Fine margins

The Court of Appeal had the opportunity in November 2015 to review the issues of margin of error and negligence in the context of a large commercial valuation. The case was Titan Europe 2006-3 PLC v Colliers International UK PLC (in liquidation).

The background involved a complex financial arrangement including the securitisation of a loan of €110 million by Credit Suisse, which resulted in the acquisition of the loan by the claimant, Titan. However, the valuation facts were relatively straightforward. Although they concern the valuation of property in mainland Europe, the case was decided under English law and is the most recent authority on the extent and application of the margin of error.

Facts

In 2005 Credit Suisse instructed Colliers to value a large commercial property in Nuremburg. The property was let to Quelle, the largest mail order company in Europe, under a 15 year lease commencing 1 January 2001. The passing rent was €8,589,000. Colliers’ assessment was that Quelle’s covenant was “very good” and that they were likely to renew. Colliers valued the property at €135 million, which Credit Suisse relied on in completing the loan to the landlord.

In September 2009, both the landlord and Quelle became insolvent. The property was eventually sold for €22.5 million. Titan, stepping into Credit Suisse’s shoes, sued Colliers alleging negligence in the preparation of the valuation. At first instance, the Court held that the true value of the property was €103 million and the permissible margin of error was 15 per cent (despite an argument by Colliers that it should be set at 20 per cent). The judge’s approach was broadly to prefer the valuation method advanced by Colliers (based on yield and passing rent), but to substitute different calculations. There were no relevant comparables but there was evidence of previous transactions involving this property. Colliers’ valuation was well beyond a margin of 15 per cent over €103 million, so was held to be negligent. Damages were assessed at €32 million.

The Appeal

The judge’s valuation was attacked in two respects. The first was the insufficient emphasis placed by the judge on actual transactions involving the property, and the second was the yield he adopted. The actual transactions included a sale involving the property just six months previously, for €127,100,000, in what was agreed to be a rising market.

The Court of Appeal regarded this as an unanswerable criticism: it was “inconceivable” that the correct value could be as low as €103 million. This finding enabled them to look afresh at a “correct” valuation. Again using the evidence of recent transactions for this property, they held that the judge had overstated the yield at 8.5 per cent and the correct yield was 7.4 per cent which suggested a valuation of €118,306,986. Colliers’ valuation was within 15 per cent of this, so on this basis was non-negligent.

The second attack on the judge’s decision gives an interesting example of the margin of error in practice. The judge had accepted that any valuation below €100 million would carry no credibility in the market. Logically, said the Court of Appeal, this meant that €100 million was the lowest possible non-negligent valuation – it was at the bottom of the margin of error. In turn, this meant that the lowest possible “correct” valuation was in the region of €117.65 million (because €100 million was within 15 per cent of this). However, the margin applies both ways, so if €117.65 million was the lowest possible “correct” valuation, then the upper end of the bracket was a further 15 per cent on top. Fortunately for Colliers, this created a non-negligent figure of €135.3 million, so on this approach as well their valuation was non-negligent. It didn’t matter that this was by the narrowest of margins (€300,000 or 0.2 per cent): “a narrow success is still a success”.

Comment

This neatly illustrates what can be a confusing issue about margin of error – it is a “plus or minus” figure, so the full range of permissible valuations is much wider than might be thought. Here, it was between €100 million and €135 million, based on a margin of +/- 15 per cent. However, the unfortunate valuer is required to bring himself within that margin on one side of the “correct” valuation only; he can’t combine the margin on both sides to make (here) a margin of 30 per cent!
The decision also reinforces the approach to the setting of the margin. This was clearly considered to be an exceptional property justifying a margin of 15 per cent. It is noteworthy that Colliers, who had argued for a margin of 20 per cent at first instance, didn’t challenge the judge’s finding of 15 per cent on appeal – possibly they were concerned it might be reduced if they did. This accords with the analysis of the law relating to the margin of error in Lincoln v Richard Ellis Hotels, which was followed in Webb v E Surv – both good cases for further reading on this issue.

An appeal to the Supreme Court remains a possibility, given the sums at stake, but a successful outcome for Titan must be very uncertain, bearing in mind the subjective assessment of yield coupled with the logic of the Court of Appeal’s application of the margin of error.