Lately, I have been noting an increasing reliance on appraisals to establish value and price of a Bed and Breakfast or Inn. In fact, for the reasons discussed below, an appraisal is a very poor indication of value for an Inn.
This is especially disturbing when sellers pay significant amounts of money for an appraisal to establish a price in the marketplace. What is the basis for our concern? Essentially, an appraisal is based on information external to the property being appraised. The heart of any appraisal is a pained analysis of local socio-economic data, such as home ownership, wage and employment data. This information might be important for building a 200 room hotel or locating a manufacturing facility, but that information has little to do with the small Bed and Breakfast with one part-time employee.
A second part of an appraisal includes comparable sales. The problem here is that there are rarely sufficient comparables and the grid is subject to arbitrary judgments. The appraiser usually winds up with inappropriate comparables (hotels) and arbitrary adjustments.
The third part of an appraisal should include an analysis of the business and specifically of cash flow. Some appraisers lacking knowledge of the business skip it entirely. For those who do a business analysis, they should be credited for attempting to produce a future business profile. However, very few appraisers have a basis for developing projections. They usually start with current numbers and project some percentage increase over time.
A Valuation, on the other hand, is based on the existing physical plant and its resultant income capability. It is usually “married” to a detailed and knowledgeable profit and loss statement based on current activity but depending on the current activity makes informed projections against a standard cost analysis.
Essentially, the appraisal takes external data and tries to insert a small Bed and Breakfast into a format designed for hotels and manufacturing plants. The Valuation, on the other hand, starts with the internal workings of the Bed and Breakfast to build a cash flow capability that makes sense.
I would venture to say that most appraisals go unread. Despite that, many people have become slaves to the appraisal number because the bank wants it. This diatribe will have little impact until the banks see appraisals as I do. But if it helps a few buyers and Innkeepers to keep appraisals in perspective, it will satisfy me.