For What it’s Worth: Valuing Property Investment Companies
Earlier this year, we published The Price is Right: Valuing Trading Companies (8 February 2021) which provided an overview of the various methodologies and principles typically used to value unquoted trading companies. In this article, we will set out how we value property investment companies and the kind of factors that must be considered in order to reach a robust valuation.
When might a valuation be required?
In our experience, valuations of property investment companies are typically required in the following circumstances:
- Inheritance tax planning
- Sale or transfer of shares
- Matrimonial proceedings
- Family Investment Companies
It’s important to note that this is not an exhaustive list, and a valuation may be required in for a wide variety of situations.
1. Assets Method
The premise for using an assets method when valuing a property investment company is that its value derives from the value of the assets that it holds (i.e. land and buildings). This is in contrast to trading companies where the value typically comes from its potential to generate profits. When considering the assets basis, it’s important to consider the both the current market value of its assets and its liabilities.
Current Market Values
The company’s balance sheet may record assets at their historic cost or at an amortised value. Therefore, a revaluation is often required to ensure that the value of the assets used to ascertain the value of the company are reflective of their actual current market value. In some situations you may be able to refer to the rental yields in order to make an estimate, or alternatively rely on the Nationwide House Price Index for an up-to-date estimate. However, in other cases it will be necessary to engage the services of a professional property valuer or chartered surveyor.
As noted above, the principle behind the assets basis is that a hypothetical purchaser would base their offer on the prospect of capital growth resulting in a profit on an eventual sale of the properties. It is likely that this increase in value will be chargeable to corporation tax, therefore a deduction for this contingent tax charge should be taken into account when considering liabilities of the company.
But how much of the contingent tax charge will be deductible? If it is unlikely that a sale of the asset would be made by the company, then only a very small deduction will be appropriate. Likewise, where a sale is extremely likely and a liquidation of the company is imminent then a full deduction may be acceptable.
When determining the level of the deduction, consideration should be made to the following:
- The company’s past record for property sales; a regular pattern of buying and selling property may justify a considerable deduction for contingent tax.
- Evidence of future intentions to sell or retain property.
- The number of properties held; if a company only owns one property and there is no history of property sales, then only a very small deduction would be permissible.
Negotiations for contingent taxation typically start on the basis of a set split figure, and HMRC have been known to find an allowance in the range of 10% to 30% to be appropriate. That said, it is important not to rely blindly on this methodology as an industry standard and each case must be judged on its merits.
2. Hybrid Method
In some circumstances, the value in a property investment business comes not only from the capital growth of its properties, but the ability for these profits to generate profits. This is often the case with Furnished Holiday Lets that can command higher prices for short stays and the provision of services such as hosting and cleaning. Where this is the case, it may be necessary to consider whether a hybrid approach is more appropriate, taking into account both the value of the assets and the earnings potential of the business.
The minimum value for these types of property companies is likely to be the assets held less liabilities, as per the Assets Method approach detailed above. Added to that figure is an additional sum which reflects the ability of the properties to generate profits and goodwill, if relevant. Further information on how to value a business, including the methodology behind the earnings basis, can be found in our previous blog here.
Voting Power & Discounts
As with a trading company, it is often appropriate to apply a discount to account for the difference in voting power a shareholding carries and the disadvantages of holding a minority interest. However, discounts for shares in property investment companies tend to be lower than those for trading companies to reflect the fact that they are a less risky investment.
Valuations cannot be boiled down to a simple mathematical formula. It requires knowledge and analysis of the company being involved, the conditions of the property market, and an understanding of the broader economic background in order to arrive at a reasonable valuation of a shareholding.
It is important to note, especially where the valuation is being relied upon for tax purposes, that the professional standards expected in valuations are getting more rigorous with HMRC employing RICS qualified valuers to review and question valuations. It is therefore recommended that valuations are undertaken by those with the relevant knowledge and experience.