March 9, 2015

It has been a long time since most appraisers in Canadian large cities have seen declining real estate markets. In that time, there have been some significant changes in the relocation and appraisal industries. At All Points, we believe that the last decade has seen the build-up of systemic weaknesses in the appraisal industry as it pertains to relocation, which have increased the risk in of most Guarantee Home Sale programs in Canada.

Why does this matter?

For many HR’s, the appraisal process, including the ordering and review of these appraisals by the relocation management company, is largely unknown as it is generally outsourced

Declining markets are on their way, particularly in Western cities. Our concern is that the last decade of changes may result in greater than necessary capital losses and inventory carrying periods for companies with these programs. This can quickly add tens of thousands, if not hundreds of thousands of dollars to the cost of relocation programs. If you do not understand the risks, you cannot take action.

One of my favourite appraisers

I first learned about this appraiser when I began my relocation career at Royal LePage Relocation in the 1990’s. In fact, hers was the first name you heard if you needed an appraiser in the GTA. Every other appraiser was measured against her. An appraisal is more than a document. It is a document dipped in trust. When you walk through an office full of relocation counsellors saying, “That appraiser in Calgary; she is the closest thing to ABC & Associates,” you know that the bond of trust has been cemented. But…

The sad fact is that she (and many like her) no longer does relocation work.

Risk #1: Valuation Services Companies are not the actual Appraisal Companies

Once upon a time all relocation management companies ordered appraisals directly from the appraisal company itself. All Points still does this as do some other relocation companies. However, most of the industry orders from what I call “appraisal hubs.” That is to say that they order from a “Valuation Services Company” which then proceeds to order from the appraisers themselves. Below is a marketing sentence from one of these Valuation Services Companies (I have changed the names and wording slightly).

“ABC Valuation Services provide relocation, mortgage, and specialty appraisal products through a network of 8,000+ appraisers.”

If you order from an appraiser he/she will call his/her work an appraisal; if you order it through a “Valuation Services Company” it is now called an appraisal product. The appraiser who gets your work is the next one on the list, not the one best suited for the assignment or particular area of a city. It is the luck of the draw as to the calibre of the appraiser.

Why does Risk #1 matter? …You get what you pay for

It is important to know that appraisers do not make much money for their work. A couple of years ago I wrote about this in the blog, “Don’t Let Your children grow up to be movers or appraisers”.

The average relocation appraisal fee ranges from $600 – $650. It takes the appraiser a lot of time to go to the home, do the walk-through, then conduct the research and complete the final appraisal and answer follow up questions. When you order from the appraiser directly he/she earns the entire amount (with some going to the company owner). When you order through a Valuation Services Company (hereafter VSC) those same appraisers earn approximately $400 – $450, while the VSC earns about $150 – $200. That is a whopping 33% pay cut for the appraiser. You get what you pay for and All Points (and some others) do not think that our clients’ risk tolerance includes the use of an appraiser that only earns about $70/hour BEFORE all of their costs of insurance, gas and overhead.

Why does Risk #1 matter?…You get the mortgage culture

Since about 1999, such Valuation Services Companies have really grown to capture much of the appraisal management market. The problem for relocation work is that the driver of the growth of such “appraisal hubs” is not the relocation industry. Instead it is the mortgage industry. The skills required to complete a relocation appraisal are far greater than those required to conduct a mortgage appraisal. The bank has all kinds of risk hedges on the appraised value that simply do not exist in relocation, such as a down payment, a five year term, interest rate earnings, and a declining mortgage balance. As a result, mortgage appraisal work does not require the same forecasting skills and it emphasizes speed and low cost (approximately $150-$200 for a mortgage appraisal) over accuracy. Those that have less relocation experience find the $400 very lucrative compared to mortgage work and those that specialized in relocation work no longer find that compensation attractive at all. As a result of this market movement, many of the best appraisers have left relocation appraisal work and turned to more lucrative legal or commercial appraisal work with the market being filled by a new crop of appraisers raised in the mortgage/default culture. This has created a significant risk to the quality of relocation appraisals.

Risk #2: Few relocation management companies review the appraisals themselves

Over the last decade many relocation management companies have outsourced the review of relocation appraisals. Let’s give a quick overview of what a relocation appraisal review is and why it is important.

Appraisal reviews give the relocation management company the opportunity, as a practice of due diligence for their clients, to review the appraisals for errors of fact or omission, for consistency in types and amounts of adjustments, for the degree of comparability of the subject property to comparable sales and competing listings. It is also an opportunity to create an informative synopsis of the marketability of the home and list price recommendations in a way that allows Human Resources to relay internally to other decision makers with ease. By outsourcing the appraisal review process, relocation management companies divorce themselves from the heart and soul of the Guaranteed Home Sale process.

Why does Risk #2 matter?… An increase in information gaps leads to inferior audits

When I began in relocation, outsourcing appraisal reviews was not even a consideration. Outsourcing certain activities would occur (i.e. property management), but outsourcing the key value that you are adding to the Guaranteed Home Sale service was unthinkable. Any relocation consultant will tell you that removing the actual appraisal review from their job description hinders them in their job.

Imagine two people doing the same job of reviewing two appraisals on a property. These two people will be called: Relocation Counsellor and Outsource Reviewer.

Scenario #1: Relocation Counsellor = Same person who speaks with client, transferee and Realtors = Context rich environment to review appraisals = More Information = More knowledgeable audit = More persuasive arguments to appraisers who may have made errors = Less Risk. As an added bonus it also = more effective communication with the client and transferee, never mind the relocation counsellor’s own manager.

Scenario #2: Outsource Provider = speaks only with appraisers (or even worse, the Valuation Services Company) and Relocation Counsellor = Context low environment to review appraisals, creating greater likelihood of information gaps = Less knowledgeable audit = Less persuasive arguments to appraisers = Greater Risk. As an added disadvantage it also = less effective communication with the relocation counsellor’s client, transferee and manager.

Guaranteed Home Sale is not an assembly line service and its inherently holistic nature should not be fragmented. When the same person who speaks with your employee, also speaks to you, to the appraisers, home inspectors and Realtors the value is far greater than when disassembled into various parts to be delivered by many.

Why does Risk #2 matter? … Dissociation of client’s risk from appraisal reviewer’s risk

If an appraiser’s work turns out to be poor the corporate client has a high risk of loss. There is no question about this. However, let’s have a look at the risk to the relocation management company vs. the outsource appraisal review company in each of the two scenarios above?

Scenario #1: Relocation company reviews the appraisals itself. Bad reviews of flawed appraisals = possibility of embarrassing errors which result in poorly ascertained risk = potential loss of the entire account (worth tens of thousands if not hundreds of thousands of dollars) and professional reputation.

Scenario #2: Outsource provider, who is usually a semi-retired relocation professional = potential loss of hundreds of dollars in the context of a part-time job.

While it may make financial sense to switch a relocation management company’s appraisal review cost from higher paid, fixed cost appraisal review talent to flexible cost talent, it makes far less sense when viewed through a shared-risk model lens.

Risk #3: Forecasting

Forecasting is an important aspect to the appraisal process. It is the moment when the appraiser gains an understanding of the current trend in the marketplace and ascertains the value of the property 90 days (or more) down the road. It is the equivalent of “knowing where the puck is going to be passed rather than where it is right now.” If there is a declining trend, the appraiser must understand what the value of the property will be in the future if/when that trend continues.

An aside: it is my opinion that as a group, the entire Canadian appraisal industry has been particularly poor at forecasting compared to their American counterparts. This might be because the American relocation industry is so much bigger than its Canadian counterpart and because American appraisers received so much intensive forecasting work during the severe market declines during the great recession. So, while not all Canadian appraisers have challenges forecasting well, it is a sizeable enough group to make sure that appraiser selection and your review of those appraisals are both top rate.

Let’s recap the reasons why forecasting talent in the appraisal industry may have deteriorated in the last decade.

1. There have been very few extended periods of declining markets, where the appraiser has had to deploy forecasting skills.

2. A significant growth in mortgage appraisals as a percentage of the appraisal market (with all the accuracy hedges described above in #1) has also meant that forecasting skills have not been in large demand by the VSC’s.

3. A lower price per appraisal has resulted in the most talented appraisers getting out of relocation appraisals entirely without being replaced by an equally talented new crop.

Why does Risk #3 matter?… Guaranteed Home Sale Appraisals must always be forward looking

If an appraiser does not forecast well, Guaranteed Home Sale values have the risk of being too high compared to ultimate sale prices. Picture a line graph of a market in decline. The appraiser finds comparable sales that are 30 days old. He uses these comparable sales to come up with a value based on today’s date, not a forecasted of 90 days in the future, when by contract, the relocation management company will purchase the property. Let’s say that we have a home that is valued at $500,000 with a trending market decline of a very modest 2.5% per annum, rather than a catastrophic 15% or more.

This cost is significant and can compound quickly

Even if a company has only a few relocations, these potential risks are significant. Let’s consider the loss on sale described above in the graph. A $4,500 expense is the equivalent of many Miscellaneous Allowances or approximately 40 days in temporary living in a large city for a single person. If the market decline increased from my proposed 2.5% to just 5%, that is now a $9,000 loss, which is likely compounded by inaction from seasonality and line managers who don’t want to see a capital loss at all and who do not authorize timely price reductions. For example, let’s say that a line manager does not agree to a 5% reduction that is recommended. If another 120 days go by, then the property’s value may have gone down by another $9,000.

Recommendations: What can you do?

All Points recommends that Human Resources become familiar with their relocation provider’s appraisal ordering and review process. If there is any discomfort in the operational choices being made, it is more than reasonable to ask that your relocation management company change practices for your account. Corporations have always had their own policies, practices and sub-vendors. There is no reason why a corporate client cannot have its own preferred appraisal ordering and review process.

The problem with all of the issues we highlight above is that they are hidden. Corporations must take responsibility for a solid understanding of the appraisal process or else capital losses and carrying costs will show up without specific rationale as to why they are occurring other than a vague sense that real estate markets are weak.

Remove unnecessary metrics if they get in the way of a good appraisal.

Metrics are important, but if a Guarantee Home Sale value can be set in 11 days rather than 10 days but have the best appraiser on the job, then the 10 day metric is a bad metric in that given marketplace at that time. Empower your relocation management company to inform you if they need extra time for the best appraised value.

This is a complex issue that has developed over the course of a long period of time. If you have any questions at all about the above blog post, please feel free to call All Points at 1-800-281-2777.