‘The Two-Tier retail rental market benefits no-one incl: banks shareholders landlords tenants Governments potential investors franchise industry’

Don Gilbert is a Specialist Retail Valuer (“SRV”), a 3D Economist and an arbitrator. He provides independent, impartial advice to landlords, prospective investors and tenants.

He is also the inventor of the GEM Method of evaluating current market rent. 

Copyright ? Donald E Gilbert as Trustee Gilbert Family Trust (1993 – 2019)

TITLE

‘The Two-Tier retail rental market benefits no-one incl.: banks shareholders landlords tenants Governments potential investors franchise industry’

TARGET AUDIENCE

Retail Tenants, Landlords, Investors, Valuers & Property Professionals (and their Associations), Banking and Finance Industry, Regulators, Academia and other professionals

INTRODUCTION

The National Press and Colleagues (using social media) constantly hammer: debt funding that has been used to push up and prop up the residential market; unrealistic rent levels; conflicts of interest with Councillors who are real estate developers; the wrong use of Monetary Policy by our Central Banks; distressed mortgage debt and impact on residential house prices; bad bad quality of apartments; etc. but in Queensland our “culture” is to hush it all up.

On the other hand, part of our “culture” here is to aid and abet it; and to blame it on our Southern counterparts!

In fact a lot of our bad practices arise from Queensland, which we “transport” interstate, and perhaps even overseas.

The aim of this article is to present a case that the outcomes of this crazy behaviour is hugely detrimental to all stakeholders including: banks shareholders landlords tenants Governments potential investors franchise industry.

This crazy behaviour breaches IVS (‘International Valuation Standards’) and I cannot for the life of me understand why it is tolerated and or accepted by stakeholders. Why do they NOT seek proper in your face advice?

Corrections of a two-tiered market aka the GFC and now Covid-19 cause not only the “engineered” portion to crash, but also that portion that needs to correct for the inevitable correction caused by some external event.

BACKGROUND AND CASE STUDY USING GEM METHOD

My research shows valuation practice has done little to evolve say for the last 50 – 100 years plus, beyond:

1.     Taking original cost of land plus development costs plus Local Government fees and charges plus developer’s profit and justify it; and or

2.     Taking above, plus say increments under the leases to justify same; and or

3.     If sold, to use the same metrics, add some form of multiplier and to justify same.

Effectively, it is a “cost based” system, it is cost based methodology, with some valuation methodology tacked on to justify a selling or purchase price.

So who has actually come in and suggested this is not working; let us fix it.

Now say that through the efflux of time, businesses have come and gone, leases have escalated (and the latest trend is to avoid scrutiny, to convert the lease into a financial tool by offering long long leases aka 10 years without reference back to the market); hence what changes?

The same Tenancy Schedule is used, there is some naval scratching; a multiplier is applied. “Look mum; market value”.

And, those leases are “engineered” in Queensland by: our major Property Management firms (it is clearly on record); our Valuers and Specialist Retail Valuers (it is clearly on record); our Institutes who are members of the International Valuation Standards Council, who give this active support via our so-called Technical Information Paper authored in Queensland[1] which I have tried to change. 

And became The Target of The Lynch Mob! Clearly they are unable to understand the consequences of this silly behaviour. It costs the Community, Governments, Shareholders, Investors. Squillions …………..

The Case Study I am presenting, is our response to a ONE Landlord’s Submission, which is unauthored and unsigned in regard to a recent rental determination, whose purported evidence we ran through my GEM Software.

Two critical points are made:

1.     Consider all of the Australian Shareholder capital that has gone up in smoke in these two papers alone presented at IVSC – WAVO Conference in Singapore and IVSC – ANEVAR Conference in Romania in 2018: https://www.dhirubhai.net/pulse/evaluating-reasonable-rent-one-retail-lease-don-gilbert/ and https://www.dhirubhai.net/pulse/evaluating-risk-multiple-leases-rent-multiples-market-don-gilbert/ and presented again in Canberra at API – PRRES Conference in Jan 2020. One Small Regional Bank in Queensland’s shareholders alone coughed up another $500,000,000 to recapitalize it post-GFC due to the archaic ridiculous behaviour which abounds in this state and gets exported to our Southern States and abroad; and

2.     Here is one case study which presents FIVE pieces of evidence, for FIVE small neighbourhood centres, which due to industry behaviour, shows just how bad this behaviour impacts on stakeholders mentioned above, seemingly aided and abetted by our own Professional Body representing Australian valuers appraisers. The consequences are multiplied out to another five properties!

In this article, there is another case study of just how bad this behaviour is in Queensland: https://www.dhirubhai.net/pulse/wrong-x-wrongxxx-how-valuation-practice-failing-ivs-regard-gilbert/

And whats more, I forecast the A-REIT crash two years before the GFC to within 3.0% of the $65.0 billion correction (coincidently minus 65.0%) due to understanding the internal metrics of the then two-tiered market, and the influence of debt funding to bolster s0-called shareholder returns! 

THE CASE STUDY

Gem Software’s application primarily is a comprehensive joint “value discovery” tool solution using GEM Method to bring landlords and tenants to informed conclusion of the reasonable rent for ONE Retail Lease with reasons why.

I have also used the application to:

1.     Retrospectively evaluate a rental determination https://www.dhirubhai.net/pulse/gem-one-acid-test-pharmacy-franchise-tenant-major-landlord-gilbert/ (a challenging Determination which QCAT wholly evaluated tested and endorsed);

2.     Overturn rental determinations for a franchised convenience store; except it was aided and abetted by the next determining valuer who did exactly the same thing. We have a deep deep cultural problem here; and

3.     Stress-test the metrics in regard to a landlord’s agent’s submission.

Rest assured, everyone might believe this software is will be was designed as a Tenant Solution; I believe that following on from the Covid-19 pandemic the software is going to be used by landlords as well.

So, tabled below is our summation / evaluation of the landlord’s “evidence” submitted.

There were FIVE data points. Out of 5.0; I evaluated that the veracity of it was worth circa 1.75 / 5.0. That is pretty poor.

GEM Software on the other hand can test that evidence and evaluate it and present it in order of its relevance. 

Here is a precis of the “engineered numbers” the International Real Estate Mob, who value property, sell it, manage it, lease it (and do not have a fundamental Conflict of Interest; who then do not act Impartially hence they breach Codes of Ethics and Codes of Practice which the Australian Property Institute does nothing about):

Table 1.

None of the evidence is “tested” 

Tenant’s evidence is thoroughly tested for site performance, occupancy costs, linked to industry benchmarks, historical current and projected sales vs rent and tenant’s Profit & Loss statements 

Landlord’s submission could be numbers from anywhere.

Tenant evidence once tested for veracity is then linked back to the shop in question and shown how it is relevant. 

 So what have they presented? Nothing. They are numbers.

They then say the numbers produce another number called 485. They add a dollar sign to it and put it on a square metre.

That is the number they were looking for to justify their argument. By multiplying 485 X 605 they say the shop has a value metric (sic) of 293,425.

I did a thorough forensic evaluation of those numbers (the evidence), to evaluate the veracity of each piece of evidence. Out of a total of 5 (the five pieces of evidence), I suggested that the “value” attribute of all of them combined might equate to 1.75 / 5 aka just short of 20.0%.

So how does the GEM Software modelling present what I have suggested, remembering this is an exercise to prove or disprove the veracity of the Landlord’s evidence. In this instance it is not an exercise to evaluate what the reasonable rent ought to be. We are simply using the software evaluate what the Landlord’s evidence actually is saying.

Step Three Fig. 1: of the GEM Methodology simply quantifies each piece of evidences’ approx. sales, including the subject premises on a sales per square metre basis.

The ABC International Brand Property Management Company’s unauthored unsigned submission’s Landlord’s evidence is presented via green bar graphs (we drilled down into the numbers and obtained them). As expected our evaluation and the Landlord’s number are exactly the same, except on of the Landlords figures ratchet up because their floor area is wrong.

Two figures appear as zero on far left had side (‘LHS’) as the evidence cannot be used.

The businesses whose lease is being evaluated presented via the mustard and dark blue bar graphs (declining sales; new competition in the area) trades at more than double the “average” of the Landlord and Tenant “average” shown in light blue. The only saving grace in the argument; but is that sufficient?

Figure 1.

The silver bar graphs are the sales required at an equivalent benchmark rate in order to pay the Landlord’s Agent’s suggested rent!

Step 4 Fig. 2: of the GEM Methodology simply presents the equivalent occupancy cost (rent: turnover) on the Landlord’s “engineered” “doctored” “face” rents again using the green bar graphs versus our efforts to adjust the leases for lease incentives.

The one lease as stated above was for a business with quite a different permitted use; it could not be used, the Landlord’s evidence as expected shows an occupancy cost range of 4.6% to 11.7% of turnover; industry benchmarks by comparison for the supermarket grocery store equivalent to pay between 2.0% to 3.5%; noting 3.5% considers a store in a high-growth catchment zone! Aka the businesses’ forward performance metrics will exceed the rent increments under the lease.

The yellow bar graphs clearly show how bad the Landlord has presented their case.

The details appear in the Table. The store whose effective rent in fact is 6.4% of turnover is ready to walk away from the lease. Tenant Evidence 4 is a very old lease and they are struggling.

Make no mistake, the cross-over of this material enabled us to correct information we got wrong. We did not know that one of the pieces of evidence we used in our initial submission contained $500,000 worth of in situ fitout, left behind when the previous business walked away from their lease!

Figure 2.

Steps 5 & 6: of the GEM Methodology standardises all the evidence to:

1.     The size of the shop whose lease is being evaluated; and

2.     Converts that annualised gross effective rent into an occupancy cost, equivalent to the premises whose lease is being evaluated’s anticipated future maintainable sales.

There are three data series shown in Step 5 and Step 6, with the magical dollar per square metre data series, shared in the two graphs.

One can then rotate between Step 5 and 6, to see how any “number” is relevant to the existing rents being paid, to any piece of Landlord or Tenant “evidence”, to any benchmark, and link same to the Profits Method (hence excluding fixtures and fittings and goodwill).

As expected all the Landlord evidence gravitated and “clustered” around the existing rents that were are being paid.

As they were all “untested” for their veracity, no adjustments had been made for “incentives” aka all “face rents”, one piece of “evidence’s” floor area ratcheted up the rental rate, one piece of evidence was from the wrong permitted use, another was very dated (and in trouble), two had had (have been) on rent relief and several businesses prepared to close down, none of the evidence per se was relevant.

Our attempt to put some meat on the bones shows the effective gross rents aka rent adjusted for incentives and or sometimes adjusted for a more realistic occupancy cost and or a more realistic rent are far far lower.

Noting of course that these stores trade far lower than the subject premises (refer back to Step 3), this of course must deflate or ratchet this figures down more.

Figures 3 & 4.

Conclusions

What the GEM Method has done here is to contrast and present the Landlord’s case for what it is. Unsigned and authored.

Financial Institutions are lending on this rubbish; investors are borrowing on this rubbish; shareholders and “investors” have invested in both the brick and mortar and or Property Trusts and or the Banks themselves.

The agencies are marketing and selling on this rubbish.

Some valuers (appraisers) believe this rubbish.

By failing to judiciously sanction and impose Codes of Ethics and Codes of Practice our Professional Institutes and Institutions are letting down the rest of our Profession badly.

By granting awards to organisations and individuals not wanting for their so-called service to our Professional Institutes and Institutions, further misdirects and misrepresents the true direction of what is acceptable and not acceptable behaviour.

That is not good enough in my opinion.

When a two-tier market corrects; it corrects the “engineered amount”; and then some!

And does it benefit: banks shareholders landlords tenants Governments potential investors franchise industry? No. What are we going to do about it?

And worse, the Australian Property Institute by having done nothing to withdraw the so-called TECHNICAL INFORMATION PAPER - ASSESSING RENT AND RENT DETERMINATIONS does not help. It aids and abets this bad behaviour!

Perhaps COVID-19 gives us time to pause, to step back and appraise just how bad we are doing it.

DG 3/4/2020

[1] TECHNICAL INFORMATION PAPER - ASSESSING RENT AND RENT DETERMINATIONS