“You don’t know what you don’t know.” This saying holds true no matter the topic. But in recent quarters it has been particularly true for asset-based lenders seeking to get a handle on the value levels of various jewelry-industry assets against their loans. This shift toward uncertainty marks quite a change from a few years ago, when the valuations of gold, diamonds and various precious metals were headed in one predictable direction—skyward. But in September 2012, gold topped out at a headline-grabbing $1,921 per ounce. Ever since, the values of gold, diamonds and a host of precious metals have feathered down and bounced around. With gold trading in the $1,200 to $1,300 range, the “We Buy Gold” commercials are no longer ubiquitous on late-night TV. And of course, ABL lenders can no longer assume their jewelry-industry loans are so easily covered. When it comes to the now-fluctuating jewelry business, they need to be better informed—to “know what they don’t know” about the liquidity values of their collateral.

To be specific, lenders need to take a harder look at how these market fluctuations might affect traditional markers such as the Forced Liquidation Value (FLV), Gross Orderly Liquidation Value (GOLV), Net Orderly Liquidation Value (NOLV) and Fair Market Value (FMV). How current are these values? And are they the values that are really needed to estimate your return should the loan go south?

Not that these values are obsolete or incorrect, it’s just that the world is changing faster than we might like to believe, especially in the jewelry arena. The standard for a great many of us in determining the inventory value against the loan is the scenario of GOLV/NOLV. The metal and diamond market, along with the ebb and flow of economies and consumer tastes, can change rather quickly. And this can leave lenders scratching their heads as to the effects of these changes on value. Thus, lenders need to work with appraisers to get a better handle on key collateral monitoring points and the likely effects of global trends and market conditions. How do you achieve this? One approach is to shorten the monitoring cycle. For instance, instead of conducting a reappraisal a year after the initial agreement, the lender and appraiser can agree to an arrangement in which the appraiser provides “alerts” based on significant market swings. Will the terms of the deal change? No. But receiving more real-time data from the appraiser clearly helps the lender gain a better sense of “today’s” value. When you understand your business better, you are simply more comfortable.

In the world of jewelry, where trade show orders are four to six months ahead of manufacturing and shipping the product, the value swing may represent a double-digit change, plus or minus. This is where the appraisal firm has the ability to keep the lender in the know with alerts. In some cases, this “swing value” may be a mere blip in the marketplace. In others, it could morph into a progress-impeding roadblock with potentially significant financial ramifications for both the borrower and the lender. Either way, it helps to know about the change.

The “swing value” is in itself an interesting concept to think about. Diamonds may be forever, but their prices are not. Although diamond price swings aren’t happening on a daily basis as with gold and platinum, there’s certainly some inherent volatility in this market. Precious metals prices are swinging back and forth every day, so how do you place a number on a moving target? Equally important is the question of how relevant this number will be going forward. Naturally, the appraiser must freeze a moment in time on which to base its findings. The firm must be able to hit that number within a reasonable tolerance in a liquidation scenario. But an appraiser who contracts with the lender to provide alerts in the event of significant value swings (15 percent or more, for example, might trigger an alert) can advise the lender on the possible effects of the swing on the NOLV, whether this is positive or negative.

The relationship between lender and appraiser is a valuable tool that is seldom leveraged. The appraiser should function as the conduit of strategically valuable information. The goal is to help lenders “know what they don’t know” when the collateral in question is marked by potential volatility. Indeed, the appraiser’s engagement should not stop after delivery of the final report; instead, the lender should have the opportunity to engage in an ongoing relationship with the appraiser in order to receive relevant insights and information about market swings, changing global conditions and other factors. But this also means the appraiser needs to have the appropriate product knowledge, market-value expertise, financial savvy and liquidation experience. It also helps to have the diplomacy skills of Henry Kissinger. Even then, you need the humility to accept that “You don’t know what you don’t know.”