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Title:
How to Value Retail Warehouses Mezzanine Floors
Date:
03 - 01 - 2007
The saga of controls on the installation of mezzanines ended on 10 May 2006 following the introduction of the Town and Country Planning (General Development Procedure) (Amendment) (England) Order 2006 (SI 2006 No. 1062). The Government felt it necessary to deal with the "loophole" by way of primary legislation and therefore used the Planning and Compulsory Purchase Act 2004 to enable it to change the definition of development.
Planning controls what can be done but not value. To paraphrase Lord Denning in Viscount Camrose v Basingstoke Development Corporation (1966) 3 All ER "it is planning and demand that create value".
Valuation of mezzanines has, until relatively recently, not been a major issue. They have been few in number and in the vast majority of cases been inserted by occupiers and disregarded on review as tenants' improvements. The Rating World led the way as they fall to be valued for rating purposes irrespective of who puts them in - there are no disregards.
What are mezzanines? A simple question and a simple answer – an intermediate or inserted floor, often extending to a lesser area than the main floor. However, let’s look at the question from a functional perspective and rephrase it. Are they part of the "building" or in reality part of the retailers trading environment? Technically they form part of the structure, but so do some of the other works retailers usually carry out on taking a building. There is no clear answer to this but in the authors’ view they are in reality part of the fit out to create the retailer’s trading environment.
Why?
• Not all retail warehouse operators insert mezzanines - Next have a number but Carpetright, Currys and Focus have very few
• There are significant differences with regard to design, size and specification – A mezzanine in Homebase is very different to one in Next
• On re-letting little or no value is placed upon them and in some cases they will be taken out or undergo significant alteration e.g. Tesco Homeplus at Chelmsford.
This leads us to conclude that they are more in the nature of customised fit out works.
Where does this lead us with regard to value? What happens in practice?
RE-LETTINGS – Little real value added. We have yet to find a consistent body of evidence to support an addition. The relettings of Alders at The Brewery in Romford and the former Texas at Parkway, Chelmsford to Tesco Homeplus support this.
INITIAL LETTINGS – In some cases the landlord will have funded the mezzanine as part of the original deal. This will often be based on a cost plus approach. Additions vary significantly.
RENT REVIEWS - These tend to vary quite considerably from 10% of main space value up to 50%. In many cases the size of the mezzanine has been quite limited and not value significant and we suggest that the parties will often compromise on valuation approach in order to agree a deal.
RATING – A cost approach has been adopted. This acknowledges that in reality the tenant takes the ground floor space and then spends money that is intended to create an improved trading environment. However, the extent to which this increases value in the open market is open to question.
It is clear to us that there is no real consistency. Should there be differences depending on the type of transaction?
The answer may depend if we look at value in use or value in exchange.
Rating is slightly different to the real world of lettings and the "half way house" of rent reviews. In Rating we have to consider the value to the occupier. In essence the value of an alteration should have some correlation to the benefits of occupation. The Valuation office approach is to take decapitalised cost as representing value. However, ratepayers will argue that the market value is "one bid plus a £1" – to secure works that relate to ones own corporate requirements, you only have to bid £1 more than the bid of another tenant. We suggest that this looks simplistically towards value in use. However, the reletting examples are more towards the pure value in exchange. The mezzanine exists and in most cases will not meet the incoming corporate requirement - they will only pay £1 more than the bid of another competing occupier, or in some cases, even require it to be taken out.
New lettings where a mezzanine has been inserted by the landlord will be a mix of the two, but the design and specification will follow the particular retailer’s corporate requirements. The landlord may provide, but only at a return, with a value that is consistent with its own rate of return requirements. Therefore, the tenant’s may need to marry up the landlord’s return with their value in use. This may, but will not necessarily, be the same as value in exchange. Each case will vary and it will be difficult to use this as evidence unless the circumstances are similar. We suggest that re-lettings are the means most likely to show the true open market value of specialised works, such as mezzanines, undertaken by or on behalf of a particular occupier.
What should happen on Rent Reviews?
Rent reviews should follow the re-letting evidence as this is closest to value in exchange which is the underlying aim of most review clauses. Where such evidence does not exist a cost based approach should be considered as a guide to provide the maximum value. This follows the market where in the vast majority of cases a retailer pays for and erects the mezzanine. The rent they pay for the ground floor will in most cases reflect the ability to install a mezzanine and if a value greater than cost is added a degree of double counting will exist.
GL Hearn is organising a client seminar to debate this issue and related matters. If you would like to attend please contact Laura Adkins on 020 7851 4926 or email:
[laura_adkins@glhearn.com]
andrew_hetherton@glhearn.com
steve_cowperthwaite@glhearn.com
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