Goodwill Appraisers: Hypothetical Businesses Are a No-No
Posted in Court Decisions

Over the past few years, we've seen California courts go in several different directions when it comes to admitting opinions on the value of a business' loss of goodwill in the context of an eminent domain action.  As a result, eminent domain attorneys, public agencies, and appraisers have been left shooting at somewhat of a moving target as to whether courts will be flexible on the admission of unique or unconventional goodwill opinions.  This week, the California Court of Appeal issued an unpublished decision, City of South Gate v. S&M Auto Sales, which, although not citable, at least provides some direction on where to aim.

To provide some context to the "moving target" reference, on one side of the aisle we observed in Inglewood Redevelopment Agency v. Aklilu the court's permitting an opinion of loss of business goodwill under the cost-to-create method, which resulted in the finding of goodwill depsite the nonexistence of any profits.  On the other side, we observed in Redevelopment Agency of the City of San Diego v. Mesdaq the court's refusal to admit an opinion of goodwill loss based upon a hypothetical business that did not operate on the property being condemned.  We were left scratching our head a bit on where to draw the line on the admissibility of goodwill opinions.

This new opinion, S&M Auto Sales, falls in line with the Mesdaq case, suggesting a narrower approach to the admissibility of goodwill opinions.  In S&M, the City condemned a property on which S&M operated a used car dealership.  The business was forced to relocate.  The business retained a goodwill appraiser who valued the business using the discretionary earnings methodology.  While the appraiser relied upon the business' actual sales, he did not rely upon the business' actual expenses, instead using a hypothetical expense figure based on only a three-month sample that was projected out over the entire year.  If actual expenses were used, the appraiser conceded the business had no goodwill in the before-condition.

At trial, the court concluded that it was not reasonable for the business' appraiser to rely on hypotheical expense figures, especially where the actual expese figures existed.  The court also held that this method of valuation was essentially valuing a hypothetical business in violation of Mesdaq.  On appeal, the court agreed that the opinion was properly excluded.  While the court noted that while adjustments to expenses can be appropriate in some circumstances, there was no evidence it was appropriate here.  The court concluded that while "courts at times have permitted experts to estimate future anticipated profits, [there are no cases providing] that an expert may reject actual cost data in favor of hypothetical cost data." 

Kudos to our colleagues Keith McCullough and Kevin Day at Alvarado Smith on the victory.

  • Bradford B. Kuhn

    Brad Kuhn, Chair of Nossaman's Eminent Domain & Valuation Group, guides private and public sector clients through complex real estate development and infrastructure projects – particularly with eminent domain/inverse ...

California Eminent Domain Report is a one-stop resource for everything new and noteworthy in eminent domain in California. We cover all aspects of eminent domain in California, including condemnation, inverse condemnation, and regulatory takings. We also keep track of current cases, project announcements, budget issues, legislative reform efforts, and report on all major California eminent domain conferences and seminars.

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