Trusted advisor or obstacle to commerce?

An appraiser emailed to chide me about the coverage of AMCs (appraisal management companies) in an article today in The Wall Street Journal. The article, Appraisals Roil Real Estate Deals, reports on home sellers and those trying to refinance mortgages in an environment of allegedly low appraisals. The e-mailer called me out on what is said to be endemic of AMCs, sending appraisers’ out-of-area to complete appraisals in neighborhoods with which they are unfamiliar. And to the extent this is the practice, he's right. An AMC – or anyone else – should not send an appraiser over 100 miles away unless there is a total of zero appraisers closer by. Likewise, an appraiser should not take on such an assignment and the liability it brings along for the ride. Better to turn down the order or make a referral to another appraiser.

This is but one of several issues raised in the article for appraisers, AMCs, and lenders to be concerned about, and illustrates the challenge the industry faces in raising the perception of the value of appraisals and of the appraiser as a trusted advisor rather than necessary inconvenience.

Take the first line of the report: “Appraisals are becoming one of the biggest obstacles for Americans trying to sell… refinance… or tap into home equity….” The premise is that the appraisal, and by extension the appraiser, is the obstacle. As I see it, the intent of an appraisal is to reflect the goings-on in the market, and if so, the so-called obstacle is not the appraisal but the real estate market. To be viewed as an obstacle cannot possibly help the industry regain its stature in the mortgage transaction.

Also alarming is the notion that lenders, “burned by huge losses from defaults” are pressuring appraisers to lowball appraisals. I personally haven’t heard of any lenders pressuring appraisers to lower values. Even in a rancorous real estate economy that doesn’t sound like something lenders would do. From a systemic standpoint, the more risk-averse course for the lender would be to tighten up its underwriting standards than to lean on appraisers to understate a value opinion. In fact, if this turns out to be the case, and lenders are pressing appraisers to undervalue homes, we’re facing a messy systemic problem. If before, lenders pressured appraisers to raise values with impunity, and appraisers complied, and now, lenders are pressuring appraisers to lower values (and they comply), all the talk about the HVCC (Home Valuation Code of Conduct), regulating AMCs, and cleaning up the industry will be dealt a body blow that could doom the valuation profession. Appraisers and AMCs need to be more assertive in challenging such lender requests whenever they arise.

One way for appraisers to raise awareness of problems such as these, at least where an AMC is involved, is to take advantage of the so-called appraiser hotlines that many AMCs have implemented to deal with just these sorts of circumstances. Whenever problems arise, it is always good to bring in an ombudsman or hotline representative to help sort things out. In fact, I field numerous calls from appraisers looking for a point in the right direction for resolving client-service-meets-USPAP-compliance matters. I know that LSI, eAppraiseIT, and RELS all have hotlines to report matters of concern to appraisers in the field. Many others do as well. So take advantage of the appraiser hotlines any time you’re asked to do something you feel may not be in your best interest or the best interest of your client.

Remember, it is never in your client’s best interest to violate USPAP, state appraiser licensing and certification statutes, GSE or banking agency appraisal guidelines. Never.
___

Screening Out The Bad Fit

“Why should I work for these companies (AMCs) who

have no education, liability, responsibility,

accountability or regulation?”

~ One appraiser's perspective in a recent

Valuation Review appraiser poll

2009

_____________

In qualifying potential providers of goods or services the buyer measures the value of the prospect against a set of criteria. These criteria usually involve some measure of four characteristics: knowledge, skill, price, and organizational “fit”. This last characteristic -- organizational fit -- came to mind when I read the above quote. That's because how a vendor and client mesh is critical to both sides of the transaction. Therefore, appraisal management companies (AMCs) are well served to consider how prospective vendors "fit" during the pre-engagement due diligence process.

Weighing a prospect's knowledge, skill and price is pretty straight forward in the appraisal industry. Resumes, references, work samples, license or certificate copies, and rate sheets are usual pre-conditions to winning a spot on a fee panel. Organizational fit, though, is not so easily assessed. "Who knows what evil lurks in the hearts of men?” Sure, The Shadow knows; the rest of us probably don't.

Whenever a client hires a vendor -- or an employer hires an employee -- there is a risk of a negative attitude not mentioned in the interview; an attitude say, that one's new client or employer is uneducated, unaccountable, irresponsible, and operating beyond the legal framework. Not a good start to a lasting and mutually beneficial relationship. Too often though, organizational fit is not addressed in pre-engagement screening, only to surface as a problem later on, after the vendor is in the system. Therefore, clients need to develop and implement procedures aimed at discovering what lurks in the hearts of their vendors. One way to do this is to adopt a pre-engagement screening technique known as the behavioral interview.

Behavioral interviews are most common among human resources professionals, who use them to uncover potential relationship and career derailers that might otherwise go unnoticed until it's too late. Traditional interviews often involve hypothetical question like "What would you do if ___?" Trouble is, hypothetical questions usually result in hypothetical responses; often involving superhuman feats; rarely representing reality. Behavioral interviews, on the other hand, leverage real-life experiences to assess behavior(s) the interviewer seeks to understand.

Say you're recruiting the appraiser quoted above. You want to discover how he or she might deal with a less-than-esteemed client. A traditional question might be, "What would you do if an AMC called late in the afternoon, for the third time, to check on an order status?" That'd likely trigger a response such as, 'Why, I'd empathize, of course! I'd say that I know how you feel. I'd add that I'd feel the same way were I in their shoes. Then, I'd coach them to look in the notepad for my last two updates. I'd close by thanking them for their business, and ask for the next order.' The perfect candidate!

Behavioral interview questions take a different approach and involve a three-part formula built around a particular characteristic or trait. Rather than posing a hypothetical, the interviewer would say: (1) "Tell me about a time in your career when an AMC client called late in the afternoon, for the third time, to check on an order status. (2) What did you do? And, (3) what was the result?" The STAR formula -- Situation or Task, Action, and Result -- may illicit a different, hopefully more enlightening, answer.

But don't stop there, ask more questions: "Tell me about a contentious encounter with an AMC? What did you do? And what was the result?" or "Tell me about a situation in which you parted ways with an AMC. What happened? And what was the result?" You might toss in a few "What caused that?" questions to dig even deeper. The point to remember here is that past experience is a predictor of future behavior. Consider adding the behavioral interview technique (STAR) to your vendor recruitment due diligence screening. Consult with your HR professional for assistance and some pointers in setting up and introducing the program in your vendor management operation.

Assessing organizational fit is even more important now that the Home Valuation Code of Conduct (HVCC) is in effect. The HVCC puts a foot to the brakes on simply dumping an appraiser with attitude. Certainly, the client can jettison a vendor for being a bad fit. However, the HVCC is very specific on how that removal process has to happen. And there's no telling if the appraiser has a friend in the class action lawyer business.

Play it safe. If you don't have a pre-engagement mechanism in place to assess a prospect's fit with your organization start building the capacity today. It will help to sort out whether the vendor a coveted on paper has the makings of a trusted advisor in real-life.
___

The Economics of an Optimal Number of Vendors

It has been suggested that appraisal management companies (AMCs) should pay appraisers the customary and reasonable fee for an appraisal in a given market area. Let’s call this “customary and reasonable fee” the appraiser’s retail appraisal fee. This is the fee that an appraiser lists on her or his standard rate sheet. Among the benefits, proponents of the retail fee argument posit, is that it will attract more appraisers to the AMC system.

The premise underlying the claim is that an AMC benefits by increasing the number of its vendors. So if there are ten (10) ready, willing and able residential appraisers in a market the AMC should benefit by engaging all ten. But will they? Will AMCs benefit by using every residential appraiser in the market? And, significantly, will they benefit by paying these appraisers retail appraisal fees? I argue that they will not benefit economically on either count.

In recent testimony before the House Financial Services Committee, Jim Amorin, MAI, SRA, and the president of the Appraisal Institute, correctly stated that an AMC “recruits appraisers, reviews their qualifications, verifies licensure, negotiates fees and establishes service level expectations with a network of third-party appraisers.” A good description, to which I will add, that fee panel management is the appraisal manager’s core competency. In other words, recruiting, qualifying, and managing appraiser panels on behalf of mortgage lender clients are what they are in business to do.

This latter distinction is significant. That is because, an appraiser’s other clients, mortgage lenders, are in business to make loans. Lending money is their core competency. They manage appraiser panels as a means to secure a critical piece of the loan package. Unlike AMCs, lenders often pay appraisers’ full retail fee, passing the cost along to the borrower. In doing this, lenders mistakenly view appraisal fee panel management as a cost-neutral exercise, which it certainly is not.

As AMCs point out to prospective lender-clients in high power sales calls maintaining a staff of individuals to recruit, qualify, verify licensure, negotiate fees and service levels is very expensive. A lender easily absorbs over $100 per transaction in search and coordination costs. But that is a discussion for another time. My main point – beyond the shameless plug for appraisal management – is to illustrate a key difference in mindset between AMCs and lenders when it comes to negotiating appraisal fees.

Another difference between AMCs and lenders is the number of orders managed and the geographic distribution of those orders. Even mega-lenders like Wells Fargo or BofA have only so many appraisals in a market at a given time. So while their volume is often sufficient to gain some fee concessions from vendors individually most don't have the same leverage that an AMC that pools orders has. Smaller lenders in particular pay retail fees because they must.

Suppose a certain lender consistently orders ten full URAR appraisals per month in your home town. Suppose also that the lender believes that using more appraisers is better than using just a few. Armed with 10 orders and this belief, the lender goes out and engages all ten appraisers and gives each appraiser one order per month. Even if the lender doesn’t believe in the virtues of paying full retail price, at only one order per month per appraiser the lender has effectively nullified its fee negotiation leverage. Bad move.

On the other hand, an AMC, whose business is to manage fee panels, would see using all ten appraisers in a different light. The AMC would reach out to just a few of those appraisers with the proposition that this limited group of vendors would receive all of the AMC’s order volume. To put numbers to what this means, let’s say the AMC reaches out to eight of the 10 appraisers and says: “I have 25 orders per month in your market. How much of a discount will you give me off of your retail fee?”

You may be thinking, 'Thirty orders a month?!? That’s not an apples-to-apples comparison! You said the lender had only 10 orders per month.' However, an AMC pools all of the orders of all of its clients in the area, directing them to a subset of the appraiser population. Instead of negotiating based on just 10 orders per month the AMC is able to negotiate based on a more robust order count.

Now, if the AMC used say eight of the ten appraisers in town, they’d probably get a small discount for volume. If they used five appraisers they’d probably get an even better deal. But if they used three, or four, and monitored the appraisers’ performance over time, and revisited the pricing model every now and again, they’d almost certainly get appraisals at more of a wholesale price than a retail price.

The appraiser then makes the choice: do zero AMC appraisals per month at full retail and find clients on their own; or earn a discounted fee in return for volume.

I get a lot of emails and calls from appraisers complaining that an AMC they sought to do business with told them “We pay $X in your area.” This is why. They monitor fees paid and negotiate like few if any lender would. Managing appraisers is a business they take seriously. And they understand what we all look for in our roles as consumers: volume discounts.
____

AMCs are not new kids on the block!

In today's session on appraisal management companies (AMCs), I want to dispel yet another myth being perpetuated by some in the appraisal trades. That is, that AMCs are some sort of new kids on the block invading the appraisal industry ecosystem.

The fact is that the AMC industry traces its roots all the way back to 1959, to a Cleveland, Ohio-based abstracting company called Legal Messenger Service.

An abstracting company lauched the appraisal management industry? Yes. Because that company just a few years later became Record Data, Inc., and overlaid the system it designed for title agency and the acquisition of third-party title products and services on to the appraisal acquisition system of the day.

It seems that the same clients that benefited from outsourcing title abstracting, examination, and commitment functions -- mostly consumer discount companies making second mortgage loans -- benefited similarly by outsourcing appraisal management functions like engaging independent fee appraisers, ordering and tracking appraisal orders, and customer service.

Just a few years later, in 1967, Lender's Service, Inc. (LSI) came on the scene. Like Record Data, LSI provided title and appraisal vendor management services. Then, in 1984, Fran Azur, at the time LSI's senior vice president of operations, launched the first national service center for managing vendors across the U.S.A. from a centralized location. In 1992, Azur left LSI to found ATM Corporation of America (ATM), which he sold to FNF fifteen years later.

The ranks of the AMC industry includes numerous familiar names that today constitute some of the giants of the industry: General American Corporation (GAC), 1979; National Real Estate Information Services (NREIS), 1990; ATM, 1992; Nationwide Appraisal Services (NASCO), 1994; ServiceLink, 1998. And the list goes on.

The suggestion by some in the appraisal trades that AMCs are some sort of new-fangled opportunistic interlopers elbowing in on the festivities just doesn't stand up. They've been around for many years. Longer, apparently, then some of those making the claims can remember, or might want to admit.
____

Doing the Math: Quantifying the AMC Loophole

Today’s post updates a recent reply to a reader’s comment, in which I shared my belief that the Appraisal Institute and other critics have overstated the so-called appraisal management company (AMC) loophole while pressing for state regulation of AMCs. The AMC loophole, as the story goes, enables an appraiser whose state appraiser license or certification has been revoked to become (gasp) an appraisal management company.

Running the numbers to quantify the odds

There are 120,000 certified/licensed appraisers on the Appraisal Subcommittee (ASC) National Registry of appraisers. Let’s put the split among residential and non-residential appraisers at 60/40 (72,000 residential appraisers; 48,000 non-residential).

ASC records indicate that 2,100 licenses/certificates have been revoked since the states began reporting revocations to the government agency. Looking at the Registry it appears that the ASC has been collecting revocation data back to 1993; 15 years now. That’s about 140 appraiser licenses/certificates per year (2,100 revocations divided by 15 years equals 140 revocations per year.)

Next, let’s apportion the 140 revocations based on residential or non-residential appraiser orientation. That would be about 84 residential revocations per year; 56 non-residential. That’s just .07% of the residential appraiser population! Critics would argue, correctly, that even one defrocked appraiser going AMC on us is too many. But to make this a cornerstone in the argument for AMC regulation seems a little, well, overstated.

Descending to the Dark Side
A great unknown is just how many of these 84 bad actors would descend so far as to become… an AMC. I contend that the chances are remote. Certainly it can be done. In fact, a trusted regulator alerted me to one such case in Florida. But to believe this is as widespread a phenomenon as some appraisal trades suggest is a stretch.

Becoming an AMC has a few very high hurdles. First, it requires at least one big client, or a number of small clients right off the bat. Second, it requires a good amount of start-up funding. Third, it requires expensive vendor management technology systems operated by trained personnel. And it requires a scalable infrastructure.

Perhaps the highest hurdle though is order volume. For an AMC to be viable, it needs to manage something north of 250 orders per month, assuming appraisal management is the only source of revenue. Why? Because margins in appraisal management are tight. But as an MBA student might remind: ‘A small number times a big number is a big number.’ Lesson: Economies of scale are helpful in this business. A newbie -- especially one who's just been thrown out of their last gig -- would be challenged to make the career change.

So, realistically, how many of the 84 could clear these hurdles? One? Five? Ten? Suppose that 90% realize they clear the hurdles and find something else to do. That leaves fewer than ten to try their hand at appraisal management. Which works out to .1923 individuals per state. That's a small number in the big picture.

I'm not saying these 10 couldn't pose a risk. They could. But there’s nothing like a little quantification take some of the hype out of the hype.
_____

Appraisers, USPAP Obligations, and AMCs

In a post last week, entitled Appraisers, Legal Obligations, and AMCs, I challenged the notion that appraisers who work with appraisal management companies (AMCs) do not comply with their legal obligations. I figured I’d get a slew of comments, given all the criticism of AMCs over the supposed lack of qualified appraisers populating their fee panels. A week later, and still no one has weighed in. So scroll down to the post and weigh in.

In this post, I'll address another criticism, that because appraisers are underpaid by AMCs, they perform poor quality, unethical work.

It is common knowledge in the business that USPAP doesn't offer an exemption to the competency and ethical standards based on the amount of the appraiser's fee. If appraisers are committing ethical or practice violations they are subject to discipline. This discipline isn't based on the amount of fees. And there are no get-out-of-jail-free cards. If people believe that a large number of appraisers are violating USPAP, then what is needed is better enforcement of appraisers (and perhaps more stringent training standards) not regulation of non-appraisers.

That a person would observe ethical standards and quality standards only when they are paid more is slightly disturbing, and implies that they will provide unethical, poor quality work if they are not paid as well.

The appraiser always has the obligation to assess the nature and scope of the assignment, including the fees offered before accepting the assignment. Once the appraiser has accepted the assignment, the appraiser must observe all of the requirements of USPAP.

Even if the appraisal is being done for an AMC.

As always, counter-points, backed by evidence, are welcome.
____

HVCC and the Structure of the Mortgage Finance System

The structure of a system influences the behavior of actors within the system.

I get a lot of inquiries seeking clarifications on various implications of the Home Valuation Code of Conduct (HVCC) relating to AMCs (appraisal management companies). Mostly they come from appraisers, and mostly I respond directly to the person asking rather then on the Net. The other day, I got a question from an appraiser on a topic that needs some public discourse. In fact, I’ve wrestled for some time with this question, and others like it, that go to the heart of the systemic consequences of the HVCC.

Before getting started, I will gently remind readers again that I am a liberal arts major and not an attorney. Nor am I in a position to tell the government what to do (no one is from the looks of things). So as always, what follows is nothing more than a conversation between friends.

An appraiser’s question

I have worked hard to build my clientele (mortgage brokers) and maintain excellent working relationships. Recently, I contacted several of the larger AMCs and was told that they have not added and would not be adding any new appraisers to their fee panels. Is there anything within the HVCC that prohibits AMCs from excluding appraisers? Or is the HVCC looking out for everyone except the appraisers?

A liberal artiste’s response

The intent of the HVCC is to safeguard the independence of appraisers in developing and reporting appraisals regarding loans purchased by Fannie Mae and Freddie Mac; it is not to re-write the fundamental rules of commerce in a free enterprise system. So, as I see it, AMCs and any other clients may decide on their own the vendors they choose to work with.

Take Wal-Mart for instance. We can only imagine the quantity of vendors and potential vendors hoping the retailing giant will purchase and resell their wares. We, as consumers, are endlessly pitched in radio and TV ads, billboards, pop-ups and unsolicited calls at dinnertime by businesses seeking our favor. The free market works in large part by our ability as the clients to call the shots about who we invest our trust and money with. From my perspective, and as I read the HVCC, there is nothing in it that would, as the appraiser put it “prohibit AMCs from excluding appraisers” from being placed on their fee panels. Now, once the appraiser is approved and becomes a member of a client’s fee panel, the HVCC has something to say. But not before.

Section I.B.(8) of the HVCC, addresses the removal of an appraiser from a list of qualified appraisers in connection with influencing or attempting to influence the outcome of an appraisal. Here, the HVCC specifically addresses the removal of an appraiser from a list, not the addition of an appraiser to a list of qualified appraisers. Who knows, this may change, and others may disagree with my assessment. Therefore, as is always the case in this Blog, any reference(s) to official documentation to the contrary is welcome. Until then, in my mind, the client retains the right to compile its own fee panel.

So the answer to the appraisers question is: No, there isn’t anything in the HVCC that prohibits an AMC from excluding appraisers… with the caveat… before the appraiser is approved and becomes a member of the client’s fee panel.

An unintended consequence on the horizon

That leaves the appraiser’s closing comment, “Or is the HVCC looking out for everyone except the appraisers?” as the last high hurdle for this post. And a high hurdle it is.

Recently, I explained an elephant-in-the-room challenge facing small AMCs in states that assess usurious registration fees on AMCs in their states. Missouri, which proposes a $5000 registration fee and a $2000 annual renewal fee, exemplifies this challenge. (See the post Why State Regulation of AMCs will Put Small AMCs out of Business further below.) Small AMCs need a certain minimum order volume to remain viable. That magic number is some multiple of 250 appraisals per month.

Keeping small AMCs out is a good thing, isn’t it? Not if the only functional alternative is the large AMC.

There are a dozen or so large AMCs (defined here as those managing over 1,000 appraisal orders per day). Each has maintained an extensive appraiser fee panel, even before the HVCC came to town. As a result, appraisers whose client base includes mostly mortgage brokers have a dilemma. In order to be added to a fee panel, someone else must go. (I’ll explain the rationale for this in a future post. Essentially, productivity gains and volume discounts are better in dealing with an optimal number of appraisers versus a total population.) The extent to which large AMCs will need to take on additional appraisers will be determined by the increase in appraisal management volume brought on by the implementation of the HVCC. But it won’t be an incremental increase as AMC fee panels, at least the large ones, are already fairly stacked.

This leaves many appraisers who have traditionally opted not to work with AMCs to try to hook on to one or more of the smaller AMCs. However, if small AMCs don’t have sufficient order volume to justify onerous state registration fees, or decide to walk away from states with high registration fees, lenders, mortgage brokers, and appraisers will have few alternatives to the large AMCs. Therefore, instead of penalizing small AMCs by assessing onerous registration fees, states ought to be encouraging them to come in to the state, thereby offering appraisers – and lenders – alternative to the largest AMCs.

… Added dis-incentive

Add to this that the HVCC now makes it more difficult for an AMC, or any other client for that matter, to rid itself of a new but underperforming vendor once she or he is added to the system. Going forward, every client will have to weigh the upside benefits of (re)populating the fee panel gene pool with the downside costs, and risk of litigation, brought on by written notice and evidence of an appraiser’s illegal conduct, USPAP or state licensing standards violation, substandard performance, improper or unprofessional behavior or other substantive reason for removal.
_____