What it means
An appraisal is an opinion of value supported by evidence, which is why the report sets out the method used, the comparable transactions relied on and the assumptions made. It is not a guarantee that the asset will sell for that figure on any given day.
Two competent appraisers can reach different numbers and both can be perfectly defensible. Businesses commission appraisals whenever a value has to survive scrutiny by someone with money at stake.
Common triggers include mortgage lending, insurance cover, partner buyouts, reporting the fair value of acquired assets and settling disputes over damage or compulsory purchase. In every case the valuer's independence is the point, so shopping around for a friendly figure defeats the exercise.
Three approaches dominate the field. The sales comparison approach adjusts recent sales of similar assets for their differences; the income approach converts the earnings an asset produces into a capital value; and the cost approach asks what replacing the asset would cost, less depreciation (the value lost through age and wear).
A good report reconciles the approaches rather than quoting only the most flattering one. The most common practical friction is the appraisal gap.
A buyer agrees a price, the appraisal comes in lower, and the lender will only advance funds against the appraised figure rather than the agreed one. The buyer must then find the shortfall in cash, renegotiate the price or walk away from the deal.
Appraisals are dated documents with a limited shelf life. Lenders typically want a report prepared within the last few months, because market evidence moves and an old comparable set stops being persuasive.
Budgeting for periodic revaluation is part of managing any asset-heavy business.
In practice
Real-world examples
Example 1
A bakery chain applies for a loan secured on its production site, and the bank instructs an appraiser before releasing terms. The report values the property at $2.1m against the owner's expectation of $2.4m, so the loan is sized on the lower figure and the owner contributes more equity.
Example 2
An insurance broker asks a plant and machinery valuer to appraise a fleet of injection moulding machines after the client's cover was set years ago on original cost. The appraisal shows replacement cost has risen sharply, and the sum insured is increased to avoid underinsurance at claim time.
Example 3
Two partners in a veterinary practice are separating and cannot agree what one share is worth. They jointly instruct an independent appraiser, agree in advance to accept the report, and settle the buyout in six weeks rather than litigating for a year.
Think of it
An appraisal is like having a professional antique dealer evaluate an old painting you found in the attic before you try to sell it or insure it.
Formula
Calculation
Under the sales comparison approach: adjusted comparable value = comparable sale price + adjustments for features the subject has that the comparable lacks - adjustments for features the comparable has that the subject lacks + adjustment for market movement since the sale.
A valuer appraising a small commercial unit finds a near-identical unit that sold six months ago for $480,000.
Adjustments: the subject has 200 more square feet of usable floor, valued at $150 per square foot, giving 200 x $150 = $30,000 to add. The comparable includes a covered loading bay the subject lacks, worth $18,000, which is deducted. Local prices have risen 2% in the six months since the sale, so 2% of $480,000 = $9,600 is added.
Adjusted value = $480,000 + $30,000 - $18,000 + $9,600 = $501,600.
The appraiser would round this and reconcile it against two further comparables before concluding a final opinion of value, typically stated as $500,000.Case study
Seen in the real world
Halloway Bakery Group is an illustrative, fictional family business that had carried its main site on the accounts at a 1990s cost figure for two decades. When the third generation began planning a management buyout, both sides realised that nobody actually knew what the property was worth.
The independent appraisal came back at roughly three times the carrying amount, using a sales comparison of four industrial units sold within nine months and a cross-check against the income the site could earn if let. That single document changed the buyout price, the amount the bank was prepared to lend and the family's tax planning, and it cost less than a week of the legal fees the dispute would otherwise have generated.
Watch out
Common mistakes
- Confusing an appraisal with a survey or inspection, when a survey reports on condition and an appraisal reports on value.
- Instructing an appraiser and steering them towards a target number, which destroys the independence that gave the report its value in the first place.
- Relying on an appraisal that is two or three years old in a moving market and being surprised when the lender rejects it.
Questions
People also ask
Who pays for an appraisal in a property purchase?
Usually the borrower, even though the lender instructs the valuer and is the client for the report.
Can you challenge an appraisal you disagree with?
Yes, normally by submitting additional comparable evidence or pointing out factual errors about size, condition or use, rather than simply objecting to the conclusion.
How long does a typical appraisal take?
For a standard commercial or residential property, a week or two from inspection to report, though complex or specialist assets can take considerably longer.