The Property Valuation Professional:
Providing Local Expertise, Allowing for Credible Global Financial Decisions

By Alan Hummel, SRA

Author’s Biography

Alan Hummel, SRA is Senior Vice President and Chief Appraiser of United States based Forsythe Appraisals, LLC and he serves on the Board of Trustee’s of the Appraisal Foundation. The Appraisal Foundation is authorized by Congress as the source of appraisal standards and appraiser qualifications in the United States.

Abstract

The valuation profession has a long and rich history. From beginnings in surveying, engineering and brokerage, a separate profession has evolved that provides vital links between property and capital. In the past, the development of this profession has often been driven by economic crisis, whether the savings and loan scandals in the United States or the bursting of the Asian asset bubbles. The time has come for the property valuation profession to be an even more integral, respected and proactive part of the international financial community.

The Property Valuation Professional:
Providing Local Expertise, Allowing for Credible Global Financial Decisions

Early development

Formal organizations of professionals involved in property valuation go back well over 100 years, with the Royal Institution of Chartered Surveyors, founded in 1868, and the Cuerpo Tecnico de Tasaciones del Peru, founded in 1889. Many property professionals at that time were largely concerned with land acquisitions for the expansion of the railroads and other instruments of settlement and urbanization. Once railroads and other infrastructures were in place, towns sprang up and the property professional helped to draw boundaries, subdivide parcels, plan for town centers and set values for taxation.

As urbanization continued, the demand for property information accelerated. What buildings are on these parcels? How much are they worth? Are they the right buildings for the needs of the population? What public infrastructure and supporting elements are required? Which assets can be used as collateral for new growth?

Especially in the United States, property markets evolved as waves of immigrants moved into urban centers, replacing previous immigrants who in turn moved on to create new suburban developments. Towns became cities and city boundaries were pushed farther out from the urban center.

This type of unchecked development continued in the United States until the Great Depression of the 1930s, when massive real estate foreclosures and bank failures occurred. Many lending institutions failed because of improper real estate valuation. Professional appraisal organizations were formed in response to this crisis. From the start these organizations centered on education, ethical practices and the development of competent and unbiased real property valuers.

In the period from the late 50s to the early 70s valuation organizations in the United States, the United Kingdom, and other countries began to see the need for common methodologies and standards for real property valuation.

“Rapid economic changes taking place in the 1970s served to enhance the recognition given by market participants to the importance of professional property valuations. The quickening pace in the globalization of investment markets further underscored the need for internationally accepted standards for reporting the value of real property”[1]

Recent Crises

Some 50 years after bank failures of the 1930s prompted the formation of professional valuation organizations in the United States, financial institutions were again in crisis. In the 1980s fraud and insider dealings resulted in the failure of numerous savings and loan institutions. Faulty or fraudulent real estate appraisals used in these transactions ultimately cost U.S. taxpayers $200 billion. As a result of this financial crisis, the U.S. government mandated states to establish an appraiser licensing and certification process to ensure that appraisers would have at least minimum education and experience in valuing real estate assets and that those valuations would be performed under uniform standards. The United States Congress has recognized the Appraisal Foundation as the source of these minimum standards.

In Asia as well, the mid 1980s and early 1990s saw rapid economic expansion that ultimately led to collapse. A major cause of this collapse was the enormous amount of bad debt held both publicly and privately in Asian banking systems. Years and years of government spending to back up economies came to an end, and the International Monetary Fund demanded political, corporate and banking reforms. Foreign banks and corporations with investments in Asia saw their assets virtually disappear.

Fortunately for the global economy, these Asian countries were able to come back from the brink. This economic recovery continues, with some countries such as South Korea, Singapore and Malaysia further along in reforming their banking systems, while Japan, Thailand and Indonesia, for example, still are in the midst of dealing with banks holding enormous amount of bad debt. Even the U.S. economy has slowed and problems ranging from the Enron and Worldcom financial reporting scandals to numerous incidents of home loan mortgage fraud call for a new examination of asset valuation and reporting.

A Small World After All

Far from ending investment, more than $10 billion (U.S.) was invested in Asia in 1998, according to E&Y Kenneth Leventhal Real Estate Group. This compares with only $6.4 billion invested in the United States by Asian investors throughout the mid 1990s. Many Asian governments patterned their recovery programs on the savings and loan bailout of the United States, and many have liberalized foreign ownership of real estate assets.

After signing a trade normalization treaty with the United States in December 2001, the government of Vietnam passed laws in May 2002, requiring real estate assets to be valued by qualified valuers to facilitate more foreign investment. Mortgage markets are starting to emerge in Turkey, Saudi Arabia and other areas in the Middle East.

Today the Internet, global positioning satellites and other technologies have brought about new systems to manage property information. The new century brings opportunity for nations to work together to maintain growth in developed areas and help less-developed areas realize their own systems so they can use their real estate assets to eliminate the poverty that leads to hopelessness and social unrest.

Paradigm Shift

“What distinguishes a good legal property system is that it is ‘mind friendly.’ It obtains and organizes knowledge about recorded assets in forms we can control. It collects, integrates, and coordinates not only data on assets and their potential but also our thoughts about them. A good legal property system is a medium that allows us to understand each other, make connections, and synthesize knowledge about our assets to enhance our productivity.”[2]

As Hernando de Soto eloquently argues in his book, The Mystery of Capital, property systems do more than just record and organize land and real estate assets. Just as detailed and transparent property systems can enhance a nation’s productivity, real estate valuation professionals have the skills to do more than respond when there is a financial crisis.

Real estate valuers are already a part of most transactions, whether conducting feasibility studies or valuing collateral for loans, but many of the parties to a transaction only hear about the valuation if there is a problem. The work that U.S. appraisers have done in the years since the savings and loan crisis and the work that is being done in Asian markets today should do much to mitigate the abuses of the past. But as markets recover and economies improve, valuers may be seen as impediments to transactions instead of a necessary component of due diligence.

De Soto’s research and books are the foundation for almost all of the development work currently underway. He documented the “extra-legal” sector – those people who for various reasons cannot use their capital for investment to better their lives. For example in 1997 he estimated the value of informal urban dwellings in China to be worth over $1 trillion U.S. dollars. Flowing from DeSoto’s research, the World Bank has outlined the factors needed for macroeconomic stability. As recently as August 26, 2005 one development agency outlined the following prerequisites for funding:

“Specific counterpart countries need to be identified that have some essential characteristics: basic infrastructure for property rights and title, a growing market in real estate, availability of data (or at least sufficient raw data that can be organized in some system), a willingness to embrace the standards, some level for a self regulatory organization to promote and monitor the application of the standards, probably some workable foreclosure processes so that appraisals have a practical value for lenders, lenders willing to pay appraisal fees, some kind of workable insolvency process.”

Without such essentials as property rights that are clear, enforceable, registered and accessible without costly transactions; economically sound, market sensitive urban planning and predictable land development codes; and adequate financial infrastructure including enforceable collateral, a timely foreclosure process, non-judiciary, trusts, alternatives to mortgage and debt recovery then a country will be unable to fully participate in global real estate markets. In addition professional appraisal services and other intermediary professionals are needed for healthy markets.

Michael Pomerleano, Lead Financial Specialist in the Financial Sector Development Department at The World Bank, presented a paper that examined some of the causes of the market collapses in Asia and other parts of the world and the ability of various economies to recover.[3]

He found swift response and restructuring to a market fall in Sweden where strict valuation rules were applied and all banks had to mark their real estate assets to market value. He contrasted that with the situation in Japan and Thailand, where the lack of expert valuers hindered rapid valuations and transparent market transactions. This lack of credible valuations that reflected market values saw rents and real estate prices drop slowly despite high vacancies and an increase in supply. Therefore, adjustments in the property sector in Japan and Thailand lagged and the recovery was slower in those countries.

Pomerleano points to employment in the financial services sector as a percentage of total employment as one indicator of a markets ability to absorb and mitigate risk. He concluded that functioning, complete markets require a base of professional financial skills; however, the recognition of the need often grows only out of crisis.

Employment in finance, insurance, real estate, and business services as a percentage of total employment, by country, 1997. Source:United Nations.

So how can the real estate valuation community further develop, gain respect and redefine itself so that valuers are more central players in real estate markets and help those markets avoid the shocks of the past? This paper proposes it is through the setting of adequate qualifications of valuers, the adoption of common standards and ethics and the promotion of a sense of community among valuers around the world.

Professional Organizations and Standards

Professional organizations provide the stabilizing force between the appetite of markets and the regulation of governments. Members of professional organizations provide the essential independent and objective risk analysis that helps protect markets from cycles of boom and bust. Primarily through high quality education and training these organizations protect the public by ensuring that property is used for the betterment of society. Importantly these groups also promote standards and ethics among their members and develop processes for removing members who do not follow accepted norms. As these organizations grow and build a record of achievement they can also contribute to the transparency of market information by developing databases of transactions and build a sense of community by providing opportunities for valuers and their clients to interact and discuss issues.

The primary need is for common standards. The Appraisal Foundation is involved with the the International Valuation Standards Committee, which is leading the way in this area by publishing and promoting international standards that facilitate cross-border transactions and contribute to the viability of international property markets by promoting transparency in financial reporting as well as the reliability of valuations performed. Uniform Standards serve as a professional benchmark for valuers around the world enabling them to respond to the demands of international property markets for reliable valuations and to meet the financial reporting requirements of the global business community

Conclusions

Qualified valuers have diagnostic tools and prescriptive practices to assist in financial decisions. There are few places in the world isolated from the effects of globalization. A crisis on one side of the globe has ripple effects that will be felt on the other. Current macroeconomic systems of assessing country risk must include microeconomic assessments such as the health of real property markets and the availability of qualified valuation and other intermediate professionals. To this end, international data standards and systems of data sharing must be developed so real property markets can become more efficient and transparent.

Today’s client is as interested in market analysis as value conclusions. They want value predications in addition to static values based on the past. Risk pricing predominates rather than individual property pricing. The move from providing single value opinions to this kind of broader market analysis will take an adaptation of the valuer’s skill set. The Appraisal Foundation is willing to work with all valuation organizations to help assess these needs.

Whatever the individual risks analyzed by real estate valuers, the paramount risk is the dependencies created by the global market. Valuers and valuation organizations, as protectors of the public good, must do more to help develop the real estate professionals with a global perspective necessary to accelerate rational real estate market development all over the world.

Real estate valuers are the independent axis around which property information flows. They touch every aspect of development from feasibility studies in the beginning of project to the determination of value when an asset is to be taken by the government or destroyed to make way for new growth. Building on the heritage and integrity of the professionals who have long been protecting the risks of capital investors, the new century calls out for the valuation profession to be out in front of the market, leading the way and helping the world’s economy avoid the turmoil of the last century, and providing local expertise to allow for global financial decisions.

A special thanks to William E. Endsley, Manager of Business Development for the Appraisal Institute for his research and writings that were instrumental in this presentation.

[1]From the Introduction to International Valuation Standards, 6^th Edition (International Valuation Standards Committee, 2003) p. 3.

[2]Hernando de Soto, The Mystery of Capital (Basic Books, 2000), p. 218.

[3]“Back to Basics: Critical Financial Sector Professions Required in the Aftermath of an Asset Bubble, presented at a conference cosponsored by the Federal Reserve Bank of Chicago and the World Bank Group, April 22-24, 2002.

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