Terrel Once Said

[Stephen J. Vertin MAI]

Forget whether the concept AI is putting fourth is wrong or right. I am wondering if I am interpreting what AI is teaching correctly.

Tennessee State Board of Equalization before the Administrative Judge, In Re: Essex House Condo Corporation a/k/a Marriot Courtyard Airport) Shelby County Ward 60, Block 222; Parcel 345) ' Commercial Property) Tax Years 200l and 2002)

INITIAL DECISION AND ORDER Statement of the Case

The administrative judge finds (that the foregoing decisions addressed what the appraisal literature currently refers to as "business enterprise value" and "total assets of the business." The administrative judge finds that the 12th edition of the Appraisal Institute's The Appraisal of Real Estate summarizes these concepts at pages 641-42 as follows:

The existence of a residual intangible personal property component in certain properties has been widely recognized for years. Among the many terms used to describe this phenomenon, business enterprise value (BEV) is the most widely used. The issue has attracted attention primarily through assessment, condemnation, and damage claim assignments, which require that an estimate of the value of the real estate component be separated from the market value of the total assets of the business (MVTAB).

These assignments necessarily involve an allocation among the component parts of real property and tangible and intangible personalty. The latter can include what has traditionally been called business enterprise value but more recently has become known as capitalized economic profit (CEP), CEP is defined as the present worth of an entrepreneur's economic (pure) profit expectation.

If I am reading this correctly the above states that CEP = BEV, therefore if CEP is the present worth of an entrepreneur’s profits then BEV is also the present worth of entrepreneurial profits. If intangible personalty can include business enterprise value so can CEP. Therefore, BEV is entrepreneur profit generated by tangible personal property (or its residual) into intangible personalty.

I believe the following example will help provide a pragmatic approach to showing what is being said and indicates the division of assets and calculated entrepreneur profits or as now called entrepreneurial incentives.

Joe Go-for-it, built a development that has considerable FF&E (50% of cost) on a 5 acre site (valued at $100,000). The FF&E is required to generate income to the property (without it, no money can be generated). The two components are inseparable as with many symbiotic properties. Joe prices the materials and finds the 45,000 square foot structure he wants to build and machinery and equipment (FF&E) cost $1,000,000 to construct. Again, half or $500,000 are allocated to construct the improvements and half (the other $500,000) for FF&E.

Bob Builder tells Joe he can construct the entire facility for cost plus 20 percent (as his incentive or economic incentive). This means he can develop the entire project for $1,200,000. We know that economic incentives (EI) applies to the real estate but it appears from statements in the 12th edition machinery and equipment does not (in the traditional sense). If this were the case it indicates the following.

Land, building, FF&E and EP = $100,000 (land) + $1,200,000 (the remainder) = $1,300,000

Therefore, $1,300,000 in replacement cost value - $500,000 in FF&E = a remainder of $800,000

If we add the value of the land, entrepreneur incentives to construct and actual building cost it adds to $700,000 Land value is $100,000, the cost to construct $500,000 and entrepreneurial incentives are 20 percent of $500,000 or $100,000 ($100,000 + $500,000 + $100,000 = $700,000)

In closing $500,000 + $700,000 = $1,200,000 but the cost to construct with profits is $1,300,000. This mean that the remaining $100,000 ($1,300,000 - $1,200,000 = $100,000) is equivalent to the BEV. It was the entrepreneurial profit generated by the tangible personal property and stands as intangible personal property which is BEV. Therefore, this $100,000 represents the BEV in the cost approach.

All I am asking at this point is does the Joe Go-for-it example match what the 12th edition (in blue above) is saying?

 

[Elliott]

I'm reluctant to base my appraisal methods on an Administrative Judge's interpretation of AI's "The Appraisal of Real Estate."

 

[hastalavista]

I thought this was answered?

Land, building, FF&E and EP = $100,000 (land) + $1,200,000 (the remainder) = $1,300,000

Cost to construct the going concern: $1,300,000

If we add the value of the land, entrepreneur incentives to construct and actual building cost it adds to $700,000 Land value is $100,000, the cost to construct $500,000 and entrepreneurial incentives are 20 percent of $500,000 or $100,000 ($100,000 + $500,000 + $100,000 = $700,000)

This isn't just the "cost:' this is the indicated value by the cost approach of the real property being appraised: $700,000. This does not include personal property/FF&E.

In closing $500,000 + $700,000 = $1,200,000

This is the sum of the FF&E + the indicated value of the real property.

but the cost to construct with profits is $1,300,000. This mean that the remaining $100,000 ($1,300,000 - $1,200,000 = $100,000) is equivalent to the BEV. It was the entrepreneurial profit generated by the tangible personal property and stands as intangible personal property which is BEV.

This is the cost to construct the going concern and may or may not be the indicated value of the going concern. But, assuming it is, then

Going Concern Value=$1,300,000
Real Property Value= $700,000
FF&E Allocation: $500,000
BEV: $100,000

All I am asking at this point is does the Joe Go-for-it example match what the 12th edition (in blue above) is saying?

The blue quote mixes somewhat its terms. From the Dictionary of Real Estate Appraisal (my bold for emphasis):

Business Enterprise value (BEV):
The value contribution of the total intangible assets of a continuing business enterprise such as marketing and management skill, an assembled work force, working capital, trade names, contracts, leases, customer base, and operating agreements.

Furniture, fixtures, and equipment (FF&E):
Business trade fixtures and personal property, exclusive of inventory.

Going-concern value:
1. The market value of all the tangible and intangible assets of an established and operating business with an indefinite life, as if sold in aggregate; more accurately termed the market value of the going concern.
2. The value of an operating business enterprise. Goodwill may be separately measured but is an integral component of going-cern value when it exists and is recognized.
​

In my opinion, the EI attributable to the FF&E component of the going concern would be categorized as part of the BEV (an intangible asset). But it only exists if there is sufficient going-concern value after deducting the market value of the real property and FF&E.
We can analyze and allocate EI attributable to the real property improvements. EI attributable to FF&E is part of the BEV in my opinion. One could allocate the BEV into different components (goodwill, for example) if one wants, but I wouldn't get that discrete nor would I (as I'm sitting here thinking about it) believe there is a need to do so in most cases. But it would only exist if there is residual going-concern value after FF&E and real property value have been deducted.

I'd be interested to hear a counter-opinion.[/QUOTE]

 

[leasedfee]

Nice post about TANSTAFL, There Ain't No Such Thing As A Free Lunch.

In the Cost Approach, Ei is a cost.

Respectfully disagree on this pedantic point. EI is a factor production, not a cost.

 

[hastalavista]

Nice post about TANSTAFL, There Ain't No Such Thing As A Free Lunch.

Respectfully disagree on this pedantic point. EI is a factor production, not a cost.

I don't happen to disagree on the pedantic level; however, it is treated as a cost in the cost approach which is the context of my assertion. In fact, this poster said it pretty well:

In NeoClassical economic theory, that appraisal follows, there are four Factors of Production: Land, Labor, Capital, and Entrepreneurial Coordination (a.k.a., management). The cost approach consolidates these slightly to Land + Building + EI,

 

[Gobears81]

This is the cost to construct the going concern and may or may not be the indicated value of the going concern. But, assuming it is, then

Going Concern Value=$1,300,000
Real Property Value= $700,000
FF&E Allocation: $500,000
BEV: $100,000

Doing work and skimming posts, so the answer is probably in your post. But the builder is charging a 20% fee on everything (and assuming that fee is market based), equating to a total cost of $1,300,000. Assuming EI of 10%, BEV does not kick in until $1,430,000. Where are we disagreeing?

 

[hastalavista]

Stephen's examples have all the costs capped at $1,300,000. I'm working within that context.

I've noted (in a prior post) about the differences of EI, EP, Contractor Profit, etc. But I still think Stephen's question (and it is a good one) can be addressed by putting those things as a footnote. We are definitely taking some liberty with the terms, but the concepts are clear enough (I think!) in term's of Stephen's question.

 

[Gobears81]

Stephen's examples have all the costs capped at $1,300,000. I'm working within that context.

I've noted (in a prior post) about the differences of EI, EP, Contractor Profit, etc. But I still think Stephen's question (and it is a good one) can be addressed by putting those things as a footnote. We are definitely taking some liberty with the terms, but the concepts are clear enough (I think!) in term's of Stephen's question.

It seems to me that the builder is getting $200,000, which is falling squarely into builder profit territory, whereas Joe is the developer and requires his own EI. I'm guessing that we are on the same page fundamentally, but disagreeing based on filling in the gaps for Stephen's example

 

[leasedfee]

I don't happen to disagree on the pedantic level; however, it is treated as a cost in the cost approach which is the context of my assertion. In fact, this poster said it pretty well:

EI is a fascinating thing. The developer-entrepreneur requires much of the knowledge of an appraiser; Narcissus's chutzpah to withstand the slings and arrows of outrageous fortune to bear the whips and scorns of time; access to capital; and managerial discipline to co-ordinate. Lacking any of those, you're just another 9-5 bloke, or a listless rich simp. That's why EI isn't a cost that can be purchased in the place of the market.

EI is a value, so we really shouldn't call it RCN, but perhaps V_B_new.

 

[Elliott]

I wonder how long until they come up with GI? What is that you ask? Its that added, unexplainable value attributed to over paying for green technology.