Opinion ID: 2631196
Heading Depth: 2
Heading Rank: 1

Heading: The Challenged Rent Review Proceedings

Text: The Gallands noticed a $6 a space rent increase effective April 1, 1988, which raised the monthly rent to $275. The mobilehome owners petitioned the Commission to review the matter. Chamberlain asked what materials and information the Commission would like produced and submitted a letter stating that the rent increase was less than half the increase in the consumer price index (CPI). Park expenses had increased $46,000 in the preceding year, and cash flow in constant dollars had fallen $10,275 since 1986 and $30,000 since 1984. Ray Wyland, the president of the Woods tenant association, responded that the CPI included increases for items other than housing, Mr. Chamberlain had not specified which expenses had increased, and the Woods rent had increased from $143 in 1979 to $269 in 1987. In response, the Commission requested that Mr. Chamberlain provide a copy of the CPI and documentation demonstrating their increased expenses and decreased cash flow. Mr. Chamberlain submitted several applicable CPI's and prepared tables that provided a breakdown of expenses and set forth the Woods's receipts, disbursements and pretax cash flows for 1984 through 1987. The tables showed that expenses had increased more than income, resulting in a diminution of cash flows by $30,000 to $35,000, measured in constant 1978 dollars. Mr. Chamberlain also prepared a table showing the Gallands' ROI for 1984 through 1987. The Commission heard the matter on April 13, 1988. In addition to hearing from Chamberlain, the Gallands' certified public accountant, Richard Miranda, testified that regardless of the CPI used, cash flows had decreased over the last four years. During that period, income had increased 10.8 percent while expenses had increased 18.3 percent. The mobilehome owners' representative argued the rent should not be increased because the Woods rent was already one of the highest in Fresno County. He submitted the result of a random survey of 12 mobilehome parks in the area that showed the Woods to be charging $75-$100 above every other park surveyed except one, and $50 above that park. He also challenged the Woods's operating expenses as inflated. The matter was continued with the consent of the parties to April 29, 1988, to provide the commissioners additional time to digest the materials presented. In the interim, the Commission asked the Gallands to provide substantial additional information by April 26, 1988. That information included further breakdowns and explanations for various expenditures, information on vacancies and cash flow for the prior nine years, and additional information and calculations related to ROI including the value of the park when purchased. Mr. Chamberlain provided much but not all of the information requested. He felt that some of the requested information was irrelevant and that other materials could not be gathered in the short amount of time provided. At the completion of the continued hearing on April 29, 1988, the Commission voted three to two against the requested increase. In its draft findings, the Commission determined that as a matter of common knowledge and experience, certificates of deposit were earning a pretax return of between 7 and 8 percent, whereas the Woods, according to documents provided by PMS, was earning between 11.2 percent and 14.62 percent, depending on which CPI was used. The Commission determined that PMS had presented no credible evidence, by opinion or otherwise, that this difference in yield is unacceptable, ... unfair or insufficient to attract capital investment for this type of property. The Gallands objected to the decision on various grounds, including that the Commission had relied on information not presented at the hearing. On May 20, the commissioners reiterated their decision that no increase was warranted. They justified the decision, in part, on a portion of Chamberlain's testimony in the 1985 rent review proceedings regarding fair ROI, which they interpreted to support their conclusion that the current rent provided a fair ROI. The Commission had not notified the parties it would consider evidence from earlier proceedings. The Commission issued its final decision on June 3, 1988, finding three to two that the Gallands had not demonstrated by a preponderance of the evidence that any rent increase was justified. The Gallands appealed the decision to the city council, which set the matter for hearing on July 18, 1988. The Gallands challenged the Commission's findings and decision, in particular its determination of a fair ROI, as well as the fairness of the proceedings. After hearing from both parties, the city council decided the Gallands had not provided sufficient information to enable the council or the Commission to make an intelligent decision regarding a fair ROI for the Woods. The council remanded the matter to the Commission for further proceedings and ordered the Gallands to provide extensive accounting materials and financial documents which the Commission would consider in determining a fair rate of return. The information requested included audited financial statements for the preceding 10 years showing assets, liabilities, the Gallands' equity, the ratio of debt to equity and the results of operations; and highs, lows, averages and ranges of the rates of .2d 711 (Cal. 2001) ROI for each of the other mobilehome parks managed by PMS since 1978. The council also instructed the parties that any adjustment for inflation should be based on the United States shelter index. The Gallands objected to producing some of the information requested because of the time and expense involved. A 10-year audit would cost approximately $75,000 and would take two to three months to complete. Chamberlain and the mobilehome owners' attorney met with Clovis officials and reached a compromise regarding the additional materials to be presented, no longer requiring audits, but instead permitting PMS to submit data from the best available existing financial records. On October 17, 1988, the Gallands submitted extensive materials in response to the council's order. The submissions included information in narrative and table format from 16 other mobilehome parks that PMS managed. The data indicated that the average ROI in constant dollars for the parks was 21.7 percent compared to the Woods's average of 11.9 percent. Regarding vacancy rates over the past 10 years, the Woods averaged a 2.1 percent vacancy rate while other mobilehome parks in Fresno and Clovis averaged a 5.03 percent rate. Regarding fair ROI on the Woods and similar investments, the Gallands submitted a 19 page discussion of various types of investments, their attendant risks and their expected return. The Gallands also submitted a declaration from Chapman Findlay, Ph.D., former chairman of the department of finance and business economics at the University of Southern California, providing an opinion regarding the fair ROI for the Woods. He compared the expected return for various types of investments and, based on the comparisons, opined that a fair ROI for the Woods measured before tax on equity was 25 percent. The mobilehome owners submitted a declaration from their expert, Richard Nordstrom, Ph.D., a professor at California State University, Fresno. Dr. Nordstrom stated that the Woods's rents and profits since 1978 had increased at a greater rate than the CPI. His calculations, which compared the Gallands' return after debt service with their actual investment not adjusted for inflation, indicated the Gallands received a 24.9 percent ROI in 1987. He also criticized Dr. Findlay for comparing actual returns to average returns and returns from regulated investments to unregulated ones. At the Commission hearing on December 16, 1988, the commissioners grappled with defining investment for purposes of calculating fair ROI. Dr. Nordstrom testified that return should be calculated on actual dollars invested with no adjustment for inflation. Dr. Findlay stated, albeit in a garbled fashion, that investment dollars must be adjusted for inflation. The Commission, essentially accepting Dr. Nordstrom's opinion, concluded the Gallands were receiving a fair ROI and had not justified the rent increase. The commissioners reasoned that Dr. Findlay was of the opinion that a 25 percent ROI was fair. By Dr. Nordstrom's calculations (using figures not adjusted for inflation), the Gallands received a 24.9 percent ROI in 1987. The Commission also found that both experts had calculated ROI without adjusting the initial investment for inflation, apparently misinterpreting Dr. Findlay's testimony that the ROI must be measured in today's dollars as meaning there was no need to adjust the initial investment for inflation. The Gallands appealed the decision to the city council, criticizing the Commission's lack of inflation adjustment. The council heard the appeal on March 3, 1989. It affirmed the Commission's decision and adopted its findings. On March 29, 1989, the Gallands requested that Clovis prepare a record of the 1988 rent review proceedings pursuant to Code of Civil Procedure section 1094.6.
On June 29, 1989, the Gallands noticed a $25 a month rent increase effective September 1, 1989, which raised the per space rent to $294 a month. The mobilehome owners challenged the increase and the matter was set for hearing on September 29, 1989. The Gallands supported the rent increase with updated figures noting that no rent increase had been permitted for two and a half years. Based on the CPI, the purchasing power of the current $269 rent (worth $119 in 1978 dollars) was less than the $144 rent charged in 1978. The increased rent of $294 would have been worth only $127.89 in 1978 dollars. The increased rent remained below market levels. In the past six months, four new mobilehome owners had rented spaces at the Woods for $315. The Gallands contended they were not receiving a fair ROI. They renewed their argument that ROI calculations must be adjusted for inflation to prevent confiscatory results. The projected ROI for the Woods in 1989 was 9 percent, the same return realized in 1988. The mobilehome owners responded that the low ROI appeared to be due to unusually high operating expenses. They opined that the increase reflected the Gallands' attempt to pass their unsuccessful rent review litigation costs on to the mobilehome owners. The Commission, in its draft findings, relying on a misinterpretation of a CPI table presented in an unrelated rent proceeding, concluded that 60 percent of the items reflected in the CPI were not relevant to a mobilehome park. Therefore, the rent should be increased by an amount equal to 40 percent of the increase in the CPI. Under this formula, a $14 increase was justified. The Commission also concluded that legal and expert fees incurred in 1988 during the rent adjustment process should not be considered operating costs under the ordinance. The Commission reviewed the draft findings with the parties at a hearing on November 3, 1989. Clovis's city attorney acknowledged the Commission should not have relied on the ex parte information without notice to the parties. The hearing was continued to give the parties an opportunity to review and respond to that information. Despite the fact that the Gallands pointed out the fallacy of the Commission's methodmisinterpreting the statistic that 42 percent of household income on average was spent on housing as signifying that increases in housing prices equaled only 42 percent of the rate of inflationthe Commission readopted its earlier findings with minor modifications. As further explained below, the Commission did not issue a final decision until January 29, 1992. After the final decision issued, the Gallands appealed to the city council in February 1992. Under the Ordinance, the Gallands could continue to collect the full $25 increase until an appeal before the city council was final. However, beginning February 1, 1990, they opted not to collect the disputed $11 portion of the noticed increase. The appeal was eventually heard by the city council in May 1992. The council upheld the Commission's decision, finding it reasonable and supported by a preponderance of the evidence.
In January 1990, the Gallands noticed a rent increase of $15 a month for mobilehome owners of double-wide mobilehome coaches, and $9 a month increase for mobilehome owners of single-wide coaches, effective April 1, 1990. The mobilehome owners petitioned for review of the increases, and a hearing on the matter was set for May 18, 1990. The Gallands' submission included current financial figures showing an 8.1 percent return for the Woods in 1989, approximately the same return generated by certificates of deposit at local institutions. They also reiterated that standard accounting principles required the investment be adjusted for inflation in calculating ROI. The mobilehome owners contended that the Gallands' stated expenses were inflated and further claimed that because the Woods's rent was the second highest in the Fresno/Clovis area, the Gallands were receiving more than a fair ROI. On May 8, 1990, 10 days before the scheduled hearing, the Commission asked the Gallands to provide additional information including an auditor's statement supporting the Gallands' reported expenses, further breakdown of a number of the income and expense categories, details regarding the Woods purchase, and copies of the Consumer price shelter index for Pacific cities and the United States cities average categories for 1986 through 1989. The Gallands submitted the requested information. They also objected to a request by the mobilehome owners for further detailed financial and accounting information. The Commission further requested that Chamberlain provide a sworn declaration setting forth details of the park's operation since 1978, including purchase, ownership, and day-to-day operations; daily, monthly, and annual business and accounting practices; the same information as to PMS; and auditing practices and procedures for the Woods, for other parks managed by PMS, and for the Gallands with regard to this investment. The Commission also requested additional information regarding utilities, water and sewer payments, interest income, management fees, lease payments and legal and accounting expenses. The Gallands complied, providing through Chamberlain a detailed 22-page declaration and 18 pages of additional information. On August 2, 1990, the city attorney notified the Gallands that a Commission member had contacted the mobilehome owners' representative and provided him with copies of public records relating to the case. The Commission provided copies of those materials to the Gallands and requested clarification of various matters including the Woods's purchase, and financing and lease payments, as well as Mr. Galland's status as a PMS shareholder. Chamberlain submitted another declaration and supporting documents which explained the purchase/leaseback agreements. In May 1978, the Margaret G. Rose Testamentary Trust had agreed to provide the Gallands with $600,000 to purchase the Woods in exchange for title to the land and a 50 year leaseback. On June 9, 1978, the Gallands purchased the Woods from a third party for $4,158,625 (land, $500,000; improvements, $3,613,625; personal property, $45,000). The Gallands made a $600,000 down payment and the sellers took two notes. On August 1, 1978, the Gallands executed a grant deed to the trust as required by the terms of the May agreement. Margaret G. Rose was Mrs. Galland's mother. She died in 1969 and the trust was created pursuant to her will. Mrs. Galland's father has a life estate in the trust. Income from the trust estate and, if necessary, principal, are used for his benefit. On his death, any remaining assets will be distributed to Mrs. Galland. Mr. Galland was a 50 percent shareholder in PMS from 1978 until 1985 but received no compensation or dividends after he resigned as president in 1980. In 1985, Chamberlain purchased Mr. Galland's shares of stock in PMS. The Commission, minus the member who had contacted the mobilehome owners, heard the matter on August 13, 1990. The Gallands presented evidence supporting the $15 and $9 rent increases. Their current ROI in the Woods (adjusted for inflation) was 8.1 percent, whereas what they claimed to be equally risky investments enjoyed a 20 to 25 percent rate of return. Dr. Nordstrom testified for the mobilehome owners. He reversed his earlier position that the investment need not be adjusted for inflation and claimed that had been his position all along. He now believed the requested rent increase was not justified because the Gallands had misstated their investment in past years. He opined that the purchase/leaseback transaction had resulted in a down payment of zero rather than $600,000. Thus, the Gallands' investment consisted of principal payments on the mortgage only. By his calculations, the Gallands received a 140.63 percent ROI in 1989. Dr. Nordstrom also believed that management fees, lease payments and various extraordinary operating expenses should not be included in operating expenses in calculating cash flow. He further opined that a 14 percent ROI was fair, based in part on a similar average return for cable television franchises which, like mobilehomes, were regulated investments. At the conclusion of the hearing, the Commission approved increases of $7.50 and $4.50, half of the increases requested. The Commission found the Woods was jointly owned by the Gallands and the Rose Trust. Therefore, the lease payments were ROI rather than expenses. In addition, the Commission disallowed attorney and expert fees incurred in the rent review proceedings. With these adjustments, the Gallands' return on the inflation-adjusted investment was 11.8 percent. However, contrary to the opinion of both experts, the Commission concluded, based on common sense, that the ROI calculation should be based on historic investment. Using the unadjusted figures, the approved rent increases yielded a 23.5 percent ROI, which the Commission deemed fair. The Commission's final decision was not issued until January 29, 1992. Both parties appealed. The city council heard the appeals in May 1992, along with the Gallands' appeal of the Commission's decisions on the 1989 rent increase. The city council upheld the decisions of the Commission. The Gallands requested and Clovis granted the Woods rent increases in subsequent years and those proceedings are not before us. In 1993, Clovis amended its mobilehome rent control ordinance to permit automatic, across-the-board annual rent increases tied to the CPI.