(In accordance with RICS Red Book 2025 / IVS)
1. INTRODUCTION
The cost approach is one of the three principal valuation approaches recognised under VPS 3 – Valuation approaches and methods in the RICS Valuation – Global Standards (Red Book 2025).
It is based on the principle that a buyer will not pay more for an asset than the cost of acquiring or constructing an equivalent asset with the same utility.
This approach is particularly relevant where market evidence is limited or where the asset is specialised and rarely traded.
2. DEFINITION
An approach that provides an indication of value using the principle that a buyer will pay no more than the cost to obtain an asset of equal utility.
3. CORE PRINCIPLES
- Substitution:Buyer won’t pay more than cost of equivalent asset.
- Cost & Depreciation: Value = Cost minus depreciation.
- Utility: Focus on equivalent usefulness, not exact copy.
4. METHODOLOGY
4.1 LAND VALUE
Land is valued separately, usually using market approach.
4.2 COST ESTIMATION
- Replacement Cost: Modern equivalent asset
- Reproduction Cost: Exact replica
4.3 DEPRECIATION
- Physical deterioration
- Functional obsolescence
- Economic obsolescence
4.4 FINAL VALUE
Value = Land Value + (Replacement Cost – Depreciation)
5. DEPRECIATED REPLACEMENT COST (DRC)
The current cost of replacing an asset with a modern equivalent, minus depreciation.
- Used for specialised properties
- Public sector assets
- Rarely traded assets
6. COMPLIANCE (RED BOOK)
- VPS 3: Used when market data is limited
- VPS 2: Supports market value / DRC basis
- VPS 4: Requires accurate cost and inspection
- VPS 5: Models must be transparent
- PS 2: Requires professional judgment
7. ADVANTAGES
- Useful when no market data
- Works for specialised assets
- Good for new properties
- Based on construction logic
8. LIMITATIONS
- Depreciation is subjective
- May not reflect market demand
- Less accurate for old assets
- Ignores income potential
9. APPLICATIONS
Suitable for:
- Schools, hospitals
- Industrial plants
- Infrastructure assets
- New buildings
Less suitable for:
- Investment properties
- Active market assets
10. MULTI-APPROACH ROLE
- Primary for specialised assets
- Used with income/market approaches
11. CONCLUSION
The cost approach is essential for valuing assets where market or income data is limited.
It provides a structured method based on replacement cost and depreciation.
Its reliability depends on accurate cost data and professional judgment.