Gateway-Walden, LLC v. Pappas

• Decision Date: 30 August 2018
• Docket Number: No. 1-16-2714,1-16-2714
• Citation: 2018 IL App (1st) 162714,430 Ill.Dec. 921,127 N.E.3d 157
• Parties: GATEWAY-WALDEN, LLC, Plaintiff-Appellee, v. Maria PAPPAS, Cook County Treasurer, Defendant-Appellant.
• Court: United States Appellate Court of Illinois

2018 IL App (1st) 162714
127 N.E.3d 157
430 Ill.Dec. 921

GATEWAY-WALDEN, LLC, Plaintiff-Appellee,
v.
Maria PAPPAS, Cook County Treasurer, Defendant-Appellant.

No. 1-16-2714

Appellate Court of Illinois, First District, FOURTH DIVISION.

August 30, 2018

Kimberly M. Foxx, State’s Attorney, of Chicago (Chaka M. Patterson, Kent S. Ray, Benjamin R. Bilton, Cristin Duffy, and John J. Coyne, Assistant State’s Attorneys, of counsel), for appellant.

Saul Ewing Arnstein & Lehr LLP, of Chicago (Hal R. Morris, David C. Durkin, and Elizabeth A. Thompson, of counsel), for appellee.

JUSTICE ELLIS delivered the judgment of the court, with opinion.

430 Ill.Dec. 924

¶ 1 Plaintiff owns commercial office space in Schaumburg (Property). For the purposes of 2011 property taxes, Cook County valued the Property at approximately $10.4 million. Plaintiff disagreed with this valuation and filed suit. After a bench trial, the circuit court entered judgment in favor of plaintiff and found that the Property's fair cash value was $7.3 million. Defendant appealed. For the following reasons, we affirm the circuit court's judgment.

¶ 2 BACKGROUND

¶ 3 The Property consists of three separate multi-tenant office buildings. Before 2011, the Property was owned by a third party who had a mortgage with Wells Fargo. The previous owner failed to meet its mortgage obligations, and Wells Fargo filed a foreclosure action. During that proceeding, the circuit court of Cook County appointed a receiver, Daniel Hyman. At the conclusion of the foreclosure case, Wells Fargo made a credit bid at the sheriff's sale. The circuit court confirmed the sale to Wells Fargo near the end of February 2011.

¶ 4 While receiver, Hyman contacted Gerald Nudo. Nudo was a manager at Marc Realty and had previously done business with Hyman. Beginning in February 2011, Nudo expressed interest in purchasing the Property. Nudo testified that there were a number of offers exchanged in mid-2011. There is conflicting testimony about whether Hyman or Nudo initiated offers for the Property. Ultimately, Wells Fargo, or its agent, accepted Marc Realty's offer,

430 Ill.Dec. 925

127 N.E.3d 161

and the Property was put under contract in November 2011. Marc Realty created Gateway-Walden, LLC, the plaintiff, to own and operate the Property. The sale closed in January 2012 with a final price of $7.3 million.

¶ 5 Plaintiff disputed the assessor's 2011 property tax assessment and filed suit to challenge the $10.4 million property valuation; the case proceeded to bench trial. At trial, the parties each presented evidence regarding the Property's value.

¶ 6 Plaintiff's Expert: Eric Enloe

¶ 7 Plaintiff presented the expert testimony of Eric Enloe of Integra Appraisal. Enloe had appraised the Property in late 2011, not for purposes of this litigation, but rather for Associated Bank for loan underwriting purposes. A sales contract was pending on the Property, and the bank was considering issuing a mortgage on the Property. (As we will explain, the sale went through—plaintiff bought the Property for $7.3 million in January 2012.)

¶ 8 Enloe opined that the Property had a value of $7.5 million dollars as of December 2011. Enloe also made prospective stabilized and completion valuations: $9.5 million as of 2013 and $10 million as of 2014. Enloe explained that the disparity in these values had to do with the need to stabilize the Property and make capital improvements. Specifically, the Property was approximately 29% vacant, which was consistent with the market at the time. He opined that the property owner would need to bring the vacancy rate to around 15% before it would be considered stabilized. Additionally, Enloe estimated that there would need to be approximately $500,000 in expenditures to repair the HVAC system and parking lot.

¶ 9 In reaching his conclusion, Enloe employed the sales comparison approach (resulting in a valuation of $7.2 million for 2011) and the income capitalization approach (from which Enloe obtained a $7.5 million valuation for 2011, the valuation he adopted). Enloe recognized that there was a third common approach, the reproduction cost approach, but explained that he did not conduct this analysis because that approach is not particularly relevant when considering the purchase of the Property.

¶ 10 Properties are given letter grades that reflect their amenities: security guards, finishings, access to local amenities, and the like. "A" properties are the nicest, most modern properties. Enloe described the Property as a "B" or "B/C" property in average condition. Enloe also stated that his valuations were for a leased fee interest in the Property. He testified that a fee simple valuation is free and clear of any other interest. On the other hand, a leased fee interest is where a party takes ownership of property subject to existing leases. He testified that there was nothing abnormal about valuing a leased fee interest for property that was going to be used for leasing office space.

¶ 11 In conducting his sales comparison approach, Enloe used five sales that, in his opinion, were comparables. These comparables were multi-tenant leased fee buildings that sold between 2009 and 2011. He opined that the market was devastated by the real estate crash, and he felt it necessary to use sales that occurred post-recession to get a valuation that reflected the current reality; Enloe criticized defendant's expert for using sales that occurred before the crash. In response to defendant's criticism that Enloe's comparables were lower quality than the Property—including one with a 100 percent vacancy rate—Enloe acknowledged that some of his comparables were of a lesser quality than the Property, but he testified that he made positive adjustments to compensate.

430 Ill.Dec. 926

127 N.E.3d 162

¶ 12 Though he used the sales comparison approach, Enloe placed the highest emphasis on the income capitalization approach. There are various accepted analyses within the income capitalization approach. Relevant to this appeal are the "direct capitalization approach" and the "discounted cash flow analysis." The direct capitalization approach determines a net operating income and applies that to a capitalization rate to arrive at a value. The discounted cash flow analysis is used when there are leases in place; it makes projections about vacancies and expenditures over the next 10 years to arrive a present value.

¶ 13 Enloe opined that direct capitalization was more appropriate for long term, single tenant buildings, whereas discounted cash flow was better for multi-tenant buildings with lease turnover. Enloe used the discounted cash flow analysis in this case due to the number of vacancies and the expenses associated with the "lease-up" of the Property. To determine the projected income and costs associated with leasing the Property, Enloe used seven lease comparables, focusing on "B" office buildings. Using these variable inputs, Enloe used a market standard program called ARGUS to arrive at his $7.5 million value.

¶ 14 On cross-examination, Enloe admitted that typically, for tax valuations, the direct capitalization method is used and a discounted cash flow is not included. He had not prepared his appraisal for tax valuations but rather for a bank that wanted to confirm the Property's fair market value before issuing a mortgage. On redirect, he testified that the discounted cash flow analysis is an "accepted and typical approach" that he has seen used in tax appraisals, too. More importantly, he testified that both approaches determine a property's value—which is ultimately what matters.

¶ 15 Defendant's Expert: Stephen Jackson

¶ 16 Defendant presented the expert testimony of Stephen Jackson. Jackson conducted a retrospective valuation of the Property in 2014. Jackson opined that the Property had a value of $12 million as of January 1, 2011. Jackson valued the Property at $12 million under all three approaches: the sales comparison approach, the income capitalization approach, and the cost approach. While Jackson conducted the cost approach, he testified that it was of almost no value to his ultimate opinion. Like Enloe, Jackson relied on the income capitalization approach, supported by the sales comparison approach.

¶ 17 Jackson testified that he valued the Property at "market value," defined consistently with the tax code, for a fee simple interest. He acknowledged that the Property was sold for $7.3 million in January 2012, but he did not give any weight to this sale because, in his opinion, it did not appear to be a market value sale.

¶ 18 Jackson categorized the building as a "B" or "A-/B" building in good to average condition as of 2014. In conducting the sales comparison approach, Jackson used five sales that he believed were comparable. The comparables were multi-tenant office buildings sold between 2006 and 2009 in arms-length sales; plaintiff heavily criticized Jackson's use of pre-recession sales as a way of avoiding distressed sales. Jackson acknowledged that each of his comparables was superior to the Property, and that none of those sales needed capital expenditures. To...