Monday, October 29, 2012

Appraisal in St. Maarten

The property was a 20-acre hillside, ocean view parcel, improved with a 10,000 square foot home. The top half was zoned for conservation only, but the bottom half had an approved subdivision plan allowing 1200 square meter (13,000 square foot) lots. There were picturesque views of a bay and yacht harbor.

The home had been built in the 1970s and still had a few, dated design features from that time period, such as mirrored ceilings and flagstone facades, but was being renovated in preparation for the winter rental season, when it typically rents for $5500 per week. It had just received a new roof, kitchen and air conditioning units.

The buyer had not disclosed that the he was also the real estate broker who had listed the combined property for sale for the last 4 years at a price of $15 million. (Nothing else in the area had sold in the last 4 years, either.) The buyer offered $5 million, and the offer was accepted. Based on a cost approach and an income approach (based on weekly vacation rental rates) plus an estimate of value for unimproved, hillside land with ocean views, I validated the $5 million offer to be at market value.

Ordinarily, a scenario like this would result in a funded loan, but the buyer hired his own local appraiser to appraise the property for $36 million, and was intent on requesting an $18 million loan. He seemed quite insistent that he should be able to buy such a property for no cash down and also be able to pull $13 million out of the deal.

Similar to my discussion in my last Costa Rican post, it seems that there are many property owners and their pet appraisers who insist that highly sloping raw land is just as valuable as flat land. It is actually less valuable because of the extra costs to develop the land, but in the end, the finished lots are worth more becbause of the views.  In the mean time, it takes a lot of money to convert hilly terrain into finished lots. In this instance, too, the local appraiser assigned the same value to the unbuildable Conservation land as to much smaller flat, buildable parcels in the neighborhood. This is what makes lending on land particularly vulnerable to fraud.

Some other lessons to be learned here are:

1. Borrower-ordered appraisals are not taken seriously by lenders.
2. Requesting a cash-out loan for 260% of the purchase price is not likely to be taken seriously, either.
3. The market for luxury residential real estate in the Caribbean is still weak, just as it is in most other tourist destinations of the world.

It never ceases to amaze me, too, when a seller or broker fails to take their listing of the property off of the Internet before representing that the property has a much higher value.

I saw the same thing last week in Santa Fe, New Mexico, with a property currently listed for sale for $6.9 million, having been listed for sale for nearly 3 years, with an application for title insurance in the amount of $4.5 million in favor of the buyer, but the only purchase document I received was an unsigned, post-dated purchase contract for a price of $8.5 million (with $4 million in seller financing). Considering that the $4 million in seller financing was the exact difference between the contract purchase price and the amount of title insurance, one can conclude that the $4 million second mortgage was a "soft second", a forgivable loan meant to inflate the purchase price and trick the lender and appraiser in believing that the $8.5 million purchase price represented market value.
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Central American Real Estate Horror Stories

I received another such phone call today. Today the offending country was Panama, but sometimes it is Costa Rica. I asked, “Did you get legal representation before you purchased the land?” The answer was “I didn’t know how to find an attorney down there, so I just went with the one recommended by the seller..” I asked, “Did you get title insurance?” The answer was “No. The title company thought it was a scam.” I’m short on time today, so let me just present 3 “musts” for investing in foreign real estate:

1. Get title insurance. It has become available in many countries where it did not exist before. If the title insurer won’t insure, that is Red Flag no. 1.

Get to know this "scent" before investing in Latin American real estate

2. Get independent legal representation. This means never use an attorney recommended by the seller. That is Red Flag no. 2.

3. Keep your property secure from squatters. If you do not plan to occupy your property, make sure that someone is there to keep the squatters off. Whether it is Latin America or Africa, once they’re living there, you will have a hard time removing them. Recall my previous post linking to a YouTube video of a desperate British investor who has fought for 14 years to remove squatters from his property in Costa Rica. My advice: If you’re just buying a vacation home, buy in a gated community.

Monday, October 8, 2012

Appraisal of Beach Land in Bahia, Brasil

This assignment was to value an L-shaped beach parcel, with the wide end of the parcel situated more than 1 km from the beach. 

The subject parcel had already been approved by the local small town for a 900-lot residential development, and about 200 lots were sold before sales dried up 2 years ago.  One problem in selling lots was competition from other projects. This town, which had grand growth ambitions, had already approved 16 such projects, and the adjacent project had sold only 150 lots out of 735 before pulling the plug on development. If every approved home had been built, this small town would have expanded several times in size.

To re-energize sales, this developer was planning to reconfigure the project at a lower density and include a luxury hotel with amenities.  This new plan had not yet been submitted to the city for approval, nor had there been pre-sales activity.

Despite all the “planning approvals” dispensed by the town, there did not seem to be a concomitant plan to improve the transportation infrastructure in this area.  The approved projects consisted of vacation residences and hotel rooms, and tourists would generally be coming from the airport and large cities to the south.  However, this town can only be reached via a two-lane highway divided by an estuary that can only be crossed by ferry.  The ferry seems to run at full capacity already.  Imagine the strain on the ferry service when several thousand more people have relocated to this town.
   Main highway separated by ferry crossing
Debate about beach land valuation methods

 There is more than one way to value beach land. Some appraisers use “price per hectare” while others use “price per lineal meter of beach”.  I am in the latter camp for the following reason:

An appraiser or valuer takes raw sales data and tries to make order out of chaos.  This is often done with adjustment grids or calculation of price-per-unit indicators, such as price per hectare, price per meter, or price per room. The object of this process is to adjust comparable sales data into as narrow a range as possible so that a definitive estimate of value can be made with little room for doubt.

 In valuing beach properties, I have found that price per lineal meter of beach to be anywhere from slightly more correlated to significantly more correlated with sales prices than price per hectare.  The greater the variety of shapes, the less valid is the use of “price per hectare” as a unit of value.  This is intuitive, as a parcel with 400 meters of beach front and 100 meters of depth will be much more desirable than a parcel with just 100 meters of beach front but 400 meters of depth.

My use of “price per lineal meter” was contested by the mortgage broker, who thought that I should rely exclusively on “price per hectare”, which can be a valid technique under certain circumstances, namely that the size and shape of the parcels should be similar.  In this particular case, the subject property had only about 350 meters of beach front, while most of its lots were situated more than 1 km from the beach.  In other words, most potential residents in this project would be living far from the beach, and level terrain precluded having beach views. All of the 9 comps I found had better ratios of beach front to total area.

When I have doubts about which unit of comparison to consider, I calculate a coefficient of variation for each unit of comparison.  The "coefficient of variation" is simply the ratio of the standard deviation of the sample to the mean of the sample.  A low coefficient of variation means little variation and a narrow range of indicated values.

 In the case of price per hectare, the coefficient of variation was 1.68. Whenever the standard deviation is so much larger than the mean, you have a statistically meaningless relationship.

I then applied the same analysis to "price per lineal meter of beach". In this case, the coefficient of variation was .48, signifying a much higher correlation between price and lineal meters of beach front. When I removed the two most geographically distant parcels from my sample, the coefficient of variation fell to a remarkable .133 for price per lineal meter.

The point of this post is that differences in shape and beach frontage can cause significant variations in the value per hectare for beach properties. Value per lineal meter of beach front is the more reliable indicator of value.

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Ecuador Revisited

The property north of Quito, near 10,000 feet above sea level

My previous Ecuadorian land appraisal reports [see July] were not favorably received by the loan applicant when I valued the two properties as the marginal agricultural land that they were. Besides, this loan applicant had not even received solar farm licenses yet nor had purchased the parcels or presented purchase contracts. The rebuttal was that Ecuadorian land was much more valuable than California solar farm land that I was used to appraising, a concept that sounds somewhat silly since I receive International Living and Pathfinder Alert e-mails every week declaring Ecuador to be the ultimate real estate bargain.
The farm in Guayas. The unique trees are called "ceibos".

The developer pointed out the massive profits to be made in solar farming – so profitable, in fact, that the location or choice of land did not matter to him.  This rebuttal proved counterproductive to his wishes, as my client is a collateral lender who was being offered only the land as collateral for their loans.  There were no solar farm improvements on these parcels, nor were there solar farm licenses. 
If 99% of the value of a solar farm is in the improvements, then very little of value was being pledged as collateral for the loans, leaving the loan almost unsecured prior to the receipt of solar development licenses and their subsequent development.  This is not a desirable position for a lender to be in, and is particularly unacceptable to a collateral lender.
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