Commercial Property Appraisers Are Growing In Influence As Market Morphs
This is Part 1 of a four-part Bisnow investigative series exploring the appraisal profession, its importance to commercial real estate and the broader economy and the people and organizations that govern the industry. Read Part 2 here.
In the least certain market in more than 15 years, understanding the value of a property has taken on a recharged importance and a new layer of difficulty. With an estimated $1.2T in commercial mortgages set to mature by the end of 2025 and an existential reset occurring in the office market, commercial property owners are going to the bank in droves, searching for refinancing options to keep their properties afloat.
Those who play a major role in setting values used by owners and lenders to refinance or sell a property are also those who tend to fly under the radar in an industry filled with big personalities and bigger dollar values. Appraisers are needed for just about every CRE transaction and in today’s market have an even larger role as the playing field realigns.
“Beyond the general role of an appraiser in any market, in today's market it becomes even more crucial,” said Keyvan Ghaytanchi, chief investment officer at BEB Capital. “You have a lot of uncertainty as to values. There's a lot of conservative lenders. … When you have volatility, most people just become more conservative to be safe. To have an appraiser who can counteract that a little bit and bring some sanity to the table is always helpful.”
Nearly one-third of office CMBS loans are distressed, according to a May report from the Kroll Bond Rating Agency. The volume of distressed CMBS office loans increased to a combined $52.2B in March, nearly double the $26.6B a year ago, according to KBRA. A total of $525B in loans on more than 58,000 multifamily properties will mature by the end of 2029, according to a report from Yardi Matrix earlier this year.
With this tidal wave of maturing and distressed loans, appraisers will play a key role in setting the values from which the market will begin the next stage in the real estate cycle. Appraisals are also used in lease negotiations, legal disputes, assessing property damage like that caused by inclement weather, and estimating value in a forced sale or auction proceeding. They can also be used by owners to determine the feasibility of a renovation or conversion. Each of these business cases has become more common and crucial in the last five years.
The increased need for appraisals is already evident.
Business slowed considerably over the past couple of years with a falloff in deal volume, but ticked up in May for some appraisers, according to Katie Parsons, an executive managing director and national industrial sector lead for JLL value and risk advisory. She has seen increased asks from clients for appraisals on troubled loans and new transactions.
Clients request independent, third-party appraisals to get loans for new deals, to refinance or extend existing loans or for quarterly reporting. To determine valuations, appraisers use a host of data points, including the sales of comparable buildings, net operating income and cap rates, as well as their professional judgment.
But with a profession that blends art and science, fact and subjectivity, distilling the many data points that lead appraisers to their final determination can lead to disagreement, or at least confusion.
Ron Dickerman, president and founder at Madison International Realty, said his company uses outside appraisals every quarter to evaluate its assets. In the fourth quarter of 2023, Madison’s appraisers came back with dramatically reduced valuations that the company didn’t agree with because it had already written down some values, he said.
“We were like, ‘Holy moly, where did those values come from?’” Dickerman said. “They were sort of extrapolating, they were picking up little tidbits. They were looking at the trajectory of where they think office buildings had gone. We have a little bit more of a rosier picture. We think office has probably bottomed.”
Dickerman’s company made decisions based on those values, which, in hindsight, he believes could have gone another way.
“We wouldn't have taken that dramatic writedown in the fourth quarter of ‘23 that our appraisers had recommended, and now as I look back on it, I think they were too draconian,” Dickerman added.
The union of art and science in the appraisal process can lead to a subjective system in which the CRE players asking for appraisals engage in a back-and-forth with appraisers, said Dan Melaugh, head of real estate at EM Investment Partners.
“There's a window of science within which they operate,” Melaugh said. “But anyone who's played with an Excel model for a commercial real estate property can tell you that the end value is very sensitive to any number of inputs in that model. So you can move the values around as you need.”
There were about 77,600 property appraisers and assessors across the country as of 2022, according to estimates from the U.S. Bureau of Labor Statistics. Appraisers often operate outside of the spotlight, a final valuation hurdle dealmakers have to clear before they close a transaction.
“Appraisal is one of those things that clients are always like, ‘Dang it, I have to get an appraisal,’” Parsons said. “Unless you're a big group that does their own appraisals, which very few of them do, you cannot self-perform and have any confidence with the market. In a lot of ways we just are someone that they can't control. We're an independent third party. So in that sense, we're a necessary part of the ecosystem.”
The difficulty of appraisers’ work snowballs in a down market because of the smaller number of transactions they can use to make determinations. They said the backward-looking nature of appraisers’ valuation process hamstrings them in a market environment with fewer comparable sales and doesn’t allow them to appropriately account for projected future values. The subjective nature of the field can also lead to discrepancies in valuations of the same property from different appraisers.
Investors, on the other hand, look forward and make decisions based on where the market is headed rather than where it has been. It is this reality that leads some in the industry to place more importance on the eventual sales price of a property than its appraised value.
“At the end of the day, for any type of asset, appraisers could come up with whatever numbers they want. And I’m not saying they’re right or wrong,” said Robert Gilman, partner at Anchin’s Real Estate Group. “The only thing that's really going to tell us the tale of where the market is, is transactions. Because you can appraise every single building, it's what somebody's gonna pay for it. It's what somebody's going to sell it for.”
Still, the stakes are high because bad appraisals can negatively impact how seriously CRE players take appraised values, said Walter Duke, head of Walter Duke + Partners and former mayor of Dania Beach, Florida. Appraisals are still the foundation on which deals and negotiations are built.
As the starting point for so many conversations with sometimes billions of dollars attached, there’s also a pressure that exists in the appraisal industry and underscores its overall importance.
“They're always under pressure from those funds, or from the buyer or the lender. They're always going to be under pressure, depending on who's paying them,” Rexford Industrial Chief Investment Officer Patrick Schlehuber said.
Dickerman said while a give-and-take exists in the appraisal process, there are professional standards and guidelines to prevent undue influence from clients. There are earnest discussions over what a value settles on, and the client may bring up additional information that an appraiser may not have initially considered, he said. But it isn’t the case that a client will tell an appraiser they need to hit a certain number or they won’t have a job, Dickerman said.
Beyond the professional regulations that safeguard the appraisal industry, market activity and investors act as a regulatory check on appraisals, Parsons said.
“If they get an appraisal back that makes no sense, investors are going to scream,” Parsons said.
As markets continue to rapidly evolve, appraisers have to keep up with changing values.
Parsons does quarterly reporting for clients, during which her team checks the pulse on the market and projects where it thinks values will be at the end of the quarter. She said the last six quarters they’ve been off on where they thought values would be compared to what they ended up with because of the fast pace of the market.
“We will never be capital markets,” Parsons said. “We will never be the ones out doing the deals, but we will be that neutral party that is the final check on value.”
Dickerman said over the past 10 years, appraisals and fair values have become much more integral into the valuation process of commercial real estate assets. While CRE players have been able to get an appraisal for decades, the valuation mechanic in real estate investments has gotten much more sophisticated using outside appraisal.
He said he believes the role of appraisers will remain a significant one.
“They'll continue to play dramatic roles,” Dickerman said. “The professionalization, the institutionalization of the commercial real estate markets, they're being more and more driven by a third-party appraisal. Big firms are getting bigger, real estate is a professional asset class, people are allocating to the class globally and they want transparency on valuation. This process is here to stay.”
Bisnow reporters Sasha Jones and Matt Wasielewski contributed to this report.
CORRECTION, JUN. 24, 11:15 A.M. ET: This story has been updated to correct the spelling of Walter Duke's name.
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