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  #1  
Old 07-29-2009, 10:35 AM
CMoneyVT CMoneyVT is offline
 
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Location: Roanoke, VA
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Default Negative Leasehold.what to do?

I'm appraising a proposed retail strip center (approx. 15,000 SF), of which 11,000 SF is going to be occupied by a strong regional tenant. This tenant has signed a 10-year lease at a rate of $18.00/SF, triple net, with $1.65/SF in CAM. The asking rates for the adjacent retail spaces (1,100 SF) are $16.50/SF, which is typical for this market. After various conversations with local leasing agents, they indicated that in this situation they would most likely negotiate a $14 - $16/SF rental rate with a tenant this large.

On page 455 of the 13th Edition, it says you can capitalize or discount the lease premium or "excess rent" at a higher rate seperately. Has anyone ever done this before or have any input on the practicality of using two different capitalization rates. Or if you have any other suggestions on how to account for the risk associated with a negative leasehold.

A co-worker suggested just providing the bank with a fee simple value for the cost, income, and sales, and then a seperate leased fee value based on the contract rent and concluding that the lease is above market; letting the bank make their own decision.

Thanks,

Cody
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  #2  
Old 07-29-2009, 10:43 AM
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Pittsburgh Pete Pittsburgh Pete is offline
 
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If the tenant is strong there may be no need to treat the income differently.

Value the property at market rent and add the present value of the above market rent to arrive at your leased fee value. Same amount can be applied to the sales comparison and cost approaches.

Straightforward assignment. The key is to assess the risk inherent in receiving the above market rent. With a strong regional tenant, the risk is reduced.
  #3  
Old 07-29-2009, 07:07 PM
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Vernon Martin Vernon Martin is offline
 
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Quote:
Originally Posted by Pittsburgh Pete View Post
Value the property at market rent and add the present value of the above market rent to arrive at your leased fee value. Same amount can be applied to the sales comparison and cost approaches.
Or in other words, the premium above market rent should be discounted rather than capitalized.

You might also want to look at the credit ratings from the rating agencies to judge how viable the premium rental income will be. There is a big difference in risk between a lease to Walgreen's and a lease to RiteAid, for instance.
  #4  
Old 07-30-2009, 09:14 AM
CMoneyVT CMoneyVT is offline
 
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[quote=Pittsburgh Pete;1850559]Value the property at market rent and add the present value of the above market rent to arrive at your leased fee value. Same amount can be applied to the sales comparison and cost approaches.quote]

I remember from one of my classes that we're not supposed to mix the approaches to value (can't remember the technical term used to describe this). For example: just because you have an above market lease doesn't mean that the building will cost anymore to build or the land is worth anymore, so why would you add this value?


Quote:
Originally Posted by Vernon Martin View Post
You might also want to look at the credit ratings from the rating agencies to judge how viable the premium rental income will be. There is a big difference in risk between a lease to Walgreen's and a lease to RiteAid, for instance.
Unfortunately in this case, the company is a non-profit organization so there are no credit ratings. However, being that they are partially funded by the government I could conclude in the report that they would have low risk of default.
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Old 07-30-2009, 09:19 AM
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Pittsburgh Pete Pittsburgh Pete is offline
 
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You would add that value (present value of the above market rent--discounted as Mr. Martin indicates), as that value represents the difference between the fee simple value and the leased fee value (i.e. increased value resulting from an above market rent). The cost and/or sales comparison approach will yield a fee simple value (depending on the nature of the income stream available with the comparable sales); the increase results in a leased fee value by the cost/sales comparison approach.

You are valuing a specified property interest--i.e. leased fee. All three approaches to value should reflect this fact.

You are "mis-remembering" or misconstruing something you heard in a class.
  #6  
Old 07-30-2009, 09:26 AM
Y-TOWN Y-TOWN is offline
 
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[quote=CMoneyVT;1851005]
Quote:
Originally Posted by Pittsburgh Pete View Post
Value the property at market rent and add the present value of the above market rent to arrive at your leased fee value. Same amount can be applied to the sales comparison and cost approaches.quote]

I remember from one of my classes that we're not supposed to mix the approaches to value (can't remember the technical term used to describe this). For example: just because you have an above market lease doesn't mean that the building will cost anymore to build or the land is worth anymore, so why would you add this value?




Unfortunately in this case, the company is a non-profit organization so there are no credit ratings. However, being that they are partially funded by the government I could conclude in the report that they would have low risk of default.
Government lease are usually funded year to year. May be more risk than you think.

I once did a 25,000 S/F VA clinic which was built new. Lease was for 20 years at above market rents. Lease was 100+ pages. I read the lease, which the previous appraiser must have not, and found a 90 day cancellation clause on the VA's side. They could take a complete walk-out with the loss of only one months rent payment.

Think that clause did anything to value?
  #7  
Old 07-30-2009, 09:30 AM
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Pittsburgh Pete Pittsburgh Pete is offline
 
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Is there any value at all in Youngstown--isn't everyone/everything other than YSU heading for the exits?

Sorry--couldn't resist!
  #8  
Old 07-30-2009, 09:38 AM
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Vernon Martin Vernon Martin is offline
 
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A lot of federal leases are written that way, which is something to be concerned about.

I have also seen some appraisers have the misguided notion that a 25-year-old office building full of government tenants has a stable occupancy despite being near new, vacant office buildings. They have said things like, "A government tenant would never relocate to a nice, new office building like that." Back in the late 80s, though, there were plenty of government agencies moving into new space at rents as low as $9 psf full service gross without any shame or questions from OIGs or Congressmen. I worked at one.
  #9  
Old 07-30-2009, 09:42 AM
Y-TOWN Y-TOWN is offline
 
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Quote:
Originally Posted by Pittsburgh Pete View Post
Is there any value at all in Youngstown--isn't everyone/everything other than YSU heading for the exits?

Sorry--couldn't resist!
Actually the 10,000 S/F to 25,000 S/F smaller new industrial building market is holding up well. I'm assuming some new construction in the next year in that market. Small medical is great. Retail is flat, apartments are good. Could be worse
  #10  
Old 07-30-2009, 09:53 AM
Y-TOWN Y-TOWN is offline
 
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Quote:
Originally Posted by Vernon Martin View Post
A lot of federal leases are written that way, which is something to be concerned about.

I have also seen some appraisers have the misguided notion that a 25-year-old office building full of government tenants has a stable occupancy despite being near new, vacant office buildings. They have said things like, "A government tenant would never relocate to a nice, new office building like that." Back in the late 80s, though, there were plenty of government agencies moving into new space at rents as low as $9 psf full service gross without any shame or questions from OIGs or Congressmen. I worked at one.
I've seen the same - what is even better is I had an appraiser call me and want to know what a full service lease was
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