When publishing a raster layer by value, orthorectification will not occur on the server as the DEM image is not copied to the server.
- Register the folder path containing the DEM image on the server as a data store.
- Or, you can create an orthorectified raster using the Create Ortho-corrected Raster Dataset tool or by exporting your orthorectified on-the-fly raster dataset layer using the ArcMap Export Raster dialog box, found by right-clicking the raster in the Table of Contents.
Once you address the issue, click the Analyze button on the Service Editor dialog box to reanalyze the service.
See Fundamentals of orthorectifying a raster dataset for more information.