The Sept. 2 Pension & Investments article on page 2 relating to the Arizona Public Safety Personnel Retirement System's real estate values contained a number of errors and created some misimpressions which we wish to correct.
First, the Sept. 2 story stated that PSPRS “boosted its investment returns twice in two years by disregarding market-value real estate appraisals it commissioned and, instead, us(ed) higher hypothetical valuations from the firm managing the portfolio.”
This is not correct.
In 2011, PSPRS retained an independent appraiser, CBRE, to value a portion of its real estate portfolio managed by Desert Troon Cos. When Desert Troon complained that the independent appraiser's value was too low, PSPRS advised it would retain Ernst & Young to value the portfolio unless CBRE and DTC could agree on a proper valuation. CBRE and Desert Troon then agreed that the portfolio should be valued using an “investment” methodology (which the article called the “hypothetical value”). Both the Financial Accounting Standards Board and the Governmental Accounting Standards Board authorize real estate assets to be valued using “investment methodologies,” which value properties based upon their expected returns rather than current liquidation values.
After CBRE and Desert Troon agreed on the use of an “investment” methodology, PSPRS took the extraordinary step of having the CBRE/Desert Troon valuation re-examined by EY to ensure that the assumptions underlying the valuation were reasonable and based upon market data. Ernst & Young confirmed that this was the case and as a result, PSPRS reported the CBRE/Desert Troon valuation for fiscal year 2012. Thus, while it is true that the valuation reported was an “investment-based” instead of a “market-based” valuation, it was the result of an independent appraisal process. To suggest otherwise is incorrect.
During fiscal year 2013, PSPRS went even further in its efforts to assure that the investment-based values it reports are accurate. Both Ernst & Young and PSPRS' independent real estate consultant, ORG Portfolio Management, were asked to confirm that the investment-based valuation was reasonable and supported by market data, and they both agreed that it is appropriate for the PSPRS to use the investment-based valuation in its financial statements. The PSPRS independent auditor also approved such reporting. Given all this, the PSPRS certainly did not “disregard” independent appraisals it commissioned; instead, it relied upon those independent appraisals (those generated by CBRE, Ernst & Young and ORG) to arrive at the valuations reported.
Second, your story cites unnamed real estate officials at other pension plans as criticizing the PSPRS for “hiring an appraiser and then rejecting its recommendations.” As noted above, that's not what PSPRS did. It hired CBRE to value the portfolio, relied upon CBRE and Desert Troon's joint valuation, and even took the extraordinary precaution of asking Ernst & Young and ORG to confirm that recommendation, which they did. That's hardly akin to “hiring an appraiser and then rejecting its recommendations.”
Third, your story says unnamed real estate investment officials at other pension plans “say it's unusual to allow the manager to set its own non-market based valuations.” We would point out that virtually all real estate managers of the PSPRS' real estate portfolios (many of whom are household names) value portfolio assets using investment-based, not market based methodologies, and ORG has confirmed that this is the case throughout the industry.
Fourth, the story that the “pension fund represented that Desert Troon's portfolio was on its books at market value, not the hypothetical value that was being used.” This is not true. Your story acknowledges that PSPRS annual reports explicitly state that “joint venture real estate investments are reported at fair value using either appraisals or manager assessments to estimate fair value.” As we made clear to your reporter, “fair value” can be determined using either a market-based methodology or an investment-based methodology, and most real estate managers employ the latter to value non-core real estate assets such as those managed by Desert Troon. The PSPRS annual report noted that its joint venture real estate investments are reported “at fair value using either appraisals or manager assessment to determine fair value.” The values reported by PSPRS for the portfolio in 2012 and 2013 are clearly manager assessments of fair value. Therefore, PSPRS did not misrepresent how the portfolio was valued in its annual reports, and to the extent the Sept. 2 story's suggestion otherwise is incorrect.
Finally, the theme of the article seemed to be that PSPRS reported an investment-based value of the portfolio instead of a market-based value to illegitimately increase the PSPRS' returns. But if the point of an appraisal is to estimate an asset's true value in the marketplace, then it seems that the investment-based valuations have actually proven to be the most accurate, for recent sales of portfolio assets have wildly exceeded even the investment-based values reported.
As just a few examples, Desert Troon recently sold a subdivision called Sossaman Estates for $10.6 million, despite the fact it was appraised by an independent appraisal firm as worth just $3.4 million at the end of 2011. Similarly, DTC recently sold two subdivisions (Tortosa and Sorrento) for $11.95 million, nearly double the price at which an independent appraiser valued those subdivisions at the end of 2011. There are many more examples of Desert Troon's achieving materially higher sales prices for properties that within a year of such sales were valued far lower by independent appraisers and even by Desert Troon itself. Thus, the actual sales prices being achieved indicate that the investment-based property values PSPRS reported were very conservative and certainly not inflated, as the Sept. 2 article implies.
JAMES M. HACKING
Administrator
Arizona Public Safety Personnel
Retirement System
Phoenix
EDITOR'S NOTE:
P&I stands by the story.
