If all other attributes of two houses are the same or similar (age, condition, finishes, location, lot size) then we will almost always see the price per square foot being lower for the larger of the two houses if there is a decent difference in the sizes of the two houses.

Stated differently, if we look at five homes that have sold in a neighborhood and we find the following...

House 1 = 2,000 SF and sold for $168/SF  ($336,000)

House 2 = 2,050 SF and sold for $167/SF  ($342,350)

House 3 = 1,985 SF and sold for $168/SF  ($333,480)

House 4 = 2,025 SF and sold for $169/SF  ($342,225)

House 5 = 2,003 SF and sold for $167/SF  ($334,501)

...and then if we looked at a sixth house in the neighborhood that is 3,000 SF, would it be reasonable to calculate the average price per square feet of the first five houses and then use that to calculate the value of the sixth house?

Average PPSF of First Five Houses = $167.80 / SF

Projected Value of Sixth House = 3,000 SF x $167.80 / SF = $503,400

So... is that reasonable?  Will this sixth house sell for $503,400 while surrounded by houses that are selling for $330K to $345K?

Probably not.

Generally speaking, the larger the home, the lower the price per square foot.  Thus, we can't reasonable use the PPSF of smaller homes to accurately predict the home value of a larger home. 

A seller would love to use the logic above to conclude that their home is worth $503,400 but buyers (and an appraiser) are not likely to agree.

The reverse is also true... we can't use the PPSF of larger homes to predict the value of a smaller home.

House 5 = 3,003 SF and sold for $151/SF  ($453,453)

A buyer would love to use the logic above to conclude that the home they want to buy is only worth $317K but the property owner (and an appraiser) are not likely to agree.

There is a place for using price per square foot for analyzing home value... but it depends on most attributes of all of the homes being very similar... location, age, lot size, finishes, and yes, square footage!