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Kettering City Schools Board of Education v. McDonald's USA LLC

Court of Appeals of Ohio, Second District, Montgomery

June 15, 2018

KETTERING CITY SCHOOLS BOARD OF EDUCATION, Appellee
v.
MCDONALD'S USA, LLC, Appellant; MONTGOMERY COUNTY BOARD OF REVISION, Appellee

          Administrative Appeal from Board of Tax Appeals BTA Case No. 2015-2328

          MARK H. GILLIS, Atty. Reg. No. 0066908 and KAROL C. FOX, Atty. Reg. No. 0041916 6400 Riverside Drive, Suite D, Dublin, Ohio 43017 Attorneys for Appellee

          CHARLES L. BLUESTONE, Atty. Reg. No. 0060897 and PATRICK J. HEERY, Atty. Reg. No. 0092060, Attorneys for Appellant

          OPINION

          WELBAUM, P.J.

          {¶ 1} In this case, Appellant, McDonald's USA, LLC ("McDonald's"), appeals from a decision of the Board of Tax Appeals ("BTA") finding the taxable value of McDonald's property to be $2, 000, 000. This was the amount proposed by Appellee, Kettering City Schools Board of Education ("BOE").

         {¶ 2} As support for its appeal, McDonald's contends that the BTA acted unreasonably and unlawfully, and abused its discretion, by failing to find that McDonald's appraisal evidence constituted competent and probative evidence of the subject property's market value, and by failing to find that McDonald's met its burden of proof. McDonald's further contends that the BTA abused its discretion by finding the BOE's appraisal analysis more competent and probative, by considering the subject property's present use when deciding the property's market value, and by accepting the capitalization rate of the BOE's expert rather than the rate used by McDonald's expert. Finally, McDonald's contends that the BTA abused its discretion by recognizing the BOE's appraiser as an expert witness.

         {¶ 3} We conclude that the BTA did not abuse its discretion, and that the BTA's factual findings are supported by reliable and probative evidence. The record also supports the BTA's decisions on credibility and the weight to be attached to the evidence. Accordingly, the judgment of the BTA will be affirmed.

         I. Facts and Course of Proceedings

         {¶ 4} This appeal involves the valuation of real property (Parcel No. N64-042-09-0002), located at 1872 East Stroop Road in Kettering, Ohio. The property consists of

          1.163 acres of land, and a 4, 686 square foot improvement (a McDonald's restaurant) that was built in 2006. As of January 1, 2014, the Montgomery County Auditor had appraised the property's value at $1, 082, 720.

         {¶ 5} After McDonald's filed a request with the Montgomery County Board of Revision ("BOR"), seeking a reduction in value, the BOE filed a counter-complaint. The BOR then held a hearing on October 26, 2015. McDonald's expert, Stephen Weis, testified at the BOR hearing and valued the property at $760, 000. The BOR issued a decision on November 7, 2015, finding a value of $764, 000, and the BOE filed a timely notice of appeal with the BTA.

         {¶ 6} Unfortunately, the BOR failed to provide the BTA with a complete record due to a malfunction of equipment on the day of the BOR hearing. As a result, when the BTA hearing was held on October 6, 2016, the hearing began with testimony from Weis. Weis testified and also submitted his appraisal report, which was dated October 23, 2015.

         {¶ 7} Weis used two methods of valuation: a sales approach and an income capitalization approach. He did not use a third method, the cost approach, because of the age and specific design of the building, which would make an estimate of depreciation difficult. According to Weis, the best and highest use of the property as it existed was as a restaurant. See Logix Appraisal, p. 25. Although the building had some elements of the McDonald's design, Weis concluded that if those items were removed, the building would come back as a regular, typical-use, free-standing building. He, therefore, rejected any type of special design or special purpose, which he described as being something like a power plant, church, school, or stadium.

         {¶ 8} For purposes of the sales approach, Weis selected six properties that had sold from 2013 to 2015. These included: (1) a former 5, 033 square foot Applebee's on West Dorothy Lane in Kettering, Ohio, which was built in 2002, was a full-service restaurant, and was vacant at the time of sale; (2) a 3, 120 square foot Arby's on Brandt Pike in Huber Heights, Ohio, which was built in 1988 and was occupied at the time of sale; (3) a 3, 080 square foot former KFC and A&W Root Beer on Old Troy Pike in Huber Heights, Ohio, which was built in 2002 and was vacant at the time of sale; (4) a 1, 815 square foot Subway on Woodman Drive in Kettering, Ohio, which was located in a building built in 1972 and renovated for Subway in 2000; (5) a 5, 496 square foot Longhorn Steakhouse on West Dorothy Lane in Kettering, Ohio, which was built in 2003, was a full-service, sit-down restaurant, and was vacant at the time of sale; and (6) a 3, 975 square foot Burger King located on Wilmington Pike that was built in 2000, was vacant at the time of sale, and was demolished and replaced by a Tire Discounter store.

         {¶ 9} The sale prices for these properties ranged from a high of $185.86 per square foot (for Longhorn) to a low of $67.28 per square foot (for Burger King). After making adjustments for factors like location, square footage, and age compared to the subject property, the prices for the comparable properties ranged from a minimum adjusted value of $77.09 to $165.88 per square foot. Properties other than the Burger King were in a tight range, between $145 and $166 per square foot, so Weis adjusted to a value of $160 per square foot for the subject property, which resulted in a value of $750, 000.

         {¶ 10} With respect to the income capitalization approach, the McDonald's restaurant on Stroop Road was owner-occupied, and there was no contract rental rate on the property. In order to arrive at a lease rate, Weis again used properties in Montgomery County, Ohio, and included triple net lease rates for the following nine properties, eight of which were restaurants: (1) a 1, 804 square foot Marina Fish and Chicken restaurant on Dixie Drive in West Carrollton, Ohio, which was in a building that was built in 1983; (2) a 1, 800 square foot CJ Chan restaurant on Alex Bell Road in Moraine, Ohio, which was in a building that was built in 1999; (3) a 1, 200 square foot China Bistro on Brown Street in Dayton, Ohio, which was in a building that was built in 2007; (4) a 1, 815 square foot Subway on Woodman Drive in Kettering, Ohio, which was in a building that was built in 1972; (5) a 7, 447 square foot Fricker's restaurant on Miller Lane in Dayton, Ohio, which was in a building that was built in 1987; (6) a 1, 400 square foot Pizza Hut on Harshman Road in Dayton, Ohio, which was in a building that was built in 2000; (7) a 6, 343 square foot El Rancho Grande restaurant on Wilmington Pike in Kettering, Ohio, which was in a building that was built in 1994; (8) a 3, 410 square foot Arby's on National Road in Dayton, Ohio, which was in a building that was built in 2000; and (9) a 2, 792 square foot Clark's retail store, which was located in a former Wendy's restaurant on Far Hills Avenue in Centerville, Ohio, in a building that was built in 1985. The initial lease dates for these properties ranged between June 2009 and September 15, 2015, and the rates per square foot, were, respectively, as follows: (1) 12.50; (2) $13.25; (3) $15.00; (4) $12.89; (5) $13.01; (6) $15.00; (7) $8.00; (8) $15.00; and (9) $18.50. After adjustments made in comparison with the subject property, the rates on these properties ranged from a low of $11.24 to a high of $16.43.

         {¶ 11} Weis then reconciled the rates and used an upper rate for the McDonald's property of $15.50 per square foot on a triple net basis. This amount, added to reimbursement revenue of $7.30 per square foot and multiplied by the property's square footage, resulted in potential gross annual income of $106, 844. Because the vacancy rate in a two-mile radius of retail properties was 10%, Weis applied a fictional 5% vacancy rate and arrived at $101, 502 of potential annual gross income. He then used market expenses to create a pro forma, in which part of the expenses were reimbursed and part were not, to determine a net operating income ("NOI") of $63, 270.

         {¶ 12} At that point, Weis applied a direct capitalization ("cap") rate of 8.25% to convert the NOI into a valuation. To arrive at the direct cap rate, Weis reviewed cap rates for 32 retail properties in several Ohio counties; less than one-third were restaurants. The average cap rate for these properties was 8.97%, which was reconciled slightly below at 8.25%, to reflect the risk inherent with the subject property. Weis stated that the subject property was "less risky, " but did not explain his reasoning for this statement, nor did he say why he chose the specific amount of reduction.

         {¶ 13} Ultimately, Weis prepared another pro forma by removing the real estate taxes and reimbursement, which changed the NOI. To account for that, he applied a tax additur of .17%, which resulted in an adjusted cap rate of 8.42%. Based on the adjusted NOI without taxes ($64, 558) and the 8.42% rate, Weis arrived at a value for the property of $766, 541, which he rounded up to $770, 000. Weis gave the most weight to the sales comparison approach, and after reconciling the two values, arrived at a final value for the property of $760, 000.

         {¶ 14} At the hearing, the BOE presented the report and testimony of its expert, Thomas Sprout, who viewed the property in late April 2016 and valued it at $2, 000, 000. He testified that the location was very good. It was located on an outlot of a Meijer store and was at a corner-signalized interchange of two primary arterials in Kettering, Ohio. Traffic counts were "about 30, 000, " which was a heavy volume and would indicate a very good and typical location for a national fast-food restaurant.

         {¶ 15} Sprout concluded that the property fit within the definition of a special purpose property in the Dictionary of Real Estate Appraisal, but he did not appraise it as such. Like Weis, Sprout used the sales comparison and income approaches to value the property.

         {¶ 16} Unlike Weis, Sprout revealed that the original McDonald's restaurant on the site had been built in 1979 and was operated there until 2006, when the current building was constructed.[1] McDonald's, thus, had decided that this was an economically viable site. The building was surrounded by a Meijer store, a Wendy's, a Dunkin' Donuts, and strip retail with a residential backdrop. The property was zoned for business, and Kettering, for the most part, was built-out.

         {¶ 17} As part of Sprout's highest and best use analysis, he conducted a vacancy survey of all retail within a two-mile radius and found a 10% vacancy rate. Based on the zoning, surrounding land uses, and the existing use as a national fast food restaurant, Sprout concluded that the most profitable use for the property was as a national fast-food restaurant, as improved. Vacant, the most profitable use would be for a national single-tenant user. Sprout, therefore, compared data for sales of fast-food restaurants and rental properties that would fit that type of tenant.

         {¶ 18} Sprout gave primary weight to the income approach because rents were readily available for this type of property. However, he did perform both analyses.

         {¶ 19} For sales comparisons, Sprout selected the following seven properties: (1) a 2, 841 square foot Skyline Chili on Miller Lane in Dayton, Ohio, which was built in 1998, was occupied at the time of sale, and had five years remaining on the lease; (2) a 2, 204 square foot Chipotle on Senate Drive in Monroe, Ohio, which was built in 2011, was occupied at the time of sale, and had more than 14 years left on the lease when sold; (3) a 2, 240 square foot Chipotle on North Main Street in Englewood, Ohio, which was built in 2012, was occupied at the time of sale, and had 14 years and 9 months left on a lease at the time of sale; (4) a 2, 240 square foot Chipotle on Possum Run Road in Washington Township, Richland County, Ohio, which was built in 2013, was occupied at the time of sale, and was in the first year of the lease when purchased; (5) a 3, 456 square foot property in Orange Township, Delaware, Ohio, which was built in 1998, was vacant at the time of sale, and had housed two restaurants that had failed; (6) a 3, 366 square foot Arby's on East Leffels Lane in Springfield, Ohio, which was built in 1997 and improved in 2015, was occupied at the time of sale, and had a 15-year lease that was signed prior to the sale; and (7) a 4, 702 square foot former Ruby Tuesday's on Hilliard Rome Road in Columbus, Ohio, which was built in 2005, was occupied at the time of sale, and had two tenants with 10-year leases that began in 2014. All these properties sold between June 2012 and December 2015. Four sales were located within the Dayton-Cincinnati market, and three were in north central Ohio.

         {¶ 20} The price per square foot for the properties, respectively, was: (1) $436.47; (2) $759.98; (3) $633.48; (4) $765.63; (5) $180.84 (for the vacant property); (6) $399.29; and (7) $448.75. Sprout included the former vacant restaurant to illustrate the sale of what the subject property was not - a vacant site with an inferior location. The former Ruby Tuesday's was included because it had been converted from a single-tenant property and was in a good location.

         {¶ 21} After making adjustments for market conditions, land ratio, building size, location, condition/quality, whether the location had a drive-thru, and the lease rates, Sprout concluded that a value for the subject property as of the tax lien date was between $425 and $450 per square foot, resulting in a value between $1, 990, 000 and $2, 110, 000. Sprout indicated that when he looked for comparable locations, he based his selection on fly-by-traffic, demographics, and similar sales in the market area. If data in close proximity does not match a property's use, then he expands the search to find comparable properties. Sprout stressed that the subject property was used for a national food chain, not a "mom and pop" operation.

         {¶ 22} Sprout felt the income approach was the primary indication, and selected these locations: (1) a 2, 240 square foot Chipotle on North Main Street in Englewood, Ohio, which was in a building built in 2012, with a lease that was executed in 2012; (2) a 3, 366 square foot Arby's on East Leffels Lane in Springfield, Ohio, which was in a building built in 1997 and improved in 2015, with a 30-year lease signed prior to the December 2015 sale; (3) a 2, 747 square foot Wendy's on State Route 235 in Huber Heights, Ohio, which was in a building built in 1997, with a lease that began in 2006 and would expire in January 2026; (4) a 2, 204 square foot Chipotle on Senate Drive in Monroe, Ohio, which was in a building built in 2011, with a lease that was entered into in 2012; (5) a 2, 240 square foot Chipotle on Possum Run Road in Washington Township, Richland County, Ohio, which was in a building built in 2013, with a lease that was entered into in 2014; (6) a 3, 654 square foot Steak n' Shake on East Main Street in Columbus, Ohio, which was in a building built in 1999, with a lease that was due to expire in 2018; (7) a 1, 804 square foot building on East Dixie Drive in West Carrollton, Ohio, which was built in 1983, had formerly housed a Taco Bell, and was available for lease; and (8) a 3, 680 square foot building on East Dorothy Lane in Kettering, Ohio, that was built in 1999, had formerly housed a Krispy Kreme, and was available for lease. All the properties except the last two had triple net leases.

         {¶ 23} The lease rates for these properties per square foot, were, respectively, as follows: (1) $38 (years 1-5), $41.80 (years 6-10), and $45.98 (years 11-15); (2) $24.96 (Jan. 2016-Dec.2020, and then 6.5% increases in years 6 and 11); (3) ($36.60 as of Jan. 1, 2014, and rent increases of 1.75% annually); (4) $46.14 (years 1-5), $50.76 (years 6-10), and $55.83 (years 11-15); (5) $41.75 (years 1-5), $45.93 (years 6-10), and $50.52 (years 11-15); (6) $30.10 (expiring in 2018); (7) $12.30 (lease offering, modified gross); and (8) $25 (lease offering, modified gross).

         {¶ 24} After adjusting for condition, size, and location, Sprout concluded that a market rent for the subject property would be $38 per square foot, assuming taxes at Sprout's appraised value. He noted that this was consistent with rent comparables 1 and 3 (the Chipotle in Englewood, Ohio, and the Wendy's in Huber Heights, Ohio). He considered comparables 4 and 5 superior to the subject property, considering their smaller size and superior condition; comparables 2, 6, 7, and 8 were considered inferior, due to their inferior condition and/or location. This market rent would generate base rent of $178, 068, and a total building expense of $356, 750, which included rent plus property expenses.

          {¶ 25} Like Weis, Sprout prepared a stabilized profit and loss statement. Using the market rate rent, he calculated the net effective gross income using the current taxes and with the taxes that would apply with his value calculation. With the taxes included as reimbursable income, and applying a 10% vacancy rate, the net effective gross income for the property with the proposed tax value was $320, 913. After subtracting expenses like property taxes, insurance, site maintenance fees, and so on, Sprout arrived at NOI of $141, 239. He applied a cap rate of 7.00%, and his conclusion as to valuation using the income based approach was $2, 020, 000. He then applied a tax additur adjustment method to account for his appraisal's anticipated increase in property taxes. This involved adding the current taxes to the net operating income and then dividing by a capitalization rate increased by a 3.44% effective tax equalization rate. The final income based valuation he reached was 2, 000, 000.

         {¶ 26} The cap rate was derived from the sales of fast-food restaurants in southwest Ohio and north central Ohio that provide cap rates, with only one of those being in north central Ohio. These rates ranged from 5.45% to 6.77%, with the rate for the Englewood, Ohio, Chipotle being 6.00%. Sprout also referenced a national publication listing typical cap rates in the net lease market within the United States. In the first quarter of 2014, the rates ranged between 6.00% and 8.50%, with an average of 7.03%. Sprout concluded that a cap rate near the middle of the range would be appropriate for the subject property, and used a 7.00% rate. He further indicated that he did not take into consideration the fact that McDonald's would be the tenant, even though McDonald's would be the "gold standard" from the standpoint of an investment company.

         {¶ 27} Sprout did not calculate a vacancy-weighted tax additur in his report. He indicated at the hearing that he does not do valuations that way because, in his experience, taxes are part of the rent. However, he calculated the vacancy-weighted tax additur at the hearing, which resulted in a valuation of $2, 017, 000. Transcript of October 6, 2016 BTA Hearing ("BTA Hearing"), pp. 144-147. Finally, after comparing the values derived from the sales comparison approach and the income approach, Sprout arrived at a final valuation of $2, 000, 000.

         {¶ 28} The BTA issued a decision and order on July 10, 2017, concluding that Sprout's analysis of value on the tax lien date was the most competent and probative evidence of value. Accordingly, the BTA ordered that the subject property's true and taxable value as of January 1, 2014, was $2, 000, 000.

         {¶ 29} McDonald's filed a timely appeal from the decision and order of the BTA, and the BTA subsequently filed a copy of the record with our court. The parties have filed briefs, and this matter is now ready for resolution.

         II. Acceptance or Rejection of the Appraisal Evidence

         {¶ 30} In the notice of appeal from the BTA's decision, McDonald's raised seven assignments of error. However, in its brief, McDonald's has consolidated some of the assignments of error. In considering the assignments of error, we will follow the format that McDonald's has used in its brief.

         {¶ 31} McDonald's has combined its discussion of the First and Second Assignments of Error, which state as follows:

The Board of Tax Appeals Acted Unreasonably and Unlawfully, and Abused Its Discretion, When It Failed to Find that Appellant's Appraisal Evidence Constituted Competent and Probative Evidence of the Market Value of the Subject Property.
The Board of Tax Appeals Acted Unreasonably and Unlawfully, and Abused Its Discretion, When It Failed to Find that Appellant Met Its Burden of Proof, When the Record Contained Reliable and Probative Evidence to Support Appellant's Market Value of the Subject Property.

         {¶ 32} Under these assignments of error, McDonald's makes two main claims: (1) Weis used a more appropriate technique for valuing the subject property; and (2) Sprout's appraisal methodology and analysis produced inconsistent results. Before we address these assignments of error, we will briefly note the appropriate standards that apply to BTA decisions.

         {¶ 33} When cases are appealed to the BTA from boards of revision, an appellant has the burden of proving its right to a decrease or increase in value from the value that the board of revision has determined. (Citations omitted.) Shinkle v. Ashtabula Cty. Bd. of Revision, 135 Ohio St.3d 227, 2013-Ohio-397, 985 N.E.2d 1243, ¶ 24. This means that the "appellant must come forward and demonstrate that the value it advocates is a correct value. Once competent and probative evidence of value is presented by the appellant, the appellee who opposes that valuation has the opportunity to challenge it through cross-examination or by evidence of another value." (Citation omitted.) EOP-BP Tower, L.L.C. v. Cuyahoga Cty. Bd. of Revision, 106 Ohio St.3d 1, 2005-Ohio-3096, 829 N.E.2d 686, ¶ 6.

         {¶ 34} The BTA, itself, as a taxing authority, has an independent duty to weigh evidence and make findings, and the BTA reviews the administrative decisions of boards of revision de novo as to both fact and law. MacDonald v. Shaker Hts. Bd. of Income Tax Rev., 144 Ohio St.3d 105, 2015-Ohio-3290, 41 N.E.3d 376, ¶ 21; Coventry Towers, Inc. v. City of Strongsville, 18 Ohio St.3d 120, 122, 480 N.E.2d 412 (1985). Under R.C. 5717.01, the BTA has "three options when hearing an appeal: the board may confine itself to the record and the evidence certified to it by the board of revision, hear additional evidence from the parties, or may make such other investigation of the property as is deemed proper." Coventry Towers at 122.

         {¶ 35} Under what is called the "Bedford rule, " " 'when the board of revision has reduced the value of the property based on the owner's evidence, that value has been held to eclipse the auditor's original valuation, ' and the board of education as the appellant before the BTA may not rely on the latter as a default valuation." Dublin City Schools Bd. of Edn. v. Franklin Cty. Bd. of Revision, 147 Ohio St.3d 38, 2016-Ohio-3025, 59 N.E.3d 1270, ¶ 6, referencing Bedford Bd. of Edn. v. Cuyahoga Cty. Bd. of Revision, 115 Ohio St.3d 449, 2007-Ohio-5237, 875 N.E.2d 913. (Other citation omitted.) Thus, when the board of revision adopts a new value based on an owner's evidence, the burden of going forward shifts to the board of education on appeal to the BTA. Id. The board of education then has the burden to establish a new value, whether that be the valuation of the auditor or another value. Id. at ¶ 7.

         {¶ 36} This rule does not apply if the auditor is the appellant before the BTA; in that situation, the auditor "may rely on the more general rule that the initial valuation should constitute a default valuation, the validity of which does not need to be demonstrated if the basis for the reduction is challenged." Dublin City Schools Bd. of Edn. at ¶ 10, citing Colonial Village, Ltd. v. Washington Cty. Bd. of Revision, 123 Ohio St.3d 268, 2009-Ohio-4975, 915 N.E.2d 1196, ¶ 30. (Other citation omitted.)

         {¶ 37} With respect to our review of BTA decisions, we note that McDonald's notice of appeal was filed before the effective date of recent amendments to R.C. 5717.04, which became effective on September 29, 2017. See Am. Sub. H.B. 49, 2017 Ohio Laws File 14. Prior to the amendments, parties had the option of appealing decisions of the BTA to the Supreme Court of Ohio, as well as to the court of appeals for the county in which the taxed property was situated. However, the statute was amended to eliminate initial appeals to the Supreme Court of Ohio, and the court of appeals in which a notice of appeal has been filed now has exclusive jurisdiction.[2] See Am. Sub. H.B. 49, 2017 Ohio Laws File 14, Part 15.

         {¶ 38} R.C. 5717.04, as amended, states that:

If upon hearing and consideration of such record and evidence the applicable court decides that the decision of the board appealed from is reasonable and lawful it shall affirm the same, but if the court decides that such decision of the board is unreasonable or unlawful, the court shall reverse and vacate the decision or modify it and enter final judgment in accordance with such modification.[3]

         {¶ 39} The general standards for reviewing BTA decisions are well settled. If the BTA's decision is both "reasonable and lawful, " the reviewing court must affirm. NWD 300 Spring, L.L.C. v. Franklin Cty. Bd. of Revision,151 Ohio St.3d 193, 2017-Ohio-7579, 87 N.E.3d 199, ¶ 13, citing R.C. 5717.04. Nonetheless, a reviewing court does not hesitate to reverse BTA decisions that are based on incorrect legal conclusions. See, e.g., Satullo v. Wilkins,111 Ohio St.3d 399, 2006-Ohio-5856, 856 N.E.2d 954, ¶ 14, citing Gahanna-Jefferson Local School Dist. Bd. of Edn. v. Zaino,93 Ohio St.3d 231, 232, 754 N.E.2d 789 (2001). Consequently, questions of law are reviewed de novo. Dublin City Schools Bd. of Edn. v. Franklin Cty. Bd. ...


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