What the heck is “Fair Return”?

MHP Resident Ownership – What the heck is “Fair Return”?

MH park owners often complain they’re not getting a “fair return” on their MHP investments. But what does “fair return” mean, and how is it determined?

You have some protection from a park owner’s “fair return” argument if you have MHP rent stabilization in your city or county. Your local space rent stabilization ordinance (SRSO) will include a fair return hearing process.

This process lets a park owner ask local government to allow an extra rent increase for specific reasons (e.g., a large unexpected expense). Often, a park owner argues a rent increase is needed to give him a “fair return” on his investment. If local government officials don’t agree with the reasons, the requested increase can be entirely or partially denied.

If you live in a city or county without MHP rent stabilization, you’ll have no legal protection from a park owner’s “fair return” argument, and have to look for other alternatives.

When MHP residents protest rent increases, they first approach the local City Leaders (CL) about how residents are getting ‘pillaged & burned’ by park owners who attempt to impose higher site rents.

Naturally, the park owners go berserk and try to confuse the situation and blow smoke. Park owners often cry that they cannot possibly get a ‘Fair Rate of Return’ on their investment if they are not allowed to raise site rents without restriction.

The CL, having never faced this issue before, are, of course, confused, and the park owners are organized, well funded and sophisticated. So the situation gets muddled and the CL often can do nothing to prevent rent increases.

Park residents need KNOWLEDGE to explain how the Fair Rate of Return concept can be bogus.

These are somewhat complex issues.

Also, I don’t know what you already know, so I will start at the beginning.

Important Definitions:

Net Operating Income (NOI): The annual revenue of a business (like an MHP), minus its operating expenses.

Rate of Return (RoR): The net gain or loss on an investment over a specified time period (usually annually), expressed as a percentage of the investment’s initial cost.

The “Fair Rate of Return” on a park investment starts with finding out when the owner bought the park, how much they paid for it, and what was the park earning (the “NOI”) when they bought it. If you know those things, you can determine the Rate of Return (RoR) when they bought the park – which, since owners are not stupid – would be a “Fair Rate of Return”.

An Example

Remember; the park’s NOI is its Net Operating Income. NOI equals all revenue from tenant rents, utilities, parking, dog fees, etc.), minus park operating expenses (management fees, maintenance, property taxes, etc.), and before payments on loans financing the park purchase.

For example (using made-up numbers): If a park’s annual revenue is $100,000, and its annual operating expenses are $30,000, the Net Operating Income (NOI) is $70,000. So, if a park owner paid $700,000 to buy the park, his RoR is 10%. On the other hand, if the owner paid $1,400,000 for the park, his RoR would be 5%.

The RoR is often also called the Capitalization Rate (“Cap Rate”). This is because you can divide the NOI by the Cap Rate to get the park’s estimated market value. (e.g., $70,000 divided by 5% = $1,400,000).

Cap Rates in California typically run from 5-6% (for decent-quality parks near the coast) to 10% or so (for lower-quality parks away from the coast). [Why cap rates and values vary from park to park is a discussion for another day.]

So, getting back to the real questions:

1) “What was the RoR when the owner bought the park” and,

2) “What has changed since they bought it that would cause the RoR at purchase (which we can assume was “Fair”) to change such that it is now “unfair”.

More specifically, in order to know what it takes to operate the park where rent increases are being challenged by the residents, the owner should be required to submit detailed operating statements, both for the period when he purchased the park and currently, so City Staff can analyze the numbers and use real facts to answer those questions.

[Note that owners will often attempt to include bogus expenses (the owner’s Mercedes Benz as the ‘park truck’, high expenses because they are paying items from the park revenue that are more appropriately included elsewhere, etc.) to lower their NOI, better for making the case that their return is not fair.]

City Staff can, hopefully, present the CL with a more realistic analysis that the park owners are NOT really being treated unfairly.

Deane

Deane Sargent
PMC Financial Services
deane.f.sargent@gmail.com
www.pmcfinancialservices.com
CAL RE Broker Certificate No.: 01040463

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