This article begins a series from Travelers related to valuation activities and considers the benefits of risk management disciplines at a time of deteriorating market conditions.

Many may have read the headlines in the late summer and autumn of 2007 about the possible effects of the fallout from the US sub prime mortgage market and credit squeeze with trepidation in that the repercussions for the property market are still unclear.

On one hand, there are harbingers of doom, who are forecasting a full blown crash and global recession through to those who just see a period of market correction.

In reality, we are probably in uncharted waters and the possible outcomes are almost impossible to predict even if the extent of the bad debt provision and who is holding that debt becomes clear.

For RICS members who provide valuation advice, the difficulty is valuing property interests in a changing market.

This article in a series looks at the current situation and the ways in which members could manage the risk in providing valuations,as it is reasonable to assume that if there is a market correction and losses are incurred whether by funders, buyers, investors etc, they could be looking for any opportunity to recoup those losses whereby valuations and the advice provided could be closely scrutinized or challenged, which in some cases might lead to claims for professional negligence.

Although valuers should always be aware of the market conditions that relate to the locality and type of property to be valued, it is even more important to redouble the awareness and research when market conditions are changing.

The difficulty is trying to ascertain where exactly the market is at a given point in time – the date of valuation, when circumstances and the market may be changing over short periods of time or when there is a severe shortage of market evidence.

One seasoned investor described the current market conditions as “like swimming without being able to touch the bottom.”

Valuation becomes far more difficult when practitioners don’t have the reassurance of being able to “touch the bottom” or obtain definitive or conclusive market evidence in support of a valuation.

The process of providing a valuation can be broken down into key stages.

Before accepting any instructions to undertake a valuation, you should always undergo a routine “self examination or reality check” to determine whether you and your business has the capacity, knowledge and expertise to provide the service required.

It is far better to know one’s limitations than to embark on a task which could end up with a dissatisfied or claimant client.

If you are unsure about the scope of the valuation or property take a little time to research it more before giving an instantaneous quote.

From a risk management point of view, a practitioner who knows his limits, both in terms of capability and area of operation will be viewed as a far better professional indemnity insurance risk than those who plunge straight into to provide a service irrespective of any forethought.

A key stage in the provision of a valuation is for you and your client to fully understand the requirements for and the basis of the valuation.

Knowing your client becomes of paramount importance. The explanation and dialogue with your client should wherever possible be specifically geared to that client.

If it is a new private client for example, take time wherever possible to personally discuss their particular requirements.

Chartered Surveyors provide valuations to a whole myriad of clients which range from a first time residential home buyer through to the largest corporations and investors.

The discussions on the service to be provided and the basis of a valuation are an important pre-requisite to a successful valuation outcome.

Following on from the preliminary discussions there is the imperative to confirm the basis of your instructions. All too often complaints and potential claims stem from the service not meeting the clients expectation or aspiration.

The risk management process for valuations can be greatly enhanced by ensuring that the preliminaries such as confirmation of instructions are fully documented and retained.

It is imperative and a requirement of the Red Book under Practice Statement 2.1 that “members must always confirm their terms of engagement to the client in writing, before any Report is issued.”

Valuations for secured lending purposes need careful treatment in that there is the added complication of third parties such as the borrower or lender’s customer believing that they are also the client.

Although many lenders will have their own basis of instructions and service provision requirements.

Ensure familiarity with a lender'sparticular requirements not only as to the basis of valuation but also on the content and format of the valuation report.

It can be time consuming and expensive to have to revisit a property or site to take for example a photograph of the rear of the property, which might be an explicit client requirement.

Ensure that you are familiar with your lending clients requirements.

Difficulties all too often occur when the borrower or lender’s customer tries to approach or intervene directly with the valuer.

Your primary relationship and contract is with the lender, who in many cases are keen or insistent that no undue pressure is placed on the valuer.

Remember that you are being employed by a lender to advise on the proposed security for a loan or mortgage – do not allow your position as an independent valuer to be compromised.

Having confirmed the basis of your instructions, the next crucial step of the process is the inspection of the property.

Allow yourself plenty of time for the actual inspection. Undertake measurements in accordance the RICS Code of Measuring Practice.

Keep legible notes, take photographs and most importantly advise the client if you were unable to inspect any parts of the property.

Ensure that your client has understood that you are undertaking a valuation and not a survey.

Although there are considerable grey areas on what should have been inspected or reported in a valuation, the overriding principle has to be what is reasonable to have inspected or reported on.

Does it have a material effect on value? Just as important as the physical inspection of the property is the noting of factors which could affect value in the locale of the property.

It is imperative that inquiries are made in respect of a whole range of factors which could affect value to include planning and environmental matters.

In commercial valuations, where a lease and passing rent are in existence, they should be examined to ensure that any rent passing is within reasonable rental levels.

Fraud is manifesting itself in the commercial valuation sector with sham leases being in existence.

If information is not available in respect of a property ensure that the client is informed and any assumptions that are made are clearly set out.

In preparing the valuation report ensure that it meets the minimum requirements of a valuation report contained in Appendix 5.1 of the RICS Appraisal and Valuation Standards (Red Book).

Ensure that if you using Market Value as the basis for your valuation you are fully familiar with its definition in the Red Book and guidance notes.

The RICS Appraisal and Valuation Standards (Red Book) defines market value as:
‘The estimated amount for which a property should exchange on the date of valuation between a willing buyer and a willing seller in an arm’s-length transaction after proper marketing wherein the parties had each acted knowledgeably, prudently and without compulsion.’

For valuation practitioners undertaking valuations in changing market conditions, the most important items of the definition are probably “on the date of valuation” and “after proper marketing”.

The valuation is therefore time specific and all costs valuers must avoid the temptation to try an predict where the market may be going.

Valuers undertaking valuations in a changing or falling market have the very difficult task of analysing and applying comparable values to their specific valuation task.

The delicate balancing act has to be seen in the context of analysed comparable transactions being at some date in the past with perhaps anecdotal present day evidence.

This balancing act has to then be transposed into a valuation report that can be fully justified and supported.

The guidance notes to the RICS Appraisal and Valuation Standards make commentary on “after proper marketing” by stating that “the property would be exposed to the market in the most appropriate manner to effect its disposal at the best price reasonably obtainable”.

The guidance notes continue by stating that “the length of exposure time may vary with market conditions …..”

The follow on articles from the Travelers Risk Management Team will be accompanied by illustrations from actual claims, together with some guidance on how risk management and effective business practices could avoid potential professional indemnity claims and increase client satisfaction.

In the unfortunate event that a claim is made for alleged professional negligence effective business practices and risk management can assist in the rebuttal or greatly increase the defensibility of a potential claim for professional negligence.

Michael Mortimer MRICS is a Senior Risk Management consultant with Travelers Insurance Co Ltd - the official provider of risk management services to RICS members. For further information on risk management or professional indemnity insurance please visit the Travelers website.