introducing the cost approach

INTRODUCING THE COST APPROACH

Chapter 11

Base costBuilder’s profitBuilding shellBuilding size and shapeComparative square-footmethodConstruction classificationCost approachCost manualsDesign type or Use typeDeveloper or entrepreneurialprofit

Direct costsHistoric costsIndex methodIndirect costsLump-sum costsQuantity survey methodReplacement costReproduction costStory heightUnit-in-place method

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CHAPTER TERMS AND CONCEPTS

LEARNING OUTCOMES

1. List the five basic steps in the cost approach.

2. Define the terms reproduction cost and replacement cost, and explain their use in appraisals.

3. Name four methods of estimating costs and explain when each is used.

4. List the direct and indirect costs that make up a building’s total costs.

5. Name the important site, location, and design features that influence the construction costs of a building.

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WHAT DOES COST MEAN?

For Business and Accounting COST = Price Wholesale Price Retail Price Original Price Book Cost

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WHAT DOES COST MEAN?

For Appraisal COST = Cost on Value Date Typical Cost Consumer Level Cost Cost as New

Steps in the Cost Approach

1. Estimate the value of the land as if vacant and available for use. Generally, this is accomplished by the market comparison approach.

2. Estimate the total cost to reproduce or replace the existing improvements as of the date of value.

3. Decide on appropriate amounts for accrued depreciation (loss in the market value of the improvements).

4. Deduct the accrued depreciation from the cost new of the improvements.

5. Add the depreciated cost of the improvements to the estimated land value, in order to arrive at the property value as indicated by the cost approach.

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COST ESTIMATES IN APPRAISALS

Generalized Economic Costs:1. Cost levels as of the date of value, not “book”

costs or historic costs for the building.2. Typical costs to build a building, rather than the

actual construction costs. These two costs could be the same, of course.

3. Costs that include all of the charges to the consumer, not just the cost to the developer or builder. All-inclusive costs are sometimes referred to as “turn-key” costs, where all that the first occupant has to do is to turn the key and move in.

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Defining Reproduction Cost Estimates

• The cost of a duplicate or nearly identical structure, every physical component must be included.

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Defining Replacement Cost Estimates

• the cost to build a structure of similar utility.

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REPRODUCTION VS REPLACEMENT COST

Reproduce a Replica

Subject Property

Replace the Utility

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PRIMARY PURPOSES OF THE COST APPROACH

• Value a New Property

• Value Special Use Properties

• Use as a Check Against Other Approaches

COST-ESTIMATING METHODS

1. The comparative square-foot (or comparative unit) method.2. The unit-in-place method.3. The index (or cost service index) method.4. The quantity survey method.

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STEPS IN THE COST APPROACH

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FOUR COST METHODS

Comparative Square Foot Price per square footUnit-in-Place Price per section of improvementsIndex Price according to original costQuantity Survey Contractor’s method

o Carpentry (Rough & Finish)o Plumbing (Rough & Finish)o Grading (off and on Sites)o Electrical Worko Roofing, etc.

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DIRECT COST ELEMENTS

Construction Costs Include:

Direct Costs Labor Material Equipment Design & Engineering Subcontractor’s Fees

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INDIRECT COST ELEMENTS

Indirect Costs Legal Fees, Appraisals, etc. Interest Insurance Taxes Overhead & Profit Selling Costs

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PRIMARY COST VARIABLES

What Affects Construction Costs? Design or Use-Type Construction Class Quality Size Shape Height Yard Improvements

The Effect of Size on Square-Foot Costs

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Example 11-5

Effect of Shape on Square-Foot Costs

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Example 11-6

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TYPICAL HOUSES SHAPES

Using Online Cost Services

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The increased use of office computers and online data services by appraisers has extended to the task of cost estimating. A number of construction cost providers offer online services that can calculate and report building cost estimates upon order, using specifications that are input by the user.

SUMMARY

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Cost estimating plays a role in each of the three approaches to value. In appraisals, the concept of cost is related to its economic impact. This means that cost estimates are made at price levels as of the date of value. Also, they must reflect the total amount of typical costs that are passed on to consumers. The cost approach is used primarily to estimate the value of nearly new, new, or special-use properties. It can also be a check against the other value approaches.

Manuals and cost services provide average cost figures for many types of buildings and can be expected to include photographs, specifications, and cost-estimating techniques as well.