HOTEL VALUATION – EXAMPLE

CHECKING PROFITS FROM SALES

Typical gross profits on the sale of beer are:

TABLE 1
 NSW SOUTH AUSTRALIA Middie: 63% 60-68% Schooner: 59% Package beer: (Large drive in 28-3o%) I2% 25-30%

EXAMPLE

The publican of the hotel claims that the hotel grosses \$30 832 per week in liquor sales. The bar breakup was as follows:

 \$ Bar1: 7000 Bar2: 4814 Bottle department: 19017 Total: 30832

The estimated gross profit for each bar was as follows:

Bar1: 63.5%*7001 = 4445.6
Bar2: 65% * 4814 = 3129.1
Bottle department: 25% * 19017 = 4754.3

TOTAL: \$12329.0

Therefore, the overall gross profit is: 12329/30832* 100 = 39.99%

Yearly liquor purchases were \$1 067 639 or \$20 531.5 per week. By applying the gross profit to the purchases (* 1.399) the average weekly liquor sales should have been: 20532*1.399 = \$28724
Therefore, the hotelier has ovestated the weekly trade by \$2 108.

CIGARETTES AND SUNDRIES

Use about 5% of the liquor sales as a "rule of thumb".

The takings for AADs should be checked with dockets.

VALUATION METHOD

Hotels are valued with the capitalization of net income method. The determination of net income can be difficult as it is highly dependent on seasonal, locational, specialist trade and management factors. The industry approach is to determine the gross turnover taking into account profitability as profits vary from bar to bar and bottle shop. A simplistic method of determining rental value from gross turnover has not been accepted by the courts and the industry's profit method was endorsed in Dobrel Pty Ltd v Valuer General (1990) The Valuer. August 1993 p 544.

THE IMPORTANCE OF USING PROFITS IN THE VALUATION METHOD

In Dobrel's case the following example was given to illustrate the importance of taking profits into account:

To demonstrate the sicanificant differences in achievable gross profits margins between the various departments or components of hotel trade (bars, bottles, food), Mr R analyzes the trading figures supplied by accountants in respect of the Victoria Cross Hotel North Sydney. That analysis shows bottle sales to be 3I.7% of gross sales. Comparing the two sets of trading figures Mr R's report (Exhibit 3) notes at pp. I9-20:

The trading figure for these two hotels highlight the disparity that can occur between hotels when their trade (bar sales as against bottle shop) varies significantly.

As per the above example, for every \$I00 of Liquor purchases (or \$10 of Licence fee) the following emerges:

Prince of Wales Hotel,Merewether: Gross profit = \$63.13
Victoria Cross Hotel,North Sydney: Gross profit = \$138.03

As a result of such differences and variables gross turnover as a single figure has little bearing on the achieved level of profit. For the same reason, the licence fee assessed upon liquor purchases has little relevance to the profitability of the hotel.

Mr R's report then proceeds at p 20 to enunciate the following formula that according to his experience has been adopted by the liquor industry (and experienced hotel valuers} for assessing rent for leasehold hotels:

"From analysis of sales evidence of the leases of private hotels, and an examination of rentals paid under such leases, in my experience as set out above, I have found that the rentals paid (relative to turnover) for private hotels excluding brewery leases) reflect the rates set out hereunder. These rental rates take into account the fact that a premium is generally paid to the lessor at the commencement of the lease, and thus could be deemed as part of the rental component. Such premiums have been amortised over the period of the leasehold tenure in order to arrive at the determined rates as set out.

Bars: 9-11.5% of turmover
Cigarettes and sundries: 5% of turnover
Bottles: 4-5% of turnover
Amusement machines 20% of turnover

The variables in the above depend upon the style and pattern of trade and subsequent achievable gross profit percentages, with the upper limits generally being accepted as a ceiling or maximum."

The object of the valuation in Caprel's case was to determine the rental value of the hotel for property tax purposes. Therefore, the approved valuation method applies to the market valuation of a hotel as this is found by capitalizing the net rental value.

VALUATION EXAMPLE - NSW

The following trade breakup is ascertained for the previous 3 years:

 YEAR 1 2 3 Liquor purchases: I92000 204000 2I6000 # bulk barrels: 1920 2040 2040 Dozs cans & bottles: I9200 21600 24000 Cordials & tobaccos: 9600 I0800 I2000

The trade breakup shows a steady increase in trade and after analyzing the area for future competition it is found that there is little likelihood of damaging competition in the near future. The bar breakup is as follows:

 SECTION GROSS PROFIT ON TAKINGS% % OF TAKINGS Public: 55 50 Saloon: 65 25 Beer Garden: 70 15 Bott1e Department: 25 10

OVERALL PROFIT ON TAKINGS:

55% * 50 = 27.5
65% * 25 = I6.25
70% * I5 = 10.5
25% * 10 = 2.5

TOTAL: 56.75

OVERALL PROFIT ON PURCHASES: 56.75/(100-56.75)*100 = 131.21%

AVERAGE GROSS TAKINGS

 \$ Expected Liquor purchases: 228 000 Profit @131.21%: 299 159 Expected cordials/tobaccos: 132OO Profit @25%: 3300 Gross income from AADs: I0 000 Gross income from house: 5000 GROSS TAKINGS: 558 659

EXPECTED GROSS MARKET RENT @ 13%**: 72626

* Not applicable in most states eg South Australia
** Varies, state to state eg about 8-9% in South Australia

Following Caprel's case should be constructed from each hotel department as the profitability of each department varies.

EXPECTED NET RENTAL INCOME

All outgoings are paid for by the lessee except*:2/5 licence fee: (9I20)
Outside paint & repair: (I0000)

NETANNUAL INCOME: \$53506

* Varies state to state according to local brewery leases. For example, in South Australia the lessee pays all outgoings.

In Victoria old leases under the Liquor Control Act requires the lessor to pay 3/8 of the annual licence fee payable by the tenant. This provision still apples to those leases today as the Liquor Control Act I987 expressly deems that the 3/8 rule is to apply to existing leases until their expiration - Spencer v FAI Traders (1993) 33 The Valuer 245.

MARKET VALUE

After analyzing the sales of comparable hotels it is found that 11% per annum is an appropriate capitalization rate for this type of hotel:

53506 * 100/11 = 486418 say \$486000

EXAMPLE - THE VALUATION IN CAPREL'S CASE

The assessment of gross rental value in Caprel's case using the above industry method is as follows:

Assessed Rental as a % of Turnover
Incorporates Premium as Part of Rent

Bar turnover: 11.5% viz \$570597 * 11.5% 656I9
Cigarettes & sundries: 5% viz \$47299 * 5% 2365
Bott1e sales@4.5% viz \$614 632 * 4.5% 27650

(4.5% is adopted because of the low achievable gross profit, viz 19.8I%)

Amusement machines: 20% viz \$19011 * 20% 3802
Rental income from kitchen: I5% viz \$5400 * I5% 8I0

Telephone receipts: 5%
(telephone receipt not net income) \$2 184 *5% = 109

TOTAL \$100 355

(The above figures have been amended from those in the court case because of an apparent mathematical error in the calculation of the rental income from the kitchen)

As per normal procedure to the above rental component added:

Council rates: 244I
Water & sewerage rates: 23093
Land tax: 367

TOTAL: \$126 534

To determine the Assessed Annual Value under the Valuation of Land Act:

9/10 * above assessed rent = \$113881

LAND VALUE

The market value of the hotel as a going concern should be compared with the land value. If the land value is higher or about the same as the market value, the hotel is not the highest and best use of the land. This situation commonly arises for old hotels in established and growing Commercial Business Districts (CBDs). The land value for the above hotel is 250 000 and therefore, the hotel is the highest and best use and the valuation as licensed premises stands

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