Valuation accuracy in vacant office properties: A comparison between appraised cap rates and transaction cap rates

This thesis studies the determinants of capitalization (cap) rate, a rate of return on real estate investment, which reflects the risk associated with the property investment. Capitalization rate is a real estate valuation measure used in the most common valuation method in the Netherlands, namely the direct capitalization method. Due to limitations associated with the commercial real estate market (lack of transparency, information asymmetry, infrequency of transactions, etc.), investment decision making procedures and investment risk assessing procedures (to ultimately determine the property value), are prone to some uncertainty. These procedures are mostly combined with a qualitative assessment, due to difficulties in identifying the risk sources in real estate investment and the complexity of measuring it, which resulted in uncertainty and inaccuracy. To define the risk sources more specifically, this thesis aims at determining the cap rate components and quantifying the qualitative aspects of investment decision making and property valuation, by decompounding the determinants of capitalization rate. Because the risk is decompounded, the resulting cap rate model is more structured and flexible, which reduces the uncertainty and qualitative aspects of risk assessment procedures and helps to solve the problems associated with assessing the real estate investment risks. As a result, a new model is created which enhances the accuracy and consistency in real estate valuation, as it creates a dynamic and flexible method to measure the cap rates which can be used by many market parties (investors, appraisers, developer, etc.) to more precisely identify the risk inherited in the property investment which ultimately leads to determining the property value more accurately.