A May 15, 2009 WSJ article stated the following: “Activists to TDS: You are breaking up.  Shareholders are pressuring Telephone & Data Systems to put itself on the market or split up.  TDS assets include 80.8% of U.S. Cellular, an independent regional wireless carrier. Southeastern Asset Management set a shareholder forum in New York on Thursday to let investors vent.  Friday, Southeastern plans a call with Glass Lewis “to discuss governance implications.”  No word on whether TDS gets the message.”

So it may not be new news, but it’s definitely back in the news.  Chicago-based Telephone & Data Systems (TDS) is reportedly under substantial pressure by institutional investors to put itself on the block.  Mario Gabelli’s Gamco Investors and Southeastern Asset Management, each of which control approximately 15% of TDS shares, are apparently prepared to go head-to-head with the controlling Carlson family, following its rejection just over one year ago of a $100 per share offer by an unnamed party…the stock has subsequently declined to just $25 per share, from around $165 in late 2007.

In a press release from Southeastern Asset Management dated Aug 11, 2009 and entitled “Shareholders Demand Change at Telephone and Data Systems, Inc.”, I believe TDS may start getting the message.

Of course, although we hate to rub salt in wounds, many stocks have lost 50% or more of their value in the past year.  But very few investors had the opportunity to avoid that morass thanks to an unsolicited offer to buy at a healthy premium.  Unfortunately, TDS investors didn’t either, because the Board apparently refused to entertain the bid.

The Carlsons, which own just 10% of the company’s outstanding equity but control 52% of the voting power, have famously (infamously?) refused to sell for eons, and as a result both TDS and the shares of its 81%-owned subsidiary United States Cellular (USM) have historically traded at large discounts relative to their publicly traded peers as well as relative to the companies’ intrinsic value.  No matter how many times Mario has pounded the table and urged CNBC viewers to consider TDS and USM, investors have snubbed their noses. No exit strategy? No big upside.

But given recent press reports, we thought a close look at the situation was warranted.  At the end of the day, the Carlsons may never submit to the pressure, and their voting control protects their position, but there have been precedents where uncooperative boards have caved to the wills of large shareholders, and Mario Gabelli has long been a proactive investor.  

Back in the late 90s Mario Gabelli and Lynch Interactive began a “friendly” letter writing campaign to convince Hector ceo Curtis Sampson, that Lynch acquiring 51% of Hector, at a minimum of $10 per share, was in Hector shareholders’ best interests.  Unable to court Sampson into accepting proposal after proposal, Gabelli continued to buy up stock and took his case to shareholders.  In 2004, he was successful in at least convincing Hector shareholders to eliminate the company’s poison pill policy.  After that, it wasn’t too long before Hector received an unsolicited offer.

More important than the hopes and dreams of America’s investing elite, however, are the long-term ROI prospects of TDS shareholders, including the Carlsons.  What’s it worth today, and what will the value trend be over the next few years?  Given the rocky economy and competitive environment, the answer to the latter question is murky at best, but we can tell you with a high degree of confidence that TDS is worth more—probably a lot more—than the $25 per share that it currently trades for.

We’ve run a rudimentary breakup analysis on the company, and we think that even after last year’s economic collapse, and based on what we consider to be conservative valuation multiples, the equity in TDS should be worth upwards of $10b—yet public market investors are valuing the company at less than $3b.

 Here’s how we get there:

First, we looked at the company’s guidance for 2009 results, and used the midpoint for revenue and OIBDA.  The TDS’ filed 10-K for year-end 2008 reveals that it expects to generate $275m in OIBDA in its ILEC and CLEC operations, on $800m in sales.  In order to select valuation multiples, we examined three recent deals: CenturyTel’s (CTL) pending acquisition of EMBARQ (EQ), Consolidated Communications’ (CNSL) 2007 buy of North Pittsburgh Systems (another investor inspired transaction) and Windstream’s (WIN) 2007 acquisition of CT Communications.  The average of the three implied valuation multiples in the 3x revenue and 8x trailing cash flow range, but given the events of the past year, and the lower level implied in the most recent EMBARQ sale, we went with a more conservative 2x revenue and 6x cash flow.   The indicated value for the telephone operations is about $1.6b.

Next we considered USM.  The company has historically posted lower-than average cash flow margins despite a healthy 13% penetration rate across its majority-owned markets, and guidance for 2009 indicates that about $900m in OIBDA is anticipated, on $4b in revenue.  Comparable sales examined, including AT&T’s (T) announced buy of Centennial Communications (CYCL), Alltel’s, SureWest Wireless’ and Rural Cellular’s sales to Verizon Wireless (VZ) as well as T-Mobile’s buy of SunCom Wireless, implied that valuation multiples for wireless service providers are in the 3x+ revenue and 9x cash flow range—even for the most recent transaction.  On a per subscriber basis, the value range indicated by the selected transactions was in the $2,100-$2,400 range.

Here again, we opted for a conservative approach, despite the fact that the Carlson’s reluctance to sell might indicate a more aggressive offer would be required.  At 2.5x revenue, 81% of USM would be worth $8.1b, which was our selected value, although the range indicated by $2,000 per sub and/ or 7.5x OIBDA is wide.

Combined, the ILEC/CLEC ops and wireless ops are thus worth somewhere north of $9.7b.  Additionally, TDS, via USM, is a partner in a Los Angeles cellular partnership, which generates $65m-$70m annually for TDS.  We capitalized the income stream at 10x, implying a value of $660m.

The company has a small printing and distribution division, which we valued at 1x the $25m in annual revenue it generates, and TDS was sitting on $777m in cash at end of last year.

Finally, TDS also owns substantial spectrum licenses which it acquired via its interests in four “Variable Interest Entities”, or limited partnerships. King Street Wireless, LP, Barat Wireless, LP, Aquinas Wireless, LP and Carroll Wireless LP have each purchased (or are pending grant of) spectrum licenses at auctions conducted by the FCC.  Each LP, which are substantially funded by TDS, received an entrepreneur’s discount of 25%, and combined, acquired a total of $560m worth of licenses in Auctions 73, 66 and 58.

The validity of the LPs’ bidding discounts are presently under investigation by the Department of Justice, and return of the $165m bidding credit along with treble damages has been requested in a complaint, but we have nevertheless included TDS’ net holdings at book value.  Should the ruling go against the company, we would have to reduce our breakup value by $489m, or about just more than $4 per share.

Net net, we value TDS’ asset base at more than $11.6b.  Reduce that by the $1.6b in long-term debt on the books (whose fair value is lower by the way), and around $10b in equity value—or $87 per share—is implied.

So what does it mean for investors wondering why TDS trades for less than 30% of that?  A few things. First, Mario Gabelli is no slouch when it comes to finding undervalued companies to invest in, and we have to agree with him that TDS is attractive at these levels.

But will there be a value unleashing event?  The sale of USM has long been predicted and there’s no doubt that any of the top- 4 wireless carriers would be happy to blend the company’s 6.2m subscribers into their base. And obviously there was interest in TDS just over a year ago, and reportedly at an even higher level than our analysis indicates.

But the Carlson family has stubbornly refused to entertain outside offers for more than a decade.  What might prompt it to change its mind now?  Noisy proclamations on the part of Gabelli and Southeastern could get shareholders stirred up, but there’s still that whole voting control problem.

More likely, the Carlsons are looking at the annual earnings of their companies and saying to themselves that while times may be difficult, that’s true for all industries right now.  Where will they do better?  Tough question to answer.

TDS’ dividend is just $0.41 per share, yielding less than 2% at current prices, surely – yet another reason that investors have shied away from the stock.  But the company has plenty of cash and has also been purchasing its own stock. Over the long run, a smaller share base will lead to higher prices.  Furthermore, TDS has relatively low debt, which means its ability to service debt and generate free cash flow are likely secure—and that means something these days.

The bottom line is that while it may yet be a long time coming, TDS shares are likely to climb eventually—and a little noise on the part of Gabelli and Co. might just provide something of an impetus, sooner rather than later.

Is prepaid mobile service the next huge wave of growth for the industry…or will it bring about a negative overall trend in wireless industry pricing and profitability?  That’s the $64k question this summer, and clearly Sprint (S) has taken a stance with its buy of one of the largest prepaid service providers nationwide. 

Of course, S has been bleeding customers for more than a year now, and with this deal, is acquiring Virgin Mobile’s (VM) 5m subs for what looks to be a pretty sweet price.  But even as Dan Hesse touts the growth of prepaid and the “value-minded consumers” of the recession era, in VM’s most recent quarterly conference call, Dan Schulman waxed earnestly about his company’s new focus on what he dubbed “LTV” or Life Time Value per customer, and how the growth in its “hybrid” plans will improve profitability over the long-term.  Meanwhile, S is rumored to be shopping its Nextel (iDEN) division, even as it trumpets the recent customer growth at prepaid iDEN division Boost Mobile…

 So which is it?  It probably depends on how far out you look…there’s no doubt the cheaper prepaid options are popular in these tough times, but as VM has already learned, subscriber growth doesn’t necessarily translate directly to revenue growth, or more importantly, cash flow growth.  And the recent trend toward substitution of voice minutes with text messaging and the general market pressure that intense competition is placing on traditional post-paid plan pricing could have a seriously deleterious impact on even the strongest carriers over the long-term. 

 S investors have voted with their stock—and they don’t seem to like the outlook.  Since the day before the VM deal was announced, shares in S have fallen more than 20%.  A downgrade by long-time wireless industry analyst Chris Larson (Piper Jaffrey) further depressed the stock price, after he reduced his target to $3.50 per share (from $5) and asserted that S is unlikely to achieve the cash flow targets that many have been forecasting.

 The slide in share price has already reduced the indicated value of VM, based on the collar established in the stock for stock transaction.  We’ve run the deal multiples through our Calculator based on the announced $5.50 per VM share price, but also had a gander at what S’ newly slimmer market cap does for the look of the deal.

 First, the base case.  S said that the agreement valued VM’s total outstanding equity (including the 13.1% already owned by S) at $483m.  An additional $205m in anticipated outstanding net debt brings the implied enterprise value of VM to $688m.

 Through the first half, VM generated revenue of $645m, so that puts the estimated run-rate revenue multiple at about 0.5x.  Over the same time frame, the company generated more than $90m in adjusted cash flow, but VM guidance for the full year is only $127m-$142m.  We’ve used $140m as our estimate for run-rate cash flow, which implies an OIBDA multiple of 4.9x on the deal.  In terms of free cash flow, VM expects to generate between $45m and $55m.  We’ve gone with the top end of that range, based on first half results, implying a net cash flow multiple of 12.5x.

 S says it expects to enjoy some synergistic savings once the buy is completed, but failed to quantify those savings.  In the interest of conservativeness, we estimated that operating expenses might fall by 5%–given the 15% margin VM was already making, we’re not clear that G&A savings will amount to a large number.  That would imply savings of $55m to $60m annually, and push pro forma cash flow and net cash flow to around $200m and $115m, respectively.  Now the multiples look more like 3.4x OIBDA and 6x net cash flow.

 The most telling data point comes when the deal is examined on a per subscriber basis.  VM had just under 5m subs as of June 30.  Based on the $688m announced deal value, that implies a per sub value of just $138. Of course, considering that ARPU was less than $20 in the latest quarter, that works out to around 7x monthly revenue.

 By way of comparison, Atlantic Tele-Network (Nasdaq:ATNI) is paying $250 per subscriber for the former Alltel markets it’s buying from Verizon Wireless (VzW), which we called a cheap deal.  Of course, ATNI is picking up a network with the deal and Alltel subs historically generated closer to $60 per month in ARPU, so it actually is relatively cheaper (although we’re not sure at this point what portion of the revenues Alltel generated on a per sub basis that ATNI will realize going forward).

 Adjusting the deal value for the drop in S’ stock price implies an enterprise value for VM of $631m, or 4.5x expected cash flow and 11.5x expected free cash flow this year.

 In general, and despite some obvious unique attributes that recent larger wireless deals have had, there’s a clear trend toward lower values.  Back in November of 2008, AT&T (NYSE:T) offered to pay an estimated 3x+ revenue and nearly 8x cash flow for the U.S. operations of Centennial Communications (NYSE:CYCL).

In May of this year, T and VzW announced transactions that valued the wireless operations involved at around 2.2x revenue and 6x cash flow…but the newest two deals of size in our roster came in well under 1x revenue and even less in terms of cash flow…These last two deals aside, we’d be surprised to see an announced transaction of any size come in where the T/ CYCL deal did less than a year ago.

 Getting back to VM…shareholders are no doubt disappointed with the recent performance of S’ stock price—and the implied haircut they’re already taking off the announced $5.50 per share price.

 The share for share deal has a collar of no more than 1.3668 and no less than 1.0603 shares for each share of VM.  Following S’ recent nosedive, the implied value to a VM shareholder (as of 8/11) was just $4.85 per share, and the stock traded at a 6% discount, or $4.56 per share.  Prior to the deal’s announcement, VM had been trading in the high $3 per share range, so there’s still been some decent gains—but the stock is nevertheless well off its $5.28 per share close of 7/28.  

 Looking ahead, we like the company’s decision to focus on growing its more profitable customer base at the expense of overall subscriber growth.  Schulman asserted that the LTV on its hybrid customers is now 15x the value of its traditional pay-as-you-go (PAYG) subs, and while we can’t seem to get to that figure, the difference in overall value per sub is clear.

 Hybrid subscribers had an ARPU of $42 according to Schulman, which he indicated is about 2.5x the ARPU of PAYG subs.  We estimate that the company’s base is comprised of about 14% hybrid and 86% PAYG subs. Further, the churn on hybrid subs is said to be much lower—we pegged that at around 2.2%, in line with other carriers’ contract customers. Blended, VM reported overall churn of 5.3% per month in the latest period, and ARPU of about $19.

 By our calculations, that makes the overall lifetime revenue per subscriber about $354 presently, but the hybrid customer is likely to generate more than $2,200 whereas the PAYG customer may only bring in $276—or about one eighth that of the hybrid sub. Schulman may be looking at cash flow or net cash flow when he comes up with the “15x more valuable” claim, but no matter how you look at it, future growth in the hybrid sub group and a conscious effort to limit unprofitable PAYG subs can only improve the company’s overall economic profile…and ultimately that of S as well.

Composition of Total State and Local Business Taxes, FY2003

 Source: Council on State Taxation

 A Risk Assessment Review of Your Property Tax Liabilities

Silver Oak Advisors helps you avoid bigger problems later by providing your company with a property tax risk assessment report that will help management to determine if they have appropriately accrued for the correct property tax liabilities.  As part of our property tax risk assessment review, we will provide your company with an analysis of your property tax system(s) to identify any potential tax risk issues. Some areas covered in the risk assessment review are:

• Review with company personnel to discuss property tax process and procedures used to compile data for property tax reporting.
• Review worksheets, documents, and systems used for timely filing of renditions with local Assessor jurisdictions.
• Review fixed assets records for proper assembly used for reporting.
• Review assessment calculations and related tax bills for accuracy.
• Tour facilities (if necessary) to inspect land, buildings, and personal property to determine if additional opportunities exist for further property tax reduction or additional liabilities exist.
• Review industry specific property tax issues related to Client business.
• Review current (if any) audit and appeals and make recommendations.
• Analyze Clients current company tax process, procedures, and practices and make recommendations accordingly to improve reporting systems.

The Directors of Silver Oak Advisors, a COMPTEL member, are pleased to announce the signing of PTMS as our property tax compliance software service provider.  This will enhance our proactive management of your property tax liability.

PTMS property tax software gives you total control over your personal and real property tax compliance process.  By putting you in control, PTMS ensures your success — minimizing the cost of tax compliance, as well as your property tax liability.

PTMS is the most widely used property tax software by corporate tax departments.  Customers include more than fifty percent of the Fortune 100®, and more corporate tax departments use PTMS than all other competing products combined.  TCI has earned its position as the premier property tax software provider through an ongoing commitment to product innovation and superior 24/7 customer service.

Many companies are ill-equipped to manage property taxes effectively.  According to CFO magazine, “property tax is one of the biggest tax expenses – and the hardest to manage”; and according to the Council on State Taxation, “American companies fork out more in property taxes than in any other type of state or local tax.”  The sheer volume of jurisdictions (over 12,000 townships, counties, and states) can be overwhelming.  Companies may have property in hundreds or even thousands of jurisdictions, all with their own set up rules and filing requirements.

Several misconceptions regarding property taxes exist.  Property taxes are often viewed as fixed costs.  Receive a bill; pay a bill; nothing more.  Fair market value may be incorrectly equated with net book value, or is based solely on a formula that most likely does not equate to market value.  There is often a fear of the unknown as well…a fear of making waves in the community.  Our knowledge and experience in property valuation help to ensure our clients that they are paying their fair share of tax…nothing less, nothing more.  Our negotiation strengths also ensure that property tax issues are addressed in a manner that protects the client’s image and goodwill in the community.

It is not a rosy picture on the jurisdiction side either.  Jurisdictions do not have the manpower or expertise to evaluate each real estate or personal property parcel individually.  Out of necessity they must employ mass appraisal processes to value all of the properties in their jurisdiction. 

Is property tax a pain in your company?  What steps have you taken to improve the process and minimize the pain? Silver Oak Advisor professionals bring over 20 years of experience and expertise in Business Personal Property Tax Compliance and Consulting in all reporting states.  In addition, our network of professionals gives you access to a property tax expert in your industry throughout the United States. 

Let Silver Oak Advisors be an extension of your corporate tax department.  We are working Directors with over 20 years of experience in provide real estate and personal property compliance and consulting services.  Give us a moment of your time and let us convince you that Silver Oak professionals have your organizations best interest at hand.  We will provide you lower compliance costs, higher customer service level and greater tax savings results.

Call us at (877) 352-8616 or email us at info@silveroakadvisors.com

ANNOUNCEMENT

PriceWaterhouseCoopers (PWC) has recently announced to compliance clients that they have decided to stop providing property tax compliance services.

Many companies are ill-equipped to manage property taxes effectively.  According to CFO magazine, “property tax is one of the biggest tax expenses – and the hardest to manage”; and according to the Council on State Taxation, “American companies fork out more in property taxes than in any other type of state or local tax.”  The sheer volume of jurisdictions (over 12,000 townships, counties, and states) can be overwhelming.  Companies may have property in hundreds or even thousands of jurisdictions, all with their own set up rules and filing requirements.

Several misconceptions regarding property taxes exist.  Property taxes are often viewed as fixed costs.  Receive a bill; pay a bill; nothing more.  Fair market value may be incorrectly equated with net book value, or is based solely on a formula that most likely does not equate to market value.  There is often a fear of the unknown as well…a fear of making waves in the community.  Our knowledge and experience in property valuation help to ensure our clients that they are paying their fair share of tax…nothing less, nothing more.  Our negotiation strengths also ensure that property tax issues are addressed in a manner that protects the client’s image and goodwill in the community.

It is not a rosy picture on the jurisdiction side either.  Jurisdictions do not have the manpower or expertise to evaluate each real estate or personal property parcel individually.  Out of necessity they must employ mass appraisal processes to value all of the properties in their jurisdiction. 

Is property tax a pain in your company?  What steps have you taken to improve the process and minimize the pain?

As a part of the Verizon Wireless (VZW) acquisition of Alltel, regulators required VZW to divest of certain properties.

Atlantic Tele-Network, Inc (ATNI) announced on June 9, 2009 a definitive agreement to acquire certain wireless assets from VZW for $200M in cash.  Under the terms of the agreement, ATNI will acquire wireless properties, including wireless spectrum licenses and network assets, serving over 800,000 subscribers primarily in rural areas across Georgia, North Carolina, South Carolina, Illinois, Ohio and Idaho. 

This is an attractive deal as AT&T forked over more than $1,500 apiece for the 1.5M subscribers it is acquiring from VZW.  Based on this deal for 800,000 subscribers, ATNI will be paying only $250 per subscriber.

Pro forma analysis based on ATNI’s first quarter financials and assuming ATNI won’t quite be able to maintain Alltel’s ARPU and margin going forward results in ATNI wireless revenue leapfrogging from $127M (run-rate) in the first quarter to more than $600M and overall cash flow will increase from about $104M to nearly $250M annually.

Deal multiples were approximately 0.4x revenue and 1.0x OIBDA.  Nice deal for ATNI.

We will look at outstanding ILEC, CLEC, Network and Wireless deals still set to close in 2009 in an upcoming post.

State and local tax statutes have not kept pace with the telecommunications industry.  The myriad taxes and charges on telecommunications were established for an industry that was legally, technologically, and structurally very different than it is today.  Many taxes remain targeted to a specific technology (e.g., telephone taxes or cable franchise fees), despite the blurring of distinctions between technologies that provide similar services (e.g., the telephone and Internet telephony).  The convergence of formerly distinct communications technologies renders the existing tax structure difficult to justify in terms of economic efficiency or equity.

 Join us in Wichita, KS as our own Brian Scully moderates and presents as a part of a panel at the:

The 39th Annual

Wichita Program

APPRAISAL for AD VALOREM TAXATION

of Communications, Energy and Transportation Properties

 Tuesday July 29, 2009 at 10:30am

 Telecommunications: 21st Century Taxation for 21st Century Technology

Moderator: Brian Scully, Silver Oak Advisors LLC, Atlanta, GA

Panelists: Jay Fletcher, Washington Dept of Revenue, Olympia, WA; Rick Smith, Hawley Troxell Ennis & Hawley LLP, Boise, ID; Doug Mo, Thomson Reuters, Oakland, CA; Brian Scully, Silver Oak Advisors LLC, Atlanta, GA

When you engage Silver Oak Advisors you are guaranteed lower fees, higher customer service and greater property tax savings.

Back on May 26 we posted an article entitled Legislative change levels playing field to appeal Florida property tax.  This article was centered around Florida legislation that came out of the last session of Congress known as HB521.

TRIM notices are scheduled to be sent out to taxpayers August 1st.  For valuations that are appealed this year, the Assessor will now have the burden of proof. 

The Assessors feel this law will cost them lost revenue.  To reduce appeals, care should be taken to ensure valuations are correct before TRIM notices are released. 

http://blogs.tampabay.com/buzz/2009/06/burden-of-proof-property-tax-bill-becomes-law.html

When you engage Silver Oak Advisors you are guaranteed lower fees, higher customer service and greater property tax savings.

Florida County Property Tax Officials may not like the legislative changes of this most recent session.  However, after years of experience challenging property tax valuations before the Valuation Adjustment Board (VAB), the changes are a breath of fresh air. 

Removal of the “Presumption of Correctness” standard that previous to now had to be overcome will level the playing field and make it easier for taxpayers that are clearly over-assessed to get the relief that is due. 

That term, presumption of correctness, needs an explanation. What the Legislature did was to remove a basic tenant from Florida law.  Until the spring session of the Legislature, it was presumed by courts that all constitutional officers – sheriffs, clerks of court, tax collectors, election supervisors and appraisers – correctly followed the law. Challengers had to prove otherwise.

When a petitioner challenged the appraiser’s assessment of a house, a business, or a parcel of land, they were required by the special magistrate to prove the appraiser’s value was incorrect.

There will be no more presumption of correctness for property appraisers.  Now, if it goes to a hearing, the appraiser has to prove he has followed the law.  The appraiser’s word or evidence carries the same weight; there is no difference.

In our previous post entitled Silver Oak Issues Opinion on Florida HB 521, there were attempts by the Property Appraiser’s to insert language that would have taken away the appeal rights of business personal property taxpayers unless complex rules regarding compliance were followed. 

Additional language was inserted but not adopted that would have taken away the ability for taxpayers to hire property tax consultants on a performance based fee to assist them in challenging their property valuations.

Truth in Millage (TRIM) notices are scheduled to be sent out during the third and fourth weeks of August, dates vary by County.  You will have 25 days to appeal this valuation notice.

As Advisors, we promote pro-active compliance in which we review past returns for free, suggest new filing methodologies in compliance with the statutes of the taxing jurisdictions and suggest meeting with the assessors informally before TRIM notices are released in order to explain the filing methodologies to the assessor and gain their understanding and agreement.

Compliance is over and many States and Local jurisdictions are issuing valuation notices.  If you have any doubt regarding the assessed value of your property, have them reviewed before they become final and tax bills are issued.

We are providing a 30-60-90 day calendar to assist you in the upcoming appeal season.

When you engage Silver Oak Advisors you are guaranteed lower fees, higher customer service and greater property tax savings.

Property taxes are one of the biggest expenses for a manufacturing company.  However, unlike corporate income taxes, property taxes may not decline in a slumping economy.  In fact, they may actually grow.  This is due to the manner in which assessors determine property taxes for industrial property. 

Property taxes are based on the principle that the amount of tax paid should depend on the value of the property.   A companion principle, established in most state’s constitution is that all property should be valued and assessed uniformly.

Industrial properties — buildings, other improvements, machinery and equipment — are almost always valued uniformly, but too high.  And even though commercial properties are, for the most part, valued accurately as well as uniformly, various circumstances may still present opportunities for tax savings.

Commercial property valuation and assessment

Property tax assessments should be based on fair market value, commonly known as the price that would be set between the hypothetical willing buyer and willing seller.  Most statutory guidelines for valuing property prescribed for assessors reflect the three standard approaches to valuation — sales of the subject and similar properties, capitalization of income and cost less depreciation.  The income approach generally provides the most accurate estimate of value for commercial properties.

Industrial properties typically assessed too high

Just about every industrial property owner pays too much tax — more so now due to the state of the economy.  A manufacturing facility is a complex property consisting of land, buildings and structures, machinery and equipment, and other personal property.  Rather than attempting to capitalize income or rely upon sales of comparable industrial facilities, it is much easier for assessors to rely upon the trended investment – also called the historical cost approach- for determining the market value of industrial property.

To arrive at market value by the trended investment or historical cost approach, the assessor first adds up the original historical cost of the individual assets comprising the industrial property.  Second, the assessor trends it to current cost by a consumer price inflation factor and by depreciating the trended cost.  By this method, the assessor can easily calculate the assessed value of a complex industrial property annually without ever setting foot on the property.

Unfortunately, this cost approach overvalues industrial property.  First, technological advances have reduced the costs for machinery and equipment.  Computers and computerized controls are prime examples.  Second, cost does not necessarily equate to market value.  Costs to refurbish or upgrade machinery and equipment may simply allow the manufacturing process to continue without any increase in production.  Third, the trended investment approach looks at costs incurred and expended over the past several years or decades, when the economic climate was much different.

Economic obsolescence can be substantial for industries that have seen declining profits over the past decade.  In some sectors, the property tax assessment for a facility may actually be twice its value.

Common mistakes

Assessors have access to a fair amount of data on income, vacancy rates, expenses and sales data on which to base estimates of value for non-industrial commercial properties using the income approach.  But an assessor’s valuation can be too high if the market data relied upon is derived from properties that differ substantially from the taxpayer’s in size, age, location, governmental restrictions or other factors that affect net income to be capitalized or the appropriate capitalization rate.

An assessor also may have erroneously relied upon data derived from non-arms’ length transactions.  For example, a buyer may pay a premium for the last parcel for an assemblage or because time is running out to complete a 1031 exchange.  Or the assessor may erroneously assume that the “lease” payment in a sale of a business in the form of a sale-leaseback represents market rent.

Also, application of the income approach for hotel, assisted-living and shopping center properties may improperly include nontaxable intangible assets in the assessment.

In addition to having your returns and assessments reviewed by a second set of eyes, any industrial revenue bonds (IRB) should be reviewed to ensure you are receiving all negotiated economic incentives.  From our experience, you will be surprised.

When you engage Silver Oak Advisors you are guaranteed lower fees, higher customer service and greater property tax savings.

Contact us with any questions or call (877) 352-8616.