Investor nonpareil Warren Buffett fessed up in his company's annual report this year that in 2008, he'd committed sins of "commission" and "omission," and these sins hurt the value he wound up delivering to Berkshire Hathaway investors. Senior management of 17 home building companies whose shares trade publicly on Wall Street could probably add transgressions of their own to the list.
Each of the 17 public home builders developed guiding strategic principles for 2008 cut costs, cut down on community counts, cut square footage, cut all directs, cut all overheads, cut prices, cut expectations, and maybe, find a bit of cash here and there where no one else was looking. But, while each applied an individualized secret-sauce formula for execution, one and all were swept up in economic forces that were bigger and badder than anything they had known for as long as anyone could remember. They'd entered 2008 anticipating a tough first half, and they came out of 2008 realizing that the first half was the easy part compared with the storm they'd have to weather starting in October and lasting at least through the better part of 2009. If they were lucky.
By the last quarter of 2008, a quarter in which American consumers would get slammed by the sudden vaporization of more than $5 trillion in household mostly home value and stock portfolio wealth, and in which the global financial complex would flirt with systemic collapse, home builder executives of the public persuasion suspended hope of any sort that buyers would surface as the economic rout's white knights.
No where is the disaster of fourth quarter 2008 more evident than in the fact that the public builder basket of companies lost $11 billion almost $7 of every $10 in backlog dollar value year-on-year coming into 2009. The 16 public builders in Big Builder's Report Card in total have 27,464 homes recorded in backlog, coming into 2009. That's 15 percent of the business they'd had booked as they entered the 2006 peak year. (Avatar Holdings filed Securities and Exchange Commission documentation after our press deadlines and is not included.)
That's the kind of bleak outlook that portends liquidity and solvency questions for several of the companies that have had to add more expensive debt to their capital bases in return for a wager that cash flows will take a dramatic turn to the positive within 12 months or less. What happens when there's just plain too much capacity? Look at the car business.
Having spent all of 2008 on the slippery slope of falling median home prices, geysers of foreclosures in the very locales that had been the hottest new-home sales markets during the boom, and vanishing share equity value, home builder strategists threw every balance-sheet management and accounting technique in the book into full action. Land assets, weighted like sandbags, were either mothballed or cut loose, markets that showed no immediate pulse were exited, people who joined on during the hiring frenzy 36 months ago were pink slipped, trades were given a choice of slashing their rates or getting slashed all for two purposes and one driven mission.
The two purposes are cash preservation and debt reduction, and the driven mission is most simply put this way: getting to the other side.
M.D.C. Holdings' CEO Larry Mizel has three words to sum up public or private company strategy for housing downturns, however adverse: Don't go broke.
Centex's CEO Tim Eller says of recessions that hit housing hard and migrate into the rest of the economy: The plotline is always the same, and the only diff erence between onedownturn and another is the relative severity and duration.
This plotline is a classic horror story in metrics for the public home builder basket of companies. From a peak of 22 publicly traded, U.S.-based companies we analyzed in 2006, a quarter of them are either flat broke or working under Chapter 11 reorganization protection. Gross revenue for the entire basket was $121 billion in 2006 and cliff dove to $74.7 billion the next year. The 16 builders' revenues we have to look at after 2008's weak performance totaled $43.8 billion, a 40 percent vertical drop from 2007 and more than 63 percent down from a peak in 2006.
In home closings, the story line is just as lurid for the bunch. Home closings for the BIG BUILDER grouping of publics in 2006 was just about 350,000. The following year, the total cratered to 230,000. In 2008, the tally was 148,000, which is just about 57 percent less than the 2006 peak and 37 percent down from 2007.
With cash flow from home building operations under such duress, it's no wonder that the talents of CFOs and managers alike at public home building organizations were measured by how huge dollops of costs could be eliminated and how companies might retrieve cash by any means at all, even if it came to getting it back from Uncle Sam via net operating loss provisions claimed against taxes paid during profitable years.
One of the musts for almost all of the public home builders, from a financial and operations management perspective, was to have shed as much of their nonperforming land pipeline as possible. If 2007 was the year companies walked away from controlled but not owned lots in droves, 2008 became a year for outright liquidation of whatever tracts represented no near-term possibility of asset turns. As a group, public builders owned or controlled an average of 119,000 lots in 2005, a number that was shorn almost in half to 66,000 lots in 2007. That number has shrunk to an average of 46,000 lots, which represents an average land supply of 8.3 years for the group of 16 public home builders. That means that land-hungry home e builders have had to give up three out of five of the lots they had their hands on two years ago.
By and large, our Report Card analysis showed that management teams at all 16 companies dealt as admirably as they could deal with their individual circumstances, given a wide spectrum of exposure and risk in their respective capital structures, land holdings, price points, and diverse geographies.
From a look at their relative performance, we can suggest two conclusions from the roll-up of data. One is t that the dozen largest ho home builders, who were able to generate about a third of all homes sold in the United States in 2007, will be able to use their scale and capital structure to lead the sector from its low point sometime by the end of 2009. The other is that while the number in our basket is 16 (17 if you add Avatar to this list) this year, it's likely to be fewer next year.
What Goes Up…
An analysis of four key metrics over the past five years shows just how much public builders have had to trim their size to meet the market's demand—or should we say lack thereof. Although over time the number of public builders in our universe has swelled and now shrunk, thanks to everything from bankruptcies to stock delistings, the review mirror shows that public builders collectively are about half the force to be reckoned with than they were five years ago. And if backlog trends are any indication—they are down more than 80 percent from pre-bubble 2004—there may be more shrinkage ahead.
Click here to view the metrics graphs [pdf]
Report Card Methodology: An annual data presentation that combines original and researched information with proprietary analysis, the BIG BUILDER Public Builder Report Card uses key financial and operational reports available through investor presentations and Securities and Exchange Commission filings. In addition, we incorporate feedback from investor relations and senior financial officers, reconciling fiscal year results with our reporting period to provide a more comparable representation of activity during the 2008 calendar year.
This year, our home builder universe includes 16 companies traded on the U.S. stock exchange whose primary business is that of building homes. The evaluation breaks quantitative data into four categories: financial, land, sales and marketing, and operations. Because a public company's overall performance is so closely tied to financials, we weight this category more heavily. The report's structure was developed by BIG BUILDER in conjunction with former analyst Barbara Allen.