On appeal from the Superior Court of New Jersey, Law Division, Hudson County, L-1954-05.
NOT FOR PUBLICATION WITHOUT THE APPROVAL OF THE APPELLATE DIVISION
Before Judges S.L. Reisner, Gilroy and Baxter.
Plaintiff State of New Jersey by the Commissioner of Transportation appeals from a condemnation award in favor of defendant 100 Larch, L.L.C. We affirm the $5.7 million award but reverse and remand for further proceedings with respect to pre-judgment interest.
On this appeal, the State contends that (a) the trial court committed plain error by charging the jury concerning the burden of proof, a concept inapplicable in condemnation cases; (b) defendant's counsel unfairly disparaged the State's case and the State's expert; (c) the defense was allowed undue latitude in cross-examining the State's appraisal expert; (d) defendant's expert was allowed to testify to matters beyond his report; and (e) the trial court erred in awarding prejudgment interest at the prime rate. We have reviewed the record with these contentions in mind, and have summarized the proceedings in the detail required to understand the issues.
As early as the pre-trial conference, on November 1, 2006, the trial judge asked counsel to submit their requests to charge. At that conference, the attorneys also discussed the significance of the capitalization rate, and defendant's claim that the State's expert artificially reduced the value of the property by over $1 million, by inaccurately representing the interest rates charged by Wachovia Bank. The defense put plaintiff's counsel on notice that defendant had subpoenaed a Wachovia employee to testify about this issue, although the employee was reluctant to testify.
In her opening charge to the jury, the judge instructed them that they must pay attention to the evidence so that they could decide which party met its burden of proof:
And this is so important because the burden of proof in this case, as in every case, is on any party who makes a claim to prove that claim by a preponderance of the credible evidence. In other words, if a party makes an allegation - - in this case, the questions will be about what the fair market value of this property is. If a party makes an allegation, then that party must prove that allegation by the preponderance of the credible evidence. . . .
If you find that the evidence on a particular issue is somewhat equally balanced, then that issue has not been proven by a preponderance of the evidence and the party making that allegation has failed in regard to its burden of proof.
Neither attorney objected to the charge.
In his opening statement, defendant's counsel explained to the jury that the capitalization of income valuation method involved choosing numbers and plugging them into a formula. In that context he stated, "remember one thing when you listen to the evidence, garbage in, garbage out. The formula is only as good as the data that goes into it and the assumptions that these experts made." He also told the jury that when he questioned the State's valuation expert, he expected to show that there have been games played with the numbers. And by "games," I don't mean anything nefarious, but I mean what they've basically done is they've taken numbers that don't have any relationship to reality and they plug them into this formula to arrive at an unreasonably low valuation.
Defendant's counsel also reviewed with the jury the expected differences between his expert's opinion and the State's expert. In that context, he stated:
These are the things that I will prove. I will prove to you that the method employed by the State and the information they used to arrive at the valuation is wrong. And when I do that, . . . I'm going to come back to you at the close of this case and I'm going to ask you to return a verdict in favor of the property owner awarding just compensation in the amount of $5.8 million which represents the true fair market value. . .
There were no objections to defense counsel's opening remarks.
The State's first witness, Edward Crowley, an engineer with the Department of Transportation, explained the road construction project which necessitated condemning defendant's property. In that context, he explained to the jurors the location of that property and the fact that access to the property was from St. Paul's Avenue.*fn1 However, on cross-examination he was asked about a driveway or roadway "in front of the property" that "accesses out to Route 1 and 9." He was then asked if that roadway "would provide the ability for people at this location to go out to 1 and 9, which is a major intersection in this area." He responded that only "very small vehicles" could use the roadway because of its narrow width. Defense counsel also showed the witness a map that the witness had never seen before, and asked him about an alleged easement on that map providing access to Routes 1 and 9. Crowley testified that according to "our plans," the easement belonged to Jersey City.
In further cross-examination, counsel asked the witness if the City of Jersey City might have given a further access right to defendant to use the easement. The witness did not know. Clearly, defense counsel was attempting to create an inference that the property was more valuable because it had direct access to Routes 1 and 9. Counsel in fact continued to ask the witness about the alleged easement on re-cross, showing the witness a deed purporting to create an easement in defendant's favor and, in response to plaintiff's objection, representing that he would "connect it up in my case."*fn2
The State's next witness was Noeline M. Fuller, an expert real estate appraiser. She concluded that the highest and best use of the property was to develop it as an industrial site with a substantial industrial building on the larger of the two lots.*fn3
She concluded that the property's fair market value as of April 2005, when the complaint was filed, was $3.7 million.
Fuller explained the three valuation methods that she used to value the property. The cost method involved calculating the cost to buy the land and the replacement cost of constructing a new building comparable in function to the existing industrial building on the land. Based on three comparable land sales, she estimated the value of the land at $290,000 per acre or $833,500. She estimated the cost to build the building, including profit and soft costs, at approximately $4.4 million.
However, after deducting depreciation on the existing building, she arrived at a value of $2.66 million. Then, after subtracting adjustments, she arrived at a total value of approximately $3.5 million for the land and building.
Fuller also testified that she used the sales comparison approach based on "three comparable sales of warehouse-type buildings similar to the subject [structure]." This approach resulted in a valuation of $3.63 million.
Finally, Fuller testified to her use of the income capitalization approach. This method requires calculating the net operating income generated by the property. She assumed that if the property were leased, the tenant would be given a net lease. She concluded that six dollars per square foot would be the fair net rental value, for a gross potential rental income of $483,576. Adjusting for average vacancy rates and expected expenses yielded a net operating income of $395,759. Fuller then explained how the "net operating income is capitalized into a value indicator based upon an overall rate." She applied a rate of 10.25%, using the "band of investment method" which Fuller explained as "what type of a mortgage could be obtained on the property together with what kind of a return the investor would expect, and you want to pay off that mortgage as well." She explained that an investor in a property such as 100 Larch would want a 9% return on investment, to compensate for the risk involved in operating a single-tenant property; that is, if the tenant leaves, the building is 100% vacant, whereas in a multi-tenant building, if one tenant leaves, there is still rent coming in from other tenants. She testified that in April 2005, the rates for twenty-year mortgages on small industrial buildings was between eight and ten percent. She averaged the projected rate to 9% for a mortgage loan amounting to 75% of the value of the property.
Fuller testified that the sources she used to calculate the 10.25% capitalization rate included the Corpasz study, rates posted on the internet, rates charged in connection with actual sales contracts with which she was familiar, and rates quoted by several banks. The property's value is derived by dividing the expected income by the capitalization rate. Dividing $395,759 by 10.25% yielded a value of about $3.86 million. Combining the three approaches, but giving most weight to the sales comparison approach which she felt was the most objective measure of value, Fuller came up with a valuation of $3.7 million.
During cross-examination, defense counsel sought to question Fuller about a survey map which the defense had provided to Fuller, that purportedly showed an access easement to Routes 1 and 9. His expressed purpose was to establish that the property, having access to a major highway, might be more valuable than comparable properties Fuller used in valuing 100 Larch. Plaintiff's counsel objected that the existence of an easement should not be placed before the jury, because the State's filed map did not include an easement and therefore the State was not condemning an easement even if one existed. Defense counsel conceded that his client was not seeking compensation for an easement.
On cross-examination about the income capitalization method, Fuller clarified that she derived the capitalization rate by considering two components: the mortgage interest rate that a bank would charge and the equity return rate, i.e., the rate of return that an investor in the property would expect to receive. She agreed that if the capitalization rate was higher, the fair market value would be lower. She also agreed, hypothetically, that if the correct capitalization rate were 8.25% instead of 10.25%, the appraised value of the property would increase by a million dollars.*fn4
When questioned as to the source of her information on the mortgage interest rates, Fuller responded that she was unable to produce some of them because they came from internet sources and she did not print copies of them. When confronted with her deposition testimony, she also admitted that she consulted with Brian Ianerone of Wachovia Bank concerning interest rates for Hudson County properties, but not specifically for this property. She also consulted with employees of Bank America and Independence Bank concerning the interest rates being charged in Hudson County.
Fuller's testimony was interrupted at this point, so that the defense could present testimony from Timothy L. Babjak, an employee of Wachovia Bank who would have been unavailable later in the trial. Babjak, a senior relationship officer, was familiar with "the bank rates that were being charged for commercial industrial loans" in April 2005. According to Babjak, the rates for a $4 million industrial loan with a 20-year amortization period were between 6.34% and 6.94%. The rates for a ten-year term were 6.65% to 7.25%. Babjak testified that he himself set the rates on Wachovia loans, based on information from Wachovia Capital Market about the cost of funds. However, an individual loan would only be approved after the underwriters had reviewed the borrower's financial information.
Thereafter, Fuller's cross-examination resumed and she was questioned about the existence of the 30-year Treasury bill on which she, in part, based her calculation of what rate of return investors would expect. She was also questioned about comparable rentals, which were an important component of her calculation of the property's projected gross income. Fuller prepared two reports for this case, one in 2003, which was not the basis for her testimony, and a second report prepared in 2005, from which she testified. She admitted that in the earlier report, she used different comparable properties which all had higher rentals per square foot than the comparables she used in her 2005 report. She also agreed that there was increased demand for industrial properties between 2003 and 2005. On re-direct, she contended that she used leases for different properties in her 2005 report because those leases were more current.
In comparing her 2003 and 2005 reports, Fuller also admitted that in her 2003 report she estimated a 14% deduction for expenses from the gross annual income of the property, while in the 2005 report she deducted 19% for expenses. She contended that the expenses were "[b]ased on what was reported in '05 as expenses." In essence, defense counsel led Fuller through a series of calculations designed to establish how much higher the property's valuation would be if she used lower expense numbers and/or lower capitalization rates in her formulas. Then, counsel elicited from Fuller an admission that the 7% to 11% range for capitalization rates, which she took from the Corpasz Market ...