Valuation Methods and Dark Big-Box Theories.

Author:Sellers, Leslie P.
Position:Peer-Reviewed Article


Widespread concern exists about the broad range in values presented by opposing experts in certain court cases where the subject is a single-tenant property. The relevant market participants--institutional investors, for purposes of this article--do not buy, sell, or use big-box retail properties that are not encumbered by bondable leases to credit tenants. Thus, when required to value these properties in the fee simple estate, valuers must attempt to reflect the thinking of market participants when there are virtually no participants in the relevant fee simple estate market. This article addresses the collection and analysis of data that are as similar as possible to what is being appraised, including any associated leases or other financial benefits or restrictions, and the making of credible adjustments so as to develop credible opinions. Introduction


Courts, market participants, and valuation professionals have become increasingly concerned about the wide range in value opinions presented by opposing valuation experts in ad valorem tax and eminent domain cases where the subject is one or more single-tenant properties. (1) Although the issue is the same with regard to appraisal methods used for retail, industrial, and office properties, the most concern (and the main focus of this article) is related to single-tenant retail properties, from smaller stores to very large buildings housing credit tenant retailers such as Target, Walmart, and others. (2) The concern within the profession reached a level of debate that led the Appraisal Institute to host its 2017 "Property Rights Symposium" (September 6-7, 2017) to enable valuers, educators, attorneys, and market participants to consider ways in which the relevant body of knowledge might be enhanced to support appraisal results. The purpose of those discussions was to ensure appraisals that are more transparent and understandable to judges, juries, attorneys, and others who are not real estate professionals but must make decisions based on the valuation reports. The participants in the Symposium focused primarily on the definitions of ownership interests to be valued. The premise of this current article is that closer consideration of appropriate appraisal methods and techniques also serves a purpose to resolve this debate.

The origin of the current controversy is the relevant market itself. After World War II, commercial real estate came into its own as an investment asset class, truly arriving with the Employee Retirement Income Security Act of 1974 (ERISA). With the arrival of ERISA, real estate was no longer a "prohibited transaction" for pension plan investment. As more capital flowed into the investment-grade real estate market, it was desirable to create more investment vehicles for these institutional investors, including single-tenant properties leased to credit tenants on a triple net (NNN) basis with long lease terms. These NNN leases to credit tenants are often referred to as bondable leases. The Appraisal of Real Estate, fourteenth edition, describes the characteristics of these leases as follows:

An extreme form of net lease is commonly referred to as a bondable lease (or sometimes as an absolute net or a triple net lease). In effect, the tenant is responsible for all expenses for the entire duration of the lease term, and is even obligated to continue to pay rent after a casualty or condemnation. The shifting of risk from landlord to tenant creates a lease with the obligations equivalent to a bond. Bondable leases are most often used in credit tenant leases. (3) As noted, a bondable lease substantially reduces risk to the purchaser, and in this way bondable leases fit the bill for institutional investors. With these assets, investors can meet their fund allocation to real estate without taking on the management risk typically associated with real property. (4) The crux of the current problem is that these properties are often big-box properties, which are frequently required by taxing and condemnation authorities to be appraised without the attributes that make them attractive investment vehicles in their primary institutional investor marketplace.

Appraisers have been attempting to resolve this conundrum with different methodologies and methods. One area of disagreement is whether appraising property in the fee simple estate means that the property should be valued as if vacant and available for lease, or as if leased at market rents to market occupancy rates and terms. Another area of disagreement is whether it is appropriate to use sales of properties encumbered by leases as comparables when valuing the subject as if free and clear of any leases. The list of issues goes on, but the choice an appraiser makes is likely to affect the value conclusion.

Reliance on Judicial Opinions

An area of concern in valuation of single-tenant properties is the sometimes unwarranted reliance valuers may place on judicial opinions to support their decisions of methodology, highest and best use, and in turn, choice of suitable comparable data. Just because a judge wrote the opinion in a case does not mean it offers proper guidance on valuation practice. It may not be appropriate to assume that the parts of a court opinion addressing valuation methods are consistent with the "recognized methods and techniques" (5) required by valuation standards. Valuation professionals often read a court opinion and accord judicial statements on methodology weight that may not be warranted under the profession's recognized "methods and techniques." The unsuitability of judicial opinions on methodology may be due to the specific facts of cases; the fact that judges have widely disparate degrees of knowledge regarding valuation methods, techniques, and standards; or undue emphasis on the portions of the opinion commenting on appraisal theory and practice rather than the legal issues that were the primary purpose of the opinion.

Examples of Court Holdings on Valuation of Single-Tenant Properties

Users of valuation services and other market participants are examining the appraisal issues related to the valuation of single-tenant properties in fee simple for ad valorem tax, eminent domain, and other purposes. (6) Appraisers presenting opinions of value are looking to case law to support the two largely inconsistent points of view. The following discussion uses well-known court decisions to illustrate the issues that result in the divergent viewpoints.

Meijer Stores Limited Partnership v. Franklin County Board of Revision

The 2009 Ohio Supreme Court decision in Meijer Stores Limited Partnership v. Franklin County Board of Revision; and Licking Heights Local School District Board of Education (7) ("Meijer Stores") illustrates how court opinions can be construed to support valuation methodologies that are outside the appraisal profession's recognized body of knowledge. In the Meijer Stores case, the state supreme court upheld the Board of Tax Appeals' (BTA) decision finding for the taxing authority and against the property owner. The subject property was a newly constructed, 193,000-squarefoot store, described in the court opinion as a "big-box retail store." (8) Some appraisers have looked to the court opinion in this case to support the appropriateness of not adjusting build-to-suit and credit-tenant rents used as comparables when valuing a subject property in "fee simple," and that big-box retail might appropriately be appraised as a "value in use," as these are "special-purpose properties." However, in Meijer Stores the state supreme court actually ruled on another issue. The court ruling in fact was that "the BTA did not abuse its discretion (9) when it adopted the value as determined by the school board's appraisal and we therefore affirm the decision of the BTA." (10) Remember that in Meijer Stores, and in other similar cases, the court is not performing an appraisal review to determine which party's appraisal expert submitted the more credible report. The judges base their decisions on the evidence presented to them, taking into account the persuasiveness of counsel and the credibility of expert witnesses--in other words, considering which side presented the most compelling arguments in support of its position. It sometimes happens that the side with the most "credible" report, as defined in valuation standards, may not present the most compelling case.

Like Meijer Stores, many appellate decisions address possible abuse of discretion by a lower tribunal. Courts have been fairly consistent in their explanations of abuse of discretion:

Abuse of discretion does not necessarily imply a willful abuse, or intentional wrong. In a legal sense, discretion is abused whenever, in its exercise, a court exceeds the bounds of reason--all the circumstances before it being considered. (11) The term [abuse of discretion] as used in the decisions of courts and in the books, implying, in common parlance, a bad motive or wrong purpose, is not the most appropriate. It is really a discretion exercised to an end or purpose not justified by, and clearly against reason and evidence. (12) The standard for a finding of abuse of discretion is a high bar; therefore, a court finding that the lower body did not abuse its discretion is not equivalent to agreement with the lower body. It is important to stay focused on what these court decisions actually decide. The court opinion in Meijer Stores had this to say about abuse of discretion, referencing a different matter a year earlier: "An abuse of discretion is 'more than an error of law or judgment; it implies that the court's attitude is unreasonable, arbitrary or unconscionable.'" (13) So the court decision in Meijer Stores was a determination that the BTA's attitude in arriving at its decision was not unreasonable, arbitrary, or unconscionable based on the evidence presented. The court did not find that the conclusions...

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