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Cases in Business Ethics

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Introduction

Cruickshank, Garth & Romano (CGR) is a new real estate appraisal and consulting firm formed by Chris Cruickshank, Wayne Garth, and Richard Romano. The firm provides not only residential, industrial and commercial evaluations, but also consulting services and feasibility analyses in the National Capital Region (NCR). Richard and his two partners have worked for one of the four major NCR firms and are well known in the local real estate community. And recently, Richard has just completed a preliminary evaluation of a property for Watson & Musico, which is one of NCR’s major developers and property owners. However, John Mortimer from Watson & Musico is unsatisfied with the Richard’s evaluation price, he asks Richard to raise the value, otherwise they have no business. This situation is difficult for Richard, because he wants to satisfy John’s needs, but at the same time, he can’t ignore the ethical issue to do that.

Stakeholders

Richard Romano is a principal of CGR, and he is an Accredited Appraiser Canadian Institute (AACI) candidate. Richard has eight years of experience and is recognized as one of Canada’s leading real estate experts. He wants to complete the appraisal according to his best estimate of the current market value of the property, but he can’t afford losing business with Watson & Musico (WM) for not satisfying their needs. Success in project with WM will be a major boost to CGR, it is also Richard’s responsibility to keep his client’s interest in mind. Anyway, he wants to satisfy his client’s needs without breaking his image of profession. John Mortimer controls WM and he is well known in the NCR for his abrasive style and aggressive approach in business dealings. Because of the depressed real estate market and WM’s aggressive leasing policy, WM have a highly restricted cash flow. So WM plan to refinance all of its properties to reduce debt service requirements and to generate cash. While John feels Richard’s evaluation value for his property is underestimated, he forces Richard to raise the price. CGR is also a stakeholder because Richard’s decision is critical to CGR’s development. It aims primarily at owners of smaller properties, but smaller developers cannot provide a sufficient revenue base alone to ensure CGR’s success. As one of the NCR’s major developers and property owners, WM will bring far-reaching impact on CRG. So success in business with WM would be critical to CRG’s future. The lending institute is a stakeholder because it will take risk if appraiser’s evaluation for property is overestimated. And no matter how much an evaluation pleased a client, acceptance by a lending institution could mean the difference between success and failure. So Richard should consider the interests of lending institutions when he makes decisions. The Appraisal Institute of Canada (AIC) is a professional body which regulates the industry and serves its members. It publishes a Code of Ethics, Rules of Professional
Conduct, and Standards of Professional Practice to govern appraiser’s actions. If Richard did something unethical, it would be bad for AIC’s Professional image.

Ethical Issues

Richard has responsibility to CGR and himself. Satisfying the requirements of WM could have far-reaching impact on CRG’s success and its ability to develop new clients. And he will benefit from the success too. But the problem is that Richard may engage in an unethical way to increase the value of properties from WM without considering the current market value of that. Responsibility to lending institution. The lending institution will suffer risk if Richard overestimates WM’s property. As a professional appraisal expert, Richard should be responsible for his evaluation, providing misleading information to get a higher value from bank is unethical. Responsibility to WM. WM needs to refinance its properties to reduce its debts and to generate cash. So Richard is required to raise at a value at least as high as the previous year. Professional standards. AIC has published a Code of Ethics, Rules of Professional Conduct, and Standards of Professional Practice to govern appraisers’ actions. Appraisers who ignored these regulations to just satisfy their personal interests are considered unethical.

What has changed?

CGR is a new real estate appraisal and consulting firm in NCR. And NCR is more resistant to economic fluctuations than other urban areas. This situation makes the NCR real estate market very attractive to large institutional investors. However, the NCR is not entirely immune from the poor real estate marketing. Since the commercial office market has been significantly over-built in previous decade, vacancy rates are very high, and revenues and profits are very low. So WM, one of NCR’s major developers, has to provide extremely attractive packages to clients. WM has been rumored to have a highly restricted cash flow because of its aggressive leasing policy. That’s why WM has to refinance all of its properties to reduce its debt service requirements and to generate cash. However, Richard’s evaluation value for WM’s property does not satisfy John Mortimer’s requirements. WM’s property is estimated at value of $30.5 million after Richard’s evaluation, but John asks Richard to come up with a value of $35 million. AIC is actively trying to upgrade its standards and the profession’s image. It publishes several regulations to restrict appraiser’s action. Appraisers could be under heavy pressure to adjust values to meet client needs. Therefore, Richard should follow AIC regulations and satisfy client’s needs as much as possible at the same time. No matter how much an evaluation pleased a client, acceptance by a lending institution could mean the difference between success and failure. So firms have to meet both industry norms and ACI standards. In the NCR, appraisers have been affected by the economic downturn. However, they still maintain some strength in earning, so there is lots of demand for refinancing appraisals.

Alternative # 1

The first alternative is to refuse raising the value, in which case WM would likely take its business elsewhere and give CRG a reputation as being hard to deal with. CRG also lose an opportunity to develop new clients. It does harm to WM too, because WM cannot get enough money to refinance all of its property this time. On the other hand, lending institutions will not take risk of underestimation of client’s property. And Richard is doing his job ethically; he will not break his reputation for choosing this option.

Alternative # 2

The second alternative is to raise the value to $35 million by ignoring the side agreements and using the full face rental rates in calculation. If the bank didn’t notice the side agreements, it would be the most profit option for Richard. Even if the agreements did become public, Richard could plausibly deny that he had ever seen them. In this situation, WM will be satisfied as they can refinance all of their properties. And there will be new clients waiting for CRG. On the other hand, bank will suffer risk from Richard’s overestimation of WM’s property; it is also not ethical to satisfy personal and client’s interests without thinking other relevant institutions’ business. Richard should not forget his professional responsibility either.

Alternative # 3

The third alternative is a compromise, which would give a value between $30 million and $35 million, and could be accomplished by incorporating the increase in cash flows once the side agreements had expired. Richard is confident that he could convince the WM’s bank of the property’s incremental value. And his partners would fully support him. However, John Mortimer in WM is well-known by his abrasive style and aggressive approach in business dealings, so Richard feels it is hard and time-consuming to convince Mr. Mortimer.

Choices of Alternatives

Richard should choose to compromise because it is a best way to keep ethical as well as maximize interests for all stakeholders. Although John may reject Richard’s suggestion, it is better than another two alternatives. Richard has confidence to convince banks and he will try his best to convince WM too. If this works, CRG will benefit from the success to increase its revenue; WM will have an opportunity to refinance its properties; Bank will not suffer risk from misleading estimation; And for Richard, he will not destroy his own professional image. Although it is not the best solution for maximizing profit, it represents Richard has considered ethical issues. If Richard chooses to increase value to $35 million, WM may continue doing business with CGR like this, which would be big troubles eventually. Therefore it is important for Richard to show his baseline.

Reference
Sinclair, D (2002). Cruickshank, Garth & Romano. In D. Sharp (Ed.), Cases in Business Ethics (p47-55). California: Thousand Oaks

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