7005 1 UNITED STATES OF AMERICA Before the 2 OFFICE OF THRIFT SUPERVISION DEPARTMENT OF THE TREASURY 3 In the Matter of: ) 4 ) UNITED SAVINGS ASSOCIATION OF ) 5 TEXAS, Houston, Texas, and ) ) 6 UNITED FINANCIAL GROUP, INC., ) Houston, Texas, a Savings ) 7 and Loan Holding Company ) ) OTS Order 8 MAXXAM, INC., Houston, Texas, ) No. AP 95-40 a Diversified Savings and ) Date: 9 Loan Holding Company ) Dec. 26, 1995 ) 10 FEDERATED DEVELOPMENT CO., ) a New York Business Trust, ) 11 ) CHARLES E. HURWITZ, ) 12 Institution-Affiliated Party ) and Present and Former Director ) 13 of United Savings Association ) of Texas, United Financial Group,) 14 and/or MAXXAM, Inc.; and ) ) 15 BARRY A. MUNITZ, JENARD M. GROSS,) ARTHUR S. BERNER, RONALD HUEBSCH,) 16 and MICHAEL CROW, Present and ) Former Directors and/or Officers ) 17 of United Savings Association of ) Texas, United Financial Group, ) 18 and/or MAXXAM, Inc., ) ) 19 Respondents. ) 20 21 TRIAL PROCEEDINGS FOR 11-14-97 22 7006 1 A-P-P-E-A-R-A-N-C-E-S 2 ON BEHALF OF THE AGENCY: 3 KENNETH J. GUIDO, Esquire (Not present) Special Enforcement Counsel 4 PAUL LEIMAN, Esquire SCOTT SCHWARTZ, Esquire 5 BRUCE RINALDI, Esquire RICHARD STEARNS, Esquire (Not present) 6 and BRYAN VEIS, Esquire (Not Present) of: Office of Thrift Supervision 7 Department of the Treasury 1700 G Street, N.W. 8 Washington, D.C. 20552 (202) 906-7395 9 ON BEHALF OF RESPONDENT MAXXAM, INC.: 10 FRANK J. EISENHART, Esquire 11 of: Dechert, Price & Rhoads 1500 K Street, N.W. 12 Washington, D.C. 20005-1208 (202) 626-3306 16 13 DALE A. HEAD (in-house) 14 Managing Counsel MAXXAM, Inc. 15 5847 San Felipe, Suite 2600 Houston, Texas 77057 16 (713) 267-3668 17 ON BEHALF OF RESPONDENT FEDERATED DEVELOPMENT CO. AND CHARLES HURWITZ: 18 RICHARD P. KEETON, Esquire 19 KATHLEEN KOPP, Esquire of: Mayor, Day, Caldwell & Keeton 20 1900 NationsBank Center, 700 Louisiana Houston, Texas 77002 21 (713) 225-7013 22 7007 1 ON BEHALF OF RESPONDENT FEDERATED DEVELOPMENT CO., CHARLES HURWITZ, AND MAXXAM, INC.: 2 JACKS C. NICKENS, Esquire 3 of: Clements, O'Neill, Pierce & Nickens 1000 Louisiana Street, Suite 1800 4 Houston, Texas 77002 (713) 654-7608 5 ON BEHALF OF JENARD M. GROSS: 6 PAUL BLANKENSTEIN, Esquire 7 MARK A. PERRY, Esquire of: Gibson, Dunn & Crutcher 8 1050 Connecticut Avenue, N.W. Washington, D.C. 20036-5303 9 (202) 955-8500 10 ON BEHALF OF BERNER, CROW, MUNITZ AND HUEBSCH: 11 JOHN K. VILLA, Esquire MARY CLARK, Esquire 12 PAUL DUEFFERT, Esquire of: Williams & Connolly 13 725 Twelfth Street, N.W. Washington, D.C. 20005 14 (202) 434-5000 15 OTS COURT: 16 HONORABLE ARTHUR L. SHIPE Administrative Law Judge 17 Office of Financial Institutions Adjudication 1700 G Street, N.W., 6th Floor 18 Washington, D.C. 20552 Jerry Langdon, Judge Shipe's Clerk 19 REPORTED BY: 20 Ms. Marcy Clark, CSR 21 Ms. Shauna Foreman, CSR 22 7008 1 2 EXAMINATION INDEX 3 Page 4 5 WAYNE WINTERS 6 Examination by Mr. Rinaldi...............7009 7 Cross-Examination by Mr. Villa...........7041 8 Redirect-Examination by Mr. Rinaldi......7062 9 Cross-Examination by Mr. Nickens.........7072 10 Recross-Examination by Mr. Villa.........7073 11 DOUGLAS LOVELL 12 Examination by Mr. Leiman................7075 13 14 15 16 17 18 19 20 21 22 7009 1 P-R-O-C-E-E-D-I-N-G-S 2 (9:00 a.m.) 3 THE COURT: Be seated, please. We'll 4 be back on the record. Mr. Rinaldi. 5 MR. LEIMAN: We would call Wayne 6 Winters to the stand. He seems to have 7 disappeared. I'm sorry, Your Honor. I turned my 8 back on the witness. 9 10 11 WAYNE WINTERS, 12 13 called as a witness and having been first duly 14 sworn, testified as follows: 15 16 THE COURT: Be seated, please. 17 18 EXAMINATION 19 20 21 Q. (BY MR. LEIMAN) Would you state your 22 full name for the record, sir? 7010 1 A. Wayne C. Winters. 2 Q. Mr. Winters, did there come a time when 3 you were involved as a director of United Savings 4 Association of Texas? 5 A. That's correct. 6 Q. Approximately at what point in time did 7 you become a director of United Savings 8 Association of Texas? 9 A. At the time of the merger of Houston 10 First and United in May '83. 11 Q. Okay. And let me show you a copy of 12 what's been marked as A1078. These are the 13 minutes of the board of directors of USAT dated 14 May the 26th, 1983. Would you take a look at 15 that? And in particular, directing your attention 16 to the third full paragraph, it states 17 "Mr. Bentley welcomed the following new director 18 to join the board pursuant to the merger with 19 First American Financial of Texas, Inc." 20 Do you see that? 21 A. Yes. 22 Q. And was this then the first board -- 7011 1 the first time you appeared in a board of 2 directors meeting of USAT? 3 A. I'm sure it was. 4 MR. VILLA: Just as a point of 5 clarification, I believe it's United Financial 6 Group that you're showing him. Right? 7 MR. LEIMAN: I'm sorry. 8 Q. (BY MR. LEIMAN) A board of directors 9 meeting of United Financial Group? 10 A. Yes. 11 Q. So, you -- you were also on the board 12 of directors of United Financial Group, the 13 holding company of USAT? 14 A. Yes. 15 Q. Okay. And did you subsequently also 16 become a member of the board of USAT, the 17 subsidiary? 18 A. Yes. 19 Q. Was that at or about the same point in 20 time? 21 A. I assume so. I don't recall. 22 Q. I'm handing you a copy of what's been 7012 1 previously marked as A1079. This is a board of 2 directors meetings of United Savings Association 3 of Texas dated July 29th, 1983. And specifically, 4 I would draw your attention to, again, the third 5 full paragraph where it makes reference that 6 "Mr. Bentley explained, since this was the first 7 meeting of the association board of directors 8 following the merger of First American Financial 9 of Texas, the first order of business was the 10 election of three directors." 11 Do you see that? 12 A. I do. 13 Q. And you were among the three directors 14 that were elected; is that correct? 15 A. That's correct. 16 Q. Now, who was -- who were the other two 17 directors that were elected with you? Were you 18 familiar with them at the time? 19 A. I was. 20 Q. And who were they? 21 A. Marry Grigsby and Steve Silverman. 22 Q. Okay. And how were you familiar with 7013 1 Ms. Grigsby? 2 A. Well, she was on the board of Houston 3 First. 4 Q. And at the point in time in the merger, 5 then she assumed the position on the board of 6 USAT? 7 A. It looks like she was elected vice 8 chairman of United Savings. 9 Q. Okay. And as for Mr. Silverman, had 10 you known him previously, as well? 11 A. Yes. 12 Q. And what had your prior relationship 13 been with Mr. Silverman? 14 A. He was on the board of Houston First. 15 Q. So that all three of you went on the 16 board of USAT following the merger? 17 A. That's correct. 18 Q. Were there any other people from 19 Houston First that went on the board of USAT at or 20 about that time? 21 A. I don't remember, frankly. 22 Q. Okay. Well, we'll probably see some 7014 1 other names. And if that becomes an issue, then 2 we can go into that. 3 Let me ask you this: Before you went 4 on the board of USAT, could you describe for the 5 Court what your prior educational experience had 6 been? 7 A. In the savings and loan business? 8 Q. Well, let's just start with your 9 educational experience. 10 MR. LEIMAN: Your Honor, I would move 11 to admit A1079. That's the board of directors 12 meeting of USAT dated June 29th, 1983. 13 MR. VILLA: No objection. 14 THE COURT: Received. 15 A. Well, I have a master's degree in 16 business administration from North Texas 17 University. And after graduation, I went to work 18 for Peat Marwick Mitchell, a public accounting 19 firm in 1957. And in 1961, I joined First Federal 20 Savings of Dallas until 1976, at which time I 21 joined American Savings of Houston. In 1979, 22 American Savings of Houston was merged into 7015 1 Houston First Savings and in '83, Houston First 2 was merged into United. 3 Q. (BY MR. LEIMAN) Okay. Now, going 4 back to the point in time I guess -- I think you 5 said 1961 when you joined First Federal Savings of 6 Dallas, you indicated you stayed there until 7 approximately 1976? 8 A. Yes. 9 Q. And during that period of time, can you 10 describe generally what your positions were? 11 A. I held them all. I started out as -- 12 in a training program as a teller -- only because 13 I didn't know the business -- and held many 14 positions. My primary function was in the lending 15 area. 16 Q. Were you involved in loan 17 underwriting -- 18 A. Yes. 19 Q. -- for that institution? 20 A. Yes. 21 Q. And after you left that institution, I 22 believe you indicated you went to American Savings 7016 1 of Houston; is that correct? 2 A. That's correct. 3 Q. And you remained there for 4 approximately how long? 5 A. Until we merged with Houston First in 6 1979. 7 Q. Okay. And what was your position or 8 positions at American Savings of Houston? 9 A. I was the CEO. 10 Q. And in that capacity, were you involved 11 in the oversight of the lending activities of -- 12 A. That's correct. 13 Q. Let me get the question out. Of 14 American Savings of Houston? 15 A. American Savings. 16 Q. And what would your duties have 17 consisted of with respect to the loan underwriting 18 function? 19 A. Well, I was the CEO and had primary 20 overall responsibility for any loan that was made. 21 Q. And what was the nature of the loans 22 that were being made in those days by that entity? 7017 1 A. For the most part, single family. 2 Q. Okay. Were they also making loans for 3 development purposes? 4 A. Well, when I went there, American 5 Savings had two joint venture development loans 6 outstanding. And so, we maintained those and 7 tried to wind them down as best we could. 8 Q. Now, after you left that institution 9 or -- I believe you said that institution, 10 American Savings of Houston, was merged into or 11 became Houston First American Savings? 12 A. Yes. 13 Q. How did that come about? 14 A. Through the merger. 15 Q. Okay. So, this was yet another merger? 16 A. Yeah. We merged -- well, merger. 17 Houston First bought American Savings, in effect. 18 They called it a merger, but it was a purchase. 19 Q. Okay. And following the purchase of 20 American Savings of Houston by Houston First 21 American Savings, what position did you then 22 occupy at the new institution? 7018 1 A. Initially, executive vice president 2 and, before long, president. 3 Q. Okay. And were you involved in the 4 oversight of lending activities at that 5 institution, as well? 6 A. I was involved in the loan committee, 7 yes. 8 Q. And then did there come a time when you 9 resigned from Houston First American Savings? 10 A. When -- well, when Houston First was 11 purchased by United Savings, that's when my 12 employment ended. 13 Q. Okay. Now, you say it was purchased. 14 What -- do you recall generally what happened with 15 respect to the merger of those two institutions? 16 A. Well, they -- I'm sure they purchased 17 the stock or traded the stock of First American 18 into United Financial Group. And there is a 19 merger -- a big merger agreement, and I haven't 20 looked at it in 12 or 13 years, 15 years. 21 Q. How did the merger first come up if, 22 you recall? 7019 1 A. Well, it first came up in '80 or '81 2 when Sonny Bentley and I, who was the president of 3 United Savings, got together. If you recall, back 4 in those days, the interest rate for 18, 5 19 percent and for every dollar we loaned out, we 6 were losing 8, 9 cents because of high interest 7 rates. And we were restricted on the interest we 8 could charge a borrower because the usury law. 9 So, you know, every day we opened the doors, we're 10 going to lose that much more. So, we decided "Can 11 we put these two institutions together and see if 12 there will be a savings of some kind through 13 either consolidation or branches, more efficient 14 operations, or what have you to try to salvage the 15 associations?" 16 Q. Okay. And as a result of putting the 17 two institutions together, did you assume any 18 position at USAT following the merger? 19 A. I did not. 20 Q. Did you engage in any kind of 21 consulting activity with them? 22 A. I did. As part of the merger 7020 1 agreement, I was given a 10-year consulting 2 agreement with United Savings of Texas. 3 Q. And what was the nature of the 4 consulting work? 5 A. Whatever they wanted to ask me, I was 6 available to consult with them on. 7 Q. Okay. And it was at this same time 8 that you were appointed to the board or you became 9 a board member of UFG and then later USAT? 10 A. That's correct. 11 Q. Now, following -- did there come a 12 point in time when you departed from USAT? 13 A. Yes. 14 Q. Okay. And following your -- can you 15 just describe for the Court generally the 16 circumstances following -- relating to your 17 departure from USAT? 18 A. Well, I departed in mid-'86 or 19 thereabouts. And I was contacted by the Federal 20 Home Loan Bank in Dallas, Mr. Roy Green, the 21 president of the bank. He wanted me to come in to 22 Independent American Savings, another savings in 7021 1 Dallas, to be the chairman of the board to try to 2 help preserve the assets of this association that 3 was being -- you know, it was losing a lot of 4 money. And they needed someone in there that 5 could appoint the board and try to stop the 6 bleeding, so to speak. 7 Q. Okay. And did you then assume the 8 position at Independent American Savings? 9 A. I was a consultant; and I believe in 10 the latter stages, I took the president's 11 position. I'd have to check my records. I know I 12 was a consultant for a long time. 13 Q. Okay. And in -- 14 A. Chairman of the board, basically, is 15 what it amounts to. 16 Q. Okay. And in connection with your work 17 at Independent American Savings, can you describe 18 what your duties were? 19 A. What I did there? 20 Q. Yeah. 21 A. I made sure that, as best we could, 22 that the assets that we had remaining, that we 7022 1 kind of kept intact. 2 Q. And did you have any involvement in the 3 real estate lending side of things? 4 A. Well, we didn't lend anything; but I 5 had some involvement in trying to protect what we 6 had. 7 Q. Okay. And when you say "trying to 8 protect what you had," what kind of things were 9 you involved in? 10 A. Well, I mean, they had raw land. They 11 had shopping centers and all kinds of real estate. 12 Q. And what were your duties with respect 13 to that real estate? 14 A. Well, we wanted to make sure that if 15 some of it came up for sale, that we got a fair 16 price or if a borrower wanted to renegotiate his 17 loan, that the association was protected as best 18 it could if that were to happen. 19 Q. And did you consider yourself as having 20 an expertise in the area of real estate 21 management? 22 A. Well, I had been doing it a long time. 7023 1 Q. Now, when you went on the board of UFG 2 and USAT, apart from the consulting aspect of it, 3 what duties did you have as a board member? 4 A. Well, the regular duties of any board 5 member, to act upon whatever came before the 6 board. 7 Q. And how often did the boards meet in 8 those days? Do you recall? 9 A. I think it was every 90 days or so. 10 Q. And were you living in Houston at the 11 time, or were you commuting to work? 12 A. I was living in Houston for '83, and I 13 moved to the Dallas area in early '84. 14 Q. Do you recall -- did USAT have a senior 15 loan committee? 16 A. I believe they did, yes. 17 Q. Okay. And do you recall generally what 18 the function of that committee would have been? 19 A. To approve the loans that the 20 association made. 21 Q. Okay. I'm handing you a copy of what's 22 been previously marked as A1098. I'll hand a copy 7024 1 up to the Court. These are the minutes of United 2 Savings Association of Texas board dated 3 August 29th, 1984. 4 Sir, I would direct your attention to 5 the last paragraph before the numbered paragraph 6 Roman Numeral I where it talks about the board 7 discussing a proposed revision of the delegation 8 of lending authority to the senior loan committee. 9 Do you see that? 10 A. I do. 11 Q. Do you remember -- do you remember that 12 there came a time when the board considered 13 providing a stronger role for the senior loan 14 committee and reducing the regional approval 15 authority? 16 A. I don't specifically remember; but 17 reading this, I can understand it, yeah. I mean, 18 I can understand the need for it. 19 Q. Okay. Now -- and then turning to the 20 next page, it indicates at Roman Numeral II, 21 "Resolved that the board of directors of United 22 Savings Association of Texas hereby delegates to 7025 1 the senior loan committee the responsibility to 2 approve all loans made or purchased by the 3 association." 4 Do you see that? 5 A. I do. 6 Q. And then below that, it talks about the 7 limits -- under Part A, it says "The senior loan 8 committee shall directly consider and approve all 9 loans in excess of the amounts designated in the 10 following categories of loans." And it then goes 11 on to list a number of categories and it generally 12 appears that most of the categories of loans over 13 $500,000 are delegated to the senior loan 14 committee. 15 Do you see that? 16 A. I do. 17 Q. And then below that at Paragraph C, it 18 says "Any loan to one borrower guaranty in excess 19 of $70 million shall be presented to the board of 20 directors for consideration after receiving a 21 favorable recommendation from the senior loan 22 committee." 7026 1 Do you recall that provision regarding 2 the authority of the senior loan committee? 3 A. I do. 4 Q. Okay. Did you approve or were you in 5 favor of that provision at about the point in time 6 that this policy was adopted? 7 A. I disagreed with the $70 million. I 8 felt it was too high. 9 Q. Okay. Now, I direct your attention 10 back to the first page. It talks about that the 11 following resolutions were unanimously approved. 12 You say you disagreed with it. 13 Do you recall whether you actually 14 voted against the delegation? 15 A. I don't recall. I just recall from a 16 philosophy standpoint disagreeing and expressing 17 my disagreement. 18 Q. Okay. Can you elaborate on that? Why 19 was it that you were opposed to the notion of the 20 70-million-dollar limitation on the senior loan 21 committees -- 22 A. Too much risk in one deal based on net 7027 1 worth. 2 Q. And -- 3 A. In other words, it's the general 4 philosophy. My lending philosophy has always been 5 to spread the risk when you make loans. Make sure 6 that if a loan goes bad, it doesn't harm your net 7 worth position or whatever. 8 Q. Was it your view that if an entity was 9 going to make a loan of $70 million, that that 10 ought to be something that the full board should 11 consider because of the risk? 12 MR. VILLA: Objection. He's leading 13 the witness, Your Honor. 14 THE COURT: Denied. 15 A. I didn't particularly have a view of it 16 other than I just sort of disagreed with the 17 amount. 18 Q. (BY MR. LEIMAN) Okay. 19 MR. LEIMAN: I would move to admit 20 A1098, Your Honor. 21 MR. VILLA: No objection. 22 THE COURT: Received. 7028 1 Q. (BY MR. LEIMAN) Was it your 2 understanding that if the USAT was going to make a 3 loan in excess of $70 million that it would 4 require the approval of the board? 5 A. Yes. 6 Q. Okay. Now, do you know whether this 7 was -- this policy remained in effect through the 8 period of time that you remained at USAT; that is, 9 the 70-million-dollar lending authority of the 10 senior loan committee? 11 A. I'm sorry. Re-ask the question. 12 Q. Do you know whether this policy 13 regarding lending authority of the savings -- the 14 senior loan committee remained in effect 15 throughout your tenure at USAT? 16 A. I don't have any independent 17 recollection one way or the other. I assume that 18 it had since it had been approved that way. 19 Q. I'm handing you a copy of what's been 20 previously marked as A1110 and has been admitted 21 into evidence. It's the minutes of the meeting of 22 the board of directors of USAT dated February the 7029 1 13th, 1986. I'd ask you to take a look at that 2 document. And in particular, directing your 3 attention to Page 7, it indicates there at Page 7 4 and then back over onto the next page, Page 8 at 5 Paragraph C, that any loan to one borrower 6 guarantor in excess of $70 million shall be 7 presented to the board of directors for 8 consideration after receiving a favorable 9 recommendation from the senior loan committee." 10 Do you see that? 11 A. I do. 12 Q. Was it your understanding that on loans 13 of over $70 million, the senior loan committee 14 would make a recommendation to the board? 15 A. What it says, "it shall be presented to 16 the board after a favorable recommendation." So, 17 I assume that if it were unfavorable, it wouldn't 18 come to the board. 19 Q. Well -- but if there were a favorable 20 recommendation, then it would go to the board for 21 the board's approval? 22 A. That's what this says, yes. 7030 1 Q. And do you recall whether there was 2 also a real estate and joint venture committee to 3 consider joint venture arrangements between USAT 4 and joint ventures? 5 A. I have no independent recollection of 6 that. It may have been. It's just something I 7 don't remember. 8 Q. Okay. Now, directing your attention 9 back to Page 7, it lists on there a number of 10 people that were to serve on the senior loan 11 committee in 1986. And specifically, who is 12 Mr. Jenard Gross? 13 A. Mr. Gross -- I would have to look at 14 the minutes for me to be sure. I thought he was 15 president of United Savings, but I may be wrong. 16 He may be the CEO. 17 Q. Okay. And do you remember David 18 Graham? 19 A. I do. 20 Q. And who was David Graham? 21 A. He was, as I recall, a loan officer. 22 Q. And was Mr. Gross someone you looked to 7031 1 for advice regarding real estate matters? 2 A. Did I look to? 3 Q. Yes. 4 A. No. 5 Q. Why not? 6 A. Well, I didn't need anybody. 7 Q. Why didn't you need anybody, in your 8 opinion? 9 A. Because I felt I had enough experience 10 that I didn't need somebody else to tell me about 11 a loan. 12 Q. Was there anyone else on the board of 13 USAT that had the level of experience in real 14 estate lending that you had? 15 A. I don't know. 16 Q. Based upon your service on the board, 17 were you aware of anyone else that had that level 18 of experience? 19 A. It wasn't an area that came up. 20 Q. Did you consider Mr. Gross to be 21 knowledgeable on the question of real estate 22 underwriting? 7032 1 A. I didn't know Mr. Gross that well, and 2 I didn't know his background when he came on 3 board. And so, only meeting once every 90 days, 4 I'm just not qualified to indicate whether -- you 5 know, what he did or didn't know. 6 Q. Were you aware of what his background 7 had been prior to coming to USAT? 8 A. Well, it was my understanding -- I 9 thought he had owned a savings and loan or part of 10 a savings and loan and that he had built some 11 apartments, I recall. But I didn't know him. 12 Q. Okay. Now, did there come a point in 13 time when, as a member of the board, a matter was 14 brought to you for the approval of the board of an 15 80-million-dollar loan known as Park 410? 16 A. Yes, correct. 17 Q. Okay. Can you describe for the Court 18 what you recall of that? 19 A. Well, I don't recall specifically the 20 details. I think it was a project near 21 San Antonio. I don't remember the parties 22 involved, other than the fact that I do remember 7033 1 that I voted against it because I didn't feel 2 there was enough equity in the project by the 3 borrower and that, also, it's too much of a 4 concentration of -- too much money in one deal. 5 It went against my theory of spreading the risk. 6 Q. As a director, apart from the Park 410 7 loan, were there any other real estate loans that 8 were brought to the board for the board's 9 approval? 10 A. I'd have to review the minutes to know 11 that. 12 Q. You don't have any independent 13 recollection of any other loans being brought? 14 A. I just don't recall. 15 Q. I'm handing you a copy of what's marked 16 as A1113. 17 MR. LEIMAN: Has this is been 18 previously admitted? 19 MR. VILLA: Yes. Tab 655. 20 Q. (BY MR. LEIMAN) And I would direct 21 your attention to the last page of that document, 22 and there are four paragraphs that appear at the 7034 1 top of that page. If you'd take a moment to read 2 them, I have a couple of questions for you. 3 MR. VILLA: Excuse me. Could you just 4 give us the Bates stamp number of the page you're 5 looking at? 6 MR. LEIMAN: Yes. It's US3003147. 7 A. Okay. 8 Q. (BY MR. LEIMAN) Does this appear to 9 be the board of directors meeting at which you 10 recall the 80-million-dollar Park 410 loan was 11 presented to the board? 12 A. This loans to officers and employees? 13 That's the last page. 14 Q. Oh, I'm sorry. I'm talking about the 15 last -- that's an attachment. It would be the 16 Bates stamped US3003147. It's the previous page. 17 It's the last page of the notes. I apologize. 18 The first four paragraphs. 19 A. Let me read it. Are we talking about 20 Page 5? 21 Q. That is correct. 22 A. All right. I'm sorry. Now, what is 7035 1 the question? 2 Q. Does this appear to be the loan that 3 you referred to earlier -- 4 A. Yes. 5 Q. -- that you recall having objected to? 6 A. That's correct. 7 Q. Now, when -- do you recall what kind of 8 presentation was made to the board regarding the 9 loan? 10 A. Not specifically, no. 11 Q. Do you recall what kinds of 12 documentation were provided to the board for the 13 board to consider for purposes of passing on the 14 appropriateness of the loan? 15 A. I'm sorry. I don't recall 16 specifically. Normally, you know, a whole package 17 is presented. You know, what the deal is, the 18 appraisal, whatever. 19 Q. Okay. And when you say "normally," was 20 this -- this was the only loan that was presented 21 to you as a -- 22 A. Well, a normal loan presentation. 7036 1 Whether it be a home loan or whatever, it's normal 2 to present an appraisal, a package, what the 3 purchase price is, the down payment, who the 4 borrower is, what have you. And I have to assume 5 that was -- that was submitted with this, although 6 I have no independent recollection of it. 7 Q. And when you talk about what normal 8 practice is, are you basing that upon your 9 experience as a savings and loan lender -- 10 A. Yes. 11 Q. -- at other institutions? 12 A. Yes. 13 Q. And in connection with a loan this 14 size, would you have expected that there would 15 have been a staff analysis of the proposed loan? 16 A. Yes. 17 Q. And what would be included in that 18 staff analysis generally? 19 A. Well, an appraisal, income projection, 20 net worth of the borrower. More important, cash 21 down payment by the borrower. That's what I 22 looked for. How much equity does this guy have in 7037 1 this deal is what it amounts to. 2 Q. Okay. Now, you've said that several 3 times. Why was equity of importance to you? 4 A. Well, it's real simple. The more 5 somebody has into something, the more they are 6 going to try to protect it, the more interest they 7 have. The more likelihood they will make it work. 8 Q. Okay. Was that the only objection you 9 had, is the amount of equity that the lender had 10 in this particular transaction? 11 A. Well, no. As I said earlier, also, as 12 a general philosophy, I objected to putting that 13 much risk in any one deal. 14 Q. Now, were you aware that the lender -- 15 it doesn't indicate it here in the notes -- that 16 the lender was putting up a letter of credit? 17 A. I may have been. I don't recall. 18 Q. Okay. And you said that you thought 19 that generally, this was too large a loan; is that 20 correct? 21 A. In my opinion, I just think it's a 22 great deal of loan based on the net worth. 7038 1 Q. Okay. And what do you mean by that, 2 "too large a loan based on the net worth"? 3 A. Well, I don't recall without looking at 4 the records what the net worth of the association 5 was, but it was a -- the amount of this loan was a 6 substantial portion of the existing net worth of 7 the association at that time. 8 Q. Okay. And from your perspective or in 9 your opinion, if the loan represented a 10 substantial portion of the lender's net worth, why 11 was that an undesirable circumstance? 12 A. It's the same reason I gave you 13 earlier. Spread the risk. 14 Q. And when you say "spread the risk," did 15 you prefer to make -- engage in alternative kinds 16 of lending to large loans? 17 A. Yeah. Not large loans. I didn't like 18 the large loans. 19 Q. In lieu of large loans, what would your 20 preference have been? 21 A. Small loans. 22 Q. Now, at the time that you were asked to 7039 1 approve the loan, was it your understanding that 2 the loan had not been disbursed? 3 A. I didn't have any recollection one way 4 or the other. 5 Q. Okay. Were you aware that, in fact, 6 prior to the loan being presented to the board, 7 some $45 million had already been disbursed on the 8 loan? 9 A. If I was, I don't recall it. I just 10 don't recall. 11 Q. Do you recall -- that didn't come up in 12 the discussion of the loan, to your recollection? 13 A. If it did, I don't recall it. 14 Q. At the time the loan was presented to 15 you, was it your understanding you were being 16 asked to approve an 80-million-dollar loan? 17 A. Yes. 18 Q. Okay. Now, it does indicate in the 19 minutes that the senior loan committee on 20 March 17th, 1986 -- and I'm reading from Page 5 -- 21 "A loan in the amount of $80 million with the 22 amount in excess of 70 million subject to the 7040 1 approval of the board." 2 Was it your understanding that the 3 board was being asked to approve the entire 4 80-million-dollar loan or just 10 million of the 5 loan? 6 A. I guess I don't have an independent 7 recollection, but if the -- I will say that if the 8 loan committee itself could approve a 9 70-million-dollar loan and that had been the 10 amount of the loan, they wouldn't have been to the 11 board. 12 Q. Did you -- you indicated that you left 13 USAT shortly after -- shortly following this date. 14 Correct? 15 A. I left in mid-'86 or so. 16 Q. Did you have any further involvement or 17 discussion regarding this particular transaction 18 after the board meeting on the date you left with 19 anyone at USAT? 20 A. No. 21 Q. Let me show you what's been marked as 22 T -- strike that. 7041 1 MR. LEIMAN: I have no other questions 2 for the witness, Your Honor. 3 THE COURT: Cross-examination? 4 MR. VILLA: Yes, Your Honor. 5 6 CROSS-EXAMINATION 7 8 (9:39 a.m.) 9 Q. (BY MR. VILLA) Good morning, 10 Mr. Winters. I'm John Villa. 11 A. Good morning. 12 Q. We met last night briefly. I represent 13 four of the respondents in this case: Mr. Crow, 14 Mr. Berner, Ronald Huebsch, and Dr. Barry Munitz. 15 I'm going to ask you questions for about the next 16 five minutes. We'll get you out before the break. 17 I'm sure you're happy about that. 18 Mr. Winters, we were talking a little 19 bit about the question of the amount of the 20 delegation to the senior loan committee. Do you 21 remember that? 22 A. Yes. 7042 1 Q. Mr. Rinaldi asked you a few questions 2 about that. Let me ask you -- well, let me ask 3 you first: Do you recall that the issue of the 4 amount of authority to delegate the senior loan 5 committee came up from time to time at board 6 meetings? The question of the 70-million-dollar 7 delegation to the senior loan committee. 8 A. I don't know that it came up from time 9 to time. I mean, I think it came up to approve 10 it. 11 Q. I see. Do you have before you A1098? 12 I believe it's the August 29 -- 13 A. I do, uh-huh. 14 Q. And that's the one that Mr. Rinaldi 15 just asked you about. Right? 16 A. Yes, that's correct. 17 Q. And on Page 1 of that, it indicates 18 down in the second-to-the-last paragraph that the 19 resolution which authorizes, among other things, 20 the 70-million-dollar delegation to the senior 21 loan committee was unanimously approved. 22 Do you see that, sir? 7043 1 A. I do. 2 Q. Now, let me direct your -- at least at 3 that meeting, you didn't express dissent, a 4 dissenting vote from that. Is that right, sir? 5 A. Well, according to what I see, it is 6 not recorded. I expressed displeasure with it 7 and, as I said earlier, I very frankly don't 8 recall, you know, voting for it or against it. I 9 just don't recall. I did express displeasure with 10 the amount. 11 Q. I see. Did you have occasion at 12 subsequent board meetings to review the minutes of 13 prior meetings? Wasn't that a custom at United 14 Savings Association? 15 A. Yes, I did. 16 Q. So, you would have seen these meeting 17 minutes at the next meeting? 18 A. Yes. 19 Q. Had an opportunity to review them and 20 approve them? 21 A. Well, yeah. We -- yeah. I'm sure we 22 approved them, uh-huh. 7044 1 Q. Do you remember that the minutes were 2 kept by Mr. Jim Pledger, who was then the general 3 counsel of United Savings Association of Texas? 4 A. I guess he kept them. I don't recall. 5 Q. They may be signed in the back. 6 Perhaps we should look at the last page of 7 Exhibit 1098. 8 A. Okay. It looks like he kept them. 9 Q. He kept the minutes. 10 A. Okay. 11 Q. And it's also signed by Mr. Bentley, 12 the chairman? 13 A. Right. 14 Q. And you've known Mr. Bentley for a long 15 time; is that right? 16 A. 30 years. 17 Q. And you know that Mr. Pledger, after he 18 left United, has moved on to a distinguished 19 career as the Texas Savings and Loan Commissioner? 20 A. I found that out yesterday. 21 Q. So, let's move on to the next meeting. 22 MR. VILLA: Do we have Tab 128? Can 7045 1 you give him Exhibit A1102? 2 Q. (BY MR. VILLA) I'm going to show you, 3 sir, what are the minutes of the meeting of 4 February 14, 1985. 5 A. Okay. 6 Q. You were on the board in February of 7 1985; is that right, sir? 8 A. That's correct. 9 Q. And looking the first paragraph of 10 these minutes, you don't see yourself as being 11 absent from the meeting, do you, sir? 12 A. I see, uh-huh. 13 Q. You don't show yourself -- I'm sorry. 14 The minutes don't show you as being absent; is 15 that correct, sir? 16 A. That's what they -- yeah. They do not 17 show. 18 Q. Okay. 19 MR. VILLA: I move A -- I'm sorry. 20 This is already in evidence at Tab 128. 21 Q. (BY MR. VILLA) I'd like to direct 22 your attention to the page -- it says Page 7 of 26 7046 1 up at the top right-hand corner. 2 A. Okay. 3 Q. And it says US3003069. Do you see 4 that, sir? Do you have that page before you? 5 A. Yes, I do. 6 Q. The second-to-the-last paragraph says 7 "On motion of Mr. Whatley approved by Mister" -- 8 and I'm sure I'll get the name wrong -- 9 "Putegnat"? 10 A. You got me. 11 Q. Okay. "Putegnat, the following 12 resolution was unanimously approved." 13 Do you see that, sir? 14 A. I do. 15 Q. Now, it's a long resolution; so, I'd 16 like you to look at Page 70 through 71. That's 17 3070 through 71, the next page and the following 18 page. 19 A. Okay. 20 Q. And do you see there that the senior 21 loan committee is given certain authority and on 22 Paragraph C on Page 3071, the senior loan 7047 1 committee's authority is up to $70 million? 2 A. I agree. 3 Q. Do you see that? And at least these 4 minutes also say that it was unanimously approved. 5 Right? 6 A. Okay. 7 Q. And finally, the minutes that 8 Mr. Rinaldi showed you a little bit earlier which 9 is Exhibit A1110, the minutes of February 13, 10 1986, which I believe you have before you. And if 11 you look down at the -- about the sixth full 12 paragraph just above the word "executive 13 committee," do you see that, sir? 14 A. Yes, uh-huh. 15 Q. First of all, let's look at the top of 16 that page, at United Savings Association of Texas 17 February 1986. And you would have been a director 18 at that time; is that right? 19 A. That's correct, uh-huh. 20 Q. And it doesn't show you as being absent 21 from the meeting. Would you agree with that, sir? 22 The last -- I'm sorry. You have to answer 7048 1 verbally. It does not show you as being absent; 2 is that right? 3 A. It does not. 4 Q. Okay. About the sixth paragraph down, 5 it says -- seventh paragraph down, it says, quote, 6 "On motion by Dr. Munitz and seconded by 7 Dr. Kozmetsky, the following resolutions were 8 unanimously approved." And then we go on to 9 Page 7 and 8 of that document, which bears Bates 10 stamp Nos. US3003122 through 23. 11 A. Right. I see it. 12 Q. Again, the senior loan committee is 13 given authority up to $70 million? 14 A. Right. 15 Q. Is that right, sir? 16 A. That's correct. 17 Q. And all three of them that we've looked 18 at show unanimous approvals by the board of 19 directors; is that right? 20 A. Right. 21 Q. And you were present at all those 22 meetings? 7049 1 A. That's correct. 2 Q. Now, let me ask you a little bit about 3 the Park 410 meeting that you talked about in your 4 direct testimony by Mr. Rinaldi. 5 Do you recall, sir -- you talked a 6 little bit about the amount of equity. Do you 7 remember precisely how much equity the borrower 8 was putting into that loan? 9 A. I do not. 10 Q. As I recall, you don't even recall who 11 the borrower was; is that right? 12 A. Well, I didn't. And someone said it 13 was a gentleman by the name of Kosberg, I believe. 14 Q. Kosberg? 15 A. I believe that's what they said; but I 16 didn't remember, no. 17 Q. Who told you it was Kosberg? 18 A. I don't recall. It may have been you. 19 Q. I don't believe so, sir. 20 A. I don't recall. It was -- I learned it 21 yesterday. 22 Q. You learned it yesterday? 7050 1 A. Or maybe during my deposition. The 2 name came up anyway. 3 Q. I see. Now, as I recall, your 4 testimony with respect to the meeting is you 5 remember there was a presentation at the meeting. 6 Right? 7 A. Yes. 8 Q. And you don't recall the substance of 9 the presentation; is that right? 10 A. Well, no. I mean, we're talking 12 11 years ago of a loan that came up. And normally, 12 they present the facts of the deal and what they 13 want to approve. That's the normal situation. 14 But this specific loan and the details of it, I 15 just don't remember. 16 Q. Right. I'm not criticizing you, sir. 17 I just want to understand as opposed to the 18 substance of it, the procedure for the loan 19 approval is what I'm going to focus on now. 20 You remember a loan was presented, but 21 you don't remember the substance of the loan; is 22 that right? 7051 1 A. Other than the request for $80 million. 2 Q. Right. And there was a discussion at 3 the board meeting. You recall that, sir? 4 A. There was a discussion. 5 Q. And you spoke and expressed your views 6 on this issue? 7 A. I don't recall whether I expressed my 8 views or just voted against it. 9 Q. I see. 10 A. Or whether I did both. I don't recall. 11 Q. Do you recall that other people 12 expressed their views on the issue at the meeting? 13 A. I don't recall. 14 Q. If there was a discussion, was it 15 simply a presentation? Were there any questions 16 or answers? 17 A. I don't recall. 18 Q. You don't recall? 19 A. I just don't recall. 20 Q. There was a vote at the meeting. You 21 can tell by looking at the board meeting. 22 A. Yes. 7052 1 Q. And you were outvoted on the question 2 of whether or not to approve the loan by a vote of 3 9 to 1. Does that sound right? 4 A. I voted no, and I -- without looking at 5 the minutes, I'm not sure how everybody else 6 voted. 7 Q. Well, I believe the minutes that 8 Mr. Rinaldi showed you indicated that you were the 9 person who voted against the loan. 10 A. Okay. So, everybody else, I guess, 11 voted for it. 12 Q. So, the other nine directors voting -- 13 and let me just ask you: Do you remember these 14 people as being directors at the time: 15 Mr. Duckett? Do you remember him? L.L. Duckett 16 being a director? 17 A. Yeah. 18 Q. Mr. Edgar Keltner? 19 A. Yes. 20 Q. Mr. Stephen Silverman? 21 A. Yes. 22 Q. Mr. Barry Sterling? 7053 1 A. Yes. 2 Q. Mr. James Whatley, Jim Whatley? Do you 3 remember him? 4 A. Yes. 5 Q. Mr. Jenard Gross? 6 A. Yes. 7 Q. Dr. Barry Munitz? 8 A. Yes. 9 Q. Dr. George Kozmetsky? 10 A. Yes. 11 Q. And Mr. Jerry Williams? 12 A. Yes. 13 Q. So, the nine of them voted for it and 14 you voted against it. Now, sir, the minutes were 15 then prepared after the meeting; is that right? 16 A. I'm sorry. 17 Q. The minutes -- the minutes of this 18 meeting were prepared -- you've just seen the 19 minutes. Right? 20 A. Yes, uh-huh. 21 Q. And your vote and your views were 22 expressed in those minutes fairly, as you recall? 7054 1 A. I know I voted for it because too much 2 risk and not enough equity. 3 Q. I'm sorry. You voted against it? 4 A. Yes. I voted against it, yes. 5 Q. As far as you can tell by looking at 6 those minutes, did they fairly express your views? 7 A. Well, where are the minutes? 8 Q. They are A1 -- I'm sorry. I misspoke. 9 They are A1113, Tab 655. And if you look at 10 Page 5 of that. 11 A. Okay. Well, it says "objected to the 12 loan amount and value." And as I recall, I would 13 have added a third portion to that, and that's 14 probably equity. 15 Q. I see. Do you know what the value of 16 the property was? Do you recall what the value of 17 the property was? 18 A. I sure don't. 19 Q. And you don't recall what the equity 20 was that the borrower put in; is that right? 21 A. No. 22 Q. Now, did you have the opportunity 7055 1 afterwards to review these minutes? Was it 2 customary for these minutes to be reviewed at 3 subsequent board meetings? 4 A. I think they were probably presented at 5 the next meeting. I don't recall. You know, 6 whenever the next meeting was. 7 Q. Do you ever recall objecting to any 8 description in the minutes? 9 A. Not specifically, no. 10 Q. So, at this meeting, then, the Park 410 11 loan was presented. Some people expressed their 12 views, perhaps including you; is that right? 13 A. That's possible, yes. 14 Q. Possibly you expressed your views. And 15 a vote was taken, and the vote was accurately 16 recorded, to your knowledge? 17 A. As far as I know. 18 Q. And at least some of your views -- I'm 19 sorry. The substance of your decision and at 20 least some of your views were accurately reflected 21 in the minutes. Right? 22 A. Yes. And my main concern was I didn't 7056 1 think we should make the loan. So, I voted 2 against it. I didn't try to go into detail as to 3 what the minutes might say as to all the reasons 4 why. I knew that I voted against it, and that was 5 my main area of concern. 6 Q. Now, your philosophy of more small 7 loans rather than one large loan was consistent 8 with your background in savings and loans; is that 9 right? 10 A. That's correct. 11 Q. And that had been the philosophy that 12 you had pursued at Houston First American? 13 A. That's correct. 14 Q. Now, sir, after you departed from 15 United Financial Savings -- USAT and UFG, do you 16 recall -- strike that. 17 After you departed from UFG and USAT, 18 you did have a dispute with UFG with respect to 19 your consulting contract that you described with 20 Mr. Rinaldi; is that right? 21 A. I did. 22 Q. And you filed a lawsuit against United 7057 1 Financial Group in 1989 with respect to that 2 consulting contract? 3 A. That's correct. 4 Q. And that lawsuit was settled, wasn't 5 it, sir? 6 A. Yes, it was. 7 Q. Your lawsuit was for approximately 8 $300,000? 9 A. I think it was more than that. I think 10 it was for -- I think 400,000. 11 Q. You think it was for 400,000? 12 A. Or -- I don't know. Maybe 350. It was 13 less than 400. It was for the remaining term, 14 which would have been four and a half years. 15 Q. Do you recall, sir, that you gave a 16 deposition in a case in Sherman, Texas, Sherman 17 Division, in a case against PennCorp? Do you 18 remember you sued PennCorp? 19 A. Yes. 20 Q. Right. And you gave a deposition in 21 that case? 22 A. Yes. 7058 1 Q. Let me show you a copy of that 2 deposition. It might help you remember the 3 amounts in question here. 4 MR. LEIMAN: Your Honor, I think this 5 sort of goes beyond the scope of anything I asked 6 him about, litigation in Sherman, Texas? 7 MR. VILLA: Your Honor, he asked him 8 about the consulting contract. He asked him about 9 the amount of the contract. And this is the -- 10 THE WITNESS: This has nothing to do 11 with that. 12 MR. VILLA: Pardon? 13 THE WITNESS: This has nothing to do 14 with that, absolutely nothing. 15 MR. VILLA: I see. 16 Q. (BY MR. VILLA) Let me direct your 17 attention, sir, to Page 11. 18 A. Okay. 19 Q. And is this your deposition that was 20 taken in March of 1994 in Sherman, Texas? I don't 21 know where it was taken. Dallas. 22 Do you see that, sir, before you? 7059 1 A. Yes, uh-huh. 2 Q. Let me direct your attention to Page 12 3 and 13 of that deposition. You can tell by 4 looking at Page 11 that you're describing a 5 lawsuit that you had against United Financial 6 Group. 7 A. Okay. 8 Q. Breaching the contract -- 9 A. Right. 10 Q. -- right? A lawsuit starting on 11 Page 11, Line 13, question, "What type of lawsuit 12 was it?" 13 Line 14, "A lawsuit where an employer 14 breached a contract." 15 Now, let's go down to Page 12. 16 Line 21. Question, "Was the case settled or 17 tried?" 18 Answer, "Settled." 19 Question, "How much was it settled 20 for?" 21 Answer, "$225,000 plus attorneys' 22 fees." 7060 1 Question, "How much did the attorneys' 2 fees run?" 3 Answer, "Somewhere in the neighborhood 4 of $20,000, maybe a little less." 5 And then there is some more. Let's go 6 down to Page -- the end of Page 13, Line 21. 7 Question, "How much was outstanding at 8 the time that you settled the case as far as 9 payments?" 10 Answer, "Let me think now. This was -- 11 let's see. I'm going to say in the 12 neighborhood -- and don't hold me to this. I 13 can't be sure. It's in the neighborhood of 14 $300,000 payable over four years." 15 Question, "And instead, you received a 16 lump sum payment?" 17 Answer, "Yes." 18 Okay. Does that refresh your 19 recollection as to the amount of the claim in that 20 case? 21 A. Well, I know the claim -- the 22 consulting fee was for $100,000 per year, and it 7061 1 ran through May of 1993. 2 Q. I see. 3 A. And so, it was for '89, '90, '91, '92, 4 and May of '93. 5 Q. I see. 6 A. And as I said here, "I'm going to say 7 in that neighborhood. Don't hold me to this. I 8 can't be sure. It's in the neighborhood of 9 $300,000." 10 Q. I see. But you do recall that you 11 received a settlement from UFG of about 225,000? 12 A. I do recall that. 13 Q. Plus attorneys' fees? 14 A. Yes. 15 MR. VILLA: One second. I have no 16 further questions. 17 THE COURT: Do any of the other 18 respondents have questions? 19 MR. BLANKENSTEIN: No questions, Your 20 Honor. 21 MR. NICKENS: None, Your Honor. 22 MR. EISENHART: I have no questions, 7062 1 Your Honor. 2 THE COURT: Mr. Rinaldi, you have some 3 redirect? 4 MR. LEIMAN: Yes, I do. 5 6 REDIRECT-EXAMINATION 7 8 (10:00 a.m.) 9 Q. (BY MR. LEIMAN) Mr. Winters, 10 Mr. Villa indicated to you that -- showed you a 11 copy of what is A1102. That is the minutes dated 12 August 29th, 1984. Could you take a look at them 13 for a moment? 14 A. 1102? 15 Q. Yes. 16 A. Okay. 17 Q. Those are the minutes dated -- I'm 18 sorry. 19 MR. VILLA: February 14, 1985. 20 Q. (BY MR. LEIMAN) I was actually making 21 reference to A1098, the previous set of minutes at 22 which the board first modified the resolution 7063 1 regarding the authority of the savings -- the 2 senior loan committee. That would be Exhibit 3 A1098. Is that the one you have in front of you? 4 And in particular, in response, I believe, to 5 Mr. Villa's question, you indicated that while the 6 minutes reflect that this resolution was 7 unanimously approved, that you had expressed 8 displeasure at the 70-million-dollar amount. 9 What did you mean by that, you had 10 expressed displeasure? 11 A. You know, I don't recall exactly how 12 the words went, but it could have been a comment. 13 You know, I think that's way too much loan to let 14 them approve something of that nature. And from 15 the minutes, it's obvious that I didn't -- I 16 didn't vote against it, but it was an indication 17 to me that we were placing a lot of -- a lot of 18 authority in the hands of a small group. However, 19 I see that they had strengthened the loan 20 committee to include six or seven people so that 21 80 percent of them had to approve it. 22 So, you know, it would be pure 7064 1 speculation as to why I didn't vote against it 2 other than the fact that since they had 80 percent 3 of the people had to approve it before it would 4 come to the loan committee, I expressed my desire 5 that I didn't think it was a good idea. But it 6 probably wasn't strong enough an indication to 7 vote against it at that time. That's the only 8 thing I could think of. 9 Q. And then subsequently, when the 10 question of actually approving a loan pursuant to 11 the authority that had been initially given on 12 August 29th, '84, when subsequently on May 8th, 13 1986, you were asked to approve a loan in excess 14 of $80 million, you did act on those convictions, 15 didn't you? 16 A. That's right. 17 Q. And at that point in time, you 18 expressed a negative vote? 19 A. That's right. 20 Q. And that's reflected in the record? 21 A. That's right. 22 Q. Now, at the time -- in your experience 7065 1 at USAT, did the minutes generally reflect what 2 went on before the board? 3 A. Well, I believe so. 4 Q. Okay. 5 A. I have no -- I have no reason to think 6 that actions that were taken were left out. 7 Q. Okay. Now, directing your attention to 8 the first page of A1113, this is the minutes at 9 which they approved the loan to the Park 410 10 project. And on the first page, it talks about 11 Mr. Crow reviewed the financial statements. 12 Do you see that? 13 A. I do. 14 Q. And then there is a long discussion 15 about all the details of the things that were 16 reviewed. And then following that, it says "On 17 motion by Dr. Munitz and second by Mr. Hurwitz, 18 the financial statements and lending report of the 19 association were unanimously approved." 20 Do you see that? 21 A. I see that. 22 Q. So, whenever there was a review or a 7066 1 discussion at this board minutes, it was reflected 2 in the minutes, wasn't it? 3 A. It appears so. 4 MR. VILLA: Objection. 5 Q. (BY MR. LEIMAN) Okay. And then if we 6 go on, we look on Page 5 and below the approval, 7 it talks about the board reviewing the executive 8 committee action since the last meeting. They ask 9 about the plan and proposed reinsurance company. 10 And there is a long discussion of what's reviewed 11 by the board. And then it says "Upon motion of 12 Dr. Munitz and seconded by Mr. Borman, the minutes 13 of the committee's actions on February 13th are 14 approved." Right? 15 A. That's what it says, uh-huh. 16 Q. So, again, does it appear that where 17 there was a discussion of the board, it's 18 reflected in the minutes? 19 A. I'm not sure of the question. 20 Q. Well, when the board conducted a review 21 or a discussion of a matter, it gets reflected in 22 this set of minutes, doesn't it? 7067 1 A. It appears so, yes. 2 Q. Okay. Now, do you see anything 3 relating to the approval of the Park 410 loan that 4 reflects that there was a discussion conducted by 5 the board or a review of the loan conducted by the 6 board? 7 A. In the minutes? 8 Q. Yes. Do the minutes reflect that any 9 discussion or review of Park 410 was made by the 10 board prior to the vote? 11 A. I don't see anything. 12 Q. Would you conclude from that that there 13 was no discussion or it was a very limited one? 14 A. I'm sorry. I just can't conclude 15 anything. It's been too long ago, and I know that 16 there was a presentation. And I don't recall how 17 long it was or anything else. But I know that I 18 looked at some documents that were presented, and, 19 in my judgment, after looking at the documents and 20 the whole deal, I voted against it. 21 Q. Okay. Now, going back to the first 22 full page of this set of minutes, there is a 7068 1 motion by Dr. Munitz and seconded by Mr. Hurwitz 2 of the financial statements and lending report. 3 Do you see that? 4 A. I do. 5 Q. Was Mr. Hurwitz a member of United 6 Savings Association's board? Do you recall? 7 A. I don't recall. The records should 8 reflect that. 9 Q. Well, in your experience, do usually 10 non-members of the board second motions if they 11 are not members of the board? 12 A. No. 13 Q. Would you conclude from that that he 14 was a member of the board? 15 A. I guess so. 16 Q. Now, USAT and -- well, I don't want 17 to -- Mr. Villa asked you about the borrower. And 18 I believe you said you thought it was a Mister -- 19 possibly a Mr. Kosberg. 20 Could it have been a Mr. Rosenberg that 21 you're thinking of? 22 A. Yeah. I don't know where I got 7069 1 Kosberg. I was wrong. It's Rosenberg. I knew it 2 was -- I knew it was close. 3 Q. Okay. And do you know who 4 Mr. Rosenberg was? 5 A. I do not, nor Mr. Kosberg. I know 6 neither one. But that name came to me because I 7 know he was -- I believe he was in the savings and 8 loan business. But I apologize for that mistake. 9 Q. Okay. Now, Mr. Villa pointed out to 10 you that the minutes make reference to the 11 objection that you raised. And then it says you 12 objected as to the loan amount and you discussed 13 for us what that meant. And then it says "and as 14 to the, quote, 'value of the property.'" 15 What did you mean when you were 16 objecting to the value of the property? 17 A. You know, if I had the advantage of 18 looking at a deal I saw 12 years ago, you know, I 19 could tell you specifically. It's hard for me to 20 remember. And it must have been a deal that was 21 going to have some future value. In other words, 22 had it been an apartment where I could see where 7070 1 the income is coming in today and so forth, I 2 would have known. But I just -- it slips my mind. 3 I don't know what it was. 4 Q. Do you recall whether this was a land 5 development loan or an apartment loan? 6 A. I recall it was some kind of project 7 near San Antonio, like an amusement park or 8 something like that. And I think it was one of 9 these deals to be built. 10 Q. Do you recall whether it was supposed 11 to have income-generating property or income that 12 would be generated by the property immediately or 13 whether it was something that -- 14 A. I don't recall. I don't recall. 15 Q. Okay. And then I just have one final 16 question. Were you concerned about the risk of 17 concentration on a loan this large? 18 A. Yes. 19 Q. Okay. And what do you understand the 20 risk of concentration to mean? 21 A. Well, as I said earlier, too much risk 22 in one area. Spread the risk. 7071 1 Q. Okay. And then Mr. Villa asked you 2 some questions about your lawsuit or a lawsuit 3 that you filed against UFG. 4 A. United Financial Group, yes. 5 Q. Okay. And when did you enter into the 6 contractual arrangement with UFG that was the 7 subject of that lawsuit? 8 A. At the time of the merger, I had a 9 contractual arrangement with United Savings. 10 United Financial Group's portion of it was to 11 guarantee the payment of that. When United 12 Savings was declared insolvent, then the FSLIC or 13 FDIC or whoever it was, Federal Home Loan Bank, 14 dissolved any obligation that United Savings might 15 have to anybody. And that's when I called upon 16 United Financial Group to pay the obligation that 17 they had guaranteed the payment of. 18 Q. And prior to your having brought that 19 action, you had been -- had you been in full 20 compliance with the terms of the contractual 21 arrangement? 22 A. Yes. 7072 1 MR. LEIMAN: I have no further 2 questions, Your Honor. 3 THE COURT: Recross? 4 MR. NICKENS: I have one question, Your 5 Honor. 6 7 CROSS-EXAMINATION 8 9 (10:11 a.m.) 10 Q. (BY MR. NICKENS) As to the -- 11 Mr. Winters, as to who were the members of the 12 board of directors of UFG and USAT, would you 13 defer to the written record reflecting who was 14 voted on and approved and became members of those 15 boards? 16 A. I would. 17 MR. NICKENS: No further questions, 18 Your Honor. 19 MR. VILLA: One question. 20 21 22 7073 1 2 3 4 RECROSS-EXAMINATION 5 6 (10:12 a.m.) 7 Q. (BY MR. VILLA) Mr. Winters, on the 8 issue of whether there was a discussion at the 9 board meeting where the Park 410 loan was 10 considered, the minutes that we've looked at 11 reflect the fact that you were objecting and at 12 least several of the reasons for your objection. 13 Do you remember just seeing that? 14 A. Yes. 15 Q. It's been read to you now three times. 16 So, you probably remember it. 17 A. Yes. 18 Q. So, would it be fair to say that there 19 was at least discussion to the extent that you 20 expressed your views enough for the minute-taker 21 to put them down in the minutes; isn't that right? 22 A. Yes. There had to be some discussion 7074 1 for me to come up with what I did. 2 Q. Okay. 3 MR. VILLA: Thank you. No further 4 questions. 5 MR. LEIMAN: None, Your Honor. 6 THE COURT: All right. Thank you, 7 Mr. Winters. You may step down. 8 THE WITNESS: Thank you. 9 THE COURT: We'll take a short recess. 10 11 (A short break was taken 12 at 10:13 a.m.) 13 14 THE COURT: Be seated, please. We're 15 back on the record. Mr. Leiman. 16 MR. LEIMAN: Good morning, Your Honor. 17 I'm ready to call OTS's next witness. May I do 18 so? Mr. Douglas Lovell. 19 20 DOUGLAS LOVELL, 21 22 called as a witness and having been first duly 7075 1 sworn, testified as follows: 2 THE COURT: Be seated, please. Are 3 those the exhibits you're going to be using with 4 this witness? 5 MR. LEIMAN: No, sir. 6 7 EXAMINATION 8 9 (10:43 a.m.) 10 Q. (BY MR. LEIMAN) For the record, would 11 you please state your full name and spell it. 12 A. Douglas David Lovell. Last name is 13 spelled L-O-V-E-L-L. 14 Q. And Mr. Lovell, are you presently 15 employed? 16 A. Yes. 17 Q. And with whom are you employed? 18 A. The Office of Thrift Supervision. 19 Q. And what is your position at the Office 20 of Thrift Supervision today? 21 A. My current title is regional appraiser 22 of the Atlanta region. 7076 1 Q. And how long have you held that 2 position? 3 A. I have worked continuously with the 4 Office of Thrift Supervision and its predecessor 5 organizations for something in excess of 19 years 6 now. 7 Q. And what was the predecessor 8 organization of OTS? 9 A. The predecessor was the Federal Home 10 Loan Bank Board. 11 Q. Is that for whom you worked previously? 12 A. Well, previously, we had a transition 13 to the Federal Home Loan Bank system, as well as 14 an interim step in the mid-Eighties. 15 Q. Mr. Lovell, what does your present job 16 entail? 17 A. My present job entails the analysis of 18 largely complex real estate assets and the 19 underwriting of loans that involve those assets. 20 Q. Specifically, do you deal with 21 appraisals? 22 A. Yes. 7077 1 Q. And what kinds of jobs do you do 2 regarding appraisals? 3 A. I evaluate the appraisals for 4 appropriateness of the credit decision that was 5 made. 6 Q. Mr. Lovell, prior to today, you gave me 7 a copy of your resume. Mr. Lovell, would you look 8 at Exhibit T7764, please? 9 A. I have it here. 10 Q. What is it? 11 A. It's my resume. 12 Q. Did you prepare this? 13 A. Yes, I did. 14 Q. And looking at Page 2 of the resume, it 15 states your employment history? 16 A. That's correct. 17 Q. Is this material you had previously 18 described a few minutes ago regarding your chief 19 appraiser position? 20 A. It's a more elaborate summary of it; 21 but essentially, it's the same thing, yes. 22 Q. And in connection with your work with 7078 1 OTS' predecessor, vice president and director of 2 appraisals, is that what you did? 3 A. That's correct. 4 Q. And prior to that, you were a chief 5 appraiser and loan underwriting specialist? 6 A. That was the title, yes, with the 7 Federal Home Loan Bank Board, Office of 8 Examination and Supervision. 9 Q. Mr. Lovell, I notice that presently 10 you're chief appraiser and from 1978 through 1985, 11 you were chief appraiser and loan underwriting 12 specialist. 13 Can you tell me what the significance 14 of that is? 15 A. Well, for all practical purposes, none. 16 It's just a matter of the government changes job 17 titles from time to time and you continue to do 18 the same thing. 19 Q. Was there any kind of special 20 designation in connection with the title "loan 21 underwriting specialist"? 22 A. Well, there was. To the best of my 7079 1 knowledge, in the history of the Federal Home Loan 2 Bank system and the Federal Home Loan Bank Board, 3 there were only three of us that ever received the 4 designation, not only chief appraiser, but also 5 having the designation of loan underwriting 6 specialist. 7 Q. What was entailed in that job, being a 8 loan underwriting specialist? 9 A. Well, it involved taking more than just 10 a simple technical analysis of an appraisal 11 report, per se, and looking into how the appraisal 12 relates to the lending function itself and the 13 appropriateness of the lending decisions that were 14 made, looking at it as an integrated whole rather 15 than as fragmented parts. 16 MR. LEIMAN: Your Honor, I move 17 Mr. Lovell's resume into evidence at T7764. 18 MR. DUEFFERT: No objection. 19 THE COURT: Received. 20 Q. (BY MR. LEIMAN) Mr. Lovell, I notice 21 at the top of the page after your last name, you 22 have the letters MAI? 7080 1 A. That's correct. 2 Q. What does that stand for? 3 A. Member of the Appraisal Institute. 4 Q. And what is the significance of being a 5 member of the Appraisal Institute? 6 A. Well, it's considered to be the highest 7 level of professional credentials within the 8 appraisal community. 9 Q. When did you receive your MAI 10 designation? 11 A. If my memory serves me correctly, I 12 believe approximately the '81 or '82 area. I 13 don't really remember the specific date. It's 14 been a number of years at this point. 15 Q. What is the highest level of 16 educational degree that you've received? 17 A. I hold an MBA degree with a 18 concentration in real estate research from the 19 University of Central Florida. 20 Q. And in connection with that, did you 21 ever publish any articles? 22 A. Yes, I have. In fact, my thesis is a 7081 1 published work. 2 Q. And do you recollect what the title of 3 that work was? 4 A. Well, I can't tell you, repeat the 5 lengthy title. But essentially, it involved a 6 mathematical analysis and comparison of 7 mathematical models in the valuation of 8 residential real estate. And that was published 9 in 1974. 10 Q. Have you published any other articles 11 or books? 12 A. Quite a number over the years. 13 Q. Looking at Page 5 of your resume, 14 carrying over to Page 6, did you write each of the 15 articles or publications that are listed here? 16 A. That's correct. 17 Q. Did you publish these articles or 18 publications as part of your job, or did you do it 19 separately? 20 A. Both actually. Some of them were 21 published in professional appraisal publications. 22 Some of them were part of my job in assisting in 7082 1 educating the industry in the area of appraisals 2 and loan underwriting. 3 Q. I see, looking part of the way down on 4 Page 5, it states that one of your works was 5 Commercial Real Estate Lending Seminar. 6 Do you have expertise in commercial 7 real estate lending? 8 A. Yes. 9 Q. What does commercial real estate 10 lending entail? 11 A. Well, commercial lending, probably the 12 only distinguishing feature is generally you're 13 dealing with a larger, more complex loan than you 14 would be in a residential type of situation. 15 Proper appropriate underwriting procedures really 16 involve, in common lingo, the three Cs of credit. 17 I like to think of it in terms of identifying and 18 quantifying risk. I've written articles on that 19 subject, discussing the role of appraisals in the 20 underwriting process, particularly real estate 21 appraisals, where you really have three categories 22 of risk -- property risk, borrower risk, and 7083 1 market risk. Of course, the appraisal's 2 relationship in that type of environment is 3 incapable of addressing borrower risk. However, 4 the appraisal as an information tool and source of 5 data for an analyst clearly has a relationship to 6 property and market risk. 7 Q. I notice that another one of the 8 articles that you've written is "Why the RTC Can't 9 Sell its Real Estate Assets." 10 A. That's correct. 11 Q. What was the tenor of that article? 12 A. Well, my basic concern after the FIREA 13 legislation was passed, part of FIREA mandated 14 that the RTC needed to sell its real estate assets 15 for the approximate appraised value of the 16 properties. And one of the issues that I felt 17 never really came to light properly over time is 18 "What is the true meaning of market value?" It 19 turns out that the accountant's interpretation of 20 what market value means is somewhat at variance 21 with the way a technical appraiser values market 22 value. 7084 1 In other words, an appraiser looks at 2 value from the perspective of gross value, gross 3 anticipated selling price that a property would 4 bring at a particular point in time, whereas the 5 accountant's fair value concept, if you will, 6 looks at value from the perspective of the 7 anticipated selling price less all anticipated 8 expenses that would be incurred in arriving at the 9 property. 10 What I tried to bring out in that 11 particular article is that because of the 12 magnitude of typical selling expenses, if the RTC 13 was restricted to having to achieve a particular 14 price and not looking at holding costs over time, 15 they may well argument the level of losses that 16 the RTC would experience in the liquidation of 17 savings and loan assets. 18 And so, that was really the purpose of 19 the article and I will say it was successful. I 20 think I carried the day. 21 Q. In what respect? 22 A. That they did change their internal 7085 1 policies at RTC later on to accommodate their 2 recognition of holding costs as being an important 3 element of expenses in disposing of real estate. 4 Q. Speaking of holding costs, what do you 5 mean by that? 6 A. Well, it can vary from lots of 7 different things. It's not just purely cost of 8 capital. You have things such as real estate 9 taxes. You may have certain levels of maintenance 10 expenses that need to be incurred over time. 11 Those types of things are just continuing costs of 12 ownership when one holds on to a particular piece 13 of real estate. And they can become quite 14 material, particularly when you're dealing with a 15 fairly non-liquid asset, such as commercial 16 property, which typically takes quite a while to 17 sell to adequately market. 18 Q. What role does interest play in 19 connection with holding costs? 20 A. Well, interest is a part of the overall 21 capital cost structure. While you can break it 22 out and look at interest as opposed to return on 7086 1 investment as two separate issues, it's really 2 part and parcel of the same sort of thing. The 3 fact is that there is a sum of money that is 4 invested in an asset, and that sum of money could 5 have alternative investment opportunities 6 available if you could receive it in cash. And as 7 a result, since real estate is a costly asset to 8 hold on to, it involves -- entails, a large amount 9 of capital, you have to somehow account for that 10 loss of interest earning capacity, return on 11 investment that you have tied up during that sales 12 period or ownership period. 13 Q. Did you cover those items in your 14 publications? 15 A. Oh, yes, very definitely. 16 Q. Mr. Lovell, have you ever given 17 testimony previously in an administrative hearing 18 or a courtroom proceeding? 19 A. Yes, I have. 20 Q. I don't know if you remember the names 21 of those, but do you remember where they were? 22 Can you identify them? 7087 1 A. I don't remember the names of them, 2 quite honestly. One of them was in Norfolk, 3 Virginia. 4 Q. Would that have been Newport News? 5 A. I believe so. I believe that's the 6 case. And another one involved Mr. Rappaport in 7 Fort Lauderdale, Florida. 8 Q. In those cases, were you identified as 9 an expert witness? 10 A. Yes. 11 Q. And what was the area of expertise 12 that -- for which you were identified? 13 A. It varied a little bit; but basically, 14 it was the area of appraisal and loan 15 underwriting. 16 MR. LEIMAN: Your Honor, I would offer 17 Mr. Doug Lovell as an expert in the area of R-41B 18 appraisals, appraisals generally, and in loan 19 underwriting. 20 THE COURT: All right. So certified. 21 Q. (BY MR. LEIMAN) Mr. Lovell, did you 22 come here today to give an opinion? 7088 1 A. Yes. 2 Q. Or more than one opinion, I should say. 3 What's the nature of the opinion that you're going 4 to be giving? 5 A. Well, you have asked me to review some 6 appraisal reports involving two particular pieces 7 of real estate, as well as two different market 8 studies that involve those same properties. I 9 have read through those reports and have been 10 deposed on them, as well. And so, I will furnish 11 whatever insight you might like me to answer with 12 respect to those appraisal reports, as well as any 13 level of expertise that might be required relative 14 to Federal Home Loan Bank Board Memorandum R-41B 15 and its nature and interpretation and meaning and 16 whatnot. 17 Q. You were deposed on or about 18 October 21st; is that right? 19 A. I believe that's correct, yes. 20 Q. And were you deposed here in Houston? 21 A. Here in Houston. 22 Q. Okay. Do you remember the attorney 7089 1 that deposed you? 2 A. Yes, I do. 3 Q. Is that attorney in the room? 4 A. Yes, he is. 5 Q. Was it Mr. Dueffert? 6 A. It is Mr. Dueffert. 7 Q. Was Ms. Kopp also there? 8 A. Yes, she was. 9 Q. She's the other attorney that was in 10 the room. Was I there? 11 A. Yes, you were. 12 Q. Were there any other attorneys there? 13 A. No. 14 Q. Mr. Lovell, can you tell me what the 15 role of appraisals is in the underwriting process? 16 A. Well, I think it's important to 17 understand what is going on in a real estate 18 lending environment. We're dealing fundamentally 19 with a secured credit transaction. And really, 20 the purpose of the appraisal is to supply 21 information, some key pieces of data. One portion 22 of data is not just the value of the property, but 7090 1 also information relative to the property risk and 2 market risk relative to the particular property. 3 Bearing in mind that because we're doing a secured 4 credit decision, we need appropriate information 5 to ensure that we are fully secured over the life 6 of the credit decision. And that means that in 7 the case of, for example, an acquisition and 8 development loan, we want to be sure that we have 9 a loan amount that has been extended at the 10 inception of the loan that is something less than 11 or certainly no greater than the value of the 12 underlying collateral at that point in time. That 13 is, the so-called as-is market value, if you will, 14 of the security property. And that whatever terms 15 of the loan, if we're doing any type of 16 development work, we will not at any point in time 17 have more money outstanding against that 18 particular asset than its expected value. And 19 that generally leads, in a development-type 20 environment, to arriving at some other value 21 conclusions, amongst which might be a value upon 22 anticipated date of completion. 7091 1 Q. Would you give me a specific example to 2 illustrate what you were just saying? 3 A. Well, I think that if you evaluate a 4 property that you intend to develop, you have to 5 recognize that on the date of the inception of the 6 loan, you're starting out with what amounts to a 7 little more than raw dirt and perhaps some plans 8 and permits that would permit you to maybe develop 9 that particular property. At that point in time, 10 all you have is raw land. That is, the sole 11 collateral that is available. 12 And so, the appropriate measure of what 13 that collateral is is the so-called as-is value. 14 That is, the value of what is physically and 15 legally there on the date that the credit decision 16 is being made and the initial advance of funds is 17 being incurred. 18 Q. Explain to me what "as-is value" means. 19 A. Well, it means what is physically and 20 legally there. Not anything hypothetical, but 21 it's actually what is the value of the collateral. 22 For example, if we're dealing with a situation 7092 1 where a property is currently zoned for 2 agricultural use but the proposed use is perhaps a 3 shopping center, the appraiser in his analysis 4 should reflect whatever the current legal use of 5 the property is. Now, it's true there may be some 6 value that's assignable because of the possibility 7 of changing zoning. And that might be considered 8 and that would be appropriate for the appraiser to 9 take a look at. But in the end, his as-is 10 estimate needs to reflect what is physically 11 there. 12 Now, once the zoning and permits have 13 duly been obtained, at that point then you have a 14 legal use that can go forward. And if there is 15 additional incremental value, then clearly, it 16 would be recognized at that point in time. But 17 until you have that legal use finally and 18 officially established so that the property can be 19 used, it's a hypothetical condition. 20 Q. What's wrong with that? 21 A. Well, the danger of it has historically 22 been, over time -- and this is why we've incurred 7093 1 so many losses in the savings and loan industry -- 2 is that when you extend money based on a 3 hypothetical use and if that hypothetical use 4 never comes to pass, you frequently discover that 5 you've lost a considerable amount of your 6 investment. For example, in my shopping 7 center/agricultural land example, land that 8 generally is priced for production of crops or 9 raising of cattle on is generally much less in 10 value than the value of a shopping center site. 11 If the zoning approval is not obtained, you might 12 well wind up with underlying collateral that's 13 little more than pasture land. 14 Q. So, is there an element of risk 15 involved? 16 A. Considerable amount of risk. And raw 17 land is perhaps the single riskiest type of 18 investment that I can think of. And in my 19 opinion, raw land is little different than 20 speculating on commodities because the fact of the 21 matter is the value of raw land is ultimately tied 22 to its use at some point in time. It doesn't have 7094 1 value, unless we're talking in terms of 2 agricultural use, inherent in and of itself. Its 3 value is contingent upon what use it can 4 ultimately be put to -- when someone will buy it, 5 what they will pay for it, and those sorts of 6 things. 7 Q. Well, you're an appraiser. What do you 8 do -- what are you supposed to do to come up with 9 a value, an as-is value that you were talking 10 about? 11 A. Well, I think you have to recognize 12 what you're dealing with and take a very close 13 look at what the legality of use is. Part and 14 parcel of estimating the worth of real estate is 15 estimating the highest and best use. And as a 16 part of the so-called best use estimation process, 17 the critical components of it are legality of use, 18 physical adaptability of use, marketability of 19 use. And it's the optimal combination of those 20 three factors that results in the economic 21 feasible use that will result in the highest 22 present value of the land, if you will. 7095 1 Q. Go back over those again. "Legality of 2 use," what do you mean by that? 3 A. Well, by legality of use, there is a 4 number -- generally because real estate is 5 affected by various statutes, such as zoning would 6 be a very typical statute that would affect the 7 zoning. If the zoning code for a particular tract 8 does not permit a use, then the appraiser really 9 can't rightfully consider that a use, a possible 10 use because it's illegal to use it for perhaps a 11 more intense use. 12 So, you have to take a close look at 13 what you can legally actually do with the property 14 as opposed to wishful thinking of what you hope 15 you could door with the property. 16 Q. What if you think you're going to get 17 the zoning? 18 A. If you think you can get the zoning, 19 you've entered into the realm of a hypothetical 20 analysis. And there are certain obligations that 21 are placed on the appraiser by professional 22 practice standards, and those have been true for a 7096 1 great many years. All the years -- 26 years I've 2 been in the business. Essentially, the appraiser 3 needs to, one, disclose that fact if we're going 4 to predicate our analysis on a change of zoning. 5 Q. How do you do that? How do you 6 predicate that -- I mean, what does an appraiser 7 say? 8 A. Well, the disclosure, because it's an 9 important element of value, it would generally be 10 required that you disclose it at each point in the 11 appraisal report that it would have some 12 relevance. For example, in the letter of 13 transmittal, you're normally reciting the fact 14 that you have done an estimate of value and you 15 have arrived at some estimate of real property 16 rights, and you recite the value that you 17 concluded in the appraisal report. It would 18 normally be expected as a part of your transmittal 19 letter because an important assumption that was 20 critical to the analysis has been made that that 21 be disclosed at that point. In other words, it 22 shouldn't be just buried in the limiting 7097 1 conditions somewhere. 2 Q. Does it need to be elaborated on? 3 A. It absolutely needs to be elaborated on 4 in that it's incumbent -- the obligation is really 5 on the appraiser to demonstrate that the 6 conclusion that the property can be used for 7 something else than it currently legally can be 8 used for is a realistic assumption. Now, if it's 9 indeed true, it's appropriate for the appraiser to 10 do that. 11 Q. You also mentioned physicality of 12 the -- 13 A. Yeah. Physical adaptability of use. 14 Q. What is that about? 15 A. Well, every property has certain 16 physical characteristics, such as its topography. 17 You may have conditions such as water, standing 18 water on a property, drainage that might be 19 running through a property, road frontage. 20 Visibility is clearly an element of physical 21 adaptability. All of those factors can either 22 limit or assist a property in making it valuable. 7098 1 Q. What about the third element that you 2 described: Economics? 3 A. Marketability. Marketability of use. 4 Because the objective of the appraisals we're 5 talking about here is to arrive at an economic 6 estimate of value, it's important that the uses 7 that are considered be those which are marketable. 8 In other words, we're not looking for value to a 9 particular user or entity. We're looking for 10 value in the marketplace, what we would anticipate 11 a normal third-party purchaser would pay for the 12 real estate at a particular point in time. And 13 so, the use that is we hypothecate would be those 14 which would normally be marketable for the 15 property. 16 Q. Well, that sounds theoretical. Is it 17 theoretical, or is it tied to a specific user that 18 one would relate to? 19 A. Well, it's an important element because 20 in certain kinds of property, they can be 21 special-purpose in nature. And if you hypothecate 22 that the best use is that special purpose in 7099 1 nature, you've essentially limited the users and 2 the likely purchasers of that property to a group 3 that may be so small, they may be impractical to 4 identify as being -- as a market, if you will. 5 Q. What would an example of that be? 6 A. A church. 7 Q. Okay. So, the marketability typically 8 needs to be more varied or a wider band? 9 A. It needs to be a wider band. It needs 10 to be a use that would be commonly expected to be 11 bought or sold in the marketplace or used. 12 Q. What kinds of elements are related to 13 marketability specifically? 14 A. Well, the marketability element is one 15 where you're really getting into addressing who 16 would buy it, when are they going to buy it, and 17 what are they going to pay for it, and what type 18 of use would they be likely to put the property 19 to. 20 I mean, an appraiser's role is really 21 quite simple. I mean, he's really looking at a 22 property through the eyes of a typical purchaser, 7100 1 if you will. And a typical purchaser, as he views 2 a piece of property, would look at elements such 3 as legality of use, physical adaptability of use, 4 and what marketable use that he would intend to 5 put the property to. And then the appraiser tries 6 to assume that same role in arriving at his 7 overall estimate of value. 8 Q. Well, that all sounds very simple. But 9 was there ever a time when those basic rules were 10 not followed? 11 A. Well, the fundamental teachings in the 12 appraiser profession, I don't think, have really 13 changed dramatically over the last 50 years in how 14 you go about making those kinds of decisions. 15 There has been a problem, that's for sure, over 16 time with appraisers perhaps following 17 professional practice standards. That, I would 18 certainly concede. 19 Q. When was that -- was there ever a time 20 when that was prevalent? 21 A. Well, I think one period that has been 22 focused on certainly by various investigators has 7101 1 been during the 1980s. In 1985, I testified 2 before the Commerce Consumer Monetary Affairs 3 Subcommittee on the impact of faulty and 4 fraudulent appraisal reports on the federal 5 deposit insurance funds, as well as other federal 6 programs. 7 The fundamental thrust of those 8 particular hearings were to identify how 9 appraisals played a role in the losses within the 10 savings and loan industry to the insurance funds, 11 both for FSLIC, FDIC, as well as the FHA funds, I 12 might add, as well. 13 Importantly, I think out of those 14 hearings, there was a conclusion that was reached. 15 And I think that conclusion sometimes has been 16 lost in the discussion of this whole subject. But 17 the committee concluded that improper and 18 inappropriate appraisals were, in fact, a 19 widespread problem and a major contributing factor 20 to the many billions of dollars of losses to the 21 insurance funds. 22 Q. I'm going to show you Exhibit T7762, 7102 1 and these appear to be copies -- these are a copy 2 of the hearings before the subcommittee of the 3 committee of -- on government operations, 4 December 11 and 12, 1985. 5 Mr. Lovell, you testified a minute ago 6 that you gave testimony before this subcommittee; 7 is that right? 8 A. That's correct. 9 Q. Was this also -- this is called the 10 Bernard Committee? 11 A. It was commonly known as the Bernard 12 Committee, yes. 13 Q. Okay. Where would we find your 14 testimony in this document? 15 A. Well, it looks like it starts on 16 Page 80, second page of the copy you've handed me. 17 And I haven't flipped all the way through it, but 18 we've got my opening statement as well as, I'm 19 sure, if we had the complete thing here, my 20 written statement that was prepared for the 21 subcommittee and submitted simultaneous as is 22 normal in Congressional hearings. You're usually 7103 1 permitted to give an oral testimony, a summary of 2 what you've provided in writing to them. So, I 3 think we probably have both of those here. 4 Q. Who invited you to testify before the 5 subcommittee? 6 A. I was invited by Congressman Bernard's 7 office. 8 Q. You were? 9 A. Yes. 10 Q. And do you know what the basis of your 11 invitation was? 12 A. Because I was considered to be an 13 expert in the appraisal area. 14 Q. What were the areas that you generally 15 testified to? I don't want to go through your 16 testimony specifically, but were there any key 17 points that you made? 18 A. Well, there were several key points I 19 tried to make. And, I think, if my recollection 20 serves me correct, I think I made about six 21 recommendations at the end of my testimony at that 22 time. 7104 1 One is I wanted to make it clear that 2 there was an overwhelming amount of evidence out 3 there that there was a terrific amount of 4 inappropriate appraisal practice going on and that 5 there were a number of factors that contributed to 6 that. One of the factors is the fact that we had 7 very little commonality, unfortunately, in the 8 area of professional practice standards. And I 9 say that in that there were some 75, I believe, 10 different appraisal organizations that were in 11 existence at that particular point in time. Some 12 of those organizations were much like the 13 Appraisal Institute, which was at that point known 14 as the American Institute of Real Estate 15 Appraisers or the Society of Real Estate 16 Appraisers, had established professional practice 17 and ethics standards, had well-developed 18 educational programs, and all of those sorts of 19 things. And then you had other organizations that 20 literally were not much more than you mail in two 21 Post Toasties box tops and $180 and coin and you 22 could get your dog licensed as a practicing 7105 1 appraiser with those groups. In fact, there were 2 articles that were written at the time in various 3 appraisal publications where appraisers had done 4 exactly that, where they had enrolled their dog 5 with professional qualifications with those 6 groups. 7 Clearly, when you've got that type of 8 situation going on, you have a problem in 9 commonality and professional practice standards 10 and you run into the situation when you say, 11 "Well, we expect appraisals to be prepared in 12 accordance with the standards of the leading 13 national professional groups." The automatic 14 question becomes, "Well, which professional groups 15 are we talking about here?" 16 Q. Is that another area of your testimony? 17 A. It was. It absolutely was. I 18 testified that I believed that we needed to 19 establish some uniform standards of professional 20 appraisal practice. And that was ultimately done 21 right after the hearings, actually. The seven 22 major professional appraisal groups got together 7106 1 the following year in February in Chicago and 2 voted on a common set of professional practice 3 standards. And those standards, with some 4 modifications, ultimately became the basis for the 5 Appraisal Foundation that now establishes the 6 so-called uniform standards of professional 7 appraisal practice today. 8 Q. You mentioned seven major appraisal 9 groups. Did those seven major appraisal groups 10 share core practice standards? 11 A. Actually, they did. The seven groups 12 who participated in that comprised probably well 13 over 95 percent of all practicing appraisers in 14 the United States. So, it isn't as though the 15 other organizations that were out there embraced a 16 great percentage of appraisers. The seven groups 17 embraced, really, the largest bulk of appraisers. 18 And their teachings were very similar. You take 19 groups such as the American Institute of Real 20 Estate Appraisers and the Society of Real Estate 21 Appraisers. Their teachings and their 22 professional practice standards have been so 7107 1 similar as to almost not be distinguished from one 2 another over the years. 3 Q. You said there were a few other key 4 points that you made before the committee 5 regarding the losses that occurred in the 6 Eighties. 7 A. Well, I think we wanted to bring out 8 the point that we needed to establish some common 9 sets of standards and that we really needed to 10 have some means of monitoring what was going on. 11 And one way that the industry groups and I 12 personally felt would be an effective way to 13 approach it is to establish some kind of a state 14 licensing or certification program or, perhaps, as 15 ultimately happened, both the state certification 16 and licensing program of appraisers. 17 That gave government then the right to 18 withdraw from someone the ability to continue 19 practicing in the field if they were found to be 20 incompetent or following inappropriate procedures. 21 Without that sanction of government, 22 you're left largely to the professional appraisal 7108 1 organizations having to do an analysis of their 2 peers. And unfortunately, the peer review process 3 is not always that good. I think the entire 4 history of the peer review process in the 5 appraisal industry has been very poor. It has 6 been not only an expensive process, but it is one 7 which has resulted in very little change relative 8 to the quality of practicing appraisers out there. 9 And so, the monitoring really wasn't effective. 10 With a state certified licensing 11 program, you now had the ability to investigate 12 complaints and to actually remove somebody's 13 license if they are duly found under the 14 principles of law to be violating accepted 15 standards. 16 MR. LEIMAN: Your Honor, I move T7762 17 into evidence. 18 MR. KEETON: Your Honor, I want to 19 object. It's hearsay. He's testified and is 20 testifying about his opinions. It's not part of 21 his expert report. This is a long document, and I 22 haven't certainly had a chance to read. I don't 7109 1 see where it belongs in this proceeding. Later, I 2 guess, something might get quoted back to me if it 3 gets in. But I think it's hearsay as far as this 4 case is concerned. 5 MR. LEIMAN: Your Honor, may I say 6 something for the record? Mr. Lovell produced 7 this very same document at his deposition to which 8 Mr. Keeton had every opportunity to attend. He 9 could have been provided a copy then. We would 10 have been happy to give it to him. I see no 11 reason to withhold his statement. The witness has 12 indicated he made the statement, and he stands by 13 what he said at the time. 14 MR. KEETON: Your Honor, I think I 15 might have been in court that time. But whether I 16 was or wasn't, I think for the Court today it's 17 irrelevant for the purposes of my objection. I 18 think this is hearsay and only clutters up our 19 record. He's testifying as to opinions that are 20 relevant to this case and what's in front of us, 21 but this shouldn't come in. 22 THE COURT: Are all the statements in 7110 1 this exhibit those of Mr. Lovell, or are there 2 statements by other people in there? 3 MR. LEIMAN: I believe there are also 4 the statements of Congressman Bernard and 5 Congressman -- I believe it's Congressman Hewitt. 6 The bulk of these are Mr. Lovell's testimony, in 7 addition to which I might point out that Ms. Kopp, 8 a member of Mr. Keeton's law firm, did attend the 9 deposition. And I -- 10 THE COURT: I'll receive the document. 11 MR. KEETON: I think Mr. Leiman 12 misperceives my objection, Your Honor. It's not 13 to whether we have it -- 14 THE COURT: Well, the witness -- 15 basically, it's this witness' statement. So, you 16 have it and you may question him on it. So, I 17 don't see an objection. 18 MR. KEETON: Do I understand you're 19 keeping out the other comments by the other 20 parties? 21 THE COURT: I'm hesitant to go through 22 and slice the exhibit up. For all practical 7111 1 purposes, I'm not receiving as factual information 2 the statements by somebody else. 3 Q. (BY MR. LEIMAN) Mr. Lovell, in 4 connection with the rationale for why these 5 hearings were actually held, you mentioned losses 6 as being one significant reason, losses that were 7 brought on by differences in appraisal standards 8 and people, I guess, taking advantage of what you 9 called having their dog licensed as an appraiser. 10 What other reasons were there? 11 A. The problem was that we had something 12 that was broken, and everybody knew it was broken. 13 That is, I think it was widely known that 14 appraisers were not performing the type of work 15 product that they were expected to perform. And I 16 think everybody knew that they weren't performing 17 the type of work product that they were expected 18 to perform. And as a result, lenders were quite 19 often taking advantage of the improper and 20 inappropriate appraisal reports as a part of their 21 overall loan documentation to justify transactions 22 that no reasonable person would have ever 7112 1 justified. And then unfortunately, those led to 2 multi-billion-dollar losses for the insurance 3 funds. 4 MR. EISENHART: Your Honor, I'm going 5 to object to the relevance of this testimony. 6 We're here trying specific issues in a specific 7 case. Now, the agency likes to tar with a broad 8 bush and Mr. Lovell's apparently willing to do 9 that. But we're not here trying an industry or a 10 profession or a set of practices. We're trying 11 specific issues in a specific case. 12 THE COURT: I'd like to get down to his 13 testimony as to these things that he's called for. 14 MR. LEIMAN: Your Honor, in order to do 15 that, what I'd just like to develop a little bit 16 more would be his statements regarding R-41B and 17 what the origin of that was, if I might. 18 THE COURT: All right. 19 MR. DUEFFERT: Your Honor, I would also 20 ask that the witness tie his statements to a 21 particular time period. We're discussing 22 sometimes very broad things, and I'm not sure 7113 1 exactly when he's talking about what is happening 2 at this point. 3 THE COURT: Well, I gather now we're 4 talking about his testimony before Congress; is 5 that right? 6 MR. LEIMAN: Yes, sir, and what led up 7 to that testimony before Congress. 8 THE COURT: All right. Proceed. 9 Q. (BY MR. LEIMAN) Now, Mr. Lovell, you 10 mentioned a moment ago that appraisers were taking 11 advantage of the system. Everybody knew the 12 system was broken. 13 Prior to your testimony, were you 14 involved in an effort to prepare a standard that 15 was ultimately known as R-41B? 16 A. Yes. Absolutely. 17 Q. And in that regard, what was your 18 involvement? 19 A. Well, at the particular point in time 20 when R-41B came into existence, the decision to 21 create 41B and consolidate what had been previous 22 to that, R-41A and R-41A-1, occurred at a district 7114 1 appraisers meeting. And if my memory serves me 2 correctly, that meeting took place in Sanibel 3 Island, Florida. I believe there were 12 of us 4 district appraisers. We were a relatively small 5 group of individuals at the time. 6 We felt that we needed to clarify a 7 couple of things that were going on, one of 8 which -- one of the big motivations for 41B is 9 there had been an industry change in the 10 definition of market value. We felt like we 11 wanted to, one, establish as the basis for 12 appraisals with the bank board an 13 industry-accepted definition that was current and 14 up-to-date. Two, we had a problem -- when we did 15 R-41A-1, we had unfortunately left another 16 memorandum, a technical bulletin, T-15-1 -- we 17 failed to rescind it. It was an error on our 18 part -- which was a definition of market value 19 that had been rendered by the -- I believe the 20 general counsel's office at the Federal Home Loan 21 Bank Board. We wanted to not have multiple 22 definitions of value out there. So, we wanted to, 7115 1 as a part of the R-41B process, rescind that 2 superfluous definition that was outstanding. 3 Another motivation for creating R-41B 4 revolved around the issue of discounting. And in 5 the original R-41B memorandum, we made the 6 statement, which was unfortunately misinterpreted 7 or certainly interpreted in strange and unusual 8 ways -- we said that an appraiser in the case of a 9 development-type property where the anticipated 10 sales period was in excess of 12 months, he needed 11 to account for all appropriate deductions and 12 discounts. 13 What we found from experience, after 14 reviewing thousands, literally, of appraisal 15 reports among the 12 of us district appraisers, is 16 that lenders and appraisers alike were saying, 17 "Well, you didn't say we had to discount if the 18 anticipated sales period was under 12 months." 19 So, every project, no matter what scale 20 it was, suddenly had an anticipated marketing 21 period of under 12 months and they would report as 22 the market value of the gross aggregate retail 7116 1 sales that would be anticipated from the property. 2 That was clearly inappropriate practice, but the 3 attitude the industry took at the time, quite 4 frankly, was one of "Well, if you meant for it to 5 be discounted less than 12 months, you should have 6 said so." 7 Our position was that we just said you 8 for sure had to do some kind of an accounting of 9 holding costs and disposition expenses if the 10 anticipated period was over 12 months. So, that 11 was another big motivation for R-41B. 12 Q. I'm handing you a copy of R-41B, 13 Mr. Lovell. This is Exhibit T7760. 14 MR. LEIMAN: Your Honor, I offer T7760 15 into evidence. 16 MR. DUEFFERT: No objection. 17 THE COURT: Received. 18 Q. (BY MR. LEIMAN) Mr. Lovell, it sounds 19 to me like the changes that were made in R-41B 20 were not dramatic or significant. Is that wrong? 21 A. They weren't dramatic or significant. 22 Q. Why? 7117 1 A. Because there hadn't been a shift in 2 bank board policy. From the time of the original 3 R-41 memorandum that was published in the 4 mid-1970s, the bank board's position on appraisals 5 had been pretty consistent. We hadn't made a wide 6 change in our overall policies. 7 Now, it's true when R-41A-1 was issued, 8 we then adopted what was, at that point, the 9 industry-accepted definition of value. But that 10 was the only thing that was contained in that 11 particular memorandum, just the then current 12 definition of value. 13 Our overall interpretation of it had 14 been very, very, very consistent. I mean, 15 essentially, if you look at R-41B and the 16 predecessor memorandum and even the successor 17 memorandum, fundamentally, we wanted to accomplish 18 a couple of -- two or three objectives. 19 Q. What were those? 20 A. Well, one is we wanted to make it clear 21 because the insurance regulation that interprets 22 this memorandum is very brief. 7118 1 Q. What's that? 2 A. Insurance Regulation 563.17-1(c)(1), 3 Roman Numeral III. I think I know it by heart. 4 That particular regulation basically says -- and 5 I'll paraphrase it -- that an institution needs to 6 have one or more written appraisal reports that's 7 prepared by an appraiser who's been approved by 8 the institution's board of directors that reveals 9 the market value of the security property and 10 contains an adequate amount of data and analysis. 11 And that's really about fundamentally all it says. 12 The question that came up over time is, 13 "Well, what do you mean by 'market value'?" Since 14 "market value" is not a generic term, it is a 15 definition-dependent term, clearly we needed to 16 have some kind of identification of what do we 17 mean by "market value," as well as we needed to 18 identify what would be the appropriate ingredients 19 of an appraisal report. 20 And so, in R -- the R-41 series 21 memorandum, we relied very heavily on the 22 standards of professional practice of the leading 7119 1 national groups, specifically, I would say, the 2 Society of Real Estate Appraisers and the 3 Appraisal Institute. 4 Q. How long had those been outstanding? 5 A. They had been out for, as of the 6 Eighties, clearly over 40 years. 7 Q. So, what changes did R-41B make? 8 A. R-41B, although much has been said 9 about what it was intended to accomplish, it 10 starts off with, in the introduction -- and it 11 places responsibility clearly because -- and our 12 interpretation of the issues relative to 13 appraisals has been consistently that this is so 14 important -- that responsibility rests with the 15 board of directors. Not just senior management, 16 but actually with the board of directors, and that 17 they have the ultimate responsibility for 18 oversight in this particular area. 19 THE COURT: The board of directors of 20 what? 21 THE WITNESS: Of the savings and loan 22 institution. 7120 1 A. Board of directors of the savings and 2 loan institution. We wanted to make certain that 3 that was clear and that they needed to establish 4 appropriate policies with regard to appraisal 5 reports and not just let it be a hit or miss type 6 of proposition. 7 The other issue that we really wanted 8 to make clear is that the standards that we really 9 expected appraisers to follow are those of the 10 leading national professional appraisal groups. 11 In fact, we use that very language in R-41B, that 12 we expect all appraisal reports, the content of 13 them, to follow the standards of the leading 14 national professional appraisal organizations. 15 And the third thing, really, that 41B 16 did is it did establish a specific definition of 17 market value that was industry accepted at that 18 point in time. 19 Q. (BY MR. LEIMAN) Was this another one 20 of those government regulations that was buried 21 deep in the Code of Federal Regulations? 22 MR. EISENHART: I object. I don't 7121 1 believe R-41B is or has ever been a regulation. I 2 object to the form of the question. 3 MR. LEIMAN: Let me rephrase that. Let 4 me ask the expert. 5 Q. (BY MR. LEIMAN) Is it a regulation? 6 A. No. R-41B is not a regulation. 7 Q. How is it related to the regulations? 8 A. It's a regulatory interpretive 9 memorandum. And it clearly states it's to the OES 10 professional staff. OES is the Office of 11 Examination and Supervision professional staff. 12 That was what I worked for. 13 Q. And this memorandum was published when, 14 Mr. Lovell? 15 A. March 12th, 1982. 16 Q. And was it generally followed soon 17 after its publication? 18 A. It was made available to the industry. 19 The normal course of events when these memorandum 20 were adopted -- and at that point in time, our 21 regulations were contained in what we called the 22 annotated manual, which every institution had 7122 1 access to and was expected to follow. And what 2 would happen is when a new edition, such as an 3 R memorandum would be published, it would be duly 4 mailed out to the institutions and become a part 5 of their overall regulatory handbook, if you will, 6 of what was to be expected, to alert the 7 institution's people what examiners were looking 8 for, as well, so that it wasn't undisclosed so 9 that everybody knew what the rules of the game 10 were, if you will. 11 Q. Did this ever have an applicability to 12 regulatory net worth? 13 A. Well, it did. And probably R-41B, 14 quite honestly, might not have really obtained the 15 notoriety that it did were it not for a regulation 16 known as appraised equity capital. If my memory 17 serves me correct -- and I may be off by a year -- 18 it was either in October of 1982 or October of 19 1983. The Federal Home Loan Bank Board passed a 20 reg called Appraised Equity Capital. And in a 21 nutshell, that reg did a couple of things that the 22 bank board had never done before. One of them is 7123 1 it told institutions that in appraising their 2 office building and office land and then so-called 3 marking them to market on their overall books, 4 they needed to obtain an appraisal. And it stated 5 specifically that the appraisal needed to comply 6 with the requirements of Federal Home Loan Bank 7 Board Memorandum R-41B, curiously enough. 8 The second element that the Bank Board 9 cited in the regulation -- and I suspect that they 10 would never do it again if they had the choice -- 11 was that it specifically stated that all the 12 appraisals that would be prepared would be 13 reviewed by the district appraisers' staff of the 14 Federal Home Loan Bank Board which, as a group, we 15 were all basically MAI designated appraisers with 16 a considerable number of years of experience. 17 So, we weren't -- we weren't out 18 relegating this overall analytic task to a group 19 of, perhaps, examiners who someone might say, 20 "Well, they haven't really had the background and 21 experience in the evaluation of appraisals." We 22 were going to have a small group of individuals 7124 1 who agreed and consistently interpreted R-41B to 2 evaluate these appraisals. 3 What unfolded after the regulation was 4 passed is because it permitted institutions to 5 book increased levels of net worth, a very high 6 percentage of institutions around the United 7 States did, indeed, go out and have appraised 8 their office building and office land, submitted 9 the appraisal reports duly to the supervisory 10 agent for approval. Those were subsequently 11 passed along to myself and the other district 12 appraisers at that point in time. And what we 13 discovered in short order is that a very high 14 percentage of them were not even remotely 15 considered to be responsible appraisals. I mean, 16 some of them varied in the sense that -- when I 17 talk in terms of the more responsible, R-41B 18 clearly states a definition of market value. Most 19 of these appraisals would state right up front in 20 the letter of transmittal that they -- their 21 intent was to comply with the requirements of 22 Federal Home Loan Bank Board Memorandum R-41B. If 7125 1 you flipped to the definition of market value that 2 would be contained in a high percentage of these 3 appraisals, you would discover that the appraiser 4 failed to use the correct definition of value. 5 Q. Were there common appraisal 6 deficiencies that you derived from that? 7 A. Yes. Yes. 8 Q. And did you write those up? 9 A. The culmination of that, it became 10 pretty obvious in short order -- once we had 11 rejected several thousands of reports within just 12 a couple-month time frame and institutions learned 13 that their appraisal reports were being regarded 14 as not acceptable and they had not been prepared 15 in accordance with R-41B, the alert signals went 16 up all over the United States. 17 And so, suddenly, what might have been 18 an obscure memorandum, R-41B, suddenly achieved a 19 level of notoriety. 20 Q. Let me hand you what's been marked 21 T7745 and ask you if you can please identify the 22 document. 7126 1 A. Well, this particular document is 2 titled "Most Common R-41B Appraisal Deficiencies," 3 and it was generated by myself. Actually, what 4 had occurred, the district appraisers had a 5 propensity for meeting in Sanibel Island, Florida. 6 And after the appraised equity capital disaster, I 7 might say, it was in the making in that there were 8 so many appraisals that were being rejected, I sat 9 down and made up a list of what I found typically 10 were problems with those kind of appraisal 11 reports. That list was then brought to the 12 meeting, discussed, and compared with the other 13 district appraisers staff. And this list here is 14 the result of that meeting in Sanibel of what we 15 were discovering nationwide were the most common 16 R-41B deficiencies. 17 Q. Was this list of most common R-41B 18 appraisal deficiencies then published? 19 A. It was published. In fact, we met with 20 the appraisal industry groups, all of the major 21 professional appraisal groups. And all of them 22 agreed to publish it as a part of one of their 7127 1 publications or another so that their members 2 would be aware of the kinds of problems that we 3 were observing. 4 Q. I'll hand you what's been marked T7747. 5 Can you identify this document, sir? 6 A. This particular document is, I believe, 7 a monthly publication that's put out by one of the 8 professional groups, the National Association of 9 Independent Fee Appraisers. It's a typical 10 example. I don't know the precise date. I do 11 know it was during 1985. But it lists the same 12 thing here, the most common R-41B appraisal 13 deficiency. And of course, it's a direct takeoff 14 from the list that you presented earlier. 15 MR. LEIMAN: Your Honor, I move T7745 16 and T7747 into evidence. 17 MR. DUEFFERT: No objection. 18 THE COURT: Received. 19 Q. (BY MR. LEIMAN) Mr. Lovell, you heard 20 the objection about how the government likes to 21 tar with a broad brush raised by Mr. Eisenhart. 22 Let me ask you this: Were there 7128 1 examples, in your experience, of appraisers that 2 did follow the rules and made R-41B appraisals? 3 A. Absolutely. There is no question about 4 it. There were many fine appraisers. It would be 5 a mistake to say that the industry was full of 6 scoundrels. It's just that we had a high 7 percentage or a very large number of individuals, 8 far in excess of what was commonly recognized, who 9 weren't practicing appropriately. 10 It was -- the typical industry position 11 for years had been that, well, there was always 12 this 1 or 2 percent of outliers who were producing 13 inappropriate appraisal reports. And what history 14 had proven, based on our factual analysis of 15 thousands of appraisal reports is, in fact, it 16 wasn't 1 or 2 percent. We really were dealing in 17 magnitudes of percentages considerably in excess 18 of that. 19 Q. All right. In that regard, let's get 20 down to cases. I'd like you to look at an exhibit 21 that was previously marked. I'm going to hand it 22 to you in a moment, which is T7701. 7129 1 MR. LEIMAN: This was at Tab 734, Your 2 Honor. It was introduced with -- it was with 3 Mr. Minch. 4 MR. DUEFFERT: Your Honor, I don't know 5 what Mr. Leiman is intending to do with this 6 document. I will say for the record that this was 7 not among the documents that this expert reviewed 8 prior to his deposition, and we've had no notice 9 that this expert was going to comment on this 10 appraisal document. 11 MR. LEIMAN: Your Honor, would you like 12 to know -- what the witness is going to be 13 testifying to in connection with this document is 14 substantively what he believes is right about it 15 and what he thinks -- how it complies with R-41B 16 by way of illustration. We did provide this. 17 This document is an exhibit. We told Mr. Dueffert 18 last night this would be one of the documents that 19 would be discussed today. And as Your Honor 20 knows, Mr. Lovell is standing in for a critically 21 ill colleague, Mr. Rodney McBride, who is 22 terminally ill with pancreatic cancer. And he has 7130 1 graciously agreed to testify on relatively short 2 notice, as well as give his deposition on short 3 notice. 4 MR. DUEFFERT: Your Honor, it's just a 5 question of notice. It might have been on the 6 list that we were provided last night. I don't 7 think it was. And we now have an appraiser who's 8 going to be critiquing an appraisal, and this is 9 the first I've ever heard of it. 10 THE COURT: Well, he's testifying about 11 appraisal standards. This is a document that's 12 been received. 13 MR. DUEFFERT: I just want that comment 14 noted for the record. I also would like the 15 record to note that there is no evidence that this 16 appraisal was ever received by United. 17 THE COURT: I believe that's consistent 18 with the testimony that we have. This is an 19 appraisal that was made for Mr. Minch. Right? 20 MR. LEIMAN: Yes, it was, Your Honor, 21 and was paid for by United. 22 THE COURT: So -- 7131 1 MR. DUEFFERT: No, Your Honor. It was 2 paid for out of loan proceeds, but there is no 3 evidence that United knew about this appraisal. 4 THE COURT: All right. Do you have 5 some questions for the witness? 6 MR. LEIMAN: I do have very few 7 questions, Your Honor. 8 THE COURT: All right. Let's have 9 them. 10 Q. (BY MR. LEIMAN) You testified a few 11 minutes ago, Mr. Lovell, that not everyone was 12 doing it wrong. You've looked through the 13 appraisal made by Appraisal Associates of Austin. 14 You reviewed this June 11th, 1986 document which 15 purports to give market valuations in connection 16 with what we've talked about and what you have 17 come to know as the Norwood property. 18 What is your impression of this 19 document? 20 A. Well, I read the appraisal report; and 21 a couple of things, I think, struck me about it, 22 particularly, I think, after having read the 7132 1 market study then done on the Norwood property, as 2 well as the other appraisal that was outstanding 3 on it. And I still have, quite frankly, some 4 questions after reading this particular report. I 5 would be remiss to say that I believe this report 6 is 100 percent in compliance. 7 But by the same token, I believe the 8 appraiser made a reasonable effort; and I would 9 point to a couple of areas in the appraisal. 10 We're talking about a proposed development here. 11 And the appraiser made, in his highest and best 12 use analysis, a very specific effort to really get 13 into the economic feasibility. Because in the 14 case of a proposed development, it's really 15 incumbent on the appraiser to evaluate the 16 proposed use and to comment on and to reflect in 17 his report the relative economic feasibility of 18 the use. 19 He specifically states in here in his 20 best use analysis, that the best use is the 21 proposed use, sure enough. And he cites the 22 reason for it. And he cites the reason why it is 7133 1 the best use is that it's been demonstrated by 2 virtue of the cash flow analysis performed later 3 on in the appraisal report that there is an 4 adequate or appropriate level of profit that will 5 be generated. 6 So, that was an important difference, I 7 think, between this appraisal and the other 8 appraisal that was done on the property. Another 9 issue, I think, that was considerably different -- 10 and again, I would have, I think, some 11 disagreements with some of the analysis in it. 12 But irrespective of that, he made an 13 effort to not make assumptions about the 14 marketability of this property. He recognized and 15 actually took a look at what was the competitive 16 supply out there in the marketplace and make some 17 kind of estimate as to relative demand and the 18 ability of this particular property to capture a 19 market share over a period of time. 20 Those are key ingredients for doing an 21 appropriate market analysis, not just saying, 22 "Well, we think this property can be sold off 7134 1 successfully and developed and money can be made 2 off of it." But actually getting into the heart 3 and soul of what market analysis is all about. 4 So, those were two things that I felt pretty good 5 about. 6 The third item which shows, I think, an 7 awful lot of moxie, quite honestly, on the 8 appraiser's part is that he reflects something 9 that might have been unusual at that point in 10 time: That he is, indeed, appraising a vacant 11 tract of land. And the proposal is to construct 12 some type of improvements on it, and he reflects 13 the fact that you cannot instantaneously construct 14 improvements on a piece of raw land and have a 15 finished product. 16 What he has done in here is he's 17 reflected that it's going to take some six 18 months -- and you could argue his construction 19 period -- before we have finished product ready to 20 sell. 21 So, his date of value is actually some 22 date after the date of the appraisal report that's 7135 1 written here. I believe it was like October 1st. 2 Q. What about his sales estimate? Did you 3 feel that those were conservative, overly 4 optimistic? Did you have an impression of those? 5 A. Well, again, I'm looking at -- and the 6 two questions I would have relative to this 7 appraisal report is, one, in the market analysis, 8 the Burke, O'Hara study that was done, they make a 9 specific statement in there that it's estimated to 10 take some ten years to sell off this particular 11 property. 12 The appraisal report here, as I recall, 13 we use a cash flow estimate where we're thinking 14 in terms of selling it off over a period of time 15 of some five years or approximately five, six-year 16 period of time. I felt like his sales projections 17 in here were fairly aggressive, given the scale of 18 the property and given the information that was 19 contained in the feasibility study, as well as the 20 issue of -- you deal with things like occupancy 21 levels so that the market study that had been done 22 indicated that there might be some problems 7136 1 relative to occupancy levels for certain uses in 2 the area of motel uses, for example. And we had 3 some comments that were made in there relative to 4 office occupancy. In fact, I believe you showed 5 me briefly before we came here today an update of 6 that study, the Burke, O'Hara study. And they 7 indicated that it was some 10 plus years, 10, 11, 8 12 years they were estimated to sell off office 9 space. Now, that's an unduly long period of time. 10 And knowing that information, I think, his sales 11 period in here was pretty doggone aggressive. 12 The other issue I think that is very, 13 very important in this property -- and I took 14 certainly note of -- is the fact that the market 15 analysis comments that there apparently is some 16 plan, some definitive plan, to turn Highway 183 17 that adjoins and abuts this property into a 18 limited-access facility. And my concern about 19 that is that properties that are at the 20 intersection of limited access type highways 21 frequently become what I commonly call "no man's 22 land." That is, you can see them but you can't 7137 1 figure out how quite to get to them and they 2 become relegated, quite often, to low-level uses. 3 You'll quite commonly find in a great many cities 4 that those areas become perhaps sites for 5 warehousing manufacturing type facilities. But 6 they are not commonly useful for hotels, retail 7 store type activity. 8 Q. I'm not sure I understand what you mean 9 when you refer to "limited-access highways." 10 Do you mean were they joined? 11 A. Yes. When you have limited-access 12 highways that are joining, you generally have a 13 high -- the reason they are limited access is 14 because you have a high volume of traffic through 15 that area and you are prevented from direct access 16 on to any of the surrounding properties. It's 17 common to have access roads constructed right off 18 of the limited-access facility but, unfortunately, 19 due to the volume of traffic, what typically 20 transpires is that it becomes too congested and, 21 as a result, is not considered to be a very 22 desirable site. 7138 1 And that's why I have a big concern, 2 because the existence or the potential for turning 3 that highway into a limited-access facility could 4 materially adversely impact on the value of this 5 property. 6 Q. You say, Mr. Lovell, you have a big 7 concern. What do you base your opinion on in that 8 regard? 9 A. Well, I'm basing my opinion on my, I 10 guess, 26 years of experience in the business with 11 properties of all types around the United States. 12 Quite honestly, I drive home through an 13 interchange every evening that has exactly this 14 kind of situation. And it's -- it's rather 15 interesting to watch over the years what uses have 16 unfolded in the Interstate 85/285 interchange that 17 I'm referring to in Atlanta. There was, indeed, a 18 hotel called the Presidential that had been built 19 in one of those quadrant properties. And that 20 property is accessible to the access roads just as 21 much as the subject property would be here. But 22 what happened ultimately is that became a 7139 1 foreclosed facility. It failed back there. 2 There's been attempts to revive it and, as far as 3 I know, it's still unsuccessful to this day. 4 Q. Now, you looked through this -- and I 5 know you looked through it rather briefly. 6 Did you notice that there were value 7 conclusions that were reached in this document? 8 A. Well, there were value conclusions. I 9 mean, probably the key distinguishing feature that 10 if there is anything that distinguishes a 11 so-called R-41B appraisal versus any other 12 standard appraisal that might be performed is 13 that -- is embodied in the statement in R-41B that 14 an appraisal needs to be a useful tool in the loan 15 underwriting or investment loan to facilitate the 16 decision-making process. 17 So, in that vein, this particular 18 appraisal report contains a couple of estimates 19 that would be expected in an analysis of this 20 property. One is an as-is value of the raw land 21 as it physically exists on the date of the 22 valuation. 7140 1 Q. Is that on Page 3 of the exhibit? 2 A. Let me check. That would be on the 3 third page of the exhibit. My copy here shows 4 initialing KM67. 5 Q. Is that near -- where is it on the 6 page? 7 A. The numbering is on the bottom 8 right-hand corner I'm looking at. 9 Q. And the as-is valuation is where? 10 A. The as-is values are reported -- there 11 is three different numbers that are reported up at 12 the top of that particular page because we've got 13 a 99-acre tract and an adjoining 24-acre tract and 14 then the combination of those two. So, we have 15 value estimates of the so-called as-is value for 16 the 99 acres separate from the adjoining 24 acres, 17 and then the combination of those two tracts 18 together. 19 Q. What is the 99-acre valuation? 20 A. The 99-acre valuation was $24,900,000. 21 Q. Are there -- is there another kind of a 22 valuation on this page? 7141 1 A. Yes. The other number that would be 2 appropriate in this type of credit decision, of 3 course, would be what is the anticipated value at 4 the point of completion. And on the bottom of 5 that page, the appraiser sites that reflecting the 6 October 1st, 1986 completion date, the value of 7 the property at the point of completion that's 8 anticipated then is $37,500,000. 9 Now, the relevance of that number 10 becomes the maximum number that a lender would -- 11 could reasonably extend on this property and 12 expect to be repaid. Any dollar that would be 13 extended over that, the property would be 14 incapable of repaying. 15 Q. What do you mean? 16 A. Well, the 37-million-dollar number 17 reflects what is the value of the property at the 18 point of completion. That's the maximum value 19 that this asset will ever attain which occurs at 20 the point of completion in there. A lender who 21 would extend any dollar of credit -- and this is 22 really a mathematical exercise. But a lender who 7142 1 would extend any dollar of credit in excess of 2 that 37,500,000-dollar number would discover that 3 the simple arithmetic would not supply him with 4 enough money to repay the credit. 5 So, for example, if you lent 6 $40 million on the 37 million 5 number, your 7 anticipation should be that you're going to suffer 8 about a 2-and-a-half-million-dollar loss in that 9 kind of example strictly because, after you deduct 10 off of the gross cash flows, all the holding costs 11 and disposition expenses over time, you get back 12 to those net dollars that are available to 13 actually repay debt service, not just interest but 14 actually repay the debt itself. 15 Q. Now, let's just look at methodology for 16 a moment that was used in this particular 17 document. What is the methodology? 18 MR. DUEFFERT: Your Honor, if we're 19 going to get into methodologies, I would urge that 20 we do it with the appraisals that United was 21 actually looking at. 22 MR. LEIMAN: Your Honor, we are going 7143 1 to do that. In fact, we're going to move off of 2 this appraisal in just a moment. 3 THE COURT: All right. 4 Q. (BY MR. LEIMAN) What would he use? 5 A. Well, he approached it from a couple of 6 different aspects. One is we looked at it from a 7 straight comparable sales looking at the raw land, 8 as well as from a development approach. The 9 particular development approach that was used to 10 develop the 37,500,000-dollar value that's 11 reported in this appraisal report happens to be -- 12 and I recognize it because it's one that I 13 advocated in my 1983 article on condominium 14 subdivision discounting -- as to how you go about 15 arriving at these as of completion type estimates. 16 Q. Mr. Lovell, I handed you, as well as 17 the Court, T7748. You wrote this article? 18 A. Yes, I did. 19 Q. And is this the article that you just 20 referred to as being published in 1983? 21 A. That's correct. Published in the 22 Appraisal Journal in 19838 October. 7144 1 Q. What's the Appraisal Journal? 2 A. The Appraisal Journal is the official 3 publication at that point in time of the American 4 Institute of Real Estate Appraisers and it was, I 5 believe, a monthly publication at that point, if 6 my memory serves me correct. 7 Q. Let me just be clear on one thing. The 8 American Institute of Real Estate Appraisers was 9 the organization that gave MAI designations; is 10 that right? 11 A. That's correct. 12 MR. LEIMAN: Your Honor, I move T7748 13 into evidence. 14 MR. DUEFFERT: No objections. 15 THE COURT: Received. 16 Q. (BY MR. LEIMAN) Mr. Lovell, I 17 couldn't help but notice on Page 15 of the 18 document that you've just identified, which is 19 T7748, a mathematical formula which purports to be 20 a revised cash flow model. And I'm not going to 21 ask you to explain it, and I'm not going to ask 22 you to give me an example of how to use it. I 7145 1 just want to know: Am I correct that it is a 2 revised cash flow model formula? 3 A. Yeah. It -- its attempt was, if you 4 read the article, the attempt was to come up with 5 a mathematical model that would appropriately 6 reflect the reality of these type of investments. 7 What had been commonly done in the -- preceding 8 this type of article, the methodology would have 9 independently, perhaps, looked at value of the 10 equity and the value of the mortgage and added the 11 two together and said that's the value of the 12 property. 13 And what I looked at, if you look at 14 these kinds of properties from a practical 15 aspect -- that is, that you start out with a 16 mortgage and as lots or what have you are sold off 17 over a period of time, cash flow becomes available 18 to the investment. The mortgage is paid off. 19 Generally, the loan terms and conditions operate a 20 little bit differently than they would in a 21 non-for-sale type property in that. As the sales 22 occur, typically you're looking to have a 7146 1 percentage amount in -- excess of the proportional 2 amount of the loan repaid with each cash flow that 3 comes in. In other words, the lender will 4 typically say, "Well, we expect 110 percent of the 5 relative loan amount to be repaid as each lot in 6 the development is sold." 7 Q. What does that mean, 110 percent? 8 A. Well, the reason for requiring 9 disproportionate, if you will, payments in 10 subdivision properties is that generally, although 11 sometimes it's difficult to really evaluate up 12 front, generally you have some portion of the 13 development that is preferred over other portions 14 of the development. And what functionally happens 15 in the real world is the best pieces sell off 16 first. Because the best parts of the development 17 sell off first, if the lender used a proportional 18 type of loan repayment schedule, they might well 19 wind up at the latter part of the development with 20 the least desirable tracts of property that might 21 have something associated with them. 22 So, what lenders try to do is 7147 1 functionally accelerate the repayment schedule so 2 that when you get to those less desirable tracts, 3 the amount of credit that's outstanding is 4 actually considerably less than the anticipated 5 selling prices of those properties. 6 Q. Now, I know you haven't reviewed it to 7 determine if this formula was used in -- by 8 Appraisal Associates of Austin in the 7701 9 appraisal that you commented on earlier, but was 10 the methodology generally what was employed? 11 A. Well, I didn't check his arithmetic; 12 but I can tell you by just looking at his method 13 of display and his comments relative to it that he 14 appears to have followed the cash flow schedule 15 that I advocate as being a useful tool of supply 16 in an appraisal of this particular type. And 17 assuming his arithmetic is correct, I would say 18 that he's followed what I've advocated here. 19 Q. Mr. Lovell, I'm handing you T7752. Do 20 you recognize the document? 21 A. Yes, I certainly do. 22 Q. What is it? 7148 1 A. Well, it's titled "Appraisal Concerns 2 of Thrift Institution Lenders." This particular 3 edition of it was generated in June of 1986. 4 Q. Why did you write this article? 5 A. Well, I think my position has been -- 6 and I think really the agency's position has been 7 that the reason that we've advocated appraisers to 8 prepare well-documented and well-supported 9 appraisal reports is not because we think that an 10 appraisal is some kind of esoteric theoretical 11 exercise or that it's a duty to behold unto 12 itself. An appraisal is a part of a 13 decision-making process and it needs to address 14 the particular decision that someone is engaged in 15 to supply the kind of information that's 16 necessary. 17 And so, what I tried to do here with 18 this list of appraisal concerns of thrift 19 institution lenders is to establish really the 20 role of how appraisals relate to the underwriting 21 process, that it's not a fragmented exercise, that 22 it's really part and parcel of an overall 7149 1 integrated activity. 2 Q. What other efforts have you been 3 involved in personally in connection with trying 4 to educate both the appraisal industry and the 5 thrift industry? 6 A. Well, I over the years have quite 7 literally put on hundreds of seminars, both on 8 Federal Home Loan Bank Board Memorandum R-41B, 9 R-41C, underwriting procedures for lending 10 institutions, appraisal concerns of thrift 11 institution lenders, and so on. 12 A large part of this effort came hot on 13 the heels of R-41B's publication in 1982 and 14 certainly the appraised equity capital regulation 15 that I mentioned earlier which generated so much 16 interest in "What is R-41B and what are we trying 17 to accomplish with it?" generated a tremendous 18 demand for information from the federal home loan 19 bank board. 20 And I felt like it was my 21 responsibility to try to fill that void and 22 educate the industry and try to overall honestly 7150 1 improve the level of practice. Rather than take 2 the regulatory type of sledge hammer and going out 3 and hitting people over the head, we felt like the 4 best approach is an educational approach. And if 5 we could appeal to the professional community and 6 the thrift industry and try to educate them on 7 what appropriate appraisals were all about, we 8 might be able to somehow divert the disaster which 9 ultimately occurred irrespective of our efforts. 10 MR. LEIMAN: Your Honor, my suspicion 11 is that we probably have about two more hours with 12 this witness, going through the specific 13 appraisals that have been testified to previously 14 by Mr. Graham. It's now 12:00 o'clock. 15 Hopefully, we could be done by, I would say, 3:00 16 or 3:30 in order to give respondents time for 17 cross-examination. And my question is: Is this a 18 good time for a noon break? 19 THE COURT: All right. We'll recess 20 until 1:30. 21 22 7151 1 (Luncheon recess taken at 12:03 p.m.) 2 3 THE COURT: Be seated, please. We'll 4 be back on the record. 5 Mr. Leiman, you may continue with your 6 examination. 7 MR. LEIMAN: Thank you, Your Honor. 8 I'd like to move into evidence T752, which I 9 failed to do at the conclusion of our morning 10 session. 11 MR. DUEFFERT: What document is that, 12 Mr. Leiman? No objections. 13 THE COURT: Received. 14 MR. LEIMAN: And also, I would call 15 upon Mr. Dueffert to identify Mr. Brian Schuler. 16 MR. DUEFFERT: Yes, Your Honor. 17 Mr. Brian Schuler is with us this morning and this 18 afternoon in the courtroom. He is an expert in 19 appraisal practice for respondents. 20 THE COURT: Thank you. 21 (1:36 p.m.) 22 Q. (BY MR. LEIMAN) Welcome back, 7152 1 Mr. Lovell. I'd like to inquire into some 2 specific appraisals that -- and some documents and 3 feasibility studies that relate to these 4 properties. First is T7138, which is the Burke, 5 O'Hara Fort Associates study bearing a June 4, 6 1986 date. 7 Mr. Lovell, you are familiar with this 8 document? 9 A. Yes. I've read it. 10 Q. My first question for you is: What 11 does it purport to do? 12 A. I think that's a good question because 13 it's one that I had when I read the study. It 14 seems to be largely based on pure assumption on 15 the analyst's part as opposed to an identification 16 and an analysis of market facts. As you read 17 through the study, it makes a number of statements 18 at various points about assuming that profit is 19 not an issue then, therefore, this is a feasible 20 use for the property. 21 Well, from an analyst's point of view, 22 that type of statement is akin to assuming away 7153 1 the property. I mean, it's -- if you assume that 2 while profit is not an issue, well, then almost 3 anything conceivable might be appropriate. We're 4 talking about an economic activity here of 5 developing a piece of real estate, and the study 6 really needed to address supply and demand in the 7 marketplace and the relative economic feasibility 8 of the proposed development that was set forth in 9 the development plan. So, that's -- that's 10 probably one of its big shortcomings. 11 The utility, really, of this particular 12 study is primarily as it relates to an appraisal 13 of the property, I think, is maybe the most 14 important element to consider. We have an 15 appraisal, I believe it was performed by a Mr. Rex 16 Bolin, of the property. And in his highest and 17 best use section of the report, he specifically 18 states that he relied upon this market analysis 19 and, in fact, incorporates as a part of his 20 appraisal report copies of certain pages and 21 conclusions that were reached in this study. 22 The part that I found rather incredible 7154 1 in reviewing that appraisal report is if that is 2 true, if he indeed relied upon the conclusions 3 that were reached in this study, it is unclear in 4 what manner he did rely upon it. 5 This market analysis and the executive 6 summary, right up front, states that it's going to 7 take approximately 10 years to sell out this 8 entire piece of property. The appraisal report 9 was predicated on the assumption that we're going 10 to be able to sell out to end users in two years, 11 the development. That's not just a minor 12 difference of opinion. That's a major variance in 13 analysis. And so, I failed to see how he could 14 have relied upon this, the conclusions that seem 15 to be reached in the market analysis. 16 Q. Mr. Lovell, the appraisal report you're 17 referring to would have been -- it's marked as 18 Exhibit T7029 by Rex Bolin as of June 5, 1986? 19 A. Yes, that's correct. 20 Q. In addition, did you also review, in 21 reaching your opinions, another -- an addendum to 22 the Burke, O'Hara Fort Associates study dated 7155 1 June 17, 1986, which would have been marked T7523? 2 A. Yes. I did read that addenda to this 3 market analysis study. 4 Q. Mr. Lovell, I handed you T7523. It's 5 dated June 17, 1986, addressed to Messrs. Minch 6 and Taylor. It purports to be an addendum to the 7 Norwood Park market analysis report. 8 Did this appear to be a part or an 9 addendum to the main Burke, O'Hara study that you 10 had read? 11 A. Well, it appeared to be what the 12 objective of it was, yes. 13 MR. LEIMAN: Your Honor, I move 7523 14 in. 15 MR. DUEFFERT: No objections. 16 THE COURT: I think it's already in. 17 Q. (BY MR. LEIMAN) Now, looking at some 18 of the specific issues raised in the Burke, O'Hara 19 analysis, if you would, sir, turn with me in the 20 main report of June 4th to Page 3. 21 A. Yes. 22 Q. It refers there to, in Paragraph 1, 7156 1 overall marketability and states that there is 2 sufficient market demand to absorb all elements of 3 the proposed projects by 1996. 4 What's the significance of 1996 being 5 the end date when this report is dated 1986? 6 A. Well, the significance is -- well, he 7 never says it's going to take 10 years to sell it 8 off. What he's telling you here in this Paragraph 9 1 on the overall marketability is that it's going 10 to take till 1996, given the fact that the study 11 was dated and prepared in June of 1986, and we're 12 talking about an expected sell-out date in 1996. 13 We're talking, in essence, about a 10-year 14 absorption period here. 15 Q. And what does the study -- does the 16 study conflict with itself in other parts? 17 A. I don't know that the study conflicts 18 with it in so much as we have a number of 19 assumptions. I mean, you go later on in that same 20 page under market conditions, just shortly above 21 the paragraph really, the bullet line immediately 22 above Paragraph 2.3. And it says "The operation 7157 1 is financially feasible with occupancy rates in 2 the first four to five years of 55 to 65 percent." 3 Well, what it's saying here in that 4 paragraph is that it's an exceptionally good 5 location if we assume it's financially feasible. 6 Well, that's great. The question, though, that 7 this study needs to address is: Is it financially 8 feasible? Not assuming that it's financially 9 feasible. 10 Q. Well, what would the study need to do 11 in order to address that point? 12 A. Well, in order to address the financial 13 feasibility analysis, an appraiser would have -- 14 appraiser -- the analyst would have actually 15 needed to have done an analysis of overall supply 16 and demand in the marketplace. That would have 17 been the basis for an absorption forecast, at 18 which point then the analyst would have 19 forecast -- take a look at expected selling prices 20 of these properties at some later date as absorbed 21 by the market, accounting for when those sales are 22 likely to occur, and then accounting for all other 7158 1 appropriate deductions, discounts, as well as all 2 of the costs that are associated with developing 3 this particular project. 4 After all of those deductions have been 5 made out, since one method of ascertaining 6 economic feasibility is to simply subtract off of 7 the gross revenue base all of the costs that are 8 going to be required to derive that type of 9 revenue, the net amount that you arrive at is the 10 value of the land or what is the imputed value of 11 the raw land. 12 If that value then can be supported by 13 overall market sales, then you have an indication 14 of economic feasibility. On the other hand, if it 15 turns out that the residual value, if you will, of 16 the land is less than what it would be worth for 17 some other use or on the open market as just a 18 tract of 99 acres, then you clearly don't have 19 economic feasibility indicated. 20 Q. Well, what about on Page 5 where the 21 analyst states "Among the inventory of features 22 that characterize the tract is that US 183 and 7159 1 IH-35 intersection is one of the busiest in 2 Austin"? What significance is that? 3 A. Well, I think the implication, 4 certainly as it was carried out in the appraisal, 5 was high visibility, high traffic volume equates 6 to value. And I think that's an interesting 7 assumption to make, but I don't think that it's 8 borne out by reality in other types of 9 investments. 10 My experience, as it states here, that 11 I -- US 183, excuse me, is going to perhaps be 12 converted into a limited-access facility. 13 Experience has shown that properties that are at 14 the intersection of limited-access facilities tend 15 to be difficult to develop and frequently fall 16 because of their inability to be easily accessed, 17 typically are not considered to be as useful nor 18 as valuable as properties that are located some 19 distance away. You can see this all over the 20 United States. There is certainly nothing 21 indigenous to the Austin market for this phenomena 22 to occur. 7160 1 Q. Where else has it happened? 2 A. Well, examples that just come to mind 3 and one that probably describes sort of the 4 condition that we were in here is one that I'm 5 very much familiar with down in Orlando, Florida. 6 Interstate 4 north of Orlando, Florida, is heading 7 in a north-south direction and at an extremely 8 busy intersection where Highway 436 crosses over 9 Interstate 4. 10 Initially, a mall developer locally 11 attempted to develop what was known as the 12 Interstate Mall. In fact, in the identical 13 quadrant as the Norwood property is intended to be 14 developed in here. And of course, 436 is not 15 limited-access as much as 183 is here. However, 16 I-4 was a limited-access highway. 17 What ultimately happened is the mall 18 became a financial failure and was closed and 19 there was great loss to the lenders that were 20 involved. The issue was one of congestion in the 21 property. Because of the high level of traffic 22 that was entering on and off of Highway 436 and 7161 1 Interstate 4, people do not like to shop in areas 2 where it's high traffic volume, high levels of 3 congestion. And so, they tend to be poor retail 4 locations. 5 We have similar examples in Atlanta. I 6 mentioned earlier today that I pass by one every 7 day on the way home, the intersection of 285 and 8 Interstate 85. And we have the four quadrants 9 there that have turned out to be largely relegated 10 to industrial-type warehousing space. 11 Q. Look back at Page 4 in Burke, O'Hara. 12 And I just want to be sure that I understand what 13 you're talking about when you're talking about 14 assuming away the problem. Looking under 15 Paragraph 3, absorption projections with regard to 16 office product, conventional hotel product, and 17 restaurant product. The analyst states, "assuming 18 a 15 percent average conventional hotel, assuming 19 a 40 percent of the" -- is that what you're 20 talking about? 21 A. That's exactly what I'm talking about. 22 He's assuming away the conclusions that the study 7162 1 should be supporting. 2 Q. Did you see anywhere in this study any 3 basis upon which those assumptions would have been 4 made? 5 A. No. 6 Q. Would that be something that the study 7 should have included? 8 A. I think it's something that should have 9 caught somebody's eye. I think anybody 10 experienced in real estate, particularly 11 commercial properties of this type, that would 12 have just jumped off the page at them. Assuming 13 away the fundamental reason for performing the 14 study in the first place creates a product here 15 that becomes interesting file filler, but it 16 serves no useful purpose. 17 Q. I'd like to turn to Exhibit T5761, 18 which is a document produced by the City of Austin 19 dated March 1986. And this is the -- referenced 20 as the northeast inventory. 21 A. Okay. 22 Q. Did you have a chance to look through 7163 1 this document? 2 A. Well, I have not read the entire scope 3 of this particular document. I did take a look at 4 a couple of portions of it that I thought were 5 really relevant, and they appear very early in the 6 product that's here. We have some projections 7 that appear in the executive summary section of 8 that report about findings where we're talking 9 about a market area being discussed to some 10 15,478 acres or around 24 square miles, 29 percent 11 of the area is inside the city limits, 904 acres 12 are permanently developed. They point out that 13 there is some 3300 acres or 22 percent of this 14 overall market area where the subject property 15 lies, incidentally and coincidentally, are 16 currently developed. And that there is another 17 6600 acres of -- approximately -- property that's 18 in the planning stages for development. 19 I mean, we're literally talking about 20 not just doubling the market size. We're talking 21 about tripling the overall market size with all of 22 the properties that are under development. 7164 1 There are some charts that appear in 2 here. Figure 2 in the study cites that approved 3 and under construction of properties of the 4 subject type, we have some 17 million square feet 5 of space that's under construction and an 6 additional 37 and a half million of proposed space 7 that's intended to be built. 8 The sum of those numbers vastly exceeds 9 the existing amount of office space that exists in 10 the entire City of Austin at that particular point 11 in time. So, we're not talking about a minor 12 amount of overbuilding here. We're talking about 13 a major level of overbuilding. And that is really 14 borne out in the Burke, O'Hara study where they 15 mention it's going to take some 10 years to sell 16 the property out. I mean, we're talking about an 17 extended -- extremely extended absorption period 18 here for this property. 19 Q. Well, Mr. Lovell, look at the page 20 before that which indicates the 21 17-million-dollar -- I'm sorry -- 22 17 million-square foot vacancy office space. 7165 1 Do you see the chart there in the map 2 indicating the northeast inventory in dotted 3 lines? 4 A. Yes, I do. 5 Q. All right. And you see the corner 6 that's on the far left side of those dotted lines? 7 A. Yes, I do. 8 Q. Would it be significant, in your 9 opinion, that the Norwood Mall would have been 10 located at that site? 11 A. I think the tendency of an analyst 12 might be to initially assume just because it's 13 closer to so-called ground zero central downtown 14 Austin, Texas, that, therefore, it's more 15 desirable property. But I think that would be the 16 view of somebody who isn't really appropriately 17 experienced. I mean, the fact of the matter is 18 that properties of a similar type that are located 19 out there in that same northeast corridor are 20 going to be competitive with one another. And 21 we're talking about a high level of construction 22 activity that's planned and currently in progress 7166 1 out there that's going to -- it appears to triple 2 the level of inventory that exists. 3 In that kind of climate, the relative 4 success of the property of this type would be 5 highly questionable. And from my point of view as 6 a loan underwriting specialist and my interest, it 7 is that the problem with raw land is raw land in 8 and of itself. Its value is largely dependent on 9 the ultimate usage you can put the land to. When 10 the use that the land is likely to be put to -- 11 that is, for shopping centers, hotels, office 12 space, retail sites -- is far off in the distant 13 future, the result of that is land that is nothing 14 more than a commodity. And like any commodity 15 product where we have an oversupply of the end 16 product out there, the value of the raw components 17 such as raw land drop rather dramatically. And in 18 the face of this type of market environment, it 19 seems to me it should have been pretty obvious 20 that we've got a vastly overbuilt market. 21 And so, the bases of some of these 22 analyses here of anticipating very high levels of 7167 1 prices and rapid absorption are just unlikely to 2 unfold. It's just unrealistic. 3 Q. Mr. Lovell, look with me, please, at 4 Page OW195368, which is Page 4 of the northeast 5 study done by the City of Austin. It says that, 6 in the second paragraph, the start paragraph, that 7 "Even if the area captures 25 percent" -- do you 8 see that -- "new office development"? 9 A. Uh-huh. 10 Q. It says it could take up to 45 years 11 for the planned 25 million square feet of office 12 space to be absorbed. 13 Would you have expected to see some 14 reference to that figure and this study in the 15 Burke, O'Hara study since it was done after the 16 March 1986 publication date of the City of 17 Austin's report? 18 A. Well, assuming the City of Austin's 19 report was widely available -- and I would assume 20 that that would be the case. Normally, an 21 appraiser who would be operating in a market area 22 like this would have access to this kind of study. 7168 1 I mean, this is the kind of data appraisers live 2 and die for. Here, you've got a government study 3 where someone has done a fairly detailed inventory 4 and analysis of the information that's out there 5 that is going to affect the subject property. So, 6 this would have been important data, I think, to 7 have considered. 8 Q. Can you think of a reason why it 9 wouldn't have been included? 10 A. Only if they were unaware of it. 11 Q. And would that have been something that 12 they should have been aware of? 13 A. Well, I think it would have been 14 reasonable. I mean, having -- I've been out there 15 in fee practice. This is the sort of thing you 16 know that cities are doing. You look forward to 17 them publishing it because it gives you a solid 18 basis for projections about what's going on in the 19 community. Good levels -- good inventory 20 statistics and good supply and demand statistics 21 are very difficult to develop. And when you get a 22 source of that kind of data like this, I mean, you 7169 1 really try to seize on it and use it to the 2 maximum extent possible. 3 MR. DUEFFERT: Point of clarification, 4 Your Honor. Mr. Leiman is using the word "they," 5 and I'm not sure who or what he's referring to as 6 far as who should have been aware of what, when. 7 It's very unclear on the record. 8 THE COURT: Can you clarify, 9 Mr. Leiman? 10 Q. (BY MR. LEIMAN) Let me ask you the 11 question. Would the analyst or the company that 12 wrote the Burke, O'Hara study, should they have 13 been aware of that? 14 A. I would certainly think so. 15 Q. Should the borrower have been aware of 16 it in connection with Norwood Park? 17 A. I think on a loan this size, 18 absolutely, a property this scale. 19 Q. And should the savings and loan 20 institution have been aware of it? 21 A. I think that if they have a 22 knowledgeable, skilled loan underwriter, I think 7170 1 absolutely. 2 Q. Mr. Lovell, turning further in this 3 Burke, O'Hara study to Page -- the projected hotel 4 demand on Page 32 of the study, which is 5 OW193380 -- this is in the Burke, O'Hara study. 6 A. Oh, excuse me. What was that page 7 reference again, please? 8 Q. It would have been Page 20 in the 9 study, which is OW19367. That's not right. I'm 10 sorry. 375. 11 MR. LEIMAN: Have I confused those 12 numbers, Mr. Keeton? I'm sorry. 13 MR. BLANKENSTEIN: I think you have. 14 Where are we? 15 MR. LEIMAN: We're at Page 32. That's 16 where we want to be. Sorry. 17 Q. (BY MR. LEIMAN) Projected hotel 18 demand. 19 A. Okay. 20 Q. The reference here by the analyst is to 21 a study done by Peat Marwick of downtown occupancy 22 rates being 50 percent for the next five years. 7171 1 In your estimation, given that fact, 2 how would that affect a proposed -- the occupancy 3 rates of a proposed hotel at the Norwood Park 4 location? 5 A. I don't know of any hotel properties at 6 a 50 percent level of occupancy producing that 7 cash flow. And so, if existing properties cannot 8 produce net revenues sufficient to pay all the 9 bills, why would anyone want to build another 10 facility? 11 Q. Well, why wouldn't a 50 percent 12 occupancy pay the bills? What do you mean? 13 A. Well, it's just economics. I mean, the 14 nature of hotel properties at a 50 percent level 15 of occupancy simply is not possible to pay all the 16 operating expenses of the facility. 17 Q. Mr. Lovell, let's turn to T7029, which 18 is the Bolin appraisal as of June 5, 1986. Now, 19 you've made reference to this before. I'll give 20 you a chance to get it out of your Redweld there. 21 A. Okay. 22 MR. DUEFFERT: Mr. Leiman, what is the 7172 1 exhibit number? 2 MR. LEIMAN: T7029. 3 Q. (BY MR. LEIMAN) Mr. Lovell, earlier 4 we looked at an appraisal document that was 5 prepared by Austin Appraisal Associates. 6 Do you remember that document? 7 A. Yes, I do. 8 Q. Okay. And as you recollect, that 9 was -- the appraisers that prepared it were from 10 the City of Austin? 11 A. That's correct. 12 Q. Now, looking at the very front page of 13 Exhibit 7029, we note that Mr. Bolin had his 14 office in Houston, Texas. 15 Is there any significance to the fact 16 that an appraiser that's preparing the appraisal 17 had his office in Houston and is doing an 18 appraisal on a local property in Austin? 19 A. There could be. 20 Q. What could it be? 21 A. Well, you have to take into account the 22 market area that we're operating in. Texas 7173 1 happens to be a relatively difficult market to 2 perform appraisals in, largely because of the 3 inability to get good, comparable data around the 4 state. The nondisclosure rule in the courthouse 5 records of this state make it very difficult to 6 get comparable sales, for example, and get that 7 type of detail. That, as a result, tends to limit 8 appraisers to operating within a relatively 9 confined geographic market. And so, I would have 10 some concern selecting an appraiser from out of 11 the market area in a state like Texas, just 12 knowing that kind of environment that we're 13 functioning in here. 14 The other issue I think would probably 15 have some relevance is you might go out of area if 16 we, indeed, were going after someone who was 17 highly skilled and that there weren't any other 18 talent available to prepare an appraisal of this 19 type. Based on the other report, I would 20 certainly -- don't think we have the data here to 21 support that there just was inadequate talent in 22 Austin at that particular point in time to cause 7174 1 us to want to go out of market area. 2 So, it would be of concern. Is it 3 absolutely critical? Probably not, but it's an 4 issue. 5 Q. In your experience, typically, what do 6 you consider to be a large credit for a savings 7 and loan institution? 8 A. Well, traditionally, at the Federal 9 Home Loan Bank Board, from the examiner's 10 perspective, we considered major loan or 11 investments in excess of $5 million. That was 12 just kind of an examiner's standard. The 13 significance of identifying that break point where 14 you're now talking in terms of a major loan or 15 investment is the level of documentation, data, 16 and analysis that we would anticipate the 17 institution to generate in their loan file versus 18 a smaller credit that would be typically less 19 important to an institution. 20 Q. Would it have been appropriate -- 21 strike that. 22 Would it have been necessary for the 7175 1 loan underwriter and the loan underwriting 2 committee that approved a large credit, such as 3 the one you described, over $5 million to have 4 analyzed and summarized the appraisal report upon 5 which they purportedly would rely? 6 A. I think it would have been a common 7 practice, and we would have anticipated from the 8 examination perspective -- and it's certainly 9 common lending practice when you get into larger 10 credits to have some kind of a summary of the sort 11 of analysis that was done and how the conclusions 12 were reached. 13 In larger credit decisions like this, 14 it would not have been uncommon, for example, to 15 have had perhaps a highly-skilled practicing 16 professional appraiser to actually review this 17 report and ascertain whether it was appropriately 18 prepared and reasonably documented and supported 19 and to have that review as a part of the loan file 20 in addition to the other sorts of documentation 21 that the loan underwriter would have generated. 22 Q. Why would you want it committed to 7176 1 writing? 2 A. Well, I think since the board of 3 directors is clearly responsible for the 4 operations of the institution. And when you talk 5 in terms of a large credit decision like this, I 6 think they would want to have -- leave some kind 7 of a trail in writing to be sure that somebody, in 8 fact, has done all the work that needed to be 9 done, that they didn't just say "Well, we did the 10 underwriting, but we really didn't" kind of a 11 thing. 12 Q. In your experience, in your opinion, 13 Mr. Lovell, what value would an appraisal be that 14 arrives after the loan committee has already 15 decided to approve the credit? 16 A. Well, we consider that improper 17 underwriting practice. 18 Q. What do you mean? 19 A. Well, because the appraisal is a 20 critical element of the loan underwriting process, 21 not having a critical piece of information to make 22 a decision by is tantamount to not following 7177 1 appropriate procedure. I mean, we charge it in 2 the exam report as unsafe and unsound lending 3 practice. 4 Q. Wouldn't it be okay just to have the 5 appraiser call you up or you call the appraiser 6 and get an oral response as to what the value 7 would be? 8 A. Well, that might be common practice in 9 residential loans. But it certainly isn't common 10 practice in this kind of transaction. The value 11 isn't really the issue. The issue is having an 12 appropriate level of information in front of the 13 loan underwriter to make an intelligent decision 14 by knowing the value of the asset may be the least 15 important piece of information you need to be 16 aware of. 17 MR. DUEFFERT: Your Honor, again, the 18 witness is testifying about current common 19 practices or common practices in 1986? I'd like 20 the record to be clear. 21 THE COURT: Is there a difference? 22 THE WITNESS: No. It's been accepted 7178 1 practice for as long as I've been in the business, 2 certainly, associated with lending. There hasn't 3 been any change here. 4 Q. (BY MR. LEIMAN) So, it would have 5 been common practice in '85 and '86? 6 A. Yes. 7 Q. Turn with me, please, to the second 8 page of Exhibit 7029, which would be the Bolin 9 appraisal document. 10 A. Which page reference is that again, 11 please? 12 Q. It's just the second page of the 13 exhibit. It says -- 14 THE COURT: Where are you, Mr. Leiman? 15 MR. LEIMAN: I'm at the second page of 16 the exhibit. 17 THE COURT: Thank you. 18 Q. (BY MR. LEIMAN) The second full 19 paragraph in the last sentence says "Value 20 conclusions represented in this report are subject 21 to the completion of the development for the 22 purpose of sale and use." 7179 1 What do you understand the appraiser to 2 be saying when he states that the value 3 conclusions are subject to the completion of the 4 development for the purpose of sale and use? 5 A. Well, what he's doing is he's 6 estimating the hypothetical value of what the 7 property would be worth at the point of 8 completion, anticipated completion of the 9 infrastructure work in this particular case. 10 Q. Mr. Lovell, is there anything wrong 11 with doing that? 12 A. No. Nothing wrong with it at all. In 13 fact, it's a necessary number to have. 14 Q. Would R-41B require that number? 15 A. R-41B says we expect you to supply an 16 appraisal report that's a useful tool in the loan 17 underwriting process. Nowhere in R-41B are you 18 going to find it telling you that you have to have 19 an as-is value, a perspective value at the point 20 of anticipated completion in the future. It just 21 simply isn't there. Those values, though, would 22 be anticipated to be included in the appraisal 7180 1 because they are necessary numbers to 2 appropriately underwrite this property. 3 Q. Well, how would an appraiser know 4 whether or not R-41B requires those numbers? 5 A. The appraiser is supposed to get his 6 instructions from the institution because, 7 fundamentally, the institution is really his 8 client in this relationship. 9 Now, it's true he might have been paid 10 for by the borrower in the transaction; but 11 ultimately, he's preparing the appraisal report 12 and typically will say so right in the appraisal. 13 His report is to serve as a part of a credit 14 decision process. And so, he ought to be aware of 15 what type of information his client, the lender, 16 is really looking for. 17 Q. Mr. Lovell, look at the last full 18 paragraph on this Page 2 which says "The report 19 has been prepared in compliance with the Code of 20 Professional Ethics and Standards of Professional 21 Practice of the American Institute of Real Estate 22 Appraisers." 7181 1 Do you see that? 2 A. I see that. 3 Q. In your opinion, does this appraisal 4 report comply with those standards? 5 A. I think it's questionable. 6 Q. And why is that? 7 A. I think the problem with this report is 8 a lack of appropriate data and analysis for the 9 conclusions that seem to be reached in here. And 10 again, I point to things such as the 11 inconsistency. He says that he's relied upon a 12 market analysis study that is clearly indicating 13 that we have some kind of a 10-year absorption 14 period for the property. Yet, the actual sales 15 period that's included in his cash flow estimates 16 are only two years in duration. And if you look 17 at the assumptions that underlie those cash flow 18 estimates, they become even more absurd because he 19 suggests that there is some presales that are 20 occurring that are approximately going to account 21 for some 25 percent of this property. But if you 22 look at the actual arithmetic that he's put down 7182 1 there, he's actually assumed approximately 2 50 percent of the development is going to be 3 entirely sold out on day one, not 25 percent that 4 he cites a few lines earlier in the appraisal 5 report. 6 So, he's suggesting a very accelerated 7 pace of sale in this development. And I don't 8 think any of the factual information that I'm 9 aware of with respect to this property would 10 support that conclusion. And I think that's 11 incumbent on the appraiser. I mean, the Code of 12 Professional Ethics certainly does entail -- 13 doesn't say that the appraiser has to have a 14 certain level of documentation, but I think it's 15 clear that there needs to be a reasonable level of 16 support for the opinions that are expressed in 17 there so that a rational, reasonable reader of the 18 report would derive or arrive at the same kind of 19 conclusions that the appraiser has set forth in 20 the appraisal report. 21 Q. Looking at the rest of the sentence on 22 this last paragraph, it states that -- Mr. Bolin 7183 1 states that it's his opinion the report complies 2 with Bank Board Memorandum R-41B. I take it you 3 don't believe that's true? 4 A. My fundamental objection has been all 5 along to this particular appraisal that it is not 6 a useful tool in the credit decision process. The 7 lender needs an appropriate level of information 8 to make his decision. There is an awful lot 9 riding on a property like this. And if the level 10 of sales activity that's anticipated is off, has 11 been incorrectly estimated, it spells the 12 difference between an out-and-out failure or 13 perhaps a success in this project. The appraiser 14 needs to have a level of data that a reader can 15 follow clearly and understand why he's concluded 16 the pace of sales that he has. The case is not 17 made in this appraisal report for the conclusions 18 that are reached in it. And as a result, I don't 19 think it's a useful tool. 20 Q. Would it have been enough for the 21 underwriters of the Norwood loan to have relied 22 solely upon this appraisal for the valuation? 7184 1 MR. DUEFFERT: I don't know for what 2 purpose, Your Honor. 3 Q. (BY MR. LEIMAN) In making their loan. 4 MR. DUEFFERT: Pursuant to regulations 5 or pursuant to Mr. Lovell's personal practices? I 6 don't understand the standards that we're talking 7 about here. 8 Q. (BY MR. LEIMAN) With regard to R-41B, 9 which is what we've been talking about. 10 A. Well, with regard to R-41B, I don't 11 think we'd have considered it to be appropriate. 12 I think we would have said that the appraisal just 13 simply does not contain a consistent amount and a 14 level of detail that's consistent with the type of 15 credit arrangement that's being contemplated here. 16 There's just too doggone many holes in it and, you 17 know, it -- I've seen a great number of appraisals 18 like this over the years. Maybe the numbers are 19 right, but the case isn't made in the appraisal 20 report. And if it isn't made in the appraisal 21 report, the lender shouldn't really be relying on 22 this. 7185 1 Q. Even though it's signed off on by an 2 MAI appraiser? 3 A. Well, I wish I could keep a straight 4 face and say that simply because someone possesses 5 MAI or some other level of credentials 6 automatically guarantees that you're going to have 7 a top-quality appraisal report. Unfortunately, 8 history has proven otherwise. I think that would 9 be a misplaced level of trust, to believe that 10 just a certain level of professional 11 qualifications guarantee that the appraisal is 12 going to be proper. 13 And I'd like to add one other thing. I 14 think one of the reasons why the Bank Board has 15 historically encouraged institutions to have 16 well-established appraisal policies and to 17 actually read and review these is to not place an 18 undue level of reliance on just simply the number 19 that's recited in the first couple pages in these 20 reports. It's been our position over the years 21 that the Bank Board -- that the key issue is "How 22 did he get there? It doesn't make any sense how 7186 1 he got there." 2 And so, the institution needs to look 3 behind just purely the value of the property. The 4 value oftentimes may be the least important piece 5 of information. And in this appraisal and in this 6 type of lending decision, probably the value is 7 the least important piece. 8 Q. Well, look at Page 12 of the appraisal 9 under "neighborhood data" and specifically look at 10 the third line from the bottom of the page where 11 the writer appears to be quoting from the fourth 12 quarter 1985 Growth Watch Report. 13 A. Uh-huh. 14 Q. Which was published by the City of 15 Austin, which is the -- 16 A. Yes. 17 Q. -- another document that we've been 18 talking about. 19 Can you think of any reason -- can you 20 think of any reason why the appraiser, this 21 Houston appraiser, would not have looked into 22 additional publications by the City of Austin? 7187 1 A. Well, I think what that shows is that 2 he was aware that there is such a document as the 3 Growth Watch Report out there. I mean, you've now 4 got clear evidence that it wasn't, "Well, I'm from 5 Houston and I'm unaware that they actually 6 produced this sort of document in the Austin 7 marketplace. And so, therefore, I couldn't have 8 incorporated it." 9 He clearly states in here that he has 10 considered prior studies of this type of this 11 particular market area. He should have been aware 12 that there was another study either being 13 completed or underway. 14 Q. Mr. Lovell, look with me, please, at 15 Page 18 of the document. 16 A. Yes. 17 Q. It refers to "history of the subject 18 property." Mr. Lovell, does R-41B require a sales 19 history in connection with appraisal reports? 20 A. Well, yeah. But here's the point: 21 Standards of professional practice actually 22 require this kind of sales history be incorporated 7188 1 in the appraisal report. R-41B didn't add 2 anything new in that area. A point that I have 3 made many times is a lot of people see on 41B the 4 facts that we required a sales history should be 5 incorporated on the subject property. A lot of 6 appraisers have failed to recognize that as of 7 approximately May 1985, all institute members, all 8 members of the American Institute of Real Estate 9 Appraisers were required to include as a part of 10 every appraisal report a sales history of the 11 subject property. This is minimum reporting 12 standards. This is not something that was 13 invented or unique to the Bank Board. 14 And so, the sales history is really an 15 integral part. I mean, I'm kind of an old-time 16 appraiser. And where I come from on this subject 17 of sales history is it would just be unforgivable 18 in my training to be unaware of a prior sale of 19 the subject property and not have investigated it. 20 Q. What about other parts of the history 21 of the property, such as refinancing and defaults 22 in loan payments? Would that ever be part of a 7189 1 sales history or part of the history of the 2 property? 3 A. Well, they can be. It just depends 4 what the reasons are. Certainly when you've got 5 some kind of a loan default that's maybe occurred 6 on a property, the question I think somebody would 7 have to ask is, "What happened? What went wrong?" 8 Particularly if we're talking in terms of any kind 9 of proposed development. The supposition might be 10 where you've had prior defaults on it, maybe there 11 is something wrong with this property. And you do 12 get properties of this type where a financial 13 failure of one sort or another is generated in its 14 prior history and you get this shadow effect that 15 overhangs the property into the future. It gets 16 what we call a stigma associated with it because 17 it had some kind of a failure associated with it 18 previously. 19 Those could be important issues for the 20 appraiser to explore because they could affect the 21 property's reputation in the marketplace. I 22 mean -- 7190 1 Q. Turn to Page 19, please. The appraiser 2 states on Page 19 that he's reviewed a feasibility 3 study prepared by Burke, O'Hara & Associates and 4 we're in agreement with the conclusion reached in 5 this study. 6 Do you see that? 7 A. I do. 8 Q. Does R-41B require that a copy of the 9 entire feasibility study be attached? 10 A. Well -- 11 MR. DUEFFERT: Under what 12 circumstances, Your Honor? 13 THE COURT: Can you answer? 14 THE WITNESS: Yes. 15 A. Functionally, what we were looking for 16 to be included in an appraisal -- and this is why 17 we use the terminology "self-contained" -- is we 18 felt like the highest and best use, which is 19 really the heart and the soul of the appraisal 20 report, needs to be appropriately documented and 21 supported. And because it is so critical to the 22 valuation of the property where an appraiser is 7191 1 relying on some third-party study that's been done 2 out there, the appraiser needs to disclose in his 3 appraisal report whether he concurs with that 4 study or doesn't concur with it and incorporate as 5 a part of his appraisal report some of the details 6 from that study. To not just simply say, "Well, 7 I've reviewed a study and I've relied solely on 8 it. And so, I have no responsibility to verify 9 whether that study makes any sense or not." 10 So, R-41B, yes, suggested that in the 11 case of properties of this type, there should be 12 some type of analyses of that feasibility study 13 contained within the body of the appraisal report, 14 but we really didn't identify in any great level 15 of detail what portions of the feasibility study 16 need to be incorporated because we left it 17 open-ended so that there would be reasonable 18 flexibility for the analyst to include what he 19 thought was appropriate. 20 Q. In your review of this appraisal, were 21 there any other issues that stood out or were 22 significant to you in your analysis? 7192 1 A. Well, I've already mentioned the 2 two-year discounting that was followed through in 3 here which, if he's relying on the fees -- the 4 market study that had been previously done, it's 5 not clear in what manner he would have been 6 relying upon it because his accelerated sales is 7 not supported by the study he said that he's 8 relying on. So, that would clearly be one issue I 9 would have with the appraisal report. 10 I didn't go through and do any kind of 11 a detailed analysis of all of the sales and 12 whatnot, but my sense of his evaluation of the 13 land sales out in the vicinity of this property is 14 that we seem to have a tendency to conclude at the 15 upper end of the range pretty much across the 16 board as to what the anticipated selling prices 17 are. And again, I think you have to take a look 18 at this in the context of what's going on in the 19 market area. We've got a market where there is 20 substantial evidence that it's heavily 21 oversupplied, oversaturated, and is probably going 22 to experience some severe difficulties in the 7193 1 future. It doesn't seem to make sense to go to 2 the upper end of price levels in the face of that 3 kind of information in the marketplace. 4 I've mentioned, too, about his cash 5 flow analysis section in the appraisal report 6 where we do the present value of the finished 7 development. And I found it kind of curious 8 because we're forecasting a two-year sales period 9 in here and on Pages 56 and 57, he develops that 10 cash flow analysis. What he has done, though, if 11 you look at his arithmetic, is we have 12 pre-development sales over on Page 57 of some 13 15,288,000. Those properties are according to the 14 next of the appraisal already under contract. And 15 then he makes an assumption, without explanation, 16 in this report of further development sales of 17 another $13,356,000. 18 So, in essence, just looking at the 19 arithmetic here, we've got about approximately 20 50 percent of the development is assumed to be 21 presold from day one. Again, given the market 22 information we have here, that seems to be a very 7194 1 aggressive assumption to have incorporated in here 2 and surely should have been supported if it was to 3 be included in here with some kind of data or 4 analysis to lead a reader to believe that that's a 5 rational conclusion to have made. 6 I guess those would be the major issues 7 that I would focus on, I mean, from an 8 underwriting perspective relative to this 9 appraisal. 10 Q. Turn, if you would, please, to Page 40. 11 And just going through the first five land sale 12 summary -- first of all, what is this land sale 13 summary for? Does it set out comparables? 14 A. Well, I think the intent here is to 15 have comparable sales, yeah. 16 Q. What significance is it that, in the 17 land sale summary, Comparables 1 through 5 are of 18 2 acres, 24 acres, 3 acres, 10 acres, and 2 acres 19 when you're dealing with a property which is 20 100 acres? 21 A. Well, the significance is this is how 22 you go about overvaluing this kind of property. 7195 1 It's a classic error in appraisal methodology. I 2 mean, it -- you have a large tract and you pick -- 3 because you say, "Well, I can't find any other 4 comparable sales." So, what you do is you go find 5 a bunch of small tract sales and then you add them 6 all up and you come up with this massive value 7 estimate. But it's unlikely. 99 acres is a 8 little bit more difficult, as a practical matter, 9 to sell off to anybody than a 2-acre parcel. And 10 clearly, there is some element -- at least there 11 ought to be a sense there of an element of a 12 quantity discount, if nothing else, when you're 13 talking about 2 acres versus 99 acres. Surely you 14 would think that the unit price per acre would be 15 somewhat less when you're buying in bulk, in the 16 case of a 99-acre parcel. 17 So, those are issues -- those are 18 issues as an appraisal reviewer I always look at 19 very closely because it does tend to be one of the 20 classic ways that values tend to be skewed to the 21 extreme high side on properties of this type. 22 Q. Mr. Lovell, in your opinion, would it 7196 1 have been a safe and sound practice for a savings 2 and loan committee to have relied upon this 3 appraisal in its underwriting decision? 4 A. Well, I've addressed that before. And 5 my answer was I think it would be unsafe and 6 unsound to rely on this appraisal. 7 Q. Do you have an opinion in connection 8 with any reliance to be placed upon the Burke, 9 O'Hara Fort Associates study? That would be 10 T7138. 11 A. I think the Burke, O'Hara study is 12 largely composed of supposition on their part and 13 assumption. It may be supportable by reality, but 14 there is nothing in there that supports it. 15 Q. Let's turn, Mr. Lovell, to 16 Exhibit T7127. 17 MR. DUEFFERT: I'm sorry, Mr. Leiman. 18 What was the document exhibit number again? 19 MR. LEIMAN: 7127. Tremar. 20 Q. (BY MR. LEIMAN) Do you have that in 21 front of you, Mr. Lovell? 22 A. Yes, I do. 7197 1 Q. Prior to today, have you had a chance 2 to review the Tremar study? 3 A. I have read it. 4 Q. Do you have an overall impression of 5 it? 6 A. Well, I find it intriguing. And I 7 guess I find it intriguing in the sense of how you 8 can conclude that the proposed development here is 9 going to be a success, given some of the 10 statistics that's cited in here. 11 I think there is an underlying 12 assumption that was laid out in this study about 13 the significance of Sea World relative to this 14 property that may not really be borne out by the 15 facts. My experience with Sea World's operation 16 in Orlando, Florida, would not suggest to me that 17 that development in and of itself would be of 18 great significance to this particular tract of 19 property and its overall potential development 20 over time. 21 Q. Why do you say that? 22 A. I think the problem with the Sea World 7198 1 is, one, it's not a destination -- true tourist 2 destination. I mean, if you look at the Orlando, 3 Florida, market, clearly Disney World is the 4 tourist destination of choice. You can go almost 5 anywhere in the world and you ask people where 6 would you want to go on vacation and they say 7 "Disney World." They don't say "I want to go to 8 Sea World." And that's not just -- that's 9 something that's very, very significant because a 10 lot of those attractions down in Orlando are not 11 demand-type drawers in and of themselves and they 12 are not capable of supporting themselves based on 13 the appeal that they have. 14 And this particular study goes through 15 and cites that, apparently, they visited the 16 San Diego Sea World park, which I found rather 17 incredible, because the San Diego market is so 18 dissimilar from the San Antonio market as to 19 not -- just not even be reasonable or comparable 20 at a minimum. If they were going to evaluate 21 something, they should have looked at certainly 22 the Orlando, Florida, market. And they might have 7199 1 even looked -- looked at the Ohio market for the 2 Ohio Sea World facility. But San Diego has so 3 many features that go beyond what's available in 4 San Antonio, I just don't see the comparability of 5 those two facilities. 6 Q. What do you think are a few of those 7 significant features? 8 A. Well, you've got a relative geographic 9 position. And by that, I mean San Diego is 10 sitting there right on the border with the United 11 States and Mexico. That factor has been of 12 increased significance as time has gone by over 13 the years for traffic, not just tourist traffic 14 passing over the border but international trade 15 traffic, as well. There has been quite a number 16 of plants and the like that have been built just 17 over the border in Mexico going back many, many 18 years. This is not something that's indigenous 19 just to the NAFTA legislation in recent years. 20 You've got the San Diego Naval base 21 there which, of course, is a huge facility in and 22 of itself which represents an enormous investment 7200 1 of the United States government. It was the major 2 supply depo in the Gulf War, for example, for most 3 of the -- 4 MR. EISENHART: Your Honor, he's been 5 offered as an expert on appraisals and loan 6 underwriting standards. We're now getting 7 lectures on the comparative economies of San Diego 8 and San Antonio. We're getting lectures on the 9 recreation industry, on Sea World. It seems to 10 me -- I realize Mr. Lovell has opinions on a lot 11 of things. But we're getting a little beyond his 12 area of expertise, I think. 13 THE COURT: Well, there is some 14 reference in the appraisal, I gather, to the Sea 15 World project he's comparing them to. I suppose 16 it's relevant. 17 Q. (BY MR. LEIMAN) What page are you 18 looking at, Mr. Lovell? 19 A. I'm looking at -- 20 MR. LEIMAN: If you look at Page 2 of 21 the appraisal, Your Honor, where it states in the 22 final paragraph, the study says -- the final 7201 1 section gives details of the field trip to the Sea 2 World facility in San Diego, California, and 3 concludes with an assessment of potential impact 4 upon west San Antonio and more particularly on 5 Park 410 West. 6 So, evidently, the people that prepared 7 the Tremar study took a field trip to the Sea 8 World facility in San Diego and took it into their 9 head somehow that San Diego was like San Antonio. 10 They both start with "San." I'm not sure why. 11 MR. BLANKENSTEIN: Your Honor, 12 Mr. Leiman's making a speech. There is no 13 question here. You've ruled on the objection. 14 THE COURT: All right. Next question. 15 Q. (BY MR. LEIMAN) All right. Without 16 going any further into the San Diego economy or 17 why they are significantly different, what other 18 issues did you feel were significant in connection 19 with your review of the Tremar study? 20 A. Well, you don't have to go too far into 21 the study. And looking on Page 20 of it we get a 22 discussion of the Park 410 site characteristics. 7202 1 And it talks in terms of we've got a 427-acre 2 Park 410 property, and we proceed to discuss other 3 competitive developments in the area. And the 4 study very rapidly cites that there is some 5 9,000 acres available for commercial, high tech, 6 light industrial, office, service center, retail 7 development that is presumably directly 8 competitive with the subject property here. I 9 mean, that's 9,000 acres -- to put things into 10 perspective, we're talking square miles here of 11 land to yet be developed. This is not an 12 insignificant amount of potential development of 13 land in the area. 14 That would clearly, I think, have an 15 impact. And certainly any appraisal and any 16 analysis of this market area should have very 17 carefully considered how the subject property fits 18 into this overall market. I don't think they 19 adequately did that in the study. They also cite 20 some other statistics in here that, as I went 21 through, caught my eye. 22 We talk in terms of things like 7203 1 housing, occupancy in the market area. And there 2 is some indication that we've got perhaps some 3 home sale decline going on. On Page 37, for 4 example, on the bottom of Page 37 of the study, 5 they mention that, as shown in the table, overall 6 housing starts declined in '84 by approximately 7 3.9 percent from the number of housing starts in 8 '83. Well, whenever you go into a decline of that 9 nature, I mean, we're talking about there is some 10 reason or rationale of why there is a sales 11 decline going on in the market. That's normally 12 reflecting something more fundamental in the 13 overall economy because home sales are dependent 14 upon employment base, ultimately, in an area. So, 15 the implication is that we've got some kind of 16 potential dropoff in employment that's underlying 17 this home sales decline that may be occurring in 18 here. You know, the study goes on and elaborates 19 in the final sentence "And during the first 20 quarter of '85" -- so, even more recent 21 statistics -- "the housing market experienced a 22 26 percent decline in new housing starts." 7204 1 So, we've got a pattern that's 2 unfolding here of potential oversupply and an 3 awful lot of available land for development and we 4 have a recital of a very large proportionate 5 decline in housing development in the market area. 6 Q. Would those be the kind of facts that 7 loan underwriters at a savings and loan would want 8 to be aware of? 9 A. Well, I think anybody who would be 10 lending on this kind of property in this market 11 surely would want to be aware of it because it 12 would be -- it would spell the difference between 13 success or likely failure of a development 14 property of this type. 15 I mean, I guess to add a little more 16 here, on Page 78, there is a chart that deals with 17 existing business park space analysis. And I 18 think the chart almost says it all, in a sense. 19 If you look at the bottom number there on total 20 square foot of occupancy that's going on, we've 21 got an occupancy rate of only about 79 percent. 22 In the case of office park development, 79 percent 7205 1 occupancy spells an absolute total abysmal 2 failure, financial failure of a project. I mean, 3 I, in my 26 years, don't know of any project 4 anywhere in the United States that's ever 5 succeeded with that level of vacancy that is going 6 on in this marketplace. 7 Q. Is there some threshold level at which 8 occupancy would be -- becomes critical mass? 9 A. Well, there is -- you're not going to 10 look it up in a book anywhere and you're going to 11 find a reference to it. But I think generally 12 speaking, I think most appraisers would probably 13 consider you need to be somewhere in the above 14 90 percent occupancy ratio in an office type 15 environment, office market, to justify new 16 construction. 17 The implication is if you don't have 18 that level of occupancy and you have a buildup of 19 inventory going on, the inevitable result is 20 rental rates are going to fall, which is 21 ultimately going to make new product completely 22 unfeasible. And, of course, the latecomers in the 7206 1 marketplace tend to be the failures, if you will. 2 Q. Well, look at Page 41, Mr. Lovell. And 3 look specifically at Paragraph F referring to 4 occupancy and absorption rates here in connection 5 with existing competitive apartment properties. 6 Do you see that? 7 A. Yes. Yes, I do. Overall occupancy 8 rate in the study area, 75.1 percent. 9 Q. And what is the significance of a 10 75.1 percent occupancy rate in connection with 11 multi-family apartments? 12 A. Well, it would be a failure. It would 13 result in a financial failure with this level of 14 occupancy. 15 Q. Would it be appropriate, then, to build 16 additional apartments into this kind of an 17 environment, based on your experience? 18 A. Based on my experience, I don't know of 19 any market, ever, in the United States where you 20 can actually justify, on an economic feasibility 21 basis, new apartment construction with a 22 75 percent average occupancy. 7207 1 Q. Now, look at Page 42, which is the very 2 next page. Look at the second full paragraph in 3 which the writer states that "Approximately 10 new 4 projects are currently being proposed to be 5 introduced into this market per recent platting 6 activity." And here in the Park 410 project, yet 7 further multi-family project was being considered. 8 What would your expectation be as to 9 yet another project in connection with Park 410? 10 A. Well, first off, I would have -- what 11 is said there, approximately 10 new projects, 12 that's exactly what I'd expect to be going on in 13 the marketplace. Given the fact that we have 14 75 percent occupancy now, I would expect that 15 what's generating this is an overbuilding in the 16 market area. So, we've got -- on the next page, 17 on 42, it's telling us we've gotten 10 new 18 projects going on. What the application is that 19 the market is deteriorating. It's moving away 20 from us. Occupancy is going to fall over time. 21 Vacancy levels are going to rise. Rent levels are 22 likely to drop as a result of all of this. It 7208 1 would be ill-advised to begin any new ventures in 2 this type of market environment. It's not 3 financially feasible. At some point in time, 4 maybe demand would catch up with supply and, at 5 that point, maybe it would be justified. But not 6 in the face of this level of over supplying. 7 Q. Well, look at Page 75, Mr. Lovell. And 8 I'm looking here under the heading 9 industrial/business park centers in the second 10 full paragraph. It states "Several significant 11 factors appear to correlate with high or low 12 occupancy level." And then it goes on to say 13 "Business centers that were relying only on high 14 tech and bio med firms as immediate tenants were 15 experiencing less successful marketing reaction." 16 And then it refers to two projects that are close 17 by. 18 What is the significance of those 19 occupancy levels? 20 A. I think it's telling you that you have 21 an extremely soft market here. Here, we've got a 22 couple of properties that have been marketing for 7209 1 over a year and they haven't yet generated a 2 single lease. That's not indicative of a very 3 strong market. That tends to be indicative of an 4 extremely weak market. There may be other factors 5 at work here, but the indication would be that we 6 do not have strength going on in this marketplace. 7 This is a very weak market. It has a very high 8 level of construction activity and a high level of 9 vacancy. 10 Q. Would a loan committee in the savings 11 and loan, underwriters, want to know about these 12 kinds of facts and figures that are set out in the 13 feasibility study such as those that are laid out 14 here in Tremar? 15 A. Not only would they -- should they know 16 about them, they should actively seek out that 17 sort of information. They are ultimately 18 responsible for being aware of this sort of thing. 19 Q. All right. Let's look now at 20 Exhibit 7143, which is a Love & Dugger appraisal 21 dated February 12th, 1986. 22 A. I have it. 7210 1 Q. Have you gone over this document prior 2 to today? 3 A. I have read it, yes. 4 Q. Do you have an opinion about it? 5 A. The problem that I have with this 6 report -- and there are a number of issues that I 7 have. But I guess one of them is its relevance in 8 this kind of lending that we're doing here. We're 9 talking about an acquisition/development type 10 loan. It's true we do need to have some kind of a 11 value estimate of the raw land, but we never did 12 go forward and develop any kind of estimate of the 13 overall property. And that would have been a key 14 number that should have been developed for the 15 lending institution. The lender should have 16 requested the appraiser to have supplied the 17 expected value of the property at the point of 18 completion. It is not, in fact, contained in this 19 appraisal report. 20 Some of the other problems with it is 21 the fundamental basis, I guess, of the appraisal I 22 think is very, very -- is questionable. And the 7211 1 reason I make that statement of it being 2 questionable is it boils down to an issue of some 3 fundamental assumptions that are made in this 4 report that I think have a very great impact on 5 the valuation that was ultimately done here. And 6 we're talking about a property, this Park 410 7 property, where it's going to be bordered, again, 8 by two limited-access highways. Unfortunately, 9 one of the limited-access highways doesn't exist 10 on the date of the valuation. 11 Q. Why is that important? 12 A. And an awful lot of what is said in 13 this appraisal report is reflecting on issues such 14 as the construction of Sea World, whether you 15 believe it being a very positive influence or not, 16 of being across the expressway, essentially, from 17 this particular property and being a positive 18 influence, except we don't have an expressway 19 there. And as I guess I understand it, it hasn't 20 been built to this day. That becomes a critical 21 assumption that's set forth in this report. 22 The analysis that they developed here 7212 1 might have been appropriate assuming that the 2 expressway was ultimately developed. But I think 3 given the fact that we did not have an expressway 4 that was actively under contract for development 5 at that point in time in that particular segment, 6 I think it was a little bit far-fetched and a 7 stretch on their part to suggest that that was a 8 reasonable assumption to have made in the report. 9 Q. Mr. Lovell, looking at Page IV, which 10 is OW015269 on the lower left-hand corner of the 11 page, looking at the middle paragraph, the writer 12 states that the development -- that the property 13 was analyzed using a developmental approach. 14 What's the developmental approach? 15 A. Well, the classical application of the 16 developmental approach is basically the land 17 residual technique. It's an income approach to 18 value. In essence, what the appraiser does is 19 takes a look at the gross revenues that the 20 property is likely to produce and the proposed use 21 that's intended here and subtracts off all of the 22 costs and expenses that are going to be necessary 7213 1 in order to generate those particular gross 2 revenues. In a classical land development 3 approach, the result of the estimate is a value 4 estimate of the raw land, theoretically. Again, 5 in this particular appraisal report, because of 6 the underlying assumption all the way through is 7 that we're going to have an expressway completed 8 out there and that not having been consummated in 9 reality on the date the report was -- the analysis 10 here becomes a little bit of a theoretical 11 exercise and really wouldn't have been an 12 appropriate basis to have extended credit, knowing 13 that -- at least if you believe the appraiser's 14 analysis, the expressway was going to be important 15 in the valuation of this property. 16 Q. Well, what does it mean then when it 17 says "the developmental approach assumes that the 18 appraised property is developed with streets, 19 utilities, and drainage channels and divided into 20 38 tracts for resale to users"? 21 A. Well, what he's done is he's gone 22 forward here and estimated the anticipated gross 7214 1 retail sales from the ultimate finished product 2 here of lots, commercial lots. And once he's made 3 those estimates, then he's subtracted off all of 4 the selling disposition and holding cost and 5 included -- as a part of his analysis, he also 6 subtracted off the anticipated development cost 7 for the infrastructure, things like street, sewer, 8 water and the like that would be necessary to 9 produce the finished product that we're going to 10 sell. 11 Q. Does he reach a raw land value? 12 A. Well, that's what's reported down there 13 on the bottom of that Roman Numeral IV page, 14 46,000,560. He doesn't ever, I don't think, come 15 out in the report and just flat say that, but 16 that's the implication, that that's the so-called 17 as-is value of the property, assuming we're going 18 to get an expressway at some point in the near 19 future. 20 Q. Looking at Page 18 of the report, you 21 earlier discussed rental occupancy and threshold 22 numbers. In the first paragraph near the top of 7215 1 the page, in the first full sentence, the writer 2 states "The citywide occupancy rate is 3 approximately 85 percent, although the recent 4 announcement of a regional-size mall to be located 5 on the city's northeast sector, coupled with other 6 features, could lower this figure." 7 What's the significance of the fact 8 that when this is combined with the information 9 we're seeing in Tremar, that there is a lowering 10 of occupancy rates? 11 A. Well, when you've got this kind of 12 trend going on in a market, this is not a positive 13 thing. One of the problems that I had with this 14 whole regional area analysis that's incorporated 15 in this appraisal report is that we have a lot of 16 statistical information, some of which appears to 17 be reasonably supported and the like. But we 18 never went anywhere with it. We needed to develop 19 some kind of an analysis of how population growth, 20 income growth, employment growth over time is 21 going to relate to this particular property that 22 we have here in question. We never relate this. 7216 1 In fact, as I read through it, I checked a lot of 2 calculations thinking that surely at some point, 3 we're going to get to the point of what this is 4 all about and why this has some relevance. And 5 you get to the conclusion section in this 6 appraisal report of all of this information that's 7 pitched out here and it's kind of like, "Well, 8 here it is. Read it." But it's never really 9 incorporated as a part of the overall analysis, at 10 least not that I can see. 11 Q. Well, look at Page 19 referring to 12 tourism on Paragraph F. 13 A. Yes. 14 Q. The writer states that there were 791 15 conventions that were held that generated 614,000 16 annual room nights in San Antonio. 17 Do you see that? 18 A. Yes, I do. 19 Q. And then later in the next paragraph, 20 the writer states that they are building a 21 950-room Marriott Hotel. 22 Do you see that? 7217 1 A. Uh-huh. (Witness nods head 2 affirmatively.) 3 Q. Multiplying 365 times 950, you come up 4 with 346,750 room nights. Did I do that right? 5 A. I haven't checked the arithmetic, but 6 that could be the case. 7 Q. I guess my question, apart from the 8 arithmetic being maybe a couple of digits off or 9 numbers off: Is it possible for a single hotel to 10 generate -- virtually a thousand-room hotel to 11 generate that kind of capacity? 12 MR. DUEFFERT: Objection on the grounds 13 of clarity. I don't understand that question at 14 all. 15 THE COURT: I'm not sure I do either. 16 MR. LEIMAN: Let me see if I can fix 17 it, Your Honor. 18 Q. (BY MR. LEIMAN) The writer is holding 19 out the fact that there were 614,000 annual room 20 nights that conventioneers had enjoyed in 21 San Antonio. Separately, the writer states that 22 the Marriott Hotel will produce 950 rooms. If we 7218 1 multiply that times a year, we come up with 2 346,000 plus room nights produced by a single 3 hotel. 4 On the next page, Page 20, the writer 5 refers to the opening of Sea World which will 6 produce, in the writer's opinion, an additional 7 hotel market area in the late 1980s. 8 My question to you, sir, is: In light 9 of your comments regarding Sea World, how much 10 room is there for additional new hotel buildings? 11 A. Well, I think it would be pretty much 12 of a stretch to assume that Sea World is going to 13 support a whole bunch of new hotels out there on 14 that side of the city where this project is 15 located. You know, theoretically, obviously, I 16 think a facility like Sea World, assuming it has 17 some element or some level of success, would 18 generate some kind of demand in the City of 19 San Antonio; but it would be a pretty tough sell, 20 I think, to most knowledgeable hotel investors to 21 base a new facility solely on just the Sea World 22 facility out there. There would have to be some 7219 1 other economic basis to indicate that it's 2 justifiable to construct new hotels. 3 Q. Look at Page 31, Mr. Lovell. 4 Commercial Development Activity. You mentioned 5 earlier about latecomers to development in -- 6 where were you referring to? Were you referring 7 generally to that phenomenon, or did you have 8 something specific in mind? 9 A. The level of -- is your question the 10 level of development that's going on in the market 11 area? 12 Q. Yes, sir. 13 A. Well, we have an indication of 14 declining occupancies, declining pace of sales in 15 residential housing. We don't have what appears 16 to be necessarily an extremely strong hotel market 17 in the San Antonio area. So, we've got -- and we 18 have some known 9,000 plus acres worth of land per 19 the Tremar study that's out there vacant and 20 available and ready to be competitive with the 21 subject properties. 22 So, these all indicate that we've got 7220 1 plenty of potential development sites and clearly 2 plenty of potential competition. 3 Q. Now, let's turn to near the end of the 4 document. Specifically, I'd like you to look at 5 Page 117. There is a reference there to a 6 discounted cash flow analysis. 7 Do you see that? 8 A. Uh-huh, yes, I do. 9 Q. What's the writer referring to in 10 connection with the basis of the market value 11 appraisal of raw land there at the top of the 12 page? 13 A. Well, it's exactly what it says. I 14 guess I find it fairly easily understood. He's, 15 in essence, saying that the value of what we've 16 got there is apparent in what we're going to put 17 the property to, the use that we're going to put 18 the property to. And the way that he arrives at 19 what the value is on a current basis is take a 20 look at the future sales pattern and going through 21 discounted cash flow analysis accounting for the 22 revenue and expenses and development of the 7221 1 property to arrive at what its current worth is. 2 In this particular instance, arriving at a 3 so-called as-is value of the raw land. 4 Q. Let's look now at Exhibit T7084, 5 Mr. Lovell. This purports to be an appraisal by 6 Edward B. Schulz & Company dated March 19th, 1986. 7 Have you read this appraisal before 8 today? 9 A. I have read the appraisal. 10 Q. Do you have an opinion about the 11 appraisal? 12 A. Well, the problem here is that we have 13 developed a value estimate of the property as it's 14 proposed to be developed. That is, as some kind 15 of a 300 plus-acre commercial development. And 16 he's supposedly arrived at what it's going to be 17 worth at some theoretical point of completion. He 18 didn't place that theoretical point of completion 19 into the future. He estimated it as of 20 essentially the date that he's writing the 21 appraisal report. But be that as it may -- 22 Q. Are you referring to a specific page? 7222 1 A. Well, I'm looking right at the very 2 first page of the report where he states "The 3 effective date of our analysis is February 17th." 4 The letter of transmittal clearly says March 19th, 5 1986. So, he's estimating the value of the 6 property in close proximity to the date that the 7 report is actually being written. 8 His analysis here goes on to state that 9 "Based on the analysis of the data contained in 10 the report, it's the opinion the fair market value 11 of the development, contingent upon completing the 12 engineering, street sewer, utility works, and the 13 likes is $88 million. 14 So, he's developed a value of the 15 property at the expected date of completion which 16 he's stated to be on a current basis here. 17 Q. Looking at Page 2 of the document, 18 which is US5892, the writer refers to 19 contingencies. 20 A. Yes. Under the contingency section, he 21 clearly makes this case here -- "The value as 22 stated is contingent upon all the development 7223 1 plans being completed in a good, workmanlike 2 manner and value assumes prudent management, 3 architectural controls, and restrictions." 4 I would also add -- which probably 5 should have been incorporated in here -- but 6 clearly, his analysis, as much as the Love & 7 Dugger appraisal we had just looked at, assumes 8 that we're going to have an expressway built 9 concurrent with the development of this property. 10 Q. Is there something wrong with making 11 that assumption? 12 A. Well, there is nothing wrong with 13 assuming the expressway is going to be built if 14 it's going to become fact, but you'd better be 15 able to pin it down, that that is a reasonable 16 estimate to have made. At the point in time, 17 according to all of the information in the two 18 appraisals and the Tremar study, we don't have all 19 of the expressway actively under contract. We 20 have certain portions of the expressway under 21 contract, but we haven't, in fact, let the 22 contracts for building the main roadbed or any of 7224 1 those. We're building other portions of it. Some 2 of the access roads on and off. There is a vast 3 difference between building some of the future 4 access roads to it and actually building the 5 expressway itself. All of this means that the 6 actual date that this property is likely to land 7 on the market as a marketable entity unto itself 8 is going to be put off some point further into the 9 future because you really can't effectively market 10 this property, if the expressway is a critical 11 component of its value, until you've got the 12 expressway in. Until the expressway is there, 13 you've got a property that is kind of a wounded 14 bird of sorts because it's missing one of its key 15 components. 16 Q. Look at Page 16, Mr. Lovell. And it's 17 at 5909. And the reference here in the second 18 full paragraph is "We have possession of a market 19 study prepared by Tremar Real Estate Research, 20 Inc. dated October 1985." He refers there to some 21 interesting statistical factors. 22 Do you see that? 7225 1 A. Yes, I do. 2 Q. He goes on to quote from the Tremar 3 study. Am I right? 4 A. Yes, he does. 5 Q. Do you have an opinion as to whether or 6 not the appraiser in -- that wrote this appraisal 7 adopted the Tremar study? 8 A. Well, I think that's the suggestion 9 here. And I guess one of the observations I made 10 at this point in reading the appraisal is -- 11 because I had been noting all the way through here 12 a number of typographic things -- he makes a 13 statement in the middle of that paragraph. On the 14 bottom of Page 16, he says "Projections to the 15 year 1989 indicate a continuing growth rate of 16 approximately 30 percent -- 37 percent annually to 17 64,925 people." 18 37 percent annual population growth 19 rate is absolutely absurd. Typographicals don't 20 necessarily get me too excited except that they 21 do, I think, exhibit a level of lack of care on 22 the appraiser's part. I mean, normally an 7226 1 appraiser tries to carefully proofread his work. 2 And we've got more than just one or two of these 3 kind of things that have crept into this appraisal 4 report. I question how carefully he evaluated his 5 own analysis here before he went to print with it. 6 Q. Would you have expected the appraiser 7 to check the data that Tremar would have 8 developed? 9 A. Well, if you're going to rely on the 10 Tremar study, I think you better be sure that the 11 data and the conclusions that were arrived at in 12 the Tremar study are reasonable. 13 Q. Did you see any evidence that this 14 appraiser had done that? 15 A. No, I did not. 16 Q. Turn, please, to Page 19. Page 19, the 17 appraiser refers to Northwest Crossroads contains 18 341 acres being situated along the west side of 19 the Loop 410." 20 Do you see that? 21 A. Yes, I do. 22 Q. It also goes on to talk about Westlakes 7227 1 containing a thousand acres. And he talks about 2 25 percent of development being sold out at the 3 present time on the west side of Loop 410. 4 Do you see that? 5 A. Yes, I do. 6 Q. What's the significance of these 7 thousand-acre -- of this thousand-acre parcel as 8 well as the 341-acre parcel? 9 A. Well, I think it's an element of scale. 10 I mean, it's easy to just look at gross numbers 11 and not realize what you're really looking at 12 here. 1,028 acres -- a square mile contains 13 640 acres. So, we're talking about something 14 getting towards 2 square miles of land. That's an 15 awful lot of real estate that's on the market 16 that's being actively marketed. We're talking 17 about a considerable amount of supply in this 18 market. It follows in with the Tremar study where 19 it's recited there is some 9,000 acres that's 20 available out in that vicinity. And again, at the 21 rate of 640 acres to a square mile, I mean, we're 22 talking tens of square miles here of potential 7228 1 competitive properties. 2 Q. Well, look at Page 20 near the bottom 3 of the page. The writer states that "Apartments 4 in the area currently have a 75.1 percent 5 occupancy rate and absorption among the projects 6 is averaged 18 and a half units per month." 7 Is that significant? 8 A. Well, I think the 75.1 percent 9 occupancy is significant. I mean, the absolute 10 level of number of apartments that are being 11 absorbed is an interesting figure. But if we're 12 sitting that at 75 percent occupancy level, it 13 just simply is not possible to develop new 14 apartment construction at that level of average 15 occupancy and justify it on an economic basis. 16 Q. Looking at Page 21, the writer says 17 "Due to the number of mixed-use developments in 18 the area, competition for the end user will be at 19 a high level. However, prudently managed projects 20 are expected to be successful due to the economic 21 base of San Antonio and its projections for 22 continued growth." 7229 1 What solace can a loan underwriter take 2 in this? 3 A. None. 4 Q. Why? 5 A. Well, it's tossed out there that 6 prudently managed is somehow going to, therefore, 7 translate into success. The prudent management, 8 in my experience, may be a key component of 9 success in a project; but in the face of 10 overwhelming oversupply in the marketplace, 11 prudent management isn't going to do it. You 12 cannot overcome the oversupply of the market. 13 Q. I'd like to ask you a question about 14 supply and oversupply. 15 What significance do you place on the 16 supply of real estate in connection with the 17 development loan? 18 A. The reason supply is so important in 19 the case of any kind of a land loan where we're 20 financing the development of raw land again 21 relates back to the issue of land as a commodity. 22 And as a commodity, its value is going to be 7230 1 contingent upon what ultimate product it is going 2 to be used for. Is it going to be used for 3 residential purposes? Is it going to be used as a 4 part of a hotel or a part of a shopping center? 5 If there is no demand for the final product, what 6 happens in the real world of commodities is the 7 lack of demand for the finished product results in 8 the value of the underlying commodity dramatically 9 falling. A lender lending on this type of venture 10 is at extreme risk because if anything goes 11 wrong -- and in this scale of development where 12 we're talking over a 300-acre development here, 13 you have a very high level of probability of 14 having something go wrong for a whole variety of 15 reasons. The likelihood of success approaches 16 zero, and the likelihood of failure approaches 17 100 percent. 18 Q. What do you base those statistics on? 19 A. Well, in part, it's just a matter of a 20 little bit of common sense and probably a little 21 bit of -- maybe a little bit too much experience 22 with large scale developments of this type. 7231 1 Looking at this particular appraisal report, he 2 quotes a number here of $88 million. And in my 3 experience, an 88-million-dollar property of this 4 particular type is automatically suspect. And the 5 rationale is really quite simple. It's one of 6 simple arithmetic. If you think in terms of, 7 "Well, we're going to need to extend $88 million 8 in order to develop this property," you're 9 implying at some point "We've got 88 million of 10 invested capital out there." And using round 11 numbers of, let's say, 10 percent interest on 12 88 million, we're talking about an annual debt 13 service -- forget about paying off any of the 14 principal in it -- of $8.8 million a year. That 15 means that this project is going to have to 16 generate, after all expenses, including 17 development costs and whatnot, a net revenue flow 18 of $8.8 million a year just to cover the debt 19 service on it. That level of debt service usually 20 becomes a real millstone around these projects 21 because if sales don't quite happen as they were 22 originally forecast, suddenly the amount of 7232 1 accumulated interest payments builds up in the 2 project and it very rapidly exceeds the value of 3 the underlying collateral. In essence, it's 4 highly unusual to witness the value of the 5 underlying collateral to rise as rapidly as the 6 rate of compound interest growth. 7 Q. If you only had an 80-million-dollar 8 loan, would the same analysis hold true? 9 A. The same analysis would hold true. And 10 again, this is kind of my experience. On this 11 sort of development, when you get over in the area 12 of around 25- to 30-million-dollar area, you're 13 starting now to get into the break point of where 14 the capital input up front becomes so great that 15 the likelihood of success starts dropping off 16 rather dramatically. If there is any missales, 17 any problems in the development pattern of the 18 property, even issues such as weather could 19 influence how rapidly you're able to install the 20 street, sewer, and water. Any kind of delay of 21 that nature becomes very, very costly and builds 22 up the overall cost of carry on this venture very 7233 1 rapidly. And it just increases the rate of 2 failure, the likelihood of failure that you're 3 going to experience. 4 Q. And does -- and what you're talking 5 about, then, is overall risk of the project? 6 A. The risk of the project. Again, we're 7 dealing with a commodity type product here where 8 we're financing, in essence, an inventory, a 9 manufacturer's inventory. We're starting out with 10 raw land whose value is contingent on an end 11 product. And if there is not a market for the end 12 product when we finally get around to actually 13 developing it, it means that the value -- the 14 current value of the raw land is likely to be 15 considerably different than what you might think 16 it is at the present time. It results in the 17 likelihood that the current value of the land is a 18 lot less than might be apparent, actually. 19 Q. What about the contrarian view, people 20 that think that you can hold on to the land and 21 the market would eventually turn around? Is that 22 prudent? 7234 1 A. Well, I think probably the best example 2 of this -- and I've used it in a lot of 3 seminars -- is if you theoretically deposited $1 4 in the mythical Antioch National Bank 2,000 years 5 ago at 5 percent interest, the sum of money on a 6 compound interest basis that you'd have today is a 7 number -- and you could work this in your 12C 8 calculator. It is a number that is so large that 9 it is greater than not only all of the dollars 10 that exist in the universe, the number is 11 mathematically so large it's greater than the 12 estimated number of particles that exist in the 13 entire universe. You literally could not print 14 the currency if you had all the physical matter 15 that exists in outerspace. 16 That's a truly astounding result. And 17 what it infers then is that a simple dollar 18 deposited at 5 percent interest rate in 2,000 19 years grows to a sum of money that's greater than 20 the value of everything that exists on the face of 21 the earth to this very day. 22 What I'm saying here is that real 7235 1 estate doesn't just go up because it exists. The 2 value of real estate is contingent on the use for 3 the property. If things went up just because they 4 exist, then the value of everything that is here 5 on the earth would be vastly beyond what it is at 6 the present time. 7 Q. Turning to Page 22, Mr. Lovell -- 8 THE COURT: How much more do you have? 9 MR. LEIMAN: I'd say about 15 minutes. 10 THE COURT: We'll take a short recess. 11 12 (A short break was taken 13 at 3:14 p.m.) 14 15 THE COURT: Be seated, please. We'll 16 be back on the record. Mr. Leiman, you may 17 continue. 18 MR. LEIMAN: Thank you, Your Honor. 19 Q. (BY MR. LEIMAN) Mr. Lovell, we were 20 talking about the Schulz appraisal. 21 Do you remember that? 22 A. Yes. 7236 1 Q. Okay. I'd like you to turn to Page 22 2 of that appraisal, the site analysis. 3 A. Okay. 4 Q. In the first sentence of this, it 5 states "The subject site involves a tract situated 6 on the northwest corner of the proposed 7 intersection of the Northwest Freeway and the Loop 8 410." 9 Do you see that? 10 A. Yes, I do. 11 Q. All right. Earlier in your testimony, 12 Mr. Lovell, you discussed topography. You 13 discussed locational factors such as land -- 14 tracts of land located at the intersection of two 15 limited-access freeways or two limited-access 16 highways. Right? 17 A. That's correct. 18 Q. In this case, we have the further 19 complication of a proposed intersection by virtue 20 of the fact that the Northwest Freeway, as of the 21 date of this analysis, had not yet existed. 22 Is there some further complication that 7237 1 one would expect in connection with building -- 2 assuming that a freeway were to be built at the 3 location at the intersection, is there a further 4 complication to delaying that -- the building of 5 that intersection and the location of the tract? 6 A. Well, I think the key is that if there 7 is any type of delay at all in the development, it 8 has an obvious and immediate impact on the value 9 of the property because if the frontage on the 10 expressway is important to whatever use is going 11 to be put on the property and then the expressway 12 is not built, obviously, one of the key elements 13 for the success of the venture is not present. 14 And so, you get failure staring you potentially in 15 the face. 16 And in this particular instance, that 17 page goes on to state that a very significant 18 amount of this frontage is, in fact, going to be 19 on this proposed freeway. It states that the 20 existing Loop 410 has 1600-foot of frontage; but 21 the proposed freeway is going to be 5400-foot. 22 So, that's over a mile worth of frontage that may 7238 1 not be built. 2 Q. And locationally, those tracts that 3 actually front on the intersected portion of those 4 two freeways, what would you expect by way of 5 sales prices for those? 6 A. Well, again, I have stated before -- 7 and it's somewhat similar to the Austin property. 8 When you get a property that's situated at the 9 intersection of two limited-access freeways, you 10 get a difficult situation where you have a high 11 visibility site but because of the level of 12 traffic congestion in the immediate vicinity, it 13 becomes less than desirable for a lot of typical 14 commercial uses. You can, in some instances, wind 15 up with what's the equivalent of an excellent 16 billboard location because of the visibility of 17 the property. But for things -- uses such as, 18 say, a hotel property, because of the difficult 19 access into it, they tend to result in those 20 tracts becoming sort of dead parcels that history, 21 in my experience, finds an awful lot of instances 22 where you get lower type of uses, such as 7239 1 warehousing and manufacturing, tend to be 2 functional in those kind of locations. 3 Q. Look with me if you would, Mr. Lovell, 4 at Page US5922, which is OW015438, and you'll see 5 an illustration of the proposed Northwest Loop -- 6 I'm sorry. The proposed Northwest Freeway and the 7 Northwest Loop 410. 8 Do you see that? 9 A. Yes, I do. 10 Q. All right. And do you see the parcel 11 of land that pertains to that intersection right 12 there? You see, I can't -- I think it's about 13 48 acres, I believe it's made out to be. 14 A. In the far corner? 15 Q. Slightly oval. 16 A. The far corner piece? Yes. I see what 17 you're referring to. 18 Q. Okay. Is that what you're referring to 19 as a potential site for a billboard? 20 A. Yes. As a matter of fact, a good deal 21 of the frontage that you have here for this 22 property could wind up becoming effectively that. 7240 1 It isn't just indigenous to that particular tract. 2 The difficulty of access and ingress and egress 3 into this overall tract, all of the 300 some acres 4 involved here, makes this a difficult parcel to 5 deal with. And even though you've got some access 6 roads that are going to be eventually apparently 7 built out here, they are proposed at the time that 8 this venture was being appraised. And so, they 9 aren't a reality. 10 Q. Among the parcels that you see here on 11 this illustration and that we view on this page, 12 what would you -- in your experience, what would 13 you expect the last parcels to actually sell out 14 be? 15 A. You mean the likely progression of most 16 desirable to least desirable tracts? 17 Q. Exactly. 18 A. Probably what would wind up becoming 19 the most desirable of the properties would be the 20 stuff that fronts off of the proposed Northeast 21 Freeway and what is it, Petranka Road. I believe 22 we have an intersection in there. That would 7241 1 probably wind up becoming the more desirable 2 property up in there for some kind of commercial 3 activity. 4 As you get further deep into that 5 corner or the quadrant of the freeway, in my 6 experience, the further you get into it, the less 7 likely the property is going to be used for 8 something maybe other than perhaps slight 9 warehousing. Again, some kind of manufacturing 10 facility of some sort or a combination of 11 warehouse, manufacturing type of operation. 12 Q. As it turns out, if we look on the next 13 page, there is a map that is illustrative of what 14 you're saying in terms of, I guess, proposed 15 zoning. 16 Do you see that? 17 A. Yes. 18 Q. All right. And so, the tract that 19 you're referring to would be the tract that would 20 be the least desirable would be the B3 tract? 21 A. Well, it very likely could wind up 22 becoming the least desirable in here. 7242 1 Q. The large B3 tract? 2 A. Yeah. And I would really -- I wouldn't 3 limit it, again, strictly to that one. I think 4 the properties that immediately are adjacent to 5 that are likely to be highly affected, as well. 6 Q. Turn with me, please, to Page 27 of the 7 appraisal. And in the -- and right about in the 8 middle of the page, it states that -- in reference 9 to the Tremar study, the author states that 10 "Development opportunities are plentiful. 11 However, there is an abundance of raw land 12 currently available for development from competing 13 facilities." 14 Do you see that? 15 A. Yes, I do. 16 Q. Of what significance is this to the 17 appraisal document itself? 18 A. Well, it should have had significance 19 in the absorption estimates that were carried out 20 in the appraisal report. The anticipated sales 21 period that was projected in here is really very 22 short for a property of this magnitude. Even in a 7243 1 very good market, I'd have great trouble believing 2 that this property would entirely sell out within 3 a five-year period. 300 acres, we're talking a 4 half a square mile of commercial property, being 5 completely developed within five years is a fairly 6 short period of time. And given the level of 7 supply in that market and the seeming lack of -- 8 we have a tremendous amount of competition. So, 9 there is no lack of available land for future 10 developments. So, you have many negatives, I 11 think, out there that are likely to have some 12 serious impact on the value of this asset. 13 Q. Now, when you're looking at the 14 absorption periods, are those the tables that are 15 referred to here on Page -- I believe it starts at 16 Page 50. Yes. Page 50. It's US5952, OW015648. 17 I think you've got it right there. 18 A. You're referring, I believe, then, to 19 the cash flow estimate? 20 Q. As well as the absorption term of four 21 and a half years that's set out there right 22 below -- 7244 1 A. Well, that was the assumption. Not 2 well supported, but that was the assumption that 3 the property was going to be able to sell entirely 4 out within four and a half years. 5 Q. And that's what you're referring to in 6 terms of the -- 7 A. I think it's extremely aggressive in 8 the face of over 9,000 acres of available 9 development land in the immediate vicinity. 10 Q. Page 28 of the document, US5926, states 11 in the second full paragraph that the author -- 12 the author concurs with the Tremar study, that the 13 subject property enjoys one of the primary 14 locations in the market area and it enjoys the 15 best location in west San Antonio and, if demand 16 continues, should receive a priority from buyers 17 of improved sites and mixed-unit developments. 18 I take it you do not agree with that 19 analysis? 20 A. I don't think it's supported. I think 21 it's tossed out there as being a reasonable 22 conclusion, but it's really just an assumption on 7245 1 the appraiser's part. The fact that it's a 2 high-visibility property located along two major 3 expressways, one of which doesn't exist, and that, 4 therefore, is going to translate into 5 highly-desirable tract, I think the appraiser is 6 assuming away the problem here by saying it's the 7 best -- if it is the best, there ought to be some 8 specific reasons that you can site why this 9 property would sell out first, why it is the very 10 best of the best, and why it has such an extreme 11 competitive advantage over all of the other tracts 12 in that particular marketplace. I don't think -- 13 regard it, myself, as appropriate practice to just 14 assume that type of conclusion. 15 Q. And looking at Page 29 under 16 "methodology" -- 17 A. Yes. 18 Q. Did you reach any conclusions with 19 respect to that? 20 A. Well, I think what caught my eye down 21 here -- and I take deference, I think, with every 22 appraisal on a proposed property. The last 7246 1 paragraph, he says "Another technique available to 2 the appraiser is the cost of development approach 3 and, while not utilized in this appraisal, we were 4 furnished figures by the developer --" 5 I have great difficulty in a market 6 value appraisal of a proposed property finding any 7 kind of rational basis for exclusion of the cost 8 approach. 9 Q. Why? 10 A. And I guess my basic reasoning is that 11 the way you determine or one of the easiest ways 12 to determine economic feasibility is that the 13 value generated is equal to or greater than the 14 cost of production of the item in question. When 15 you've got a cost approach, you've got all of the 16 elements of the cost to create the product there. 17 And all you need to do is compare it against the 18 value at the same point in time. If the value is 19 indeed greater than the cost of production, then 20 economic feasibility is reasonable, a reasonable 21 conclusion at that point. And I think it's 22 irresponsible, in my opinion, for an appraiser to 7247 1 exclude the cost approach on this type of 2 property. 3 Q. Mr. Lovell, turn, please, to Page 46. 4 Here, the appraiser deals with -- lays out some of 5 what he calls the present value analysis. 6 Do you see that? 7 A. Yes, I do. 8 Q. And the reference is to a present value 9 of individual sites to be developed in the project 10 totaling $110,900,000. It goes on to talk about, 11 once again, the absorption period, citing this 12 particular location as one of the premier 13 locations. 14 Did you find that the analysis, in 15 connection with the present value analysis that 16 was performed by the appraiser in this case, was 17 supported? 18 A. Well, I don't. The problem I've got is 19 he's got this absorption estimate down there and 20 he talks in terms of -- under his absorption 21 paragraph on Page 46, "Based on the information 22 furnished, Alamo Downs has sold in excess of 7248 1 100 acres or 25 acres a year." We have another 2 project, Big Country, 160 acres or 53 acres a year 3 since '83. He never really says exactly where 4 he's going with this, but I guess the image or the 5 impression that I get is, "Well, if we have a 6 piece of property over here that's selling 7 53 acres a year, then I guess our subject property 8 will sell 53 acres a year." I don't know that 9 that's a warranted assumption. 10 The fact of the matter is this subject 11 property is competing in a marketplace where you 12 have other supply properties like these out there. 13 And as you add incremental supply to the 14 marketplace, it's really inappropriate to assume 15 that your property is going to assume at the 16 identical pace of all the others. What happens is 17 that you have diluted effects, if nothing else, 18 because you're adding to the overall supply in the 19 marketplace. 20 And so, it might be even optimistic on 21 a property like this to assume there will be some 22 kind of perhaps proportional level of absorption 7249 1 based on the total overall supply of how the 2 subject relates to the overall marketplace. 3 With the subject representing some 300 4 plus acres in a market where they are citing 5 9,000 acres of competitive land, 300 acres 6 represents a fairly small overall percentage of 7 the marketplace. And I think, if that being true 8 on a proportionate basis, we'd be talking at 9 something well under 5 percent of the overall 10 market is likely to be achieved by our property. 11 My arithmetic, just doing some rough 12 numbers, is if you said 5 percent, which might be 13 aggressive, 5 percent of 300 acres wouldn't be 14 more than maybe 10, 15 acres a year might be a 15 reasonable level of absorption. That's the kind 16 of common sense analysis you really apply to this 17 kind of property. 18 Q. Would you have expected the loan 19 underwriting committee, loan underwriters of the 20 savings and loan involved with Park 410 property 21 to have applied that same kind of common sense 22 approach? 7250 1 A. I think that's what loan underwriting 2 is all about. It really isn't rocket science. 3 It's more common sense than almost anything else. 4 Q. Look at Page 47, please. Specifically 5 under the number of period and sales -- I guess 6 the number of periods and sales per period, about 7 the middle of the page, it says "Period 1 - no 8 discount was utilized with an appropriate discount 9 rate being utilized in the succeeding nine 10 periods." The statement here is that "No discount 11 is necessary during the construction period." 12 Is that typical? 13 A. Well, if we were arriving at raw land 14 value, yes. If we're going to estimate the value 15 of the property at the point of completion, then 16 theoretically, the construction has already been 17 done. And so, we don't really have a discount 18 period. I think what the appraiser is trying to 19 do here, as I read it, is make an assumption that 20 we've got some kind of a presales activity going 21 on during the construction phase. And when we get 22 to the point of completion, we're going to be able 7251 1 to close on some portion of the tract at that 2 particular point in time. It's not unusual 3 practice to include that sort of thing in there, 4 and I wouldn't in and of itself disagree with it. 5 It should be supported, but it's fair game. 6 Q. Now, in terms of appreciation, a little 7 bit farther down on the page, the appraiser states 8 that during the third and fourth periods, 9 appreciation was 5 percent, 10 percent for Periods 10 5 and 6. 11 A. Uh-huh. 12 Q. 5 percent for Periods 7 and 8? 13 A. Uh-huh, yes. 14 Q. 5 percent for period -- what is the 15 point of the -- what is the appraiser trying to do 16 there? 17 A. I do not know. I think that the 18 further you get out into a cash flow forecast of 19 anticipating appreciation rates at the tail end of 20 it, the obligation to support that contention 21 increases. I mean, you might be able to, near 22 term, show with current market information that, 7252 1 yeah, over the next six-month, 12-month, 18-month 2 period we've got some historical pattern of some 3 kind of price appreciation going on. But I think 4 you're really pushing the issue of saying, "Well, 5 what's going to happen is all these tail end cash 6 flows are suddenly going to be accelerating at 7 some rate of appreciation." I mean, why? What -- 8 there's got to be some economic basis for that 9 kind of acceleration in cash flows to go on at the 10 tail end. 11 I think it also is really a financial 12 modeling problem. You introduce a lot of error in 13 your cash flow estimates when you plug those kind 14 of appreciation rates in at the very tail end of 15 the cash flows. 16 Q. And when you do plug them in, what 17 effect does that have on the market valuation that 18 the appraiser reaches in connection with the 19 appraisal? 20 A. Any time you increase the anticipated 21 sales prices, in effect, what you're going to wind 22 up doing is increasing the current value of the 7253 1 property. So, by putting in any kind of 2 appreciation rates, you're, in effect, increasing 3 the value of the property. It's not necessarily 4 inappropriate to show appreciation in the cash 5 flow forecast, but it does need to be supported. 6 And it needs to make some sense, and it shouldn't 7 exceed the reach of your forecast and the range of 8 the information that you have. If you've got good 9 economic data that will support long-range 10 increases of this type, fine. But normally, in 11 the course, because of real estate, the duration 12 of real estate cycles, usually you can only 13 support increases in property values for maybe a 14 year, 18 months out into the future. Once you get 15 beyond that, it really becomes more of a guessing 16 game. And I think it's inappropriate to guess. 17 Q. Did you find any bases upon which this 18 appraiser relied or provided information that 19 would support this -- 20 A. If he's got one, it's a mystery to me. 21 Q. I take that to mean "no"? 22 A. I would take it to mean "no," too. 7254 1 Q. Mr. Lovell, we've looked at two 2 appraisals on the Park 410 property. My first 3 question about those appraisals at this point to 4 you is with regard to the Love & Dugger appraisal 5 that is -- bears the date of February 12, 1986, 6 which is Exhibit T7143. 7 My first question is: Would this 8 appraisal satisfy the requirements of R-41B? 9 A. I don't consider it to be a useful tool 10 in the loan underwriting process, no. 11 Q. I take that to be no because you 12 understand, since you wrote R-41 -- or helped 13 write R-41B, that the key and most significant 14 feature of an appraisal is that it should be what? 15 A. A useful tool. 16 MR. BLANKENSTEIN: Objection. Leading. 17 He's testifying now, Your Honor. 18 A. The distinguishing feature of -- 19 THE COURT: I'll deny the objection. 20 Go ahead. 21 A. The distinguishing feature of an R-41 22 or so-called R-41B appraisal is the fact that it 7255 1 is a useful tool in the loan underwriting process. 2 It can boil down to something as simple as the 3 appraiser appraised the correct property. 4 Incredible as it may sound, over the years we've 5 had instances where loan files have had appraisals 6 of different assets than were actually lent on. 7 The appraisal that might have been incidentally in 8 the loan file might have been wonderful. It might 9 have been a perfectly ethical appraisal report. 10 It's just not the asset that the institution lent 11 on. We've had other instances where a development 12 plan was changed and the appraisal that's in the 13 loan file reflects a development proposal that was 14 never built. 15 Well, to be a useful tool, the 16 appraisal needs to reflect the credit decision 17 that we're actually making. And if we're building 18 a particular type of venture, then the appraisal 19 needs to reflect the values of the particular 20 venture that we're building. 21 The major problem, I think, with the 22 Love Dugger appraisal report, irrespective of some 7256 1 of the niceties of what they have done, I think is 2 this aspect of assuming the existence of the 3 freeway. And it becomes -- this is a very 4 high-risk type of loan to make because if the 5 value and the development potential depends on 6 that freeway and the freeway is not built, you 7 have a situation or a setup of a situation that's 8 similar to where you have land which is legally 9 cannot be used for a particular use and you 10 predicate its value and the loan based on a use 11 that is not legally permissible for the property. 12 Now, that legal use might, indeed, be granted at 13 some point in time; but right now, if the legal 14 use is for some other lower utility of the 15 property, you cannot, in fact, fulfill the 16 development potential of the property. As a 17 result, its value really is based on its as-is 18 value as it physically legally exists today. 19 And the property, if these freeways are 20 really a critical issue -- and I would think that 21 in one way, shape, or form or another, the 22 5400-foot of frontage would have some influence on 7257 1 the value of this property and the lack of that 2 5400 footage or frontage on the proposed freeway 3 would be some kind of a detrimental effect, 4 whether it's -- when it would be available to be 5 developed or whatnot would be an important 6 bearing. 7 So, that is often a useful tool, if we 8 look at it from an as-is value perspective. We 9 really should have had an estimate of the property 10 as it physically and legally existed on the date 11 of the valuation estimate, which is minus freeway 12 frontage, reflecting that actual condition. 13 Q. (BY MR. LEIMAN) Would it have been 14 unsafe and unsound for a savings and loans 15 institution to have relied upon the Love & Dugger 16 appraisal which was as of December 1985 on the 17 Park 410 property and bears a date of 18 February 12th, 1986? 19 A. I think it would have been unsafe and 20 unsound lending practice. 21 Q. All right. Now, let me ask you in 22 connection with the Edward Schulz appraisal which 7258 1 is the March -- bears a date of March 19th, 1986, 2 effective date of February 17th, 1986. 3 Would the Schulz appraisal have 4 satisfied R-41B's requirements? 5 A. Again, the key distinguishing feature 6 is do we have a report that is appropriate for the 7 credit decision? And I don't find the Schulz 8 report to be an appropriate appraisal for the 9 credit decision that was made. And I think there 10 is one other add-on on the whole thing, that 11 because I've pointed out that in this type of loan 12 you would need some kind of an as-is value which 13 would be theoretically reflected in the Love & 14 Dugger report and that we need some kind of an 15 anticipated value of what the property is worth at 16 the point of completion. That's our Schulz 17 88-million-dollar number. If you tried to combine 18 those two reports and say, "Well, do we still have 19 enough information here to make a reasonable 20 credit decision?" My answer on that would be no. 21 And again, it goes back to "Do we have an 22 appropriate level of information for the type of 7259 1 property that we've got here?" And this issue of 2 the expressway and the aggressiveness and lack of 3 consideration of the competitive properties in the 4 market area would lead me to believe that we've 5 got some tools here and some information sources 6 that could be potentially very dangerous. And it 7 would be, from my perspective over the years and 8 having looked at this, a fine way to lose a lot of 9 money. 10 Q. I take it then -- would it have been an 11 unsafe and unsound practice for a savings and loan 12 to have relied -- 13 A. I think so. I think it would have been 14 unsafe and unsound practice, and I think it should 15 have been obvious to them. I think any 16 experienced person would have readily 17 recognized -- who has done any kind of 18 underwriting in loans of this nature -- that we 19 were likely to have a failure here if we went 20 forward with it. 21 Q. I believe I asked you a similar 22 question, but I'm not certain -- I'm not quite as 7260 1 clear as I wanted to be -- with regard to the 2 Norwood project. 3 Would the Bolin appraisal have 4 satisfied R-41B, Mr. Lovell? 5 A. I don't believe so. 6 Q. Would it have been unsafe and unsound 7 for a savings and loan to have relied on the Bolin 8 appraisal to have made a loan? 9 A. I think it would have been dangerous to 10 have relied on the Bolin appraisal. 11 MR. LEIMAN: Your Honor, I have no 12 further questions. 13 THE COURT: Thank you. Mr. Dueffert? 14 MR. DUEFFERT: Your Honor, I have 15 extensive questions and I know that at least some 16 of my co-counsel also have extensive questions. 17 THE COURT: So, do you want to start 18 now or -- 19 MR. DUEFFERT: It's the Court's 20 preference. There is a scheduling issue that also 21 arose during the break in as much as OTS' proposed 22 breaking up this witness, and I think we might 7261 1 want to address that at this time. I have no 2 objection to starting. It might be cleaner just 3 to begin when the witness returns. 4 THE COURT: So, he will not return on 5 Monday? 6 MR. LEIMAN: Let me explain, Your 7 Honor, if I might. I was just informed by 8 Mr. Lovell that his companion's grandmother died, 9 and he was informed of that late last night. He 10 knows no further details as to when the funeral 11 is. Evidently, it's going to be in Rochester, New 12 York. He doesn't know when he needs to leave. He 13 may fly directly to Rochester, or he may go back 14 to Atlanta, where he resides, first. I just don't 15 know the answer. I don't expect that we will find 16 that out before -- let me ask the witness. 17 Before when, Mr. Lovell? 18 THE WITNESS: Well, I haven't spoken to 19 her since approximately 1:00 o'clock in the 20 morning when she advised me last evening that her 21 grandmother had passed away. So, at that point, 22 because the event had occurred late in the day, 7262 1 there had not been any arrangements made and we 2 don't know. And I, in fact, don't know whether or 3 not she's flown ahead of me up to Rochester or 4 not. I just haven't had an opportunity to talk to 5 her yet. 6 MR. LEIMAN: So, we anticipate, Your 7 Honor, that the witness -- it's likely that he 8 will not be available on Monday. 9 THE COURT: All right. And do you have 10 another witness? 11 MR. LEIMAN: Yes. We have another 12 witness on Monday. We have another witness 13 scheduled for Tuesday. I would simply propose 14 that he be made available, and I'll ask him right 15 now. 16 Are you available on Wednesday, 17 assuming that these other arrangements are made? 18 THE WITNESS: I would anticipate 19 Wednesday or Thursday for sure, yeah. 20 MR. DUEFFERT: Your Honor, I do object 21 to waiting longer than absolutely necessary. This 22 has been a very complex subject matter. I would 7263 1 like a chance to cross-examine the witness while 2 it's fresh in mind. 3 THE COURT: I realize that, but we do 4 have kind of an emergency situation. 5 MR. DUEFFERT: I understand that, as 6 well. 7 THE COURT: Well, I think we'd 8 better -- I want to be reasonable with the witness 9 about the emergency. I think we'd better plan on 10 another witness for Monday and we'll survey the 11 situation at that time. We'll adjourn until 12 9:00 o'clock on Monday morning. 13 14 (Whereupon at 4:08 p.m. 15 the proceedings were recessed.) 16 17 18 19 20 21 22 7264 1 STATE OF TEXAS COUNTY OF HARRIS 2 REPORTER'S CERTIFICATION 3 TO THE TRIAL PROCEEDINGS 4 I, Marcy Clark, the undersigned Certified 5 Shorthand Reporter in and for the State of Texas, 6 certify that the facts stated in the foregoing 7 pages are true and correct to the best of my ability. 8 I further certify that I am neither 9 attorney nor counsel for, related to nor employed 10 by, any of the parties to the action in which this 11 testimony was taken and, further, I am not a 12 relative or employee of any counsel employed by 13 the parties hereto, or financially interested in 14 the action. 15 SUBSCRIBED AND SWORN TO under my hand 16 and seal of office on this the 14th day of 17 November, 1997. 18 ____________________________ MARCY CLARK, CSR 19 Certified Shorthand Reporter In and for the State of Texas 20 Certification No. 4935 Expiration Date: 12-31-97 21 22 7265 1 STATE OF TEXAS COUNTY OF HARRIS 2 REPORTER'S CERTIFICATION 3 TO THE TRIAL PROCEEDINGS 4 I, Shauna Foreman, the undersigned 5 Certified Shorthand Reporter in and for the 6 State of Texas, certify that the facts stated 7 in the foregoing pages are true and correct 8 to the best of my ability. 9 I further certify that I am neither 10 attorney nor counsel for, related to nor employed 11 by, any of the parties to the action in which this 12 testimony was taken and, further, I am not a 13 relative or employee of any counsel employed by 14 the parties hereto, or financially interested in 15 the action. 16 SUBSCRIBED AND SWORN TO under my hand 17 and seal of office on this the 14th day of 18 November, 1997. 19 _____________________________ SHAUNA FOREMAN, CSR 20 Certified Shorthand Reporter In and for the State of Texas 21 Certification No. 3786 Expiration Date: 12-31-98 22