IAAO 2014 Intangible Presentation - Final

INTERNATIONAL ASSOCIATION OF ASSESSING OFFICERS
LOS ANGELES CHAPTER
OCTOBER 8, 2014
FUNDAMENTALS OF
SEPARATING
REAL PROPERTY, PERSONAL
PROPERTY, AND INTANGIBLE
BUSINESS ASSETS
FallAppraisalSeminar
Robert E. Dietrich,
MAI, CRE, CCIM, MRICS
Sr. Director, Specialty Practice
Valuation & Advisory Services
Colliers International
Newport Beach, CA
Justin R. Glasser,
MAI, ASA
Senior Manager, Tax
Economic & Valuation Services
KPMG, LLP
San Diego, CA

IAAO Fall Appraisal Seminar
Speakers
2

3
BOB DIETRICH, SENIOR DIRECTOR
Robert E. Dietrich,
MAI, CRE, CCIM, MRICS
Senior Director
Colliers International
20411 SW Birch Street
Suite 310
Newport Beach, CA 92660
Education, Licenses & Certifications
 B.S. University of Arizona
 Member, Board of Directors of the Appraisal Institute
(2008 – 2012)
 President, Southern California Chapter of the
Appraisal Institute (2014)
 President, Southern California CCIM Chapter (1997)
 Volunteer of Distinction Award, Appraisal Institute
(July 2012)
 MAI designation - Appraisal Institute
 CRE designation – Counselors of Real Estate
 CCIM designation – CCIM Institute
 MRICS designation – Royal Institution of Chartered
Surveyors
 Member – Lambda Alpha
 Licensed Appraiser (15 States including California,
Arizona, and Nevada)
Professional and Industry Experience
Robert E. Dietrich is the Director of the Specialty Valuation Practice of Colliers International
Valuation & Advisory Services, and is located in the Newport Beach office.
Mr. Dietrich has performed valuations involving a wide variety of property types ranging
from high rise offices to farms and ranches. He has appraised special purpose properties
such as port facilities, ski resorts, and others. Areas of specialization include planned
developments, subdivisions, leasehold/leased fee analyses, and project modeling. He has
appraised all types of commercial, industrial, and multi‐family properties in the Western
United States for more than 30 years.
Mr. Dietrich has been designated as an expert in real estate valuation issues in courts and
has testified on over 60 occasions in State Superior Court, federal court, Bankruptcy Court,
US Tax Court, JAMS, state and county assessment appeals boards, and others. He was
selected as an independent arbitrator and has been approved as a commercial appraiser
by several nationally chartered banks and government agencies.
Representative Clients
 Latham & Watkins
 Wells Fargo Bank
 American Ag Credit
 Metropolitan Water District
 Elsinore Valley Municipal Water District
 AEGON USA Realty Advisors
 William Lyon Homes Company
 Tribune Company
Representative Complex Assignments
 Compensation for inverse taking of water
 Rental value for a recreation lake in Southern California
 Valuation of largest development company in California
 Valuation of largest land holding and development in Bermuda
 Valuation of 2.2 million acre cattle ranch
 Valuation of Queen Mary Seaport development
 Valuation of highest grossing retail complex in US
 Valuation of 18,000 acres of almond orchards in Central Valley

4
JUSTIN R. GLASSER, SENIOR MANAGER
Justin R. Glasser, MAI, ASA
Senior Manager
KPMG LLP
4747 Executive Drive
Suite 600
San Diego, CA 92131
Function and Specialization
 Real Property
 Transfer Pricing
 Litigation Support
Education, Licenses & Certifications
 Masters of Science in Real Estate, University of San Diego
 Alpha Sigma Gamma Award Recipient
 B.A. in Economics, University of California at San Diego
 Member, Appraisal Institute, MAI Designation #497209
 Member, American Society of Appraisers, ASA Designation # 106380
 Appraisal Institute Panel Member for Financial Reporting
 Contributing reviewer, The Appraisal of Real Estate, 14th Edition
 State of Arizona Real Estate Appraisers License # 31944
 State of California Real Estate Appraisers License # AG045014
 State of Colorado Real Estate Appraiser License #CG100042083
 State of Hawaii Real Estate Appraisers License # CGA1038
 State of Florida Real Estate Appraisers License # RZ3544
 State of Maine Real Estate Appraisers License # CG3337
 State of Michigan Real Estate Appraisers License # 31944
 State of Montana RE Appraisers License # REA-RAG-LIC-6037
 State of Oregon Real Estate Appraisers License # C001151
 State of Pennsylvania Real Estate Appraisers License # GA004001
 State of Texas Real Estate Appraisers License # 1380207
 State of Utah Real Estate Appraisers License # 8548636-CG00
 State of Virginia Real Estate Appraisers License # 4001017045
 State of Washington Real Estate Appraisers License # 1102240
Professional and Industry Experience
Justin is currently a senior manager in the Valuation Services practice of KPMG LLP. He is
located in the firm’s San Diego office where he assists in the preparation of valuations,
highest and best use studies, and purchase price accounting of tangible assets relating to
commercial and residential real estate development including: multifamily, office, hotels,
destination resorts, gaming outlets, master planned communities, manufactured home
communities, manufacturing and distribution facilities, retail developments, restaurants,
banks, movie theaters, and undeveloped land.
He has performed valuation of development lands in Central America and the Caribbean,
including Belize, Haiti, Island of St. Kitts, and Island of Petite St. Vincent. Also, Justin has
provided valuation services related to lost profits associated with timeshare points
associated with thirteen properties in California, Hawaii, and Mexico for purpose of
litigation. Other litigation support includes valuation services related to a hotel property
located in Laguna Beach, Orange County, California and a number of real property assets
located in San Francisco and San Diego, California.
Representative Clients
 Archstone
 Bascom
 Armada Hoffler
 Capital Properties
 Pillar Communities
 RedHill Realty Investors
 The Blackstone Group
 CBRE Global Investors
 Tropicana Entertainment
 Cornerstone Real Estate Advisors LLC
 GEM Realty Capital, Inc
 UBS Realty Investors, LLC
 ING Investment Management, Inc.
 IMH Financial Corporation
 Kiawah Development Partners, Inc.
 Fedinco Ltd.
 Hilton Hotels Corporation
 MGM Mirage
 Dubai World
 Hyatt Corporation
 Luxury Resorts & Hotels
 Westport Capital Partners LLC
 Harrah’s Entertainment Inc
 Tropicana Entertainment

Ice Breaker
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6
ICE BREAKER
Is the dishwasher personal property or real property?

Important Note
7

 Appraisers and assessing officers who attend
this session should not be misled that they are
now competent to take on any assignment
involving a business-related property.
 This session, in and of itself, does not impart
a level of competency. The appraiser or
assessing officer should be aware of this and
not mislead his/her client to the contrary.
 This session contains diverse opinions
regarding appraisal theory and applications.
 The Appraisal Institute does not advocate a
particular theory or method.
IMPORTANT NOTE
8

Evidence of Intangible Assets
9

EVIDENCE OF INTANGIBLE ASSETS
10
Tangible
Benefits
Mineral Rights,
Water Rights,
Air Rights
(As Vacant)
Shelter
(As Improved)
Intangible
Benefits
Royalties
(Natural resources)
Ground Rent
(Land)
Property Rent
(Improved Property)

Owner Occupied
(Fee Simple)
Income Property
No Services
(NNN Lease)
Income Property
Limited Services
(Multi-tenant
Office,
Apartments)
Income Property
Substantial
Services
(Hotel, Assisted
Living)
11
Intensity

Uniform Standards of Professional Appraisal
Practice (USPAP)
 Intangible Assets - Nonphysical assets, including
but not limited to franchises, trademarks, patents,
copyrights, goodwill, equities, securities, and
contracts as distinguished from physical assets
such as facilities and equipment.
 Standards Rule 1-4(g) - “When personal property,
trade fixtures, or intangible items are included in
the appraisal, the appraiser must analyze the effect
on value of such non-real property items.”
12

Total Assets
(Business)
Tangible
Property
Real property &
Personal property
Intangible
Property
Franchise Agreements &
Other Contracts;
Assembled Workforce,
Advanced Bookings;
Patents; Trademarks;
Copyrights; Trade names;
Intellectual Property
Financial Assets
(Working Capital)
Cash; Marketable
securities; Accounts
receivable; Supplies &
Inventory
13

The valuation premise used to measure the market
value of an asset depends on the highest and best
use of the asset by market participants.
 In-use: If the asset would provide maximum value to market
participants principally through its use in combination with
other assets as a group (i.e., highest and best use is “in-use”),
the asset would be measured using an “in-use” valuation
premise.
 Going Concern (Business)
 In-exchange: If the asset would provide maximum value to
market participants principally on a standalone basis (i.e.,
highest and best use is “in-exchange”), the asset would be
measured using an “in-exchange” valuation premise.
 Liquidation (or Salvage) Value of Tangible Assets
14

Communicating Value Opinions
15

Terms that may be confusing and are often
used incorrectly:
Business Value
Business Enterprise Value
Going Concern
Goodwill
Intangibles
COMMUNICATING VALUE OPINIONS
16

Appraiser must communicate three things:
The type of value being reported (market value, fair
value, investment value, etc.)
The assets or asset classes included in the value
opinion
The valuation premise
 In Use (Going Concern)
 In Exchange (Liquidation/Salvage Value)
COMMUNICATING VALUE OPINIONS
17

Valuation of Business Combination
 Market value as a going concern including real property,
personal property and intangible property.
 In Use Premise
 Limited Services
 Investment Properties
 Market value of the total assets of the business as a
going concern (enterprise value), including real
property, personal property, intangible property and
financial assets.
 In Use Premise
 Expanded Services
 Inclusive of all items on balance sheet
EXAMPLES
18

Valuation of Tangible Assets
 Market value of tangible assets as part of a going
concern or business combination.
In Use Premise (Going Concern)
Sold with Business
 Market value of tangible assets as part of an asset
acquisition.
In Exchange Premise (Liquidation/Salvage Value)
Sold separate from Business
EXAMPLES
19

Cost Approach
20

 When the cost approach can be developed
reliably, it is very helpful in determining the
appropriate allocation of value to tangible
asset classes.
 It may be appropriate to value certain
intangible assets by the cost approach (asset
approach).
COST APPROACH
21

 Issues:
 Allocation of each item of cost
 Cost Segregation Studies
 Allocation of entrepreneurial incentive
 Recognition of and support for all forms of depreciation
 Physical Depreciation
 Functional Obsolescence
 Economic Obsolescence
 Property rights adjustment
 Fee Simple v Leased Fee
 Leasehold adjustments
 Above & below market rents
COST APPROACH
22

23
COST APPROACH
Real
Property
Personal
Property
Subtotal Intangible Total
Replacement Cost New
Direct & Indirect Cost $2,500,000 $210,000 $2,710,000 $150,000 $2,860,000
Entrepreneurial Incentive $250,000 $0 $250,000 $100,000 $350,000
Total Replacement Cost $2,750,000 $210,000 $2,960,000 $250,000 $3,210,000
Depreciation
Physical Deterioration ($600,000) ($42,000) ($642,000) $0 ($642,000)
Functional Obsolescence ($200,000) $0 ($200,000) $0 ($200,000)
External Obsolescence $0 $0 $0 $0 $0
Total Depreciation ($800,000) ($42,000) ($842,000) $0 ($842,000)
Reconciliation
Depreciated Improvements $1,950,000 $168,000 $2,118,000 $250,000 $2,368,000
Land Value Estimate $600,000 $0 $600,000 $0 $600,000
Market Value Conclusion $2,550,000 $168,000 $2,718,000 $250,000 $2,968,000

Sales Comparison Approach
24

 For certain property types, real property
rarely sells independently of intangible
assets (e.g., investment properties, lodging
properties).
 If some method of allocating the sales price
is available, it may be possible to do an
allocated sales comparison approach.
 Otherwise, the sales comparison will only
provide an unallocated value of the going
concern.
SALES COMPARISON APPROACH
25

Possible sources of allocation:
 Actual allocation by buyer & seller
 ASC 805
 IRC 1060
 Interviews of market participants
 Industry standards
 Historical Cost
SALES COMPARISON APPROACH
26

Income Approach
27

Methods
Discounted Cash Flow (DCF)
 Discount Rate
 Terminal Rate
Direct Capitalization
 Cap Rate
 Gross Rent Multiplier
 EBITDA Multiplier
INCOME APPROACH
28

Determining Appropriate Method &
Investment Rates
Market Participant Assumptions
Availability of Information
Irregular/Regular Cash Flows
Refinement
INCOME APPROACH
29

Limitations
DCF - One limitation is the requirement to
accurately forecast net operating income for a
number of years into the future (e.g., often up to 10
years).
Direct Capitalization – One limitation is the
difficultly to implement without reliable transaction
data from which to determine comparable
capitalization rates.
INCOME APPROACH
30

Limitations (Continued)
Income Approach – Primary limitation is that it does
not provide an allocation of tangible and intangible
assets.
INCOME APPROACH
31

NNN Rent comps (ideal)
Build-to-suit leases
Applied to Replacement Cost New (RCN)
Rent-to-revenue ratio (from industry
benchmarking study, interviews of market
participants, etc.)
Health Ratio
Sale-leaseback transactions
Lease (or Rental) constant
Applied to RCN less depreciation
ESTIMATING REAL PROPERTY RENT
32

Return of investment (straight-line
replacement reserve) plus return on
investment (depreciated cost x discount rate)
ESTIMATING PERSONAL PROPERTY RENT
33

Market Approach
Leased fee (NNN) sale comps
Comparable properties w/ similar risk and income
characteristics
Band of Investment
Debt
Equity
Bifurcation
Rl + Rb = Ro
ESTIMATING REAL PROPERTY CAP RATE
34

Market Approach
Individual intangibles sale comparables
Databases
Pratt's Stats®
Survey
Business brokers
ESTIMATING INTANGIBLES CAP RATE
35

Intangible Value
36

In many cases, properties are built for
specific businesses which support a going
concern. In these properties, there may be an
element of non-taxable value in the going
concern.
If there is a non-taxable element of
intangible value, how do you extract it?
INTANGIBLE VALUE - CASE STUDIES
37

Drug Store Example
 One type of leased property often creates a large intangible
value component as well as real estate value.
Sale Price $4,000,000
Sale Price $3,000,000
INTANGIBLE VALUE - LEASES
38

Drug Store Example (continued)
39
Market Cost Approach: Total Per SF Bldg.
Land:
$9 times 50,000 Sq. Ft. = $450,000 $30.00
Building:
$150 times 15,000 Sq. Ft. = $2,250,000 $150.00
Subtotal: $2,700,000 $180.00
Developer Profit: 7.0% $189,000 $12.60
Development Costs: $2,889,000 $192.60
Leaseup Adjustment: 4.0% $115,560 $7.70
Value by Cost Approach: $3,004,560 $200.30
Round to: $3,000,000 $200.00
Income Approach (Local Market Rent and Tenant):
Annual Market NNN Rent: $240,000 $16.00
Cap at: 8.0%
Property Value: $3,000,000 $200.00
Income Approach Lease to Walgreens (National Credit):
Annual Market NNN Rent: $240,000 $16.00
Cap at: 6.0%
Property Value: $4,000,000 $266.67

On previous slide:
 Cost to develop and value based on capitalized income is $3.0 million
or $200 per square foot. General retail stores in area sell for $150 to
$225 per square foot.
 Leased to Walgreens, the value is $4.0 million or $267 per square
foot. Walgreens-leased drug stores sell for $250 to $350 per square
foot in region.
 What is the $1.0 million difference in value attributed to?
 Tangible (taxable) real estate, personal property, or intangible value?
40

Legal Basis for Extracting Intangible Value:
 Walgreens believed a property in Madison, Wisconsin was over-
assessed due to taxation of intangible value.
 Walgreens appealed to Assessor and lost and then sued the City
(Walgreen Co. v. City of Madison).
 Walgreens lost at the trial, but appealed and the Wisconsin Supreme
Court overturned the verdict.
 The supreme court directed that the assessment would be based on
market rental rates in conformance with recognized appraisal
authorities, such as the Appraisal of Real Estate.
 Going forward in Wisconsin, contract rents will not be considered for
assessment purposes due to inclusion of non-taxable intangible
assets.
41

 Many properties are built for a specific use such as a hotel. The
hotel business cannot operate without the real estate, and
value of real estate can be impacted by going the concern.
 Are there intangible items included in the valuation of an
operating hotel? If so, what are some of the intangible items?
 Trained workforce
 Brand
 Customer relationships
 Advanced bookings
 How can the real estate value be separated from the going
concern to avoid taxation of intangible assets?
INTANGIBLE VALUE - GOING CONCERN
42

 Lets build a small hotel in Florida to see if we can identify intangible value.
 Assume Stabilized market 68% occupancy and $115 ADR, 2 years to stabilize.
 Land value $1 million, buildings $4 million, and FF&E $500,000.
$
43
Building
Building
Building
Land
Land
Land
FF&E FF&E FF&E
Day 1
0% $91
$5.5 Million
Year 1
60% $101
$6.0 Million
Year 2
68% $115
$6.5 Million

44

 Without regard to inflation, where are we in year 3 after we shut the
hotel down for 6 months?
45
Building
Building
Building
Building
Land
Land
Land
Land
FF&E FF&E FF&E FF&E
Day 1
0% $91
$5.5 Million
Year 1
60% $101
$6.0 Million
Year 2
68% $115
$6.5 Million
Year 3
0% $91
$????
?

Court Cases
46

 Roehm v. County of Orange (1948)
 California Supreme Court held that intangible assets and rights
be “reflected” in the assessment of property.
 GTE Sprint Comm. Corp. v. County of Alameda (1993)
 First District of the Court of Appeal held that identifiable
intangible assets had to be valued and removed by taxing
agency under income
 County of Orange v. County Assessment Appeals Board (1993)
 Appellate court held that using a cost approach method was a
valid means for directly determining the value of the tangible
taxable property alone.
 Service America Corp. v. County of San Diego (1993)
 Fourth appellate district held that that portion of income
attributable to intangible assets had to be excluded
 Only income generated by real property may be used to
determine assessed value when an income approach method
was used to value the property.
BRIEF HISTORY
47

 Shubat v. Sutter County Assessment Appeals Board (1993)
 Third District Court of Appeal ruled that it is appropriate to
deduct the appraised value of specifically identified
intangible assets from the value of a going business concern
in order to arrive at the assessed value of the remaining
tangible taxable property.
 “Maddy Bill” (1995)
 California Legislature codified as Revenue and Taxation Code
sections 110(c) through (f) and 212(c).
 Legislative provisions put many of the issues resolved by the
1993 appellate court decisions into statutory form
 Statutes created some confusion by including a provision
carried over from Roehm v County of Orange, namely that
the presence of intangibles be assumed in order to put
property to beneficial and productive use.
BRIEF HISTORY
48

 State Board of Equalization (1998)
 Assessor’s Handbook Section 502, “Advanced Appraisal”
 Chapter 6 describes the correct manner for handling intangible assets
and rights.
 Page 152 states requirement that value associated with intangibles be
excluded from a property’s assessed value:
“[Revenue and Taxation Code] sections 110(e) and 212(c) do not
authorize adding an increment to the value of taxable property to reflect
the value of intangible assets and rights necessary to put the taxable
property to beneficial or productive use. Instead, those sections indicate
that, in valuing taxable property, it is appropriate to assume the
presence of the intangible assets and rights which are necessary to put
taxable property to beneficial or productive use. For example, a business
which owns taxable property may need working capital and other
intangible assets in order to productively use its tangible property.
Although the presence of the intangible assets is assumed in the
valuation of the tangible property, this does not mean that their values
are included in that valuation.”
BRIEF HISTORY
49

 Mola Development Corp. v. County of Orange (2000)
 Fourth District appellate court states:
 “For purposes of its value to California law, the Sweepster opinion is
faulty mainly in this regard: it included the value of a clear intangible in
the value of the real property …. The correct approach is actually the
opposite, given our Constitution’s mandate to value just the property. * *
* But that is the result of the fact that we are only dealing with real
property tax valuations. If you buy real property plus an intangible, you
are only taxed on the value of the property.”
 State Board of Equalization in December (2002)
 Letter to Assessors (LTA No. 2002/078)
 Sets forth “Guidelines for the Assessment of Billboard Properties”
 Requires the exclusion of intangible asset value from the value of
taxable billboard properties.
 The cost approach is the preferred method for determining assessed
value because it does not capture the value of intangible assets and
rights.
BRIEF HISTORY
50

ELK HILLS CASE
51
Elk Hills v. Board of Equalization (August 2013)
 Elk Hills Power Plant
 Kern County, CA
 Under Construction/ Delivery in 2020
 Combined cycle facility
 500 megawatts
 Natural gas-fired
http://www.energy.ca.gov/sitingcases/elkhills/

 Tax Payer - Elk Hills Power, LLC
 In 1999, Elk Hills applied for a permit to construct and operate
a power plant
 Required to purchase Emission Reduction Credits (ERCs) to
offset emissions
 Cost of ERCs was $11M
 The Board of Equalization (BOE) used the cost approach and
the income approach to calculate the unitary value of the plant.
 In applying the cost approach, the BOE added the estimated
cost of replacing the ERCs.
 In applying the income approach, the BOE chose not to deduct
the value of the ERCs from the overall value of the plant.
ELK HILLS CASE - CONTINUED
52

 Elk Hills challenged the BOE’s valuation.
 Elk Hills - ERCs are intangible assets, which are exempt
from property taxation under California law.
 BOE – Tax authority is permitted to “assume the
presence” of the intangible ERCs when valuing the taxable
power plant because the ERCs were necessary to put the
power plant to beneficial or productive use.
 ERC value included in power plant’s unit value.
 ERC intangible not exempt from property taxation
 Trial court found for the BOE.
 The California Court of Appeals affirmed.
 Elk Hills petitioned for review by the California Supreme Court
 Cited section 212 and 110 (d)
53

 California Supreme Court made 4 observations
 The value of intangible assets, with certain exceptions,
cannot be taxed directly or subsumed in the value of
taxable property.
 When valuing taxable property, assessors may assume the
presence of intangible assets that are necessary to put the
taxable property to beneficial and productive use.
 Assuming the presence of intangible assets permits the
value of taxable property to be enhanced from salvage
value to fair market value.
 When a unit value includes the direct valuation of an
intangible asset or includes income attributable to
enterprise value, those values must be accounted for and
removed.
54

 California Supreme Court Findings
 Cost Approach
 BOE impermissibly included the fair market value of the ERCs
within its unit value calculation
 Including the fair market value of an intangible asset within
the unit whole amounts to the direct taxation of those assets.
 BOE impermissibly added the fair market value of the ERCs to
the unit whole as part of its cost approach, and then failed to
deduct that value prior to assessment.
 Court of Appeal erred in upholding the BOE’s valuation of Elk
Hills’s plant under the cost approach.
55

 California Supreme Court Findings
 Income Approach
 Direct intangible assets, such as goodwill, customer base, and
favorable franchise terms, must be deducted.
 Indirect intangible assets do not need to be deducted from an
income stream analysis prior to taxation.
 The ERCs contributed indirectly to the business income stream
because the ERCs enabled the subject property to function and
produce income as a power plant.
 BOE was not required to deduct the fair market value of the
ERCs from the fair market value of the unit, and the Court of
Appeal did not err in this regard.
56

The Supreme Court citations (August 2013):
 Section 212 (c) and Section 110 (d) - The value of intangible
assets cannot be taxed directly or included in the value of
taxable property;
 Section 100 (e) - When valuing taxable property, assessors may
assume the presence of intangible assets that are necessary to
put the taxable property to beneficial or productive use;
 In Use Premise (Going Concern ) v In Exchange (Salvage
Value)
 Section 110 (f) - When the valuation includes (separable)
intangible asset or includes income attributable to enterprise
value (e.g., working capital), those values must be accounted
for and removed.
 Separable v. Inseparable Intangibles
57

This case (May 2014) addresses intangible valuation theory
in the assessment of the Ritz Carlton Half Moon Bay Hotel.
The question at issue was “how to properly value taxable
property, with associated intangible assets, at fair market
value.” California Court of Appeals overturned Assessment
Appeal Board and Trial Court that agreed with Assessor.
HALF MOON BAY CASE
58
58

 Assessor Enrolled Value:
Sales Price: $124,350,000
Personal Property: $7,370,000
Taxable Real Estate Value: $116,980,000
 Assessor Valuation:
Market Value: $129,700,000
Personal Property: $7,340,000
Real Estate: $122,360,000
Enrolled at (within 5% of appraisal): $116,980,000
 Property Owner Valuation:
Market Value (Purchase Price): $124,350,000
Less Personal Property: $8,000,000
Subtotal: $116,350,000
Less Taxable Real Estate: $99,500,000
Intangible Assets (goodwill and 3 others): $16,850,000
HALF MOON BAY CASE - CONTINUED
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 The Assessor valuation deducted the management fee
and the franchise fee in Income Approach which was
assumed to address intangible value. (Management Fee
Method).
 The Assessor attempted to discredit Assessor’s Handbook
(Sec. 502) which requires removal of intangible values in
property assessments.
 Assessor relied on California Assessors’ Association’s
position paper 99-003 rejecting the Assessors’
Handbook. The California Assessors’ Association does not
agree with the Assessor’s Handbook.
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 Taxpayer expert testified that intangible value is a residual.
 Taxpayer expert testified that the Management Fee Method
does not capture all intangible values. Specifically did not
address:
1. Hotel work force in place: $1,000,000
2. Leasehold interest in a parking lot: $200,000
3. Agreement with golf course operator: $1,500,000
4. Goodwill: $14,150,000
Total: $16,850,000
 Court ruled that method used by Assessor violated law as it did
not remove all intangible items.
 Interestingly, ruling did not require assessor to recalculate
goodwill, just workforce, parking leasehold and golf course
agreement.
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 Why are cap rates higher for lodging than for traditional
commercial real estate? An hypothesis is that the cap
rate includes a return on intangible items.
 We can look at rates from PwC National Real Estate
Investor Survey for 2nd Quarter 2014 (Korpacz):
 Reasonable rate is 7.75% for our subject full service hotel
and 6.50% for other asset types.
 Note that a management fee is already deducted when
the hotel cap rate is derived.
INTANGIBLE VALUE - LODGING PROPERTIES
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Asset Type Overall Rate
Full Service Hotel 7.73%
Regional Mall 6.60%
Power Center 6.65%
CBD Office 6.30%
Suburban Office 6.75%

 We will need to know the required return for the intangible
business operations.
 We can find the business cap rate from a business valuation
resource. Operating hotel companies trade at 6 to 7 multiples
of pre-debt EBITDA or cap rates of 14% to 16%. We will use
15%.
 With rates estimated, we can allocate percentage of value
allocated to each component based on iteration of weighted
rate.
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Weighted Cap Rate: Market Iterated Proof
Real Estate Rate: 6.50% times 85.3% = 5.54%
Business Rate: 15.00% times 14.7% = 2.21%
Going Concern Rate: 7.75% times 100.0% = 7.75%

 The property value can be allocated between real
estate and intangible value.
 The property was valued as a going concern for $20
million. Based on estimated rate of 7.75%, the NOI
can be calculated:
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Value Conclusion and Net Income:
Hotel Going Concern Valued at: $20,000,000
Cap Rate Used: 7.75%
Indicated NOI / EBIDTA: $1,550,000
Allocation:
Hotel Real Estate: $20,000,000 times 85.3% $17,058,820
Intangible Value: $20,000,000 times 14.7% $2,941,180
Going Concern Value: times 100.0% $20,000,000

 If the NOI is $1.55 million, we can prove the allocation by
capitalizing the income from each component.
 One method of determining intangible value is the
management fee which was deducted. The calculation below is
based on a 20% net profit and 3% Mgt. expense.
 Does deduction of $279,000 in management fees account for
$2,941,180 of intangible asset value and $441,177 in net
revenue to intangible assets?
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65
Proof: Value Times Rate NOI
Net Income to Real Estate: $17,058,820 times 6.5% $1,108,823
Net Income to Intangible Assets: $2,941,180 times 15.0% $441,177
Total Net Income: $20,000,000 times $1,550,000
Management Fees:
Indicated NOI / EBIDTA: $1,550,000 20%
Expenses including Management: $7,750,002 80%
Total Gross Income: $9,300,002 100%
Management Fees: $279,000 3%

 In most taxing jurisdictions, the values of
intangible items must be excluded from
assessed values of real property.
 Even though intangible items may exist,
they may not add value to a going
concern.
 If there are intangible items of value,
there are numerous methods available to
extract the value of intangible assets.
CONCLUSIONS
66

QUESTIONS?
CONCLUSIONS
67

IAAO 2014 Intangible Presentation - Final

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