An Industrial Building Appraisal Done to both USPAP and RICS Red Book Standards

Some British investors wanted to buy a local factory in Torrance, a city of 150,000 residents in Los Angeles County. This was my second request this year to produce an appraisal report which met RICS Global Standards, also known as the “Red Book”. The RICS is the Royal Institution of Chartered Surveyors in London, providing guidance to the British Commonwealth real estate community since 1868. I spent the first 3 years of my career working for a British firm, Jones Lang Wootton, learning under RICS-trained valuers, one of whom became its international president. But it has been a long time.

My first reaction to the request to appraise under both standards was “How much difference could there be between the U.S. and British standards?” I have the 145-page Red Book from 2017 but have not read it in its entirety. I was surprised to find the Red Book to be more comprehensive and explicit than USPAP, the governing standard for the U.S.  Worse yet, USPAP (Uniform Standards of Professional Appraisal Practice) continues to get watered down over the years from powerful non-appraisal organizations. The Red Book promotes higher ethical standards. It also encompasses the International Valuation Standards.

One complicating factor is the Red Book’s reporting requirements based on British vocabulary.  The United States and the United Kingdom are two great nations separated by a common language. My many valuation assignments in the British Commonwealth have been awarded partly due to the inability of my American clients to understand RICS reports, so they hire me instead. British terminology such as “basis of value”, “lettings”, “tenure”, “freehold value”, “marriage value”, and “tittle-tattle”, etc., evoke confusion in American minds, getting me hired to travel to England, Scotland, Australia, Fiji, Jamaica, Barbados, Trinidad, Nigeria, South Africa, etc. as a valuer who can communicate in American English.

Still, the Red Book and USPAP share the same goal of preventing misleading appraisal reports in order to increase the public trust in appraisal reports.  What follows, though, is a chronicle of what happened when the seller hired an MAI to create a USPAP-compliant report and the buyer hired me to do a Red Book-compliant report.

When I arrived at the factory, the owner declined to meet with me, but he did state that he had an MAI appraisal report indicating a value of $9,350,000.  I asked if I could see the appraisal report, and he curtly countered my question with “Why would you want to see that?” I answered, “Most property owners insist that I read the MAI appraisals that they ordered, and I am always interested in what comparable sales were used.  But you are correct in understanding that I was hired to provide an independent estimate of value.”

Per Red Book VPS 1, I discussed with the British clients the scope of work that they wanted done. Right away they wanted me to be alert to any type of deferred maintenance. That was a fortuitous instruction.

The owner’s MAI committed an abdication of professional responsibility with the following remarks:

"This appraisal should not be considered a report on the physical items that are a part of the appraised property.  Although the appraisal may contain information about the physical items being appraised (including their adequacy and/or condition), it should be clearly understood that this information is only to be used as a general guide for property valuation and not as a complete or detailed physical report.  The appraisers are not construction, environmental, or legal experts, and any statement given on these matters should be considered preliminary in nature.

24) The observed condition of the foundation, roof, exterior walls, floors, heating system, plumbing, insulation, electrical service, and all other mechanical and constructions based on a casual inspection only and no detailed inspection was made.  The structures were not checked for building code violations, and it is assumed that all building components meet applicable building codes unless so stated in the report.  

Because no detailed inspection was made, and because such knowledge goes beyond the scope of this appraisal, any observed condition or other comments given in this appraisal should not be taken as a guarantee that a problem does not exist.  Specifically, no guarantee is made as to the adequacy or condition of the foundation, roof, exterior walls, interior walls, floors, heating system, air conditioning system, plumbing, electrical service, insulation, or any other detailed construction matters.  If any interested party were concerned about the existence, condition, or adequacy of any particular building or site component, we would strongly suggest that a construction expert be hired for a detailed investigation."

Here is a little secret about America’s commercial appraisers: Their average age is about 60 years old, and some are too fat and lazy to climb a metal ladder to the roof of a commercial building.  I did, and what I found was a mess up there.  This 30-year-old built-up composition roof, designed for a 25-year-life, had a multitude of patches and was spongy to the step, indicating water damage to the underlying plywood.  An inspection of the ceilings underneath found plastic wrapped portions filled with stained water, despite more than 3 months without rain. I estimated the cost of repairs to be $133,000. The HVAC equipment was also past its prime, and I estimated replacement costs at $24,000.

Although I found 5 industrial property sales in Torrance in 2018, the other appraiser failed to find any of these sales and instead used older local sales and sales from other communities.

When I started my private practice 12 years ago, I had an Israeli client that insisted that I inspect every roof, which was good practice.  When I later mentioned this on an on-line appraisers forum, I was surprised to be rebuked as unethical, because I was supposedly representing myself as a roof expert; it seems that American appraisers are the proverbial “housemaids that don’t do windows”.  Nevertheless, I find it unethical for an appraiser to fail to perform an inspection and ignore obvious damage. I sometimes subsequently advocate a professional roof inspection and let the chips fall where they may.  My own philosophy is: “Condition is relevant to value.” It bothers me to see appraisers fail to do their jobs.

PS: I didn't think this post would be particularly interesting, but one should read the ensuing comments from angry American commercial real estate appraisers, such as: obviously, I must be a lowly residential appraiser because commercial appraisers do not inspect roofs. Or: obviously, I have a lack of appraisal experience, wait until I have 30+ years of experience. (I actually have 34 years of commercial appraisal experience, yet I still inspect a roof of a commercial building). Or the Houston appraiser who claimed I begged him for a job in the 1990s. This may have happened in the 1980s, but in the 1990s I was the chief commercial appraiser of the largest savings and loan association in the USA (not WAMU).

So, if you want your property inspection done right, please call me, not them.  Besides, they are all named "Anonymous".

More Appraisals in British Columbia: How Helpful is USPAP in Preventing Mortgage Fraud?

Harrison Hot Springs, BC

An applicant for a loan from my client was about to bid on a court-ordered sale of an assortment of foreclosed British Columbian land properties scattered all around the province.  The foreclosing lender had been a victim of mortgage fraud, feebly assisted by a supposedly reputable Canadian appraisal firm. 

The previous owner had manipulated the appraisers into conducting “hypothetical appraisals” with such instructions as “Do not talk to the local government”, “Assume that the properties are rezoned”, and “Assume that all geotechnical reports are satisfactory”. Much of the land was mountainous, and geotechnical reports are needed to forecast the likelihood of landslides. Steep, rocky mountains, heavy rain, and seismic activity are serious concerns in British Columbia, but I will tell you more interesting details later in this post.

The prior lender was a private Canadian lender who apparently did not actually read the previous appraisal reports. The Canadian appraisal profession has a Uniform Standards of Professional Appraisal Practice similar to the U.S.A., and there were many disclosures and disclaimers in the appraisal reports relating to the Extraordinary Assumptions and Hypothetical Conditions that the client, a purported real estate developer, forced the appraisal firm to use.  When the hypothetical conditions were as outrageous as the ones used in these instances, though, the most appropriate action an appraiser can take is to refuse the assignment. Why have your name associated with mortgage fraud?

The very definition of “hypothetical” is assuming something untrue to be true.  Hypothetical conditions have their place in sensitivity analyses and “what if” scenarios within a real estate organization, but they are completely inappropriate for appraisals submitted to lenders.

The fundamental problem is that few people know how to read appraisal reports, and many lenders look only at one number, the appraised value, not reading all of the assumptions and limiting conditions behind that estimate of value. 

In this case, the appraisals were predicated on assumptions of rezoning, development approvals, favorable environmental and geotechnical reports, and the ability to build homes on a mountainous site.  Yet, the appraisers obeyed the instructions not to talk to the local government.  They did not even consult the on-line zoning map.

When I am hired to appraise “development land”, the local planning officials are the first ones I call. In the sphere of people appraisers need to talk to, I usually find the planning officials to be the most helpful and honest. The added benefit is if the development plan has been rejected or not even submitted, that shortens my appraisal assignment.

As for geologic issues, the previous owner had disingenuously hired a geologist to perform a geotechnical study on only the flattest parcel of the parcels that he was financing. The geotechnical report indicated the chance of a landslide as less than 1 in 500 years, but for only that flat parcel, but the owner tricked the lender into thinking that all the parcels pledged as collateral were safe from landslides. This led to unrealistic assumptions.

But wait!  Many of the properties were situated at the southern end of Lake Harrison, a lake surrounded by mountains, the largest of which is Mount Breakenridge, 7858 feet in height, which is being monitored by geologists for its increasing unstable rock slope.  When large parts of mountains fall into a lake, a “megatsunami” is triggered, flattening lakeside communities.  In December 2007, for instance, Lake Chehalis, a much smaller lake a few miles west of Lake Harrison, had a 600-foot tall rock face of a mountain fall into the lake and trigger a tsunami that created a wave so high that trees up to 124 feet above the lake were flattened. Fortunately, there were no communities on Lake Chehalis, and no one was camping there in December.

Remnants of the disaster 11 years ago at Lake Chehalis

A graphic example of this phenomenon can be seen in Norway’s first disaster movie, “The Wave”, a fictional story of the exact same phenomenon and the loss of life it can create.  Norway did lose a whole community to a megatsunami in a fjord back in 1934.

"The Wave", a recent Norwegian film

Nevertheless, the client was just offering a one-year bridge loan, and these types of geologic events are seldom and do not appear to be affecting real estate markets, which is all that an appraiser is supposed to measure, so this geologic phenomenon did not go into the report.  After all, I live in southern California, where the “Big One”, the most powerful earthquake that will occur in California history, is predicted by scientists to occur in the next few decades, but this has not deterred the southern California real estate market from reaching all-time high prices in many places.

Another EB-5 Regional Center Failure: Imperial Regional Center

Heavy presence of food and beverage operations. The developer is also a restaurant supplier.

The goal of the EB-5 regional center was to develop a 78-acre commercial center (“Imperial Center”), in the unincorporated town of Heber, in Imperial County, California, containing over one million square feet of building area, mostly focused on retail, wholesale and food and beverage operations, with a hotel, cinema, and public space. There are 135 Chinese investors who have supplied $67.5 million in funds in order to secure a U.S. green card. The first phase of the center, which was an ARCO gas station and AM/PM Minimart, has been successful.  The second phase consisted mostly of food and beverage operations, including 4 restaurants and a nightclub. All are open now. The third phase has not started, and an aerial map from March 21, 2015 shows no further development since that time more than 3 years ago.

On May 11, 2018, Imperial County filed a complaint against Pacificland International Development, the company operating Imperial Regional Center, and its Chief Executive James Lo after failing to make first payment on a $2.2 million loan from Imperial County’s Community Benefit Program, failing to pay property taxes of $252,700, failing to pay contractors $354,000, and having $607,000 in liens placed against the property. On May 24 Judge Jeffrey Jones granted the county’s request to appoint a receiver to take possession and control of Imperial Center.

An aggrieved Chinese investor hired me to investigate the situation and do background checks on CEO “James” Chun Nan Lo and his wife. Both had three “unspecified” criminal convictions in Riverside County, California, but more investigation was needed to determine if their crimes were relevant to being entrusted with $67.5 million in investor funds. Mr. Lo also previously had a tax lien from the State of California as well as a civil judgment against him. Their main home was also in loan default from 2009 to 2012, when they were running this center, and then their loan problem went away.

Mr. Lo also owned several other companies, one of which is “Veggie & Tea House”. A “Veggie and Tea House” truck was on site during my inspection, making me believe that he and his wife were the restaurant suppliers to the center, a possible conflict of interest, and maybe the reason why this fledgling center already has 5 food and beverage operations.

If Imperial Regional Center is not paying its loans or property taxes or contractors, perhaps some of its income is being diverted to the Lo family through Veggie & Tea House.

The attorney writing the complaint for the cheated investors is Jing Wang, Esq., Kingswood Law, Diamond Bar, California.