This article was written by our executive(s) and originally appeared in Right of Way magazine, International Right of Way Association, January/February 2004 issue.  Contact us for Reprint Permission.

Appraising Dormant Brownfield Properties

The appraisal of a brownfield property is relatively complex, and will often require input of other professionals. No brownfield appraisal would be complete without identifying the causes of action a prospective purchaser would become vulnerable to upon taking title to a contaminated site. An attorney can provide the assistance necessary to identify the possible cuases of action associated with the ownership of a particular brownfield. In turn, the attorney will rely upon the assistance of environmental professionals in understanding the physical problems which afflict the property.

This article provides a roadmap for appraising brownfield properties. Using the Willow Steam Plant (WSP) as an example, a brownfield which has been discussed in previous articles (May/June 2002, July/August 2003), I will delve deeper into relevant issues and look at a few of the reasons to appraise the market value of brownfield properties.

WHY APPRAISE BROWNFIELD PROPERTIES?

1.  To Ascertain a Fair Purchase Price

The existence of environmental problems can dramatically alter the fair market value of a property. An appraisal which accounts for environmental and other problems can provide brownfield vendors and purchasers with a fair and equitable means of ascertaining market value.

2.  Appraisals Can be Used Extensively When Seeking Zoning Variance Relief

a. Unnecessary Hardship

The Property is Valueless as Zoned

With some exceptions, properties in the United States generally have a zoning designation. Each zoning designation includes one or more uses to which properties within that class may be put. Zoning constitutes general legislation. Local governments across the United States impose zoning by areas, not individual properties. Some properties simply cannot be used in strict conformity with their designation. Each owner’s recourse includes the pursuit of use variance relief, allowing an individual property to be used for a purpose prohibited by local zoning ordinances. In order to secure variance relief an owner must prove that forcing the property to be used in strict conformity with its zoning designation would result in unnecessary hardship. Unnecessary hardship may be established through proof that the property has no value as it is currently zoned. ¹  Where unnecessary hardship is based on a lack of value, an appraisal will be of assistance to the zoning board in deciding whether the applicant has met its burden.

b.  An Appraisal Can Quantify the Minimum Variance Necessary to Alleviate the Unnecessary Hardship

In order to secure use variance relief, an applicant must prove to the local zoning board that the relief requested is the minimum necessary to alleviate the unnecessary hardship. An appraisal can be helpful in marking the point at which the hardship is lifted. In many instances, the extent of the environmental problems cannot be measured precisely. This should be noted, along with any other problems which may have to be addressed before the property can be reused. When dealing with a contaminated property, the board may wish to provide the applicant with some latitude to deal with variables that afflict brownfield developers. These variables include: 1) vulnerability to increasing remediation costs ² ; and 2) unexpectedly prolonged periods during which remediation expenses and carrying costs mount without the advent of offsetting income, making it more difficult to recoup losses after a reuse is finally instituted.

3.  Determining Whether the Benefit Justifies the Cost

Brownfield property purchases are often complex, time consuming  and long-term propositions.   Once a purchaser enters into the chain of title, his vulnerability to liability commences. Ownership should only be undertaken after a stringent evaluation of the brownfield’s environmental problems. The pre-acquisition phase of the property ownership lifecycle provides developers, investors and users with an excellent opportunity to ensure that benefits outweigh costs. An appraisal can help a purchaser decide whether the potential for profit outweighs the plethora of problems.

WHAT SHOULD THE BROWNFIELD APPRAISAL INCLUDE?

1. More than a Simple Determination of Current Value is Required

Prospective purchasers should ascertain: 1) the post-use value of the property; and 2) any enhancement in the cash flow or value of the purchaser’s business which is attributable to post-acquisition use. Value is not necessarily universal. A property’s value to one party may be greater or less than its value to another. This type of value may be outside of a standard appraisal, but is often useful nonetheless.

The creation of value is a cornerstone of real estate investment. Value can be created in many ways. One means of creating value is by securing use variance relief under appropriate circumstances. Columnist Tom Ferrick, Jr., of the Philadelphia Inquirer said the billboard and wraps on the WSP project “could bring in $1 million a year in revenue.” ³ He further added that “ . . . using it as a host for outdoor advertising artificially inflates its value.” When a zoning variance adds millions of dollars in value to an upside down brownfield, ⁴ remediating decades of problems becomes possible. The artificial increase in value will solve some very real problems.

Your appraisal should attempt to value the improvements contemplated. Not every improvement increases the value of a property by an equivalent amount. Sometimes $1 in improvements results in $1.50 in added value; while in other instances it only increases value by 50 cents. Remember, a substantial portion of the value being generated may be exhausted just to bring the brownfield up to par, or a value of zero. This results from many brownfields starting upside down -- worth less than zero as ownership conveys little chance of profit, but a significant chance of incurring liability. In any event, value which will result from post-settlement use should form a part of a purchaser’s appraisal.

American Land Recycling (ALR) structural engineer Kenneth Seiler, P.E., estimates that the WSP has 25,800 square feet of exterior metal including smokestacks, breeching and enclosures.⁵ Nothing separates this exterior metal from the surrounding community. Substantial portions of the exterior metal are covered with lead-based paint. The New York Times recently reported that the steel support structures of the elevated subway were painted for decades with lead-based paint.⁶ The lead-based paint at the WSP represents a health risk to the community. Its abatement, and where appropriate, encapsulation, is long overdue.

Many dormant brownfield properties are upside down; rehabilitation costs are greater than post-rehabilitation value. Consequently they have a negative value. That is why they lay fallow for substantial periods of time. Some form of “artificial” stimulation is required to spur any or all of the {what American Land Recycling refers to as the} three R’s: remediation, rehabilitation and reuse. By artificial, I mean an outside catalyst which comes to the aid of properties incapable of stimulating their own resurgence. This can come from various sources including: 1) government funding; 2) one or more previous owners; or 3) one or more zoning variances designed to alleviate unnecessary hardship. The appraisal should account for any bump in value attributable to post-settlement use (permitted only because variance relief has been granted) as well as other artificial but legal means of stimulating the brownfield’s revival.

2.  Identify Comparable Properties Located Nearby

For the moment, examine the property as though it were uncontaminated. Identify the neighborhood in which the property is located. Generally, there is no boundary demarcating the precise point at which one neighborhood begins and another one ends. The more familiar you become with an area the greater your ability to draw fine line distinctions.

Identify comparable properties located within the subject brownfield’s neighborhood. Take careful note of environmental, structural and mechanical flaws, but do not include these three areas in the estimate of value. They should be noted for both the brownfield being appraised, as well as the properties it is being compared with.

Determine whether the local real estate market is volatile. Have there been sharp increases or decreases in the value of comparable properties within the neighborhood?  Depending on the volatility in real estate values, select a time period for which you will examine comparable sales. The greater the degree of volatility the smaller the time period for which comparables are appropriate.

Take your list of comparables to the land title office and examine the most recent sales of each property. Select those sales which fall within the time perod you have identified as being appropriate.

Ascertain the appropriate means of comparison. Each market will have its own means of standardizing comparison. For example, office space is usually quoted on a per square foot (psf) basis. Make sure that you are comparing apples with apples. For example, larger industrial buildings generally sell for a discount psf when compared with their smaller counterparts. Ensure that these variables have been accounted for and that your brownfield is being measured against true comparables.

Arrive at a rough estimate of value. 

3.  Factor in Structural Deficits

The uncontaminated value of your brownfield should be evaluated. The litigation spawned by the Exxon Valdez spill included a lawsuit in the Alaska state courts concerning the impact of the spill on privately owned property. The key considerations in the appraisal report prepared by a team of Exxon experts included:

     The degree of economic impairment is a function of the highest and best use of the land prior to the spill

     Much of the land had only limited use potential even before the spill. <sup>7

Remember, many brownfields remain fallow primarily because of nonenvironmental problems. The WSP has a basement and a ground floor. The balance of the 88 foot high structure lacks traditional flooring. Metal cat walks allowed steam plant workers to service the building’s equipment, including its six boilers. In effect, the property was never a building in the traditional sense of the word, but an oversized boiler room. That is why it is so expensive to revitalize.

An architectural firm provided a rough estimate of between $65 psf and $85 psf for infill floors. This estimate exempted structural considerations. Seiler provided the zoning board with the following information about infill floors:</sup>

      The existing steam generation equipment and catwalk structure would need to be demolished, removed, and the asbestos abated.

      New beams, girders and columns would be required to support infill floors in the building. A shallow foundation system consisting of concrete piers and footings would be required to support the new columns carrying the infill floors.

     Due to the proximity of the Center City Commuter Rail tunnel, the new footings would place additional surcharge load on the existing tunnel walls and roof, adding load to the existing tunnel structure.

     A shallow foundation system would surcharge the tunnel structure. One way to reduce/eliminate the surcharge load on the tunnel structure is to use a deep foundation system. Deep foundation systems add significantly to the construction cost of building foundations. ⁸

Of course, the estimated cost of revitalizing the WSP is only part of the equation. In order to determine whether revitalization costs are prohibitive, the fair market value of nearby comparables must examined. Seiler examined several sales, including the recent sale of a multi-story industrial property located over 1,000 feet from the WSP, which is improved by a 25,961 square foot building. On August 5, 2002 the property sold for the sum of $735,000. This calculates to a cost of $28.31 psf. The owner of the building said he arranged for a Phase I Site Assessment and that the property has no envirnomental problems. At the time of the sale, the building was occupied and had all of those amenities one would expect of a functioning industrial building. The cost of adding floors to the WSP is more than twice the psf cost of a functioning and tenanted building located just over 1,000 feet away. The addition of floors at the WSP would leave the building with floors, asbestos, lead-based paint, an unresolved leak from an above ground storage tank, but without electricity, plumbing, fire safety systems, a working elevator or a functioning building envelope. ALR did not rely on a single comparable in determining that the cost to rehabilitate the WSP, for use consistent with its zoning designation, is prohibitive. One of the other comparables relied upon was a multi-story industrial building located approximately 750 feet from the WSP. This 60,000-square-foot property was sold (on August 5, 2002) for $977,500 or $16.29 psf. After adjustments for location, size, physical condition and other factors the psf sales of both multi-story buildings were reconcilable. Each confirmed that the cost to rehabilitate the WSP for a limited industrial use was prohibitive.

I believe this information underscores the potential for structural deficits to add significantly to the cost of brownfield revitalization projects. Please note that the cost of adding floors is estimated to be between $3.25 million and $4.25 million. This dwarfs the cost of addressing known environmental problems. Even without its environmental problems, the cost of reusing the WSP pursuant to its zoning designation renders it valueless. You simply cannot spend $65 psf to $85 psf on floors alone (plus those funds required for a deep foundation system, new beams, girders and columns) when one functional building nearby sold for $28.31 psf and a neighboring property in relatively good condition sold for $16.29 psf.

Pipe Dreams? Afraid Not, Just Part of the Ongoing Nightmare

Some brownfields are missing basic structural components. In other instances, a brownfield will have structural improvements which were once useful, but which must be removed before reuse can commence. The various structural components that must be removed at the WSP include the substantial amount of equipment (including asbestos covered pipes) inside of the building. The need to remove remnants of the past does not end with the building’s basement. It continues underground where boiler feed lines apparently exist. During visits to the building, the presence of a large reservoir of water was noted in the basement -- a phenomenon described in an August 1999 Phase I Site Assessment prepared by e Phase, Inc. for McLaren/Hart. 

Water may have been accumulating in the basement for considerably longer. A photo forwarded by the city is marked “411-419 N. 9th Street, basement pump in water.” This photo accompanied documentation of enforcement actions which were initiated by the city in 1993 either of: 1) the presence of steam lines; or 2) the long-term presence of water can lead to structural problems. Trigen, a former owner of the building, provides steam energy to its customers. It was recently sued by a property owner who claims that the release of steam caused the ceiling of the basement/floor of the ground level to buckle and shift. This type of problem could have grave consequences at the WSP due to the proximity of the Center City Commuter Rail Tunnel.

The cost of rectifying structural deficiencies must be ascertained. This cost must be deducted from the rough estimate of value arrived at through the use of comparables alone.

4.  Factor in Mechanical Deficits

The cost of reviving the building’s mechanical systems must be calculated. Determine what it will cost to bring mechanicals up to a good working condition standard. This cost must be deducted from the rough estimate of market value discussed above. Make those adjustments necessary to account for mechanical deficits in comparable properties.

5.  Stigma

For purposes of this article, stigma is meant to denote diminution in value that:  1) persists beyond remediation of a property’s environmental problems; or 2) affects a brownfield before remediation and results in financial damages over and above the cost to cure. Stigma stems from the markets’s perception.

Various factors play a role in determining whether and to what extent a brownfield becomes stigmatized. One of the key factors is visibility. The more visible the brownfield and its problems are, the greater the chance of stigma. The WSP is highly visible -- especially if you frequent the Vine Street Expressway (I-676), one of Philadelphia’s busiest highways carrying motorists west towards the city, east towards New Jersey and connecting with other highways. A brownfield’s outward appearance is, of course, not the only factor in the existence and degree of stigma. Nor is it the only measure of visibility. Brownfield purchasers conduct due diligence before proceeding with an acquisition. During its due diligence ALR dug up a substantial number of documents depicting the problems at the WSP. Many of these are disturbing, and raise as many questions as they answer.
The property’s documentary visibility is high, while any assessment of its potential (after reviewing these documents) must be downcast.

5a. Mitigating Stigma

To a certain extent, brownfield owners are prisoners of the past.  Historical problems often occupy a prominent place in the market’s collective consciousness. Dramatic changes to the appearance of a brownfield can counter stigma. ALR plans to perform a considerable amount of work on the exterior of the WSP, which will augment the outdoor advertising and later the public’s perception. (I am not suggesting that these changes constitute an appropriate substitute for substantive changes.) We’re all judged by our appearance, even brownfield properties. While substantive changes will be made on the inside, ALR also plans to make those exterior improvements required to alter the public’s perception.

6.  Availability of Funds to Rectify Environmental, Structural or Mechanical Problems

The appraisal must include any public or private funds which may be available to defray the costs needed to return the dormant brownfield to productive use. The person performing the appraisal must identify potential sources of funding, and also estimate: 1) those resources which will be required to obtain the funding; and 2) the chances of actually obtaining each source of funding which has been identified.

Conclusion

Investors demand an evaluation of a property’s economic prospects before subjecting themselves to the inevitable demands on their resources. Because of the substantial risks entailed in an upside down brownfield transaction, prospective purchasers must believe there is at least the prospect of a higher than average return. Otherwise, why undertake a higher than average risk?

A comprehensive brownfield appraisal can only be performed after the completion of work by other professionals. An environmental engineer or other professional(s) must evaluate the physical problems. Remediation contractors will have to estimate the cost to cure these problems. A lawyer will evaluate this information and advise the prospective purchaser what the risks are and how to manage them responsibly. A thorough appraisal can only be completed after this and other information is available.

Brownfield problems can scare investors away. While environmental problems are attention grabbers, nonenvironmental problems often present higher barriers to reuse. Brownfield appraisals must account for all factors (both environmental and nonenvironmental) that affect market value.

Not every nonenvironmental problem must be surmounted for every reuse. In analyzing a brownfield’s market value, consider its ability to support less than a complete reuse. This initial partial reuse can generate the cash flow required to facilitate the immediate implementation of appropriate safety measures, as well as eventual complete reuse. Upside down brownfields did not become that way overnight. And their problems will not disappear overnight either.

Appraisals can help by underscoring the different values which will result from different uses. Use must be tailored to optimize each brownfield’s advantages while minimizing its deficiencies. This will inflate value, which in turn will support a level of remediation which would otherwise be impossible.
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REFERENCES

¹  Valley View Civic Association v. Zoning Board of Adjustment, 501 Pa 550,462 A.2nd 637 (1983).

²  These costs often increase over time. Increased costs can be due to myriad reasons including the migration of contamination and inflation. During a recent zoning hearing the Chairman of the Zoning Board for the City of Philadelphia suggested to our structural engineer that rehabilitation costs would increase over time. The engineer, Kenneth W. Seiler, P.E., Principal of the Monument Group, Inc. of Conshohocken, PA, agreed with the Chairman’s proposition.

³  Tom Ferrick Jr., “Billboards offer no cure for blight,” The Philadelphia Inquirer (June 15, 2003).

⁴  The term upside down denotes a brownfield with a negative value. On November 18, 1999 then Brownfields Coordinator for the City of Philadelphia, Andrew Toy, commented on the WSP. “Without Federal, State and City impetus and incentives this site will continue to languish as an eyesore and deterrent to the redevelopment of the area as it has for the last decade.” Toy further wrote that, “Depending on the remaining scope of assessment and remediation work needed, we will be requiring some financial  participation from Trigen.” Toy’s letter refers to four separate sources of funding. The letter avers that without impetus and incentives from all three levels of government the site will remain undeveloped. Toy’s opinion is indicative of an upside down brownfield, one requiring articial or outside assistance before it can be revived.

⁵  Letter submitted to the Philadelphia Zoning Board of Adjustment by Kenneth W. Seiler, P.E. October 15, 2003.

⁶  Kirk Johnson, “Looking Outside for Lead Danger: Finding It Overhead and Underfoot,” The New York Times (November 2, 2003).

⁷  Richard J. Roddewig, “Temporary Stigma: Lessons From the Exxon Valdez Litigation,” The Appraisal Journal (January 1997).

⁸  This opinion is based on Seiler’s education and experience as an engineer, including a Masters of Science in Civil Engineering and involvement in the design and renovation of over 400 buildings and structures.

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