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Great Zimbabwe University

Faculty of Social Sciences






QUESTION Approached by a potential client who needs your services in

evaluating his hotel. Explain in detail the methods you would use highlighting the relevant

stages in the valuation process.

DUE DATE 14/09/2015

The valuation of hotels vary widely with the need and use of the value. The purpose of a
valuation determines the method and the approach in which a valuation can be undertaken.
They are various reasons why a potential client can request a valuation. These are mainly for
sale, for purchase, for rental purposes, for tax/rating purposes, for insurance purposes and also
for accounting purposes. The different reasons for which a valuation for a hotel can be
undertaken then gives rises to the different values that should come out and also the different
value indicators that should go with the valuation report to the client. If a client requests a
valuation for sale, purchase, and rating the value to adopt is the open markert value, if a client
request a rental valuation the value to adopt is a rental value, if a client requests a valuation for
accounting purposes the value to adopt is a fair value, and if a client requests an insurance
valuation the value to adopt is the gross replacement cost (Wyatt, 2010). The fact that they are
different values for each request gives rise to the different methods that can be used to arrive
at the said valuation. For the purposes of an open markert value the profits methods is used, for
the purposes of an insurance valuation the cost approach is used, and should the need for a
rental valuation arise the comparison approach is used. According to Wyatt, (2010), property
valuation is based on a set of assumptions put forth by the valuer. It is within this context that
this paper is based on the assumption that the potential client has approached me with intent of
having knowledge of all of the above purposes hence the profits method, the cost approach and
the comparison approach can be used to ascertain the value of the hotel and they are explained
in detail below.

Even though the profits method is a specific and distinct method of valuation, it is frequently
combined with the practice used in the comparable method, with almost each step in the profits
method being related to comparable hotels (isurv). The method is used where the property is
held as part of the business. Where typically the business and the property are inseparable.Such
trading purposes can be regarded as specialised since they are as a result of planning
permission, legal status and unique location (RICS, 2004).It is normally used on cinemas,
petrol filling stations, recreational gardens, golf courses, airports, car parks and other
specialised trading properties. The value of the hotel using this technique is determined more
importantly by its trading potential. It involves the drawing up of an income statement in order
to estimate the profitability of the hotelling property. Normally valuers in valuing other income
generating properties will simply look for comparable rentals and capitalisation rates and infer
them with others attaining in the markert but for the purposes of a hotel valuation profitability
is made to be the function of rental (Wyatt, 2010). However, where there has been robust
growth of the leisure or hotelling industry they will be reasonable rental evidence that can be
used for capitalisation. The profits that then obtain after preparation of an income statements
are also scrutinized for various factors to determine efficiency (Hatzichristos and French,
2003). Audited results are more preferable for the correct determination of profits.These profits
is then analyzed to see their trends. For example in 2010 South African Hotels recorded high
revenues because of the world cup but these revenues are not a good comparable because the
world cup does not happen in South Africa everytime.In short the valuer should look for any
unusual conditions that may affect profit (Wyatt 2010).

The cost of sales figure, and expenses figure should be thoroughly reviewed to see if it is
making sense. The basic formula is to extract the revenue, less cost of sales to arrive at a gross
profit which is less of expenses with the exclusion of interest, tax, amortization and
depreciation. The figure that obtains that is earnings before interest, tax, and amortization
(EBITDA) (Isaac, 2001) . The next step is to determine the hotel`s value using an appropriate
market derived capitalisation yield to arrive at the markert value of the property. This
capitalisation yield is found by comparing initial yields obtaining from similar property
transactions that have been recently completed or simply capitalising the EBITDA with the
investor`s target rate of return to arrive at a capital value (Wyatt, 2010). It can be seen that the
profits methods utilises both the income method and sales comparison approach in coming up
with an open markert value. The second approach can be to take the adjusted profit and take
out a percentage of it to cater risk and operation ,fixtures and fittings ,interest and money
invested in the bussines.The remainder usually 40 -60% is then capitalized to using a markert
based capitalisation rate to arrive at a value. This is known as dual capitalization (Peter Wyatt,
2010).Rees and Howard, (2000) argue that the basis for splitting the two is that rent affords a
more secure profit than business profit. The valuation that obtains here will be premised on the
assumption that the business is and will always at all times be competently managed, operated
and adequately stocked and staffed for the purposes of obtaining a competent profit .

There is also the ‘income capitalization approach’ which is grounded on the principle that the
value of a property is shown by its net return, or what is known as the "present worth of future
benefits."(RICS, 2004). The future benefits of income-producing properties, such as hotels, are
the net income, assessed by a forecast of income and expense, along with the expected proceeds
from a imminent sale (RICS, 2004). Such benefits can be converted into an indication of market
value through a capitalization process and discounted cash flow analysis (RICS, 2004).
A ten-year leveraged discounted cash flow is considered to be the most accurate method of
valuation so long as there is a transparency so that the evaluator can prove the source of all
market assumptions and investment parameters. Once the evaluator has forecasted all future
income and expenditures for the property, then the hotel’s future earnings can be estimated.
The evaluator then assumes an optimum capitalization rate, which reflects the risk of owning
a hotel over that period. The value of the asset at the end of the ten-year period is then projected.
The forecasted earnings and the sale proceeds to the present value based on the investment
parameters and return requirements of equity and debt participants are then discounted (RICS,
2004). Hence, this approach is largely considered the most preferred method of valuation for
income-producing properties, this is due to the fact that it most closely reflects the investment
thinking of knowledgeable buyers.

There is also the sales comparison approach which is based on the assumption that an informed
buyer will pay no more for a property than the cost of acquiring an existing property with
similar utility (Isaac, 2001). To obtain a supportable value, the sales proceeds from the similar
property should be adjusted to reflect the differences between the two assets. While hotel
investors are interested in the information contained in the sales comparison approach, they
usually do not employ this approach in reaching their final purchase decisions. Factors such as
the lack of recent sales data and the numerous insupportable adjustments that are necessary
often make the results of this technique questionable.

The sales comparison approach is most useful in providing a range of values indicated by prior
sales and in establishing an indicator of pricing momentum. However, reliance on this method
beyond the establishment of broad parameters is rarely justified by the quality of the sales data.

The cost approach is based on the assumption that an knowledgeable buyer will pay no more
for a property than the cost of building a brand new property with similar utility (Wyatt, 2010).
The value is obtained by calculating the current cost of replacement and subtracting any
depreciation factors, such as physical deterioration, and functional and economic obsolescence
(Wyatt, 2010). The depreciated amount should then be added to the value of land, as though it
were vacant and available so as to reach an estimated total value. This approach may provide
a reliable estimate of value in the case of new properties, but as buildings and other
improvements grow older and begin to deteriorate, the resultant loss in value becomes
increasingly difficult to quantify accurately (RICS, 2004). This method is however useful in
determining the cost to enter the marketplace or when valuing newer properties.
In most cases knowledgeable hotel buyers base their decisions to buy on economic factors such
as projected net income and return on investment. However, because the cost approach does
not reflect these income-related considerations and requires a number of highly subjective
depreciation estimates, as a result this approach is given minimal weight in the hotel valuation

In a nutshell, it can be concluded that the valuation approach and methodology adopted in the
valuation of a hotel solely depends on the nature of instruction from the client. This has been
reiterated earlier on in this paper. It can also be emphasized that hotels are usually valued based
on the profits obtaining for the hotel business. Hotels are specialized properties, and it is very
rare to find homogeneous with regards to location, aesthetics, building design and profits
obtaining for the business.


Hartzichristos, T., and French, N., (2003), Journal of Property Investment an Finance Volume
21 No 4 pp 383-401

Isaac, D. (2002). Property Valuation Principles. Palgrave, Macmillan.

Peter Wyatt (2010), Property Economics, London University of London,

Rees and Howard (2000). Property Investment, Blackwell Publishing. Virginia: Macmillan

www.rics.org Accessed 8/09/2015

www.isurv.org Accessed 8/09/2015