Trends in Price to Earnings Ratios for Public and Private Companies

by Cody Lindman

he price to earnings ratio (P/E) is one of the most widely used metrics in the valuation of companies. As the name suggests, the P/E ratio is calculated by dividing the price of one share of a company’s stock by the company’s earnings per share. Although commonly used as a relative measure of valuation between companies in the same industry, it can also be beneficial to compare P/E ratios for a specific company or index over time.
In particular, the Standard and Poor’s 500 (S&P 500) P/E ratio is closely followed by investors and analysts because it is believed to provide a reading on the temperature of the overall stock market. As of December 31, 2021, the P/E ratio of the S&P 500 was 30.0, a level significantly above the long-term average of 16.0 since 1871, yet below the levels experienced during the dot-com bubble and the 2007-2008 financial crisis. Additionally, the S&P 500’s P/E ratio of 30.0 as of December 31, 2021 was above the five-year historical average of 26.7, yet below the 2021 average of 32.2. Due to lower interest rates in response to the COVID-19 global pandemic, P/E ratios have increased significantly since December 2019. In the near term, we expect P/E ratios to decrease as a result of both higher interest rates and inflation. However, the decrease may be muted as a projected increase in interest rates and inflation is likely already priced into the market.

Unfortunately, one is not able to readily calculate the P/E ratio of a privately held company. Instead, investors and analysts look at transactions involving privately held companies and then calculate a variant of the P/E ratio called the selling price to earnings before interest and taxes ratio (Price/EBITDA). The Price/EBITDA ratio is calculated by dividing the selling price of a business by its EBITDA. Although the formula is slightly different, the P/E ratio and the Price/EBITDA ratio should follow the same trends, although they are not directly comparable. One of the best resources for data on Price/EBITDA ratios for privately held companies is the DealStats Value Index, which is published by Business Valuation Resources. According to the fourth quarter DealStats Value Index, the Q3 2021 median Price/EBITDA multiple for private company transactions was 4.0, a level slightly above the three-quarter average of 3.8, yet below the five-year average of 4.4. Since peaking at 5.6 in Q3 2018, the Price/EBITDA ratio has generally declined, hitting a low of 3.3 in Q1 2021. The chart below showcases the DealStats average Price/EBITDA ratio since Q4 2015.

The data suggests that the valuations of publicly and privately held companies have taken divergent paths over the past five years. As of December 31, 2021, the S&P 500 P/E ratio was 27.3% greater than the December 31, 2016 P/E ratio. In contrast, the average Price/EBITDA ratio for privately held companies as of Q3 2021 was 2.4% lower than the average Price/EBITDA ratio as of Q4 2015. One possible explanation for the declining median Price/EBITDA ratio for private companies is an increase in the “size premium.” The “size premium” is the tendency for larger companies to typically trade at higher multiples than smaller companies; due to being perceived as less risky and having greater access to capital. Further analysis of the data supports our hypothesis; as shown in the chart below, median Price/EBITDA ratios for privately held companies with less than $10 million in revenue declined between 2016 and Q3 2021. In contrast, median Price/EBITDA ratios increased slightly for private companies with more than $10 million in revenue.

Another possible reason is that the types of businesses that are typically publicly held or privately held differ. For example, although they are privately held during their early stages, technology firms typically go public eventually. Additionally, as the world economy has become more dependent on technology, the valuation of technology firms has risen steeply over the past five years, with the S&P 500 Information Sector index returning an annualized 28.93% over the past five years.

Regardless of the reason for the divergence in the valuation trends of public and private companies, the data clearly shows that small privately held companies have underperformed both larger privately held companies and public companies in general over the past five years. In the near term, we expect small privately held companies to continue to underperform both larger privately held companies and public companies due to small private companies typically experiencing greater negative effects from higher interest rates and inflation.

COVID Impact on Valuations

by Madeline Strachota

Since March of 2020, clients have asked us about the impact of COVID on the value of their business or real estate. We believe that there is no one-size-fits-all, uniform “COVID discount” nor “COVID premium.” Sectors of the economy have encountered different positive and negative microeconomic impacts from COVID. In fact, sub-sectors of the economy have been impacted differently by COVID. Even within those sectors, the underlying fundamentals of businesses have led to various outcomes. In the hardest hit sectors of the economy, companies with strong fundamentals have been able to weather the storm better than similar companies without strong fundamentals. In sectors where there has been growth opportunities from COVID, companies that have quickly scaled their online, curbside, or delivery sales, have faired better than their competitors who were not as nimble. For example, we appraised a business that saw a 75% increase in annual sales during the global pandemic because they were prepared to serve customers through online sales.

Given this variety in outcomes, the impact of COVID on business and real estate valuations poses a unique challenge to appraisers. It requires forecasting cashflows and determining discount rates when the future of COVID is opaque. It also requires particular attention to detail when analyzing comparable sales. We have noticed a trend among business and real estate owners during this time. For sectors of the economy that have benefited from the COVID impact, business owners are eager to sell. Oftentimes, owners in these sectors want to sell when their cashflow is up, hoping to convince buyers that what may be a short-term uptick in cashflows is a sustainable increase to the bottom line. Alternatively, we have observed many businesses and real estate owners delay sales of their businesses or real estate in the most negatively impacted sectors to avoid a perception problem. So, many of the business and real estate transactions in negatively impacted sectors have been sales where the operator did not have strong fundamentals underlying their business. For example, highly leveraged real estate in badly hit sectors, such as central business district hotels, may have undergone financial distress, causing the owners no option but to sell at a discount to intrinsic value.

Therefore, the sales comparison approach to value presents unique challenges right now—are the sales of like-kind property really comparable to the assets being appraised? Although the real estate may be the same property type, in a similar location, the sale must be analyzed to determine if it was a sale under distress that caused a depression in price beyond the intrinsic value of the asset. Furthermore, sales of real estate or businesses in booming sectors of the economy must be analyzed to determine if the forecasts assumed overly optimistic long-term performance. For example, in the business where we observed a 75% increase in sales, we determined that some of the change in consumer preferences for this brand’s products will be sustainable, although the sales will largely return to pre-COVID levels and growth rates in the future.

In summary, a thorough financial analysis on a case-by-case basis is necessary to determine if a “COVID discount” or “COVID premium” is applicable to a business or real estate. So, be cautionary when receiving a cursory answer to the question—what is the COVID impact on value?

Rising Inflation in America

by Thomas Blomgren

One of the major talking points over the past year has been rising inflation in the United States economy. Whether it be at the gas pump, grocery store, or in workplace wages, rising prices have touched just about every part of life. According to the Bureau of Labor Statistics, U.S. inflation increased at a greater annual rate in 2021 than any other 12-month period since 1982, creating a 39-year high. The consumer price-index rose 7% in December from the same month a year ago. This rise in prices can be attributed mostly to strong consumer demand paired with supply chain constraints and shortages. Rises in inflation affect consumers and companies in a multitude of ways. Large inflation gains erode the purchasing power of consumers in the marketplace. However, this rise in prices encourages people to spend and invest more in the short term, due to the lower value of holding cash. Then again, this spend-and-invest cycle will only accelerate inflation due to increased demand, creating a vicious cycle of rising prices. The rise in prices has not been felt equally across different industries. For instance, used auto prices have skyrocketed due to a semiconductor shortage that greatly limits the supply of new cars. Meanwhile, prices for services centered around education and medical care have risen just slightly. Also, rising inflation has led to higher wages in the workplace. Having said that, the gains in wages are dulled by the effects of inflation. According to a CNBC article dated November 10, 2021, the average wage growth year over year through October 2021 was 4.9%. However, when accounting for inflation, real hourly wages have decreased by 1.2% in that same time period. Currently, the Federal Reserve is discussing multiple interest rate increases in the next year aimed at slowing inflation, although it is unclear how these increases will affect the economy and the spending power of workers over the year to come.

Reuse of Existing Structures

by Brock Boatman

Adaptive reuse of existing properties continues to be an interesting development opportunity in the Twin Cities, particularly in downtown Minneapolis. However, the data suggests that not all opportunities are equal. The simple example is the continued conversion of aged warehouses and offices in the North Loop, where conversion to residential uses has been well established for years. A recent example of a new project that is underway is Solhem’s Security Warehouse conversion to apartments. Including new construction and properties still in lease-up, downtown Minneapolis apartment vacancy is still near 5%, with starting rent near $1,700. Reuse in this market sector is still well received, although new opportunities are diminishing as supply dries up.

In another adaptive reuse market, owner-users are still being drawn to the Downtown Minneapolis market. A recent example is the purchase by the Red Lake Nation to create a new student campus near US Bank Stadium. The Nation recently purchased the former Tiger Oak Media building and the adjacent properties for use as a new campus for their college. Previously, the buildings here had been a combination of offices, retail, industrial, among other uses in their 100 years of existence. Conversion to a classroom and administrative offices was a natural fit for an owner-user willing to invest the dollars to make these well-located structures beneficial to their cause.

The Rand Tower conversion to a hotel at the end of 2020 was unfortunately poorly timed yet helps demonstrate that existing structures that may no longer be viable as an office use can still find a purpose for reuse. While all hotels have experienced challenges over the last two years, the historic structure located in the heart of Downtown Minneapolis is currently experiencing above average occupancy rates as of the beginning of 2022 and reaching more than 80% occupancy on weekends and event nights – particularly Vikings games and other US Bank events. The Rand Tower conversion took obsolete office space off the market and created a new use that the market is utilizing. The largest reuse space is the Dayton’s project. Finally opening in early 2021, this million square foot project has only secured one major tenant, Ernst and Young. This project, with an extensive amenities package that not all developments can provide, does present a unique challenge; the large floor plans cannot easily accommodate a user smaller than around 5,000 square feet. This requires the project to find more home run type tenants in order to stabilize, a challenging prospect given space that has become available in City Center and the relocation of RBC. The Dayton’s project was always going to be a risky venture as a speculative development, and the unforeseen challenges of the last two years only added to the risk undertaken by investors and lenders.

Adaptive reuse of existing properties is always going to be a challenging undertaking, and the market’s reception can be mixed; however, we would expect to see continued development of this type with investors with the right creative mind and opportunities to keep these projects moving forward.

State of the Real Estate Market

by Robert Strachota and Ellis Beck

Over the past year, we have seen continued growth in real estate. Here is a breakdown by market type.

Single Family Residential

Determining what is normal in these abnormal times is a challenging proposition. Pending sales contracts of single-family homes were up 0.8% from November 2020 and up 15.9% from November 2019. Over the last decade, home prices might have increased in the range of 3% to 5% per year. Year over year increases over the past 12 months show an increase of 8% to 9%. The median sale price of a home that sold in the 16-county Twin Cities region from November 2020 through November 2021 was $340,000. The average home sat on the market for just 27 days, and there is no indication that the spring 2022 market will bring relief for buyers.

Apartments

The apartment market seems to be returning to its pre-pandemic trend of growth at a slower pace. Rent increases this past summer were flat but now are edging up again. However, suburban rent hikes largely exceeded those of the urban submarkets. At the end of 2021, trailing 12-month net deliveries are near an all-time high, with approximately 12,000 units currently under construction. Metro-wide occupancy is near 95%, which for most of us reflects a balanced rate for a long-term investor. The slowdown in renter demand in the Minneapolis city core, and St. Paul, will most likely continue moderate rent growth for the foreseeable future. Concessions and other incentives should remain common through early spring 2022. Twin Cities rental growth is currently 3.6%, exceeding the area’s five-year average yet trailing national markets.

Hotels

Unfortunately, business travelers are not back; the leisure traveler has the travel bug. Explore Minnesota has found that people are ready and willing to engage in leisure travel this winter. Roughly 82% of surveyed Minnesota travelers planned domestic U.S. trips this winter. Approximately 50% plan to visit destinations more than 500 miles from home, and approximately 48% of those surveyed are planning trips that include time in Minnesota. Generally, travelers expect pre-pandemic levels of customer service, product quality, and pricing. For those who will not be traveling, COVID-19 is the top reason for not planning to travel in the next six months. Obviously, new variants of COVID-19 and restrictions surrounding them are the wild card in any projection of the future of the local hospitality market. The downtown hotel market is struggling as reflected by recent sales of the Marquette and Westin hotels. The Marquette traded at a loss of $14 million from the 2016 acquisition price of $74.5 million, a 19% loss. And the Westin, which sold for $66.4 million in 2015, sold for just $47.2 million in October, a 29% loss.

Manufacturing

Minnesota has over 8,300 manufacturers making a wide range of products. Manufacturing is growing in Minnesota with employment in this sector rising over 11% since 2020. Real estate used for manufacturing is not constructed on a speculative basis. Usually, a manufacturing facility is built for a specific user. When that user grows and needs a new building, they leave behind a second-generation manufacturing building that is available for a startup. The opportunities to build new manufacturing space and the availability of second-generation space are balanced in terms of supply and demand. Numerous government incentives supplement all manufacturing startups. In summary, Minnesota manufacturing has strength in a broad range of industries. It has momentum to grow, but there is an acute shortage of workers that will keep the lid on expansion for the near term.

Warehouses

There appears to be no end in sight for the industrial warehouse boom. Despite clogged supply, demand for major distribution facilities and warehouses seems to be “off the charts” in the Twin Cities. Other regional hubs like Dallas, Atlanta, Chicago, and Denver are experiencing the same shortages of space.

The pandemic has accelerated the already growing trend of e-commerce. Some call this the Amazon Effect. To manage growth, businesses of all types are leasing space to store more inventory and reduce reliance on material supply flows. Despite rampant new development, record-setting demand has kept the Twin Cities vacancy rate below 4% for 22 consecutive quarters. The strongest performing industrial market in the Twin Cities is the Northwest submarket.

Retail Malls

Considering the economic damage brought on by the one-two punch of the pandemic and civil unrest, the Twin Cities retail market has been somewhat resilient in the past two quarters. The retail sector is made up of several submarkets, such as malls and big box stores. In the Twin Cities, these markets make up 29,700,000 square feet. There is virtually no new construction, and there won’t be for many years. These sectors are plagued by big box store closures and bankruptcies of numerous tenants. Most landlords have sued dozens of tenants for overdue rent in 2021. All malls continue to see foot traffic down compared to pre-pandemic levels. Even the metro’s “best in class” malls are suffering from the pandemic’s impact. Older malls and areas with below-average demographics are having the most difficulties backfilling large scale vacancies. Reported vacancy rates for market power centers are in the 11% to 12% range. It is likely that the vacancy rates reflect the occupancy level but not the amount of rent being paid; we at Shenehon believe that landlords may only be collecting 80% of all rent due. Rental rates in these sectors have been flat at $20 to $30 per square foot plus operating expenses, and they will not show any meaningful increase for the next one to two years. For malls in particular, creativity is the theme as landlords and developers will reconfigure and redevelop obsolete or underperforming retail spaces. The goal of the creativity is to explore unique venues that will draw traffic and again engage the consumer’s interest. Despite the e-commerce expansion, most retailers are confirming their commitment to brick-and-mortar retail.

Community Strip Centers

Community Strip Centers have not received the same amount of negative pressure from COVID-19. While the pandemic nearly gave the malls and power centers the “knock-out punch,” certain retail segments (i.e. grocers, pet supplies, coffee, sporting goods, alcohol, discount clothing, and home improvement supplies) were propelled by the pandemic. How many of you wait in drive-through lines for your Starbucks or Caribou coffee? Most of us, even at the height of the pandemic, were visiting our community/neighborhood strip centers with more regularity than in pre-pandemic times because we were not traveling out of town. As with anything, there are exceptions to this rule, with restaurants being the biggest example. It is anticipated that restaurants will likely be the area of this sector to recover.

TC Office Market

The Metropolitan Twin Cities downtown office market, which is composed of 46,100,000 square feet, reached an all-time high vacancy rate in the third quarter of 2021. This 46.1 million square foot market includes all Class A, B, and C buildings. Think of the total office space as the equivalent of 30 IDS buildings in a row. The current vacancy rate as of January 1, 2022, is 14.3% of all space, or 6,700,000 square feet. This is as if we had four and a half empty IDS buildings. While we have not returned to pre-pandemic levels of downtown office vacancy, we are seeing improvement.

Inflation Update

by Emma Niemela

Following the report of 5.4 percent inflation for the trailing twelve months ended June 2021, the Federal Reserve is predicting elevated inflation to be a temporary phenomenon, normalizing after the “perfect storm of high demand and low supply” ceases. However, multiple chief executives have differing opinions.

According to the latest Bureau of Labor Statistics (BLS) update, the seasonally adjusted Consumer Price Index (CPI) for all urban consumers rose 0.9 percent in June, the largest one month change since the 1.0 percent increase in June 2008.

Notable category increases in the month of June, included used cars and trucks increasing 10.5 percent, food increasing 0.8 percent, energy increasing 1.5 percent, gasoline increasing 2.5 percent, and the index for all items less food and energy increasing 0.9 percent. These increases show recovery from the price declines due to COVID last year. A chart containing comprehensive BLS data is shown below.


Inflation reflects rising prices for goods and services and often happens when a nation’s money supply is growing faster than the economy; however, there are multiple triggers. Demand-pull inflation happens when an increase in the money supply creates demand for additional goods and services, the effect is accentuated when there is limited supply of those goods and services. Forgivable loans and personal stimulus checks given during the COVID-19 Global Pandemic triggered this type of inflation, increasing the money supply and creating demand while many supply chains were experiencing disruption due to the Pandemic.

Cost-push inflation results from input price increases. Increased cleaning costs and increased material prices as a result of supply shortages have contributed to increased overall costs for producing goods and services during the Pandemic. Supply shortages are expected to alleviate as the impact of COVID-19 fades; in fact, lumber prices are reaching pre-Pandemic norms. Lumber futures closed at $634 on July 23rd, down from a high of $1,711 on May 10, 2021, as shown by data from Yahoo Finance in the chart that follows.

Built-in inflation is driven by expectation that prices will continue to increase in the future. Companies such as PepsiCo, Conagra, and Fastenal voiced plans to increase prices because of expected inflation at their most recent earnings calls. Fastenal already raised prices in the second quarter and intends to continue this trend, as the initial increases were well received.

However, as reported by the Wall Street Journal, not all companies are following this pattern; FreshDirect is currently lowering prices on berries, salmon, and ground beef. The online grocery delivery company is looking to attract more customers by absorbing inflation for the time being. This varied approach is a good signal, as it shows not all companies are raising prices in expectation of future inflation, a move which would add fuel to the inflation cycle.

Wages are tied to built-in inflation, as employees demand wages to maintain their cost of living. As wages rise, costs and prices of products and services also rise, continuing the cycle. Many employers have raised wages to attract employees as the labor market has become more competitive. However, these labor cost increases motivate investment in automation. For example, Applebee’s has recently implemented tablets which allow customers to pay at their table without a waiter. John Peyton, CEO of Applebee’s parent company, Dine Brands Global, Inc., called this move a hedge against labor inflation in a recent earnings call.

The Federal Reserve’s dual mandate is to aim for price stability and maximum sustainable employment. The recent developments in wages and employment discussed above add complexity to these goals, as it can be hard to determine adequate benchmarks. The Fed has been using pre-pandemic employment levels to define “maximum employment,” but with automated labor hedges making certain roles smaller or obsolete and many people re-evaluating their lifestyle and leaving the workforce early, it may be necessary to use a new benchmark. Employment and inflation go hand in hand, and so long as the labor market is transitioning, there will be an effect on inflation.

Last August, the Federal Reserve communicated inflation expectations slightly above two percent following periods of inflation below two percent, resulting in a long-term average of two percent. Even though current inflation is well above two percent, the Federal Reserve has stated that is does not plan to raise interest rates in the short-term as it attributes current inflation to one-time price increases due to the re-opening of the economy. So long as businesses and consumers are not acting as if they altogether expect high inflation, the Federal Reserve will maintain its stance.

Comparing Controlling Interest Transactions – Common Mistakes Valuation Analysts Make When Using the Controlling Interest Transaction Method to Value a Business

by Cody Lindman

When valuing a business, valuation analysts consider three approaches to value: the income approach, the market approach, and the asset approach. Two of the most common valuation methods within the market approach are the guideline public company method and the controlling interest transaction method. When utilizing the controlling interest transaction method, the most frequently used transaction database is DealStats. Below are some of the most common mistakes we see other valuation analysts make when utilizing a transaction database such as DealStats.

Searching the Incorrect Industry for Comparable Transactions

When utilizing the controlling interest transaction method, the first step is to search for comparable transactions. It should be easy, right? All you have to do is search by the subject company’s SIC or NAICS industry code. The process should be easy given that companies list the NAICS code most applicable to their business on their federal tax return, right? Wrong. Although some valuation analysts may not admit it, determining the correct SIC and NAICS code for a business is a critical part of the valuation process and more difficult to get right than you would think. One of the reasons for the difficulty is the fact that most businesses do not fit cleanly into a particular SIC or NAICS code. In these instances, it is up to the appraiser to determine what they believe is the most appropriate SIC or NAICS code. As for the NAICS code listed on the subject company’s federal tax return, we have found that the code listed is incorrect approximately half of the time. When this occurs, the valuation analyst must research the subject business, examine the possible NAICS codes, and select the most accurate one.

Including Transactions Involving Companies Dissimilar to the Subject Company

After some difficulty, the valuation analyst has now determined the subject company’s SIC and NAICS code. After searching by either the subject’s SIC or NAICS code, the valuation analyst now has a list of comparable transactions. Now all they need to do is multiply one of the subject company’s financial metrics by the analogous median multiple of the comparable transactions to determine the value of the subject company, right? Wrong. The most important and often overlooked step in utilizing the controlling interest transaction method is to attempt to fully understand and question each of the comparable transactions. As we discussed previously, determining the correct SIC or NAICS code for a business is difficult. Therefore, it should not be a surprise that the people who categorize the comparable transactions sometimes make mistakes and mis-characterize the industry in which a business operates. Additionally, some of the transactions may involve businesses that are significantly smaller or larger than the subject company. Lastly, each transaction is subject to different terms, such as how the transactions will be financed, what is transferred, etc. It is up to the valuation analyst to look at the financial metrics, read the description of the acquired business, and understand the terms of the transaction to determine whether the transaction should be included as a comparable.

Failing to Account for the Differences in Asset and Stock Transactions

One of the most important things to note when analyzing a transaction pulled from DealStats is whether the transaction is characterized as either an “asset sale” or a “stock sale.” In a typical asset sale, the transaction is structured whereby the buyer acquires the inventory, furniture, fixtures, and equipment (FF&E), and intangible assets while the seller retains the company’s cash and receivables and pays off the company’s debt. A stock sale is considerably more straightforward; a buyer purchases all of the target company’s shares that are issued and outstanding. Although both types of transactions can be used to value a business, valuation analysts should be aware of the differences between the two structures. One way to handle the differences is to separate asset sales and stock sales into two different groups and then apply the corresponding multiples separately. However, this can be challenging if there are only a few asset sales or stock sales. Alternatively, a valuation analyst can restate the selling price of asset sales to convert them into a stock sale equivalent or vice-versa. This is normally the approach that valuation analysts at Shenehon undertake because it allows us to consider all of the comparable transactions on an apples-to-apples basis. To convert an asset sale to a stock sale equivalent, a valuation analyst would add net working capital to the asset sale price (however, if inventory changed hands in the asset sale, it should be subtracted from net working capital so as to not double count it). Converting a stock sale to an asset sale equivalent can be more difficult, as the process requires that a purchase price allocation (PPA) was performed. If specific allocation information is not available, it may be impossible to convert a stock sale to an asset sale equivalent, potentially making it necessary to eliminate that particular transaction. The general process for converting a stock sale to an asset sale equivalent is to determine the total asset value of the acquired business and then subtract the value of all assets acquired except for inventory, FF&E, and intangibles. The resulting value is an asset sale equivalent value.

We’re Hiring – Real Estate Valuation Analyst / Appraiser

Real Estate Valuation Analyst / Appraiser

Company Description

Founded in 1929, Shenehon Company is a highly respected and established commercial real estate and business valuation company. Shenehon provides clients with specialized knowledge necessary to solve their valuation problems. Shenehon is one of the few valuation firms in the nation to successfully integrate the practices of business valuation and real estate appraisal. Shenehon also provides consultation and litigation support to clients. Our service area encompasses the Upper Midwest with continued expansion throughout the country. Shenehon Company is an Affirmative Action/EEO employer.

Position Summary

The Real Estate Analyst will work closely with senior appraisers in the preparation of appraisal reports which would cover a wide range of commercial property types such as multi-family housing, office, mixed-use, vacant land, commercial, senior housing, and more.  The analyst’s work may be used in condemnation, development, tax appeal, sale of the property, gifting, internal management decisions, and more.

Duties and Responsibilities

>Assist senior appraisers with research and confirmation of data
>Prepare market analyses and perform research on property trends
>Utilize Argus and/or Microsoft Excel to analyze income-producing properties
>Inspect subject and comparable properties
>Assist in comparative analyses
>Assist in writing narrative appraisal reports
>Additional duties as necessary

Knowledge, Skills and Abilities

>Knowledge of valuation and financial concepts
>Basic understanding of commercial real estate
>Bachelor’s degree in real estate, business, finance, or accounting (Real Estate major is a plus)
>2 years of applicable experience or coursework
>MS Office with advanced Word and Excel
>Ability to comprehend, analyze, and interpret various business and real estate documents
>Strong communication (verbal and written) skills
>Ability to meet aggressive deadlines
>Basic understanding of Argus software is a plus
>Research oriented
>Intrinsically motivated to solve problems
>Willingness to work independently as well as part of a team
>Desire to produce high-quality work
>Good organizational skills with the ability to prioritize and manage multiple projects simultaneously
>Open to constructive analysis

Send resumes to mstrachota@shenehon.com

We’re Hiring – Business Valuation Analyst

Business Valuation Analyst

Company Description

Founded in 1929, Shenehon Company is a highly respected and established commercial real estate and business valuation company. Shenehon provides clients with specialized knowledge necessary to solve their valuation problems. Shenehon is one of the few valuation firms in the nation to successfully integrate the practices of business valuation and real estate appraisal. Shenehon also provides consultation and litigation support to clients. Our service area encompasses the Upper Midwest with continued expansion throughout the country. Shenehon Company is an Affirmative Action/EEO employer.

Position Summary

The Business Valuation Analyst will work closely with senior analysts to prepare valuation reports for business enterprises.  Assignments may include valuing professional practices, service, retail or manufacturing companies, minority interests, holding companies, intangible property rights and other unique valuation challenges. The analyst’s work may be used in the potential sale or purchase of a business, gift and estate matters, divorce matters, dissenting shareholder lawsuits, internal management decisions, and purchase price allocations.

Duties and Responsibilities

> Analyze financial statements, company governing documents, and other business information
> Perform detailed financial modeling, including income, market, and asset-based valuation approaches
> Research industry data
> Write narrative appraisal reports
> Collaborate with other appraisers on best practices and quality control
> Interface with clients and senior management during preparation and delivery of valuation assignments
> Additional duties as necessary

Knowledge, Skills and Abilities

> Knowledge of valuation concepts, financial theory, and general accounting
> Superior critical thinking and analytical math skills
> Strong utilization of Microsoft Excel to analyze financial data
> Ability to write clearly and concisely
> Aptitude in quantitative and qualitative analysis
> Must be able to give attention to detail while having the ability to step back and see the “big picture”
> Ability to comprehend, analyze, and interpret various business and real estate documents
> Research oriented
> Excellent communication skills, both verbal and written
> Desire to work both independently and in team environments
> Demonstrated ability to meet deadlines
> Positive and enthusiastic attitude
> MS Office with advanced Word and Excel
> Bachelor’s degree in business, finance, or accounting
> 2 years of applicable experience or coursework

 
Send resumes to mstrachota@shenehon.com

Minneapolis Mulls Renter Protections

by Brock Boatman

Housing is one of the largest challenges facing communities across the country, particularly providing housing for those in lower- and middle-income brackets. One of the ways in which these groups are being affected is by the common purchase and repositioning of Naturally Occurring Affordable Housing (“NOAH”). In an effort to preserve NOAH, communities are considering various vehicles for preservation, including variations of Washington, D.C.’s Tenant Opportunity to Purchase Act (“TOPA” or the “Act”). TOPA was enacted in 1980 to address the housing crisis at the time, and remains in place today. States and cities across the country are now considering some variation of the TOPA framework, including Minneapolis. In this article, we explore the process by which property owners would comply with these new proposed laws based on TOPA, and how the Act affects the multifamily real estate market in D.C.

The Act classifies D.C. rental housing into three tiers: single-family housing, 2- to 4-unit housing, and 5+ unit housing. Until recently, all three tiers were treated relatively equally. This proved onerous for several important reasons, including discouraging rentals of Accessory Dwelling Units (“ADUs”) on single-family properties. ADUs are quite common in D.C., taking the form of English basements, carriage houses, and “Granny Flats,” allowing single-unit rentals on existing single-family properties. However, the renters of single-family homes yielded extraordinary power to delay sales. As a result, landlords would commonly either keep potential rentals off the market, find ways to terminate leases, or refuse to renew rents at reasonable rates to avoid the often costly alternative, which would be to buy-out the tenant lease. These results ran counter to many of TOPA’s goals. Under the revised D.C. rules, the only single-family tenant protection that remains is the right to occupy a unit for 12 months after sale under the current terms. TOPA now applies to D.C.’s second and third classifications, the 2 to 4 unit and 5+ unit properties, with the primary difference being the timeframes in which the tenants have to act.

For purposes of our discussion, we focus on the 5+ unit properties as they typify multifamily properties as we generally think of them. This discussion assumes typical market rate rentals and tenants; additional legislation in

D.C. applies to special situations, particularly involving seniors and persons with disabilities, but those minutiae are beyond the scope of this discussion.

The key factor affecting a seller is the timing of all the required notices and the tenants’ response periods. When the owner of a multifamily property enters into a sale agreement, they must notify the tenants. The following chart visualizes the various steps required to complete a sale.

After receiving notification of the sale, the tenants may request information regarding the property: floor plans, rent rolls, and income statements – the same information any buyer or investor would typically request. After review, the tenants may form an association (comprised of 50% or more of the tenants of the occupied units) to exercise their tenants’ rights. At this stage, they have four options. The tenants’ association may:

Attempt to purchase the property with terms roughly equivalent to the proposed third-party deal. In these cases the ownership has a responsibility to negotiate in good faith with the tenants’ association, and not attempt to re-trade the deal with terms different than with the third-party buyer. If the purchase goes through, ownership is then typically controlled by the tenants as a cooperative or limited equity cooperative, with tenants holding the right to purchase their units.

Transfer their rights to purchase to a new investor/developer, in which case the tenants have the right to negotiate how the property will be managed by the new owner. This option can also stipulate renovations and rental increases for existing and future tenants, keeping the property cost-controlled, and may involve public assistance, non-profit involvement, or the creation of a public-private partnership.

Offer to release their rights to purchase the property to the existing owner for some consideration, effectively being bought out in exchange for not slowing the sale process. A key component in this arrangement is that some form of consideration must be given by the current ownership, which can become costly for the seller or new buyer when cash consideration is involved.

Opt to do nothing, and the sale proceeds just as we would see today. This option is most often seen with high-end and luxury developments in which new ownership intends to keep the property “as-is,” with no significant plans to renovate or reposition the property.

Under the D.C. law, a tenants’ association can easily tie up a deal for 285 days, or longer. The owner has 360 days in order to enter a sale contract; if not, the TOPA process starts over. This protracted period is necessary for the tenants’ association: they need time for research, analysis, and organization in order to decide what their course of action will be. However, this also creates major challenges for the seller. First, there is the financing issue; most lenders will not commit to a term sheet that they might have to hold for over nine months. Changes in market rates can cause a deal to fall apart while a property owner is negotiating with the tenants’ association. Second, it makes using a multifamily property as the upleg of a 1031 exchange nearly impossible, given that there needs to be compliance with the 180-day rule. As a result, tenants can leverage extraordinary power and money over property owners looking to sell.

So what effects do these laws have on the apartment market? Anecdotally, market participants will say that these laws drive down values. However, we found the two largest outcomes were that 1) deal volume reduced dramatically and 2) properties remained on the market for an extended period of time.

In order to isolate the effects of TOPA legislation, we aggregated the last five years of apartment sales in D.C. and compared that activity to the nearby Alexandria and Arlington, Virginia markets, which are not affected by TOPA laws. After controlling for market size, we found that transactions of apartment buildings and complexes (50+ units) were 25% to 30% lower in D.C. than in the Virginia markets, and properties in D.C. typically spent 50% to 55% more time on the market. Both of these factors lead to downward pressure on values. This makes multifamily buildings a less attractive investment type in a TOPA market, and lowers the real property tax base for municipalities.

TOPA rules exempt new construction as properties under construction do not have tenants. This creates a strange quirk in the market as new construction properties often sell 100% vacant before tenants are able to occupy units and trigger the TOPA process. These laws affect both pure merchant developers as well as groups that intend to retain ownership positions in their projects.

TOPA rules also prompt the question of what constitutes a sale. Up until the mid-2000s, owners could sell 95% – and some argued up to 99.99% – of their ownership and still avoid triggering the TOPA process based on the courts’ interpretations of what constituted a sale. Clearly, this went against the spirit of the Act, and has since been nixed by subsequent court decisions. However, the definition of a sale continues to be debated. A court case this summer asked whether a reallocation of ownership interests constituted a sale. The court ruled that a third party was necessary to define a sale and trigger the TOPA process. More importantly, the case demonstrates that TOPA legislation still provokes questions and challenges almost 40 years after its passage.

So why pursue such legislation? Again, the goal of the legislation is to give renters, particularly those that occupy NOAH, seniors, and disabled people, tools to maintain rents and remain in their homes. Generally, these populations are renters “by circumstance” as opposed to those who rent in the newer luxury developments “by choice.” People renting at top of the luxury market, say $3,000 for a two-bedroom unit in newer projects here in the Twin Cities, are generally not at risk of being displaced by new ownership. Additionally, TOPA legislation creates opportunities for those with more moderate means to purchase their apartment through the creation of a co-op. However, as much as the legislation can help empower renters, it can create substantial challenges in capital markets. As the data shows in the closest “apples to apples” comparison, available deal velocity and timing will be affected, particularly for larger investors. If TOPA legislation passes in Minneapolis, it will take years to fully measure its effects on housing and the real estate market.