Return on Investment Standards

OPTIONS

Ordinances usually contain either (1) a fairly specific maintenance of net operating income (NOI) formula, or (2) a statement that a park owner is entitled to a fair return on investment without a definition of those terms, or (3) a list of factors that must be considered, without stating how they shall be weighed (i.e. the Escondido Ordinance model).

It is common for ordinances and court decisions to also include language to the effect that a fair return on "investment" must be permitted – again, without a definition of those terms.

PRACTICAL PROBLEMS

As a practical matter, there are serious problems associated with return on investment standards. The process of determining investment and return can be troubling. For example, a property may be inherited, or there may have been refinancing, which make investment difficult to determine. Or there may be two investors in the property (the landowner and a park owner with a long-term land lease). Furthermore, rates of return on investment vary substantially among properties depending on their purchase dates and financing arrangements. There is no single rate or range of rates of return on investments that are considered typical for real estate investments.

A long-term owner may be charging low rents, yet may be earning a high rate of return.  Conversely, a recent purchaser may be charging high rents, yet may be earning a low rate of return on investment.  In the 1970’s and 1980’s real estate investments typically had negative cash flows in the first years after a new purchase, as prices reflected substantial anticipated growth in income, value and tax shelter benefits as well as current income.

MEASURING INVESTMENT AND RETURN

The result of the foregoing is that when an ordinance requires a fair return on investment, it cannot contain specific definitions of investment or return. Instead, rent boards struggle to determine how to measure the investment and return. Some boards apply widely differing standards or make decisions on a case-by-case basis without any standards.

Source: The GSMOL Mobilehome Rent Stabilization Ordinance Handbook, Second Edition: Guidelines for Drafting and Enacting a Mobilehome Rent Stabilization Ordinance

Prepared by: Bruce Stanton, Esq., Corporate Counsel

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