Implications of Commodity Prices on Industrial Property Tax Valuations
Gerard N. Amoroso, Jr.
Sebastian E. Rodrigano
Manager - Property Tax
Director
GE Corporate Tax
Popp, Gray & Hutcheson, PLLC
Atlanta, GA
Austin, TX
770-698-4486
512.473.2661
gerard.amoroso@ge.com
sebastian@property-tax.com
Worldwide economic expansion continues to exert upward pressure on commodity pricing.
Consequently dynamic forces affect the implied valuation of industrial properties across the
United States and the rest of the world. This paper discusses these trends as well as their
current and upcoming implications for ad valorem tax appraisals.
From 2005 through 2008, global economic expansion accelerated to unprecedented levels,
improving on a trend that began between 1999 and 2000. Even after several corrections to the
pace of this growth and despite the deepest recession in the world’s largest economies have
faced since the Great Depression, medium and long term appreciation of all commodities has
continued. In addition, substantial price volatility has made forecasting project construction
costs and operating profit a highly cumbersome exercise.
The following data illustrate this trend for some materials closely related to industrial operations:
Chart 1 - Aluminum Price 1950–2011
Chart 2 – Copper prices 1950-2011
Chart 3 – Crude oil 1950-2011
Chart 4 – Natural Gas Prices (US) 2006-2011
These price increases and volatilities have several effects on industrial facilities and their
valuations, the most significant being:
1. Additional cost to construct facilities
2. Increased operating capital requirements
3. Difficulties in medium and long-term operating forecasts
4. Upward inflation pressure squeezing operating margins
Industry adjusts to these challenges in several ways, which include additional risk taking on
infrastructure development, alternative operations financing systems, and finished goods costs
pass through to end users.
Some of these changes will impact appraisal methodology substantially.
Cost Approach to Value
Increased replacement cost new of infrastructure usually sets a higher starting point in a
cost approach appraisal exercise. It also limits the methodology options for the development of
replacement and reproduction cost new.
Indexing original costs has always been a questionable methodology on long-term
historical cost data. Due to the accelerated growth and volatility in materials and labor, medium
and even short-term dated costs are not necessarily representative of current construction
costs, yielding results that are either too high or too low.
When comparing and scaling costs of newly constructed facilities or projected cost
estimates of announced projects, one must pay additional attention to geographical and time
adjustments. Due to the volatilities previously discussed, the margin of error in cost estimating
for new projects has increased substantially, adding complication to the cost approach.
Sales Comparison Approach to Value
Given the rapidly changing nature of global markets, the reliability of transactions of
industrial facilities are subject to substantial amounts of speculation. This is due to the wider
range of likely revenue and expense projections implied by the increased volatility of
commodities. Thus, the transactional value of facilities tends to vary substantially, making for a
less stable price range for comparable facilities. Measuring goodwill and intangibles becomes
an increasingly difficult task in this environment reducing the accuracy of the tangible asset
value derived from the sales comparison approach.
Income Approach to Value
As mentioned, increased commodity pricing and volatility has a direct impact on both
real and projected cash flows for industrial operations. Selecting a cash flow projection by
reviewing past performance may no longer be viable, and smoothing out irregularities by using a
longer back cast is not advisable for the same reasons mentioned in the cost approach analysis.
Additionally, the side of the profitability line on which a facility lies can vary rapidly, making the
accurate projection of revenue and expense imprecise. Lastly, alternative financing must be
carefully considered because it can drastically skew the real picture of working capital.
There is no denying that commodity price escalation and volatility has a direct impact on the
value of industrial infrastructure. Addressing these intricacies requires a deeper level of
investigation than it has in the past and the accuracy of appraisal methods will be impacted by
these factors.