In the latest RES Newsletter, we take a look at explicit DCF valuations in the wake of the recommendations from the RICS Independent Review of Real Estate Investment Valuations.

We argue that the proposed shift to DCF valuations carries both subtle and profound implications. While on the surface, the move appears to bring minimal change since current valuations are already DCF-based, a deeper exploration reveals a potential transformation in the understanding, analysis, and measurement of pricing and risks in commercial real estate.

The predominant focus on comparison within implicit valuation methods removes all emphasis from critical assessment of the associated risks and the determination of appropriate risk premiums.

Implicit valuation prioritises simplicity and ease of comparison at the expense of adequately accounting for the varying levels of risk.

Consequently, reliance on implicit valuation methods has led to a widespread neglect and misunderstanding of risk assessment and pricing within the industry. Investors and stakeholders may become accustomed to relying solely on comparative metrics, neglecting the essential task of thoroughly evaluating and pricing risk.

Embracing explicit valuation methods can help address this gap by ensuring a more thorough and transparent evaluation of risk premiums in investment decisions.

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