Capitalized earnings method
The income value method is used to determine the value of income objects by capitalizing the net income that is permanently generated with these objects ( income value = present value of the future surpluses from income and expenses or payments and payments). It is used in particular when evaluating a company or a rented or leased property.
Capitalized earnings method in the real estate sector
The discounted earnings method is particularly useful for properties where the long-term achievable income is in the foreground for assessing the value on the market, for example:
- Rental residential properties (apartment buildings)
- Commercial properties (office and commercial buildings, shopping centers)
- Special properties (parking garages, petrol stations, hotels, logistics areas)
- Mixed-use properties
Usually, the capitalized earnings method is not used for owner-occupied residential properties or real estate such as B. One- and two-family houses as well as condominiums , the value of which is usually applied in the comparative value method (possibly additionally in the real value method). The capitalized earnings method is usually not used for rented or specially equipped special properties, such as B. special production facilities, infrastructure facilities such. B. Railway stations , cultural real estate and military properties.
German capitalized earnings method
In Germany, the capitalized earnings method described in the Real Estate Valuation Ordinance (ImmoWertV) [until June 30, 2010: Valuation Ordinance (§§ 15 to 20)] and the valuation guidelines are predominant. A special feature is the splitting of the valuation of land on the one hand and the valuation of the building on the other. In the base case, the yield approaches are on the one hand permanent and on the other hand finite (assumed remaining useful life).
First of all, the value of the land is determined, which is to be done in the comparison value method , with value-influencing circumstances such as B. rights in rem are to be adequately taken into account. A permanent rent to be achieved is then determined based on the size, quality, equipment, marketability, etc. of the rental space . Insofar as the current rent is above or below this, this can be taken into account by (to be capitalized) surcharges or discounts.
The total of all income achievable annually results in the gross operating income . The portion of the management costs that cannot be passed on to the tenant must be deducted from this : operating costs, administrative costs, maintenance costs and the risk of loss of rent (irrecoverable rent arrears in the sense of bad debts , permanent vacancy is to be shown elsewhere, e.g. gross profit or as a risk surcharge for the property interest rate (LZ) ). This results in the net income before deducting the interest on the land value, i.e. the cash flow actually available to the owner from the property ( net operating income ).
The land value is multiplied by the LZ, which is empirically determined by the expert committees . The amount of the LZ depends on the location (region / city / street) and use of the property. The suggested value may have to be adjusted individually for each object before use, i.e. H. an uncritical takeover is not recommended. The result is the interest on the land value, which must be deducted from the net income before the land value interest. The net income results. This procedure reflects the (fictitious) separation of land on the one hand and building structures on the other hand as independent assets, which is also in line with accounting practice .
Since the usability of buildings is finite, it is important to determine how long the building can be used economically. The NHK 2010 and the specialist literature provide the relevant information. Total useful life minus age results in the remaining useful life , which can be extended if necessary due to renovations carried out. In financial terms, the net income is viewed as a constant payment over a limited period of time and can therefore be capitalized. The so-called discount factor or multiplier is derived from the remaining useful life and the property interest rate, with the LZ representing the risk to which the future cash flows are subject. This factor is derived using financial mathematics or using the table contained in the ImmoWertV. The multiplication of the net income with the multiplier results in the income value of the building structures, which may be adjusted to factors that affect the value such as B. Maintenance backlog is to be corrected. The value of the building structure plus the value of the land results in the earnings value of the developed property.
According to the ImmoWertV, a simplified capitalized earnings method is also permitted, which disregards the land value and the interest on the land value, i.e. ultimately only considers the buildings, similar to the income approach in many English-speaking countries. In this process, the discounted land value becomes part of the earnings value (Section 17 (2) No. 2 ImmoWertV).
For an initial approximation of the value of a property, outside of the standardized procedures, it is also common to multiply the gross profit with a multiplier . The result, however, tends to be inaccurate if not practiced by the appraiser's many years of experience, and is therefore also derogatoryly referred to as "broker procedure". In addition, the result is less transparent than a value determined using the discounted earnings method, from which the value drivers are traceably derived.
International discounted earnings method
In the course of international transactions, international procedures are also gaining importance in Germany. The main difference is that the value of the built-up property is primarily derived from the current rental agreements and the re-letting scenarios. There is no split into income from the ground or from the building. The age of the building plays a lesser role; it is mainly taken into account via increased cost estimates or risk surcharges on the capitalization rate. Compared to the German procedure, this offers both advantages and disadvantages.
The most widely used procedure is the investment method or income approach . The permanently achievable net income is derived from the buildings (similar to the German method, however, in the Anglo-Saxon region, depending on the design of a rental agreement, significantly more management costs are allocated) and capitalized as a perpetual annuity , i.e. H. the remaining useful life is regarded as infinite. This is not a problem for buildings with a long remaining useful life, as the cash value of the income tends to zero from the 30th year at the latest. The discounting is done with the yield , i.e. H. an interest rate which, in addition to the risk of future income, also reflects location and building-related influences as well as inflation .
The discounted cash flow method is on the advance internationally . Here, the cash flows in the near term (year) are determined individually for each period and only assumed to be constantly increasing in their development over the medium to long term. The advantage of this approach is the detailed consideration of the respective period, e.g. B. to map upcoming investments etc. Then the cash flows of the periods are discounted to the valuation date, whereby the discount rate can fluctuate strongly depending on the market and the property.
There are certain standards depending on the country or region. The international procedures are carried out by associations such as B. the RICS or TEGoVA codified (Red Book, Guide Bleu etc.).
Company valuations
IDW S1 - Principles for conducting company valuations (Germany)
In accordance with the company valuation standard IDW S1, the company value is determined using the discounted earnings method by discounting the financial surpluses that accrue to the company owners.
The capitalization interest rate consists of a base rate of an alternative investment (quasi-risk-free capital market investment) and a risk surcharge is applied and personal income taxes are taken into account. The personal income taxes are assumed with a standardized interest rate of 25% (flat tax).
KFS BW 1 - Expert opinion on company valuation (Austria)
The expert report KFS BW 1 was issued by the Chamber of Public Accountants . The company value is determined using the discounted earnings method by capitalizing the net inflows to the company owners.
The capitalization rate depends on whether an objective or a subjective company value is to be calculated.
When calculating a subjective company value, reference is made to the specific, individually determined relationships with the subject of the valuation (investor).
When calculating an objectified company value, the return on an alternative investment is to be used. Attention must be paid to the equivalence of runtime, risk and availability between the alternative investment and the property being valued. The starting point for determining the return on the alternative investment is a share portfolio (base rate). The KFS BW 1 differs fundamentally from its German counterpart (IDW S1). The base rate is to be increased by a market-oriented risk premium and reduced by a growth discount. Income taxes must also be taken into account.
Swiss capitalized earnings method for companies
Valuation basis
The earnings value is based on the idea that a company is an investment and its value can be derived from the achievable yield and the expected return. Alternatively, a potential successor could consider investing the money in high-yielding securities. Like this, the invested company price must also generate sufficient income in the form of future profits. The decisive factor is therefore the future profitability, which is estimated on the basis of a budget over a period of 2 to 5 years. From this, the successor can use the income to finance not only the investments required in the company, but also the interest and amortization payments (debt service) from the takeover of the company. The operating substance is only a means of achieving the purpose; namely to achieve the operating income and is not taken into account. In contrast, the non-operational substance is valued separately and added to the earnings value.
calculation
With the pure capitalized earnings method, the company value is calculated using the following formula:
where operating income denotes the average, adjusted operating income and the capitalization rate of return.
Derivation: the capitalized earnings value corresponds to the sum that would bring the same income as a bank balance with the same interest rate.
The estimate of future income is therefore based on the average adjusted operating income i. d. R. the past three years. When determining this, the annual results are adjusted with regard to non-operational, non-periodic and extraordinary expenses and income as well as an objectified entrepreneur's wages.
The risk components
The capitalization rate of return λ can be calculated with individual risk components as follows, whereby the corresponding figures may vary in specific situations and are only rough examples here:
- Risk-free interest rate for federal bonds: 3%
- Immobility surcharge: 2.5%
- Deduction for inflation protection: - 0.5%
- Risk surcharge: 5%
in this case results in the capitalization interest rate λ = 10%
With the discounted earnings method, the difficulty usually lies in determining the capitalization interest rate, as this has a significant effect on the amount of the company value. In the specific case, this depends on the level of the respective risk assessment and the assumption of future interest and inflation developments. The determination of the risk premium is influenced by factors such as the accuracy of the determination of the future surpluses (fluctuations in profits), the company's financing structure, the legal form, the industry, the competitive situation, the internal organizational structure independent of the transferor, the corporate culture and resaleability.
Problem
(1) The risk-free base rate is due to the global influence of the money and capital markets and is an important indicator for the money market. Since summer 2012, the risk-free interest rate for federal bonds has left the usual empirical range. Above all, the Swiss federal bond fell well into negative interest rates. (2) The understanding of immobility has also changed due to the general investment crisis and is almost negligible. (3) In Switzerland, negative inflation was measured from 2013 to 2016.
Depending on the country, domestic economy and global influence, the risk component models between the value of a company / property and its risk measurement may not be consistent. An evaluation buffer (output) is created triggered by the uncertainties in the test criteria (input). Valuation buffers are not permitted , depending on the accounting regulations .
literature
- Schmidt, Karin. A comparison between Austrian and Anglo-Saxon valuation methods with a focus on the capitalized earnings method with special consideration of the return aspects Vienna 2004, master thesis real estate courses of the TU Vienna.
- Metzner, Steffen / Erndt, Antje DCF evaluation and key figure systems in real estate controlling 2nd edition, Sternenfels, 2006, ISBN 978-3-89673-251-4 .
- Sprengnetter (Ed.): Real Estate Valuation - Textbook and Commentary (Volumes 5-13 ) Sprengnetter GmbH, loose-leaf collection, ISBN 3-937513-02-7 .
- Goetz Sommer, Ralf Kröll: Textbook on real estate valuation: Taking into account the ImmoWertV and the Luchterhand (Hermann) material value guideline , 4th edition, May 2013, ISBN 978-3-804130920 .