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Subdivision market analysis and absorption forecasting.

Article Excerpt
ABSTRACT

Market analysis provides data to identify the highest and best use of property and key factors of value that are to be measured by applying the three approaches to value. in subdivision valuation, market analysis must show how the interaction of supply and demand affects the subject property's value. By investigating sales transactions, offerings, listings, and the behavior of market participants for other subdivision properties, an appraiser can ascertain supply and demand relationships. This article explains elements of absorption forecasting for subdivision valuation and offers a case study showing development of an absorption estimate.

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Market analysis is the identification and study of the market for a particular economic good or service. In real estate, this typically is a study of the market conditions for a specific type of property or a specific subject property. Market analysis in real estate appraisal has two basic functions. First, market analysis provides the data input to identify the highest and best use of a property. Second, it provides data input and identifies the key factors of value that are to be measured by applying the three approaches to value. Market analysis can be a separate study from appraisal, but an appraisal cannot be completed without market analysis. This article provides an overview of the market analysis six-step process used in real estate appraisal as it relates to subdivision valuation. A detailed market analysis example is also provided in a case study.

Absorption and Highest and Best Use

Market analysis has a dual role in the appraisal process. It can be used primarily as a forecasting tool in the highest and best use section of the appraisal or it can be used to support a market absorption forecast. Market absorption can be in the form of a lease-up estimate for a proposed commercial building or a sell-out analysis for a proposed subdivision or condominium project. A sell-out analysis is an estimate of the absorption period needed to market the lot or unit inventory. Table 1 provides definitions of key terms related to market absorption.

In the highest and best use scenario, the six-step market analysis process is used to analyze the future timing and volume of demand for a specific use. This process is then applied to a variety of uses identified as financially feasible in the highest and best use analysis to determine the use that generates the highest present value. Accordingly, the six-step process is repeated for each identified use with a supported demand and supply forecast unique to each use being tested. This results in a comprehensive analysis for a property in search of a highest and best use.

In most appraisal assignments the existing use is being appraised or a specific proposed use is being evaluated. In this case the market analysis six-step process is applied to the specific use to be considered in the appraisal. The use is tested against the maximally productive criteria. After the use satisfies the criteria as the highest and best use, the primary function of the six-step process is to support application of the three approaches to value.

In the appraisal of a specific property, market analysis must show how the interaction of supply and demand affects the property's value. Through the investigation of sales transactions, offerings, listings, and the behavior of market participants for other subdivision properties, an appraiser can ascertain supply and demand relationships and investigate the reasoning behind the prices paid for lot or subdivision projects. If current market conditions do not indicate adequate demand for a particular property, the market analysis may identify the point in time when adequate demand for the project will likely emerge.

At the beginning of the market analysis process, the appraiser must clearly identify the real estate product and the real estate market in which the project competes. This is accomplished as part of the review of the development plan, governmental restrictions, and the subdivision marketing concept. These property-specific components are then compared with the surrounding market to determine the economic environment and status of demand and supply as it relates specifically to the subject project. By analyzing the characteristics and attributes of the real estate project, the appraiser can identify competitive properties that constitute the applicable market. Defining the real estate market for the subject property clearly enhances the appraiser's understanding of how externalities affect the property. Through market analysis, the appraiser breaks down a specific real estate market into consumer submarkets or market segments. The submarket is evaluated within the context of the proposed marketing concept for the subject project, which identifies the price points for the subdivision and the price points and location of competing product inventory. The ultimate goal is to forecast a supportable absorption estimate for the subject property based on the supply and demand at the point in time when the project lot inventory enters the market.

To measure the market support for a particular property, the analyst must identify the competitive supply and demand in the subject real estate market both now and in the future. This relationship indicates the degree of equilibrium or disequilibrium that characterizes the present market and the conditions likely to characterize the market over the forecast period. This analysis supports the absorption forecast for a group of existing lots or for a proposed subdivision project. For subdivision valuation, especially for a proposed project, this would usually be as of the when complete date, which is a future point in time. The absorption would begin as of the when complete date and continues throughout the eventual sale of the subdivision lot inventory. The relationship between demand and supply is considered as part of the subject "capture" estimate and may vary over the absorption period.

The Six-Step Market Analysis Process

In appraisal practice, two general methods are used to make current and future forecasts concerning value, absorption, or other market conditions: inferred analysis and fundamental analysis. These methods are related, and fundamental analysis includes all of the components of inferred analysis plus future forecasting using economic base analysis. Both methods use the six-step process to arrive at a market-supported absorption forecast. The six-step process is designed to answer the following questions:

* What attributes does the subject property offer the market?

* Who are the most likely users of these attributes?

* Is the property use needed? (demand analysis)

* What is the competition? (supply analysis)

* What is the condition of the market? (comparing supply and demand)

* How much of this market can the subject capture?

It is impossible to estimate the market value of a property without considering the supply of and demand for the property within a specific time frame. This is especially critical for proposed subdivision projects. Market analysis links value theory and valuation techniques, and documents the supply and demand relationship on which the value estimate is based. Market analysis is also used to identify which use among alternative uses the market supports, and thus helps determine the highest and best use of a property.

The six-step market analysis process for appraisal is as follows:

Step 1: Define the product (property productivity analysis)

Step 2: Delineate the market of property users

Step 3: Forecast demand

Step 4: Inventory and forecast competitive supply

Step 5: Analyze the interaction of supply and demand

Step 6: Forecast subject capture

Levels of Market Analysis

The level of market analysis undertaken in an appraisal is determined by the nature of the assignment and the specific problem confronting the appraiser. Once the purpose and function of the appraisal are identified, the appraiser will select a level of market analysis appropriate to the problem. An appraisal should include a market analysis component that not only fulfills regulatory requirements but also complements the application of the appraisal process. Market analysis using the six-step process can be taken to four different levels, as shown in Table 2.

The two inferred analysis levels are Levels A and B. More comprehensive forecasting methods are applied in the fundamental Levels C and D. As the level of analysis increases from A to D, each succeeding level includes all of the components of the previous levels.

Inferred Analysis

Inferred analysis is simply the use of historical market evidence or trends in the application of the six-step process. These analysis methods, which are described as Levels A and B...

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