The Evolution of Community Appraisal PART 1

by George Allen, CPM Emeritus, MHM-Master

VVeteran manufactured housing professional George Allen in a two-part series exclusive to the MHInsider provides a review of manufactured housing community and land-lease property valuation approaches. This is the first in the series.

The valuation of land-lease communities has long been a niche specialty among investment real estate appraisers. Frankly, few professional real estate appraisers have ever really identified and comprehended the characteristics and peculiarities of this unique real estate asset class!

Here are a few examples…

The possibilities of one, even two streams of rental income — one from leased land, the other from homes, and

the reality of it being significantly less expensive to operate a community fully populated by homeowners/ site lessees, than a like-sized conventional apartment community, for instance – given the latter’s much higher annual turnover of tenants results in increased marketing and maintenance expenses, which is an increased workload on staff.

It wasn’t until the early 1990s, when the text “Development, Marketing & Operation of Manufactured Home Communities” introduced the asset class’ first industry-standard chart of operating accounts and related operating expense ratios. Appraisers finally realized the Institute of Real Estate Management “experience exchange” figures they were using, for conventional apartments, always overstated by 10%, estimated operating expenses in manufactured home communities. That was a game-changer!

But I’m getting ahead of myself.

There once was a time, back in the 1970s and early ’80s when community value was expressed widely, almost solely as “dollars per rental homesite”. Specifically, “value per rental homesite”. For example, the property sale price of $2.88 million divided by 200 occupied rental homesites equals $14,400 per rental homesite. While that expression certainly gives one a “feel” for value in the local housing market, it glosses over other pertinent value factors such as degree of functional obsolescence (i.e. older rental homesites too small to site contemporary 16X80 single-section homes), property location and street layout, number of rental homesites, and more.

It was the anticipated debut of real estate investment trusts (REITs) during the mid-1990s that forever changed the nature of community valuation. In large part, because several property portfolio firms (ELS; Sun Communities; UMH Properties; Chateau Communities, to name a few) planned to go public and needed enthusiastic support of Wall Street analysts to do so. That came about, given new performance measuring statistical tools like the annual ALLEN REPORT, aforementioned Chart of Accounts & OERs, and the valuation of these unique income-producing properties using all three traditional approaches to investment real estate appraisal: replacement value, market value, and income capitalization valuation.

It’s outside the scope of this column to describe the basic methodologies of these three doctrines. But know that prior to the introduction of the industry-standard chart of accounts and its OERs, when licensed appraisers valued manufactured home communities, using conventional apartment OERs as a guide, their formal reports were almost always in error! Anecdotally, I made a comfortable living, prior to 1994, as a review appraiser, often testifying in court, as to how subject appraisal reports consistently undervalued this unique property type. Of course, with the correcting and refining of appraisal methodology, it became commonplace for manufactured home community owners and operators to better learn, and become proficient with the use of income capitalization rates, or cap rates, when estimating the value of their holdings and anticipated acquisitions. »

Allen Legacy How Do Cap Rates Work?

Cap rates, of course, are ascertained by dividing the annual Net Operating Income of a property recently sold, by the actual sale price of the property. Again anecdotally, I knew one veteran fee manager of manufactured housing community portfolios who never could get the hang of how ‘cap rates’ worked to measure value.

So, just how does the income capitalization calculation of land lease realty pencil out? Simply put, it’s the number of occupied and paid rental homesites times the per site rental rate. Then multiply this subtotal by 12 months to annualize the income. Now multiply by .6 (this 60% is the mathematical reciprocal of 40% OER, the national average OER for land-lease communities. and finally divide by .10 (The rule of thumb average cap rate for an average community) to estimate the value for an average community (whatever that is).

Example of How Cap Rates are Figured

Take 200 sites x $200 x 12 = $480,000. Multiply this subtotal by .6 and then divide by .10, and arrive at an estimated value of $2.88 million. Now, there is a shortcut to this methodology, and I’ll share it in part II. In the meantime, estimate the value of vacant rental homesites (via replacement methodology?), and value of park-owned homes by book value or income capitalization, adding both values onto the estimated land lease value.

Another emerging and now essential tool of the time was the development of due diligence in community transactions, a topic we will take on in part II of this short series on land-lease community valuation. MHV

George Allen has owned and fee-managed land-lease communities since 1978. He’s a former MHI Industry Person of the Year and a member of the RV/MH Hall of Fame. He has been designated a Certified Property Manager-Emeritus and a Manufactured Housing Manager-Master. He’s also a senior consultant and staff writer with EducateMHC. Allen can be reached at (317) 346-7156 and gfa7156@aol.com.

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