profit rents are easily quantified. The view of risk in valuations is based on lease lengths and predictions of void periods. The survey showed that respondents expect this year (financial year 1999-2000) to show an average occupation rate of 91% and this can be contrasted to a current void estimation of 11% for the year end. Length of letting has an important effect on risk. Chart 3.0 illustrates the point that the survey showed that on the whole lettings are for terms less than five years. Profit on service was only offered by a small number of respondents and the response formed two levels of 5% and 20%. This reflect the quality of service, clientele and the location of the premises. These points have a direct effect on a chosen method of valuation. The response to these questions was low, but the chosen method is represented by chart 4.0. This shows that although traditional methods of office valuation still apply alternatives have been sought. The pilot survey shows how the income approach to valuation may be expanded to also cover further income derived from the property and the management system operated in the building to maximise its income potential. Further information was sought and informal discussions were made with valuer’s in Bristol City Centre.

It was interesting to note that a wide variation of valuation methods was again evident. Valuation of this type of property could be seen to be similar to valuing hotels or nursing homes were operating profits were analysed creating capital value. This could lead to value per room dependent on service allocation provided. Other analogies were suggested as to the valuation of bonded warehouses (serviced space) were storage units are rented with a level of storage protection. This could again be capitalised on a space (room) by space (room) basis. The problems which valuer’s encountered were the method of valuation is dependent on the intended use of the building. If the building were to be sold a potential purchaser wanting owner-occupation is not likely to pay for an enhanced income generating premises where so many traditional buildings are available. However, the high costs and time involved in fitting out to serviced office standards may put off prospective service office providers from carrying out the work themselves. Other problems would be to consider the established market for offices. The valuer must be certain that a buildings income capability is being valued and not the operators business, as a ‘going-concern’. This does allow more emphasis to be placed on the methods used for valuing hotels where the building is valued (with service) rather than the hotel organisation or business.

Representation of the most common length of letting achieved.