Superadequacy of a property in valuation for a bankruptcy proceeding.
In 2010, there was a significant growth in the oil and gas industry in south Texas because of the discovery of oil and gas reserves in the Eagle Ford Shale area, which prompted Debtor to expand his business. He added to his property, eventually owning a 51.8-acre property that was purchased with loans. The property consisted of an improved 20-acre tract and a 30-acre tract of excess land.
As part of the growth, Debtor added multiple metal buildings and a large stabilized yard of approximately 15 acres to the improved tract. The yard was built to a standard that far exceeded its functional requirements. It was built to highway standards, when a stabilized yard can function well when built at a far lower cost. The buildings were built to withstand a Category 5 hurricane.
Unfortunately for the Debtor, the price of oil and gas dropped significantly in 2015, making much of the drilling in the area unprofitable. Debtor's businesses ceased operating at a profit, and Debtor placed the entire 51.8 acres on the market with a listing price of $9.8 million for the 20-acre improved tract. No offers were received for the property. Eventually, Debtor filed for Chapter 11 bankruptcy relief.
Lender filed a motion for relief from the automatic stay, alleging that Debtor did not have an equity cushion in its collateral, because Lender's secured claim totaled $8.1 million. Debtor sought to transfer the 20-acre improved tract to Lender in full satisfaction of the claim. The parties' valuations of the property differed considerably.
Debtor and Lender each obtained appraisals of the entire property. Lender also hired a review appraiser to assess both appraisals. Both appraisers used the cost and sales comparison approaches, but the key difference in the parties' approaches focused on the value of the stabilized yard.
Lender's review appraiser concluded that both reports appeared to be "reasonable, complete, accurate and relevant," however both reports failed to consider functional obsolescence. The yard was built to highway standards because, Debtor said, he wanted the yard to withstand the possible wear and tear as a product of the heavy loads that would travel across the yard. Lender's review appraiser noted that the property was well designed for Debtor's business but found that the overbuilding decreased the property's value even though it was properly built. The range of the discount that would reasonably be applied to the gross value of the property, the reviewer found, was between 18% and 28%.
The court found that the testimony did not demonstrate that there was a market for a stabilized lot built to a "gold standard." While Debtor built the property with the purpose of growing and keeping his business for years to come, that does not mean that a buyer in an arms-length transaction would pay what Debtor spent in building on the property.
The court discounted both appraisers' valuations at the reviewer's proposed rate, providing a range of values that made clear that Lender would not be adequately protected if it were to only retain an interest in the portion of the property proposed in the dirt-for-debt proposal. Thus, Lender was only marginally protected as to its interest in the full 51.8 acres. The court indicated that it would issue an order to maintain adequate protection for the Lender.
In re: David Ainsworth Sr.
US Bankruptcy Court for the Southern District of Texas
October 23, 2018
2018 WL 5304719
Benjamin A. Blair, JD, is a partner in the Indianapolis office of the international law firm of Faegre Baker Daniels LLP, where his practice focuses on state and local tax litigation for clients across the United States. A frequent speaker and author on taxation and valuation issues, Blair holds a juris doctor from the Indiana University Maurer School of Law, where he also serves as an adjunct professor. Contact: benjamin.blair@FaegreBD.com
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|Title Annotation:||Recent Court Decisions on Real Estate and Valuation|
|Author:||Blair, Benjamin A.|
|Date:||Mar 22, 2019|
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