"The lay litigant enters a temple of mysteries whose ceremonies are dark, complex, and unfathomable. Pretrial procedures are the cabalistic rituals of the lawyers and judges who serve as priests and high priests. The layman knows nothing of their tactical significance. He knows only that his case remains in limbo while the priests and high priests chant their lengthy and arcane pretrial rites."¹

        Center of Attention

As appraisers, we do not really think that an appraisal we rendered might become the center of attention in a litigation. Although rare, an appraisal rendered for obtaining insurance can become caught up in the legal process. The best approach is to be aware of the wording, methodology, and authentication (identification and grading) in each valuation you render. Your approach may be perfect but does the wording in your Supplemental Information Letter (SIL) match it?

Most societies are teaching and encouraging members to use the phrase "comparison sales approach" as the value approach. Not more than forty years ago, the term was rare. The three value approaches were (1) the market data approach, (2) the income approach, and (3) the cost approach. The income approach is not very applicable to personal property, especially jewelry and gemstones since it involves income from renting property. The cost approach involves making an item, and later in this article, the sub approaches of the cost approach will be discussed. The market data approach involved actual sales and similar market activity.

For certain, some changes have occurred. Whether they are evolutionary, or revolutionary is open for debate. A change is the popularity of the expression "comparable sales approach."

        Done Deal or Not Done Deal

The "comparable sales approach" term sounds great! It sounds spicier than "market data approach" and even "market activity." That's it, let us use it! But wait; will it survive a frontal attack under oath in a nasty litigation?

Comparable sales approach involves analysis of sales. Not offers, not price guides, not catalogs but sales of comparable properties. Or as one court asserted, " First, this approach requires that sales of similar properties be compared. In this case, [name redacted] relied upon the listing prices of three unsold properties. The general rule is that offers may not be used in the comparative sale approach to the valuation of real property. At best, the listing price of a parcel is an offer to sell and, as such, may not be used to support a comparable sale approach to valuation of property."²

Only actual sales can be used in the comparable sales approach. Do not state in your appraisal that you used the sales comparison approach if you used a price guide to determine value!

        MLS at Your Service

The term is more applicable to real property valuations since they have a Multiple Listing Service (MLS) from which an appraiser can research recent properties that have sold. There is no MLS for personal property such as jewelry or gemstones. Jewelry appraisers, instead, rely on wholesale catalogs, price guides, etc. and markups to predict retail values.

Are such resources acceptable as evidence in litigation? After all, price guides are classified as hearsay since the original drafters of the references are not available for cross examination. The appraiser, in essence, is relying on someone else's opinion as to prices. The state and federal evidence codes have exceptions to their hearsay rules. For example, they will state that market reports and commercial publications are an exception to the hearsay rule. "Market quotations, tabulations, lists, directories, or other published compilations, generally used and relied upon by the public or by persons in particular occupations."³

Yes, expert witnesses are allowed to rely on hearsay resources such as price guides. But since an expert witness can bring in hearsay into a courtroom, the opposition can up the ante and cross exam the expert on his or her credibility.⁴

        Say What?

The word "cost" is in "wholesale cost." When one converts a price deemed as a wholesale cost from a catalog or price guide into a retail prediction by adding a markup, is that the "cost approach?" In a word, no!

Maybe a published precedent setting case will alert us to what the courts think. One court outlined the three approaches as follows, "Appraisers have three general methods to estimate the value of property: comparable market sales, the cost approach, and the income approach. Because a market for used pulp mills does not exist, the assessor had no comparable sales with which to estimate the value of the mill. Instead, the assessor used an appraisal technique known as the cost approach or, more specifically, reproduction costs new less depreciation (RCNLD). The fundamental premise of RCNLD is substitution: a rational investor would not pay more for a plant than the cost of constructing an exact replica."⁵

        When to Use the Cost Approach?

The cost approach involves either reproduction or reconstruction of a property. Reproduction allows modern methods and materials if the result is a good substitute. Reconstruction, on the other hand, involves using methods and materials from the same era as the item being appraised. Obsolescence and depreciation are to be deducted from the cost as new. Each approach will end with a different value, thus selecting the correct approach (reproduction or reconstruction) is important.

As one published case reporting their view asserted, "Reproduction cost is a relevant measure of fair market value when the property to be valued is unique, its market limited, and when there is no evidence of sales of comparable property."⁶ There you have it. When there is a market with activity, one cannot use the cost approach. Unique does not translate to "custom" but a property with value elements that do not match any other properties in the marketplace.

Not only do we now see that the court did not include in the market activity of buying at wholesale, adding a arkup, and then setting a retail price, but the rules for when the cost approach is to be used were detailed. It cannot get easier than that.

        Everyone Gets a Trophy

Cost approach does not include purchasing the item. What someone pays for a property does not mean that the acquisition cost is a value. Yes, it can be considered when determine a value but not without other market data. Nor does it include researching a wholesale cost, applying a markup, and then predicting a retail - which is really the market activity approach.⁷ Confused?

Do not feel alone as even formal appraisal courses define the approaches differently. One course includes the wholesale plus markup to retail as part of the cost approach. Another credible course places the wholesale to retail steps into the sales comparison approach. My suggestion is to use the term market activity and avoid the declaring "sales comparison approach" unless you relied solely on actual transactions. The "market activity approach" is broader and does not open one up to be crossly examined (pun intended) during a hearing. If you called dealers, stores, etc. to get opinions - that is fair game. But they are not the sales comparison approach, are they?

        What to Do?

Well, you can, as many appraisers do, state that you used the "sales comparison approach." It is acceptable and widely used. But expect the opposition attorney to ask you what specific sales you used in developing your value. If you state that you did not rely on any actual sales but instead used a price guide, the trier of fact, namely a jury or judge, will not believe you are credible. Instead, do not lock yourself into a specific term. Instead consider stating, "This appraiser will select the most appropriate approach for each type of property being valued; and if appropriate, may report separate values based upon more than one approach."⁸

Written by Bill Hoefer