BII and RICS Valuation thoughts

By | January 1, 2010

The BII web site forum will be shortly running a topic on members thoughts on issues that could possibly be raised to the RICS on the subject of rent and valuations, since the BII are now well represented on the initial Committee.

Anyone that is not a member of the BII please raise your questions on this site and I will pass them on.

Below is my submission to the RICS with some additions, which enabled Neil Robertson and I to have a very in depth discussion with them, these are purely my thoughts and a number of others views.

They are not BII policy but designed to make people think and raise questions as always, you may agree or disagree, but debate is the only way that we will resolve the problems outside of legislation.

My apologies  for any repetition and any obvious comments, but my thoughts were that people in the RICS were unaware of what was or may have been going on under the guise of the RICS.

 

UK Pubs

The misconception by the majority of people not involved in the licensed industry is that it is a pretty straightforward business with cash flow, profitability and capital growth.

It is not straightforward it is now highly complex and a hot bed of legislation, far in excess of running a conventional retail business.

The old brewery tenancies were like that, you had a trip round the brewery, someone gave you instruction on keeping beer, the area manager came round once a month and gave you ideas and you were the village or community hub, that is no more.

They progressed from this as the demands of the industry increased, you started with the old Brewers Society course at Donhead, which involved fourteen days of gruelling work followed by a training pub for at least a year, then a promotion pub, where if you made the grade you were classed as a Competent operator.

With the advent of leases on a large scale, capital growth was peddled as the main incentive for taking a lease and it was low cost entry into the licensed industry, both are totally misleading.

Capital growth is minimal because of the rent levels, low cost is highly questionable, you need at least £60K to operate with deposits and other commitments, most of which you will not see back unless you are extremely fortunate.

One major Pub Co stated at a meeting last year ago that the lease value is of no interest to them, it should be because it is the measure of viability and profitability of their pubs.

Having owned and run a number of pubs and aligned businesses I would rather act as a surveyor than a licensee in today’s world it is far simpler, less onerous and far less time consuming.

My initial reasons for becoming involved in these issues were the definition of Competent Operator in relation to the BII.

Competent Operator

The rental levels set by the RICS are for a Competent Operator. The RICS do not, nor ever have run pubs the very few Chartered Surveyors who have taken this step now realise that the field of pub valuation is far wider than  that perceived as a Surveyor with all the trading issues that affect the market.

The Valuation Committee would appear to consist of members whose main income has been derived from perpetuating these rental levels and supposed high standards of a Competent Operator. The BII should have been consulted as to the scholastic and professional experience required to meet the standard required for a Competent Operator which they were not. However a number of senior members of the BII agree that the standard required to meet the definition of Competent Operator would be three years profitable trading as a licensee or overall manager with at least three advanced qualifications or five years profitable trading in the same position with basic qualifications, which are the requirements for an MBII. None of the Pub Co’s, without exception put their trainees through any training and experience sufficient to meet this criteria, in other words the deck is totally stacked against any would be lessee without any serious degree of managerial experience. The big question is, are the Pub Co’s guilty of fraud, misrepresentation or what??? They are all knowingly setting people up in an impossible situation, that is all the companies that have followed the RICS valuation system, which the majority have.

I am a CBII and I wouldn’t touch a pub lease in it’s present form, I would like to see the BII confirm the definition of Competent Operator to the RICS, which we now have, I am well aware of the standards required to qualify licensees as Full Members (MBII) because I do the assessments,  I have tried to arrange informal discussions and the RICS will not talk to me, until now.

Certainly a Graduate Member or an Associate Member does not fit the criteria of Competent Operator.

The BII qualifications used by the Pub Co’s will only qualify their trainees as Graduates and at best Associates, the majority would require a minimum of three years experience to achieve MBII.

The definition of Competent Operator has to be defined by the BII fitting the requirements of an MBII  as above and write to the RICS confirming this as being the standard, the RICS are not qualified to dispute this with the BII. Likewise the BII are not qualified to define the level of professionalism of a Chartered Surveyor, nor would they consider doing so.

 Pub Rental Valuation some thoughts

 Existing turnover has to be a key factor in any calculation, it is the pub’s market share. The Turnover should be based on the Vatable turnover declared, plus any other sources of income directly attributable to the premises i.e. accommodation, catering which may be separated and run by a legal secondary business which is non Vatable, this needs legally defining in any lease or agreement.

The argument that a tenant may buy out or pocket some of the turnover reducing the VAT totals can easily be overcome, by having a clause that any dispute of false accounting to reduce the fair rent figure or obvious buying out can be very easily resolved by notifying the Customs and Excise and Inland Revenue of your suspicions. Having been subject to a malicious phone call to the IRS and a subsequent investigation, I would not wish it on anyone. The other point is that any proven investigation the tenant could well be made bankrupt and evicted giving the property back to the landlord. Hopefully none of this should apply with a fair system in place.

Taking a new lease or tenancy.

1. The rent should in my opinion be a percentage of existing turnover, the percentages may be considered to be too low, they are a starting point suggestion and equate to rental levels when the majority of pubs were viable, the overheads have increased vastly and should be considered in relation to rental levels.

2. 4% on a lease with a tie, at the worst 25/75% discount, lessee/landlord, full FRI lease 3. 5% on a tenancy with a full tie, small brewers (On a 200 Barrel pub a small brewer will make at least £50K on the tie) External maintenance and internal structural internal decoration by tenant.

3. 6% on a lease totally free of tie, full FRI. However the landlord is in a far better position to negotiate a multiple operator discount and should be able to offer the facilities of higher discount to the lessee, the remainder of the discount paid to the landlord retrospectively a month later.

4. 3-5 year rent review with leases

5. 1-5 year rent reviews on tenancies

6. All improvements by landlord to be assessed for one year on impact on turnover and reviewed back at the end of the year, the effect that it has made on the business and % calculation brought in for the remainder of the rental period any over or under to be reimbursed over the remaining rental period and revert to normal % at next rent review.

7. Any structural improvements by the lessee are not to be the cause of a rent increase until the next review and the normal % will prevail. It is very much in the landlords and the lessees interest to improve the business, since they both benefit.

8. If there are no turnover figures to assess a rent then a sensible estimate should be made for the first year with any adjustments being made at the end of the year in either direction without causing financial hardship, that % rent will continue until the next rent review.

9. The % figures may appear low by current standards but they are in line with rents when virtually all pubs were profitable and viable.

10. Pubs should be viable at 35-40% of maximum take and not breaking even at 80-90% maximum take.

11. By lowering rents, leases will be worth serious money and enhance property values in the long term.

12. By lowering rents lessees and tenants will have a serious long term career opportunity

13. All failures are reputed to cost Pub Co’s £30K in lost revenue, lost continuity and overheads.

14. By bringing the rental assessment in as a percentage of turnover, it is totally identifiable and the need for convoluted humbug to assess future rents is finished.

15. Arbitration will be virtually a thing of the past, it should all come down to amicable negotiation.

16. All lessees deal direct with the suppliers that are not their own brewer, any discount is paid retrospectively to the landlord one month in arrears.

17. Lessees could achieve 28 days credit which will help their cash flow.

18. By dealing direct with suppliers this removes the present situation of extended credit by Pub Co’s with minimal credit to their lessees, in addition the failure of a major Pub Co will create a domino effect with disastrous consequences.

19. The present RICS Valuation System ignores existing turnover and assumes that the available business is infinite, it is finite and any increase in trade is at the cost of another business, no projected improvement of business should exceed 15% and even less in the present climate.

20. No Pub owning company should have more than 2000 pubs and should not be financially connected to any other company in any shape or form, the same with the directors, they cannot be on more than one Pub Company if the total number of Pubs in the various companies exceeds 2000. I would have preferred 1500 pubs. The present market has been totally dominated and dictated to by the major Pub Co’s because of financial and commercial pressure.

21. A number of licensees are against having their turnovers disclosed, but if they want fair rents this has to be an essential. The turnover is the key factor not the net profit, if the rental % is higher we get into audited accounts, profitability and return to the present mess in a different form. Audited accounts are always in arrears, turnover is not.

22. By using % for rental valuation and existing turnover, the licensee gains benefit from his efforts, if there is a low turnover at the start he enjoys the benefits of his diligence until the first rent review, the landlord enjoys the increased rent at the first review.

23. By using turnover as the basis for rental calculation e.g. £200K turnover would equate to a freehold valuation of £250-300K by the old yardstick of 1.25-1.5 times turnover. Free of tie, if a landlord is sensible he is in a position to negotiate far better discounts than a sole operator, he can then offer his lessee say £180 per barrel discount and pick up between £30-£50 additional discount retrospectively from the brewer on a £200K T/O = £12K rent on a rough barrelage of 150 a further £4.5K plus giving a return of £16.5K plus which equates very favourably with commercial rates. These calculations change dramatically with any form of tie or tenancy assuming that a Pub Co’s discount at present is £220 plus, the brewers can afford to sell the beer to Pub Co’s and make a profit, if they sell it direct to their tenants, the profit has to be in the region of £250 per Brewers barrel, if that all makes sense.

24. All Pub owning companies will squeal at these percentages, but the options are a clear straight forward method of rental calculation, leases and tenancies will have greatly enhanced valuations, we therefore have better quality demand for them in terms of licensees and we will have a long term career opportunities for most would be licensees, not a select few.

25. The freehold values will be linked to viability and not speculative figures, banks and mortgage companies will start loaning money on freeholds and leaseholds and the industry will get back on it’s feet.

26. If the industry values are based on profitability growth rather than Spiv Banking or a near Ponzii scheme, the financial sharks will get out of the business.

27. By having low rents and fair discounts we attract the best operators, rather that misfits and unsuitable people, which is what is happening at the moment.

28. By having the tenants dealing direct with the suppliers the paperwork debt mountain and admin staff is wiped out.

29. BDM’s would be come serious business advisors rather than debt collectors and the need for so many would drop, they would be advisors on training issues and the whole operation should become a partnership to everyone’s benefit.

Some concerns have been expressed by RICS Surveyors on my thoughts.

A lessee/tenant who is using a valuable site to under perform through bad practice or lethargy creates a serious problem for the landlord. The real answer is in training and selection by the Pub Co, all new lessees/tenants should be put on at least a years tenancy with instruction before being acceptable for a lease, as they used to moving from a training pub to a promotion pub, in this case they would qualify to take a new or existing lease.

It is not cost effective to have an unmotivated lessee , by taking people with no experience and limited training it represents a continual risk for any company leasing businesses.

If a substantial figure has been paid for a lease very few lessees would allow the business to run down because their capital asset would be seriously reduced.

Another possible incentive would be a small percentage reduction in rent on achieving various levels of wet sales per quarter.

For those Surveyors who deal in rent negotiation, the loss of rental disputes etc would be far outweighed by the increased leasehold values and sales and corresponding levels of commission, with leases at figures far in excess of the rock bottom prices at the moment because of high rents it would mean that the fees would be paid on time rather than trying to get fees from a struggling tenant with limited funds.

The lower the percentage rent the higher the lease value taking the turnover value, the freehold would have a realistic valuation and banks would loan to both lessee and landlord.

The landlord wants a genuine high freehold value, the tenant wants a high leasehold value, the moment that percentages move above 6% both these values appear to decline. At 12% all lower end pubs are struggling and suffer from lack of tenant investment, anything above that is seriously detrimental to all valuations and trading. The tenant has to feel that by investing in the business he is benefitting himself not just the landlord, likewise the landlord the same in investing in the premises.

An interesting comment passed back to me from a meeting this week. The Pub Co’s have always used the capital growth of a lease as being a major incentive for taking a lease.

With the total collapse of lease values many to a Fixtures and Fittings valuation, certain Pub Co’s have admitted that lease values are of no concern to them and that they have no interest in seeing lease values rise, therefore any change to the rental valuation would not be acceptable, this has always been the core selling point capital growth, now it is unacceptable..

This totally defeats the object of having a lease if it has little or no value and a traditional tenancy with minimal capital growth would appear to be far more acceptable. 

 Comparables

The use of comparables for High Street shops and offices may be appropriate, but in the Pub Industry it is seriously flawed, see my previous correspondence to the RICS.

The assumption that business is infinite is a fallacy, business is finite and the existing business is it’s actual market share, any growth is at the cost of another pub, unless some new development in the catchment area is occupied, which is very unlikely.

The fact that an increase in business is at another’s cost, it puts the value of the other pub down and this is never considered, any increase beyond 15% is totally unreal and in to days recession extremely unlikely.

My previous comments regarding Barry Gillham’s presentation at a BII Rent Road Show are below:-

The only real way of assessing rent is by linking it to existing turnover, if the turnover increases the rent increases, if it falls the rent goes down, there is a finite level of business within an area and each pub has a market share at any given time, which your surveyors would appear to have failed to recognise, in my opinion because they are totally unaware of the vagaries of running a modern pub. In buoyant times a possible 10-15% growth for good operators, but anything beyond that is fantasy, these are far from buoyant times.
Barry Gillham also said that by using comparables and a lessee disagreed with the valuation, that he could take it to Arbitration, but he advised him of his costs and the costs of Arbitration and could he afford to lose for a few thousand rent increase, they invariably withdrew. I pointed out that this was tantamount to intimidation also that it raised the comparables level and in effect was instrumental in raising rents and valuations higher at every turn if the lessees capitulated every time arbitration was threatened. This raises further serious questions about this method of valuation, there are many questions being asked about the valuations of the freeholds being based on supposed rental values and not business viability. One major Pub Co’s supposed average valuation on their estate was in excess of £760K yet ten pubs sold last year the top price was £250K, the valuation system would appear to have been primarily used for over renting and subsequent over valuing of the estates to fund further expansion with no concern for lessees viability.
 

 

The other issue that I omitted to mention was that it was quoted that rent could be based on an alternative use valuation, this is wildly inaccurate since the property can only be assessed rent wise for it’s present use anything else is hypothetical.

There cannot be a two tier valuation system, one based on turnover for rent and freehold value, bricks and mortar valuation for selling vacant if required. One based on wild guesstimates of rent and over valuing is highly dangerous.

In the event of the RICS arriving at a fair valuation system that would endanger their professional reputation because of the degree of change from the existing, I would suggest a consultation with Peter Luff or Greg Mulholland with a view to it being endorsed by the Competitions Commission.
Some of the following was mentioned briefly
 

 

Free Houses

 People owning freehouses may think that they are outside the issues being voiced by Fair Pint and others.

Having owned freehouses since 1972 and seen the vagaries of the market where values rise and fall at anything that affects the industry.

The Pub Co’s have over hyped freehouse values by aggressive buying and starving the market of their failing pubs being sold off, consequently the market has been totally out of balance with a predominance of leases.

The Pub Co’s are totally over borrowed and desperate to sell pubs at somewhere near their book value, which is hopelessly out of tune with their real value.

Any mass forced sale of a Pub Co’s Estate is going to knock the bottom out of the market and many freehouses will be facing negative equity, if they are in a hurry to sell within the reasonably foreseeable future.

They like me would be wise to back moves to bring the industry back to licensees viability and long term careers.

NOTES

It would appear from recent comments and information that the present valuation system has evolved from the old Brewery Tenant valuation system.

As mentioned above the old Brewery System was to put a tenant into a training pub with assistance and then if capable, graduate to a Promotion Pub after due time.

The rental valuation was based on a Competent Operator’s ability, the Brewers had an intimate knowledge of every Pubs capability in their estate and the targets were fair and achievable, leases were in the order of 7% of turnover for a National Brewery from a recent publication.

The definition Competent Operator would never ever appear to be questioned as to the requirements to meet this criteria.

This rental system was never ever designed to suit the current market and was wide open to abuse once the system went outside the small regional brewers.

The ex MD of one of Whitbread Companies said to me that the worst thing that they ever did was to go for corporate growth by over renting and over valuing their estate rather than relying on true profit from sales, the whole industry followed suit with disastrous results.

A further thought if FMT for the current rent is worked out and compared with the actual turnover and the wet  purchases are proportioned up to meet current rent FMT, the thoughts so far are that the industry would require possibly double the brewing capacity to meet that theoretical requirement????

 

 

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