AIC NATIONAL CONFERENCE VICTORIA 2010

1. AIC NATIONAL CONFERENCE VICTORIA 2010 HIGHEST AND BEST USE THE ELUSIVE CONCEPT D Allan Beatty, AACI, P.App

2. H&BU – Finding the “H” Spot Debate rages on between theorists and practitioners Last probed at NFLD conference – and again in Vancouver, but its still evolving Additional cases have been decided – what can be taken from them Outcomes of proper resolution CAM, AATME, KEOBU

3. H&BU – Creative Co-Use

4. H&BU – Finding the “H” Spot Theorists maintain that the only legitimate approach is either: Market, market, market, or Income based on fiction Question #1: Does this truly (correctly) reflect market? Question #2: Who’s domain does this fall into? Question #3: Is this a matter of theory, or a matter of evidence?

5. H&BU – Finding the “H” Spot Examine how we got here, and see if there’s a way forward Preface discussion by broadening view – inevitable that H&BU and MV definition be considered together Also without fail, must understand how the interpretation of the concept will connect with CAM Have gotten over the barrier of MPFU

6. THE DEBATE Needless to say, each assignment presents unique challenges Clear examples where Sales Comparison and Income methods are difficult or not reliable Others where these approaches are used in conjunction Theory taken to extreme suggests some property types cannot be valued or that H&BU cannot be resolved

7. THE DEBATE To address: Outline the issues Examine leading cases Identify gaps between theory and practical resolution Suggestions for Identifying Conflicts

8. THE DEBATE This Presentation Does Not: Deal with H&BU for vacant land Present legal argument Suggest that there are not alternative solutions Put forward issues that are not debatable Like every appraiser – these are my limiting conditions

9. Examples Why me? Uranium Mine Deep Sea Terminals Radar Station Creamery Gyproc Plant Farm Equipment Plants Slaughtering Plants Meat Packing Plants Property types Include: Youth Rehabilitation Camp Pulp &/or Paper Plants Plywood Plants Munitions Depot Nuclear Power Plant Research Greenhouses Potash Mine

10. Examples Why me? For Various Purposes Market Value in Use Purchase Price Allocation Finance Property Tax Insurance Damage Claims Rental Rate Determination Rail Facilities Canola Oil Plant Food Processing Plant (NJ) Historic Properties Institutional: Schools, Hospital, Nunneries, Churches

11. THE DEBATE My fundamental premises: Every property has a highest and best use Every property can be valued Most probable future use is closely aligned with highest and best use Utility creates value

12. THE DEBATE My fundamental premises: Exchange of capital is a broad concept, and should not be looked at too narrowly If the beneficial use of a property is not unduly impaired, it cannot be assumed to be so (i.e. you can’t prove a negative) All geared towards CAM, AATME, and KEOBY

13. SOME CLIENTS DON’T AGREE

14. THE DEBATE Court decisions began with Southam News • Printing plant in Greater Vancouver area • Prints two largest newspapers in lower mainland • State of the art • Developed new and former plant closed, then sold • Appellant and appraiser agreed that the new plant, if discontinued as plant for printing would have a value roughly half the assessment

15. THE DEBATE Goes through channels • Decisions says that it was not demonstrated that more than one purchaser existed • Therefore H&BU could not be resolved sufficiently to satisfy the “open and competitive” nature of the market (in MV definition) • Court found that the alternative use value (agreed statement of fact) was the proper measure

16. THE DEBATE • Reading the ruling suggests that the Supreme Court judge connected these two concepts very directly • Found that this case was distinguishable on this basis from other cases that supported using a cost approach to value • Also found (my opinion) that the agreement between assessor and appellant was determinative

17. THE DEBATE • My view is that without the agreement (which is described as evidence of the property value for some other use) the ruling could well have gone the other way • Considerable case law was overcome in this ruling – and upheld on appeal

18. THE DEBATE • Appeal in subsequent year, PAAB sustained the assessment, finding that the assessor did address some of the shortcomings • Appeal goes up the line to Court of Appeal • Appeal is upheld, based on the finding that PAAB should have been bound by earlier ruling – also comments on sales of going concern not evidence of RE demand

19. THE DEBATE • Judge writing in the minority states that he would have found for the assessor • My take: The finding of whether there is demand shown for the RE asset is a finding of fact and should be up to the Board (in this case) to consider the evidence before it • While there is no doubt of what the court ruling says – questions do arise as to how it should be interpreted

20. THE DEBATE Two cases polled the first decision and make reference to it: Labatts Breweries in St. John’s Gander Airport, Gander, Nfld The Citadel, Halifax contains a passage from the Gander ruling First two are readily distinguishable

21. THE DEBATE Labatts plant in St. John’s located in transitional area H&BU had changed, but Labatts chose to operate at a higher cost due to liquor rules in the Province Gander Airport improvements were written down to $1 as the airport could not be operated profitably – even with subsidy

22. THE DEBATE Both cases suggest that they follow the principles of Southam, but do they? Labatts is probably correctly decided – but for different reasons Gander – better solution to value the improvements as if appropriately sized?

23. THE DEBATE Most recent case is a Saskatchewan assessment appeal. Saskatchewan Creamery – Property owner anonymous • Only one in Province – processes all milk • Farmers would incur $5.0 million extra • Operating at over 90% capacity

24. THE DEBATE • Has changed hands through acquisition or merger more than once (this was in evidence) • Each case has continued in operation, and will continue • Argument, by appellant, is that it could not be proved there wasn’t obsolescence, so there had to be • Property should be valued as a shipping warehouse

25. THE DEBATE BOR sustained the assessment – will be appealed But – what did the Board hear? • Appellant was clearly relying on same issues as Southam/Pacific Newpaper Group Inc: • Also suggested no more than one purchaser • All other plants sold for alternative uses • Sale of going concern not evidence of demand

26. THE DEBATE • Evidence put forward on rents and costs to convert to alternative use Respondent points out: • More than one way to look at “open and competitive” • Sale as part of going concern should not be overlooked • If not present owner, high probability another competitor or farmer co-op would form to process milk in Province

27. THE DEBATE • Common for owner/operators of special purpose property to self-supply • Cost to create is a form of exchange of capital, just as purchase and renovate is • Inconsistent to say the only sales data that exists cannot be used, then to say the property cannot be valued due to lack of sales • Agreed that on the balance of probabilities milk processing would continue

28. THE DEBATE Also point that obsolescence allowance is two step process Identification before quantification – sometimes the answers are complex Difficult to bifurcate the issues, between H&BU and the methodologies that will appropriately be applied

29. GETTING A GRIP

30. GETTING A GRIP

31. THE DEBATE Some benefit from looking from bottom up Three options to value (special purpose) property • As it exists • For adaptive re-use or alternative use • As vacant

32. THE DEBATE Which is best? The one that most closely mirrors the thoughts and actions of market participants or potential purchasers • Let’s expand on the concept of exchange of capital • Not get boxed in by too narrow a view on market activity • Better understand the views of the market we are trying to simulate

33. THE DEBATE Observations: • Adaptive re-use seldom captures real-life examples, but is useful in proper situations • Must look past irrelevant information • Must consider non-realty influences

34. THE DEBATE Factors to consider: • Definition of market value contains verbiage “open and competitive” market • Narrowly defined in present court rulings • No reason current owner should be left out of the consideration, if other owners would act similarly • Exchange of capital is a valid concept • Least cost alternative drives market

35. THE DEBATE Factors to consider: • Allows owner/user to fulfill needs without profit motive • Customize operations, innovate design • So long as value doesn’t include very specific customized features • Beneficial use will assist in judging • Balance of probabilities argument

36. CASE STUDY - SCHOOLS Edmonton – Satellite Community • 4 to 5 other sales, including other satellite areas • Examples of both school being re-used and site re-developed • Property had both features • High land values for MF • Conclusion – to retain school but release part of site to alternative uses Saskatchewan – Small Town • No demand for school • Population of school aged children dropping • Other closures in District • Some students already being bused past community • Low land values • Some demand for alternative uses • Low probability for significant adaptive re-use

37. Same time, same property type, two different outcomes in Highest and Best Use • AATME – Appraise According to Market Evidence • Not an examination of market evidence first – much broader view is required in initial steps • Many have suggested that business concerns should be left out of the equation – cannot support this

38. Case Study – Pulp Mills • Pulp mill in north central Alberta • Operating at fairly high efficiency – required in order to make even a meagre return on operations • Significantly, this does not provide any replenishing capital and virtually no return on capital investment • Series of sales have occurred in US and Canada since 2001 (now 10 or so transactions available)

39. Case Study – Pulp Mills • However, none sell on the basis of just RE or just M&E • So, available data needs to be broken apart between the two asset classes • Meanwhile macro factors are easily identified as a major contributor to the state of the market • Sales show major and progressive gap between RCNLD and proportionate SP

40. Case Study – Pulp Mills • Macro factors include • Comparatively high transportation costs and labor costs • Improvement in technologies and reliability of international competition • Ability for new producers to regenerate raw product in half the time – less distance to market

41. Case Study – Pulp Mills • These are real market impacts • Without the ability to examine, where would that leave the valuer? • How can the position be supported to say “disregard any information that involves multiple asset sales”, then say, I can’t value the property due to lack of data

42. Case Study – Pulp Mills • Is it within the realm of the appraiser to provide evidence that there is a market? • How will this assist in resolving valuation properties for truly unique properties – one per Province?

43. Observations (More) – Video to Follow • Cost will remain as one of the key approaches • Its death is highly exaggerated • Talked about exchange of capital – consider also if the balance of probabilities would see a competitor jump into the gap • Some cases will involve a MPFU that is similar if not identical to present use

44. Key Concepts • This does not signify that there isn’t obsolescence • Market and income data can be use to assist in identification and in quantification • This is where the consideration of beneficial use is paramount • Bakery and/or creamery are examples – changes to the market don’t necessarily signify lack of demand for large efficient solution

45. Key Concepts • Courts will continue to make rulings – but don’t expect all problems to find resolution • Expect to be challenged on justifying the Highest and Best Use • My take is “Use Value” is narrowly defined, and unnecessarily expanded in some of the current rulings

46. Key Concepts • Use value applies to artificial constraints on trade, or involves an asset that that may not have a value that can be readily defined in monetary terms (ferries, bridges, public spaces, wilderness property) • Should not assume that this applies to special purpose property unless circumstances dictate • I don’t believe this was the case with PNG, but that’s personal – its still precedent setting in BC

47. Key Concepts Notwithstanding other rulings are coming out that poll the same decisions: But, let’s revisit key points. Successfully resolving H&BU will help avoid pitfalls. Available evidence will continue to dominate the most effective valuation techniques (maybe in combination) So, there is a roadmap:

48. Key Concepts Determine MPFU Seek evidence of impairment of beneficial use Choose best method of reflecting market reaction/behavior Value according to CAM, AATME, KEOBU.