Lot Price Coefficient of Undeveloped Suburban Land Price: A Description of Markets or a Valuation Method?

"The market for suburban undeveloped land in Finnish is thin. Because of public-private partnerships it may have got even thinner recently, and valuation of raw land is difficult. In valuation the business and legal practice has started to prefer income approach to sales comparison method. However, as there is a complete set of price attributes factored in the sales comparison method, it should perhaps be preferred to the income approach. In my paper I offer an elaboration to the sales comparison method, which is based on the relationship between lot prices and raw land prices, called ""lot price coefficient approach"". How is the lot price coefficient defined and measured? How can we use it to get a structured view of the markets of undeveloped land? Is it also possible to use this coefficient to valuation of undeveloped land? How to define a lot price coefficient? In the suburban context the most natural benchmark is the price of lots for single family houses. The market for such lots is thick, and a value of lots can be estimated almost anywhere. The demand for raw land is derived from the demand for housing and other real estate services. In an intermediate level the demand for raw land is derived from the demand for lots. Hence factors affecting the value of residential lots should affect the value of raw land. In practice the impact of most of these factors is impossible to measure in the context of raw land. There are factors that affect the value in all levels of the production chain. Some factors, on the other hand, are specific to certain level. The common factors are: time (trend and cycle), macro location (access to centres, administrative subdivision: local services and local taxation), micro location (mainly visavi sea, lakes and road network). If these general price factors, location and time, are dominant enough and if they affect similarly to lots and raw land, then the price of raw land can be valued by lot prices. The empirical analysis supports the reasoning. The analysis is based on 8700 lot and 830 land transactions on larger Helsinki metropolitan area. Four hedonic price models were specified and estimated: Income approach and lot price coefficient approach have much in common: in both methods the value of raw land is derived from the lot value. The link, however, is derived in fundamentally different ways. In lot price coefficient approach comparable sales produce the link. In income approach the link is calculated by cash flow and discount interest rate. In my way, the income approach may be too hypothetical to use appropriately. The risk premium, which is factored in the discount rate, is a prime example of an utmost hypothetical parameter. In lot price coefficient approach basically two parameters are needed, both of which can easily by grasped intuitively and elaborated systematically if needed. The lot price coefficient is a useful way to give an overview of raw land market. At the same time the method gives a detailed look at the strong spatial effects affecting the value (see figure 4 in the appendix). With tables, pictures and hedonic and spatial models the effect of other factors in the lot price coefficient could be presented. How reliable the lot price coefficient approach is as a valuation method? The coefficient varies a lot in some dimensions, in other dimensions it's reasonably stable. Presumably the lot price coefficient approach is a general intuitive model, which is already widely used but perhaps unconsciously. As far as I know it's not used, however, in valuation statements, perhaps because it's regarded as unscientific. It's not unscientific, but has logical grounds on the derived demand of locational and other housing characteristics. It would be even more useful, if it were elaborated systematically with hedonic models and spatial economics. In my paper some elaboration is given. In some dimensions this coefficient is stable, in some other dimensions it varies a lot. This is critical in the choice of comparables. Knowing the critical and stable dimensions the best use of a limited number of comparable land transactions can be made not wasting any useful comparable. On the other hand, there usually is plenty of comparable lot transactions. With this information the undeveloped land can be valued in a very intuitive way. Based on empirical analysis included in the paper, some practical valuation rules are given. "