Over the past few days, Lennar has been forced to play defense against accusations of unethical business practices that seemed to have sparked a sharp sell-off of its stock last Friday and this morning.
The Miami-based builder’s share price fell by 19.9 percent on Friday, a day when an “unprecedented” 58 million of its shares changed hands. That stock price was down another 7.3 percent as of noon today. The cause for this investor panic appears to be damaging allegations about, among other things, Lennar’s joint-venture accounting, its building materials purchases, and a $5 million loan that its COO, Jon Jaffe, negotiated in 2007.
Leveling those charges against the builder is Fraud Discovery Institute (FDI), a San Diego-based organization that specializes in investigating financial fraud. Its cofounder, Barry Minkow, knows something about this, having served seven years in prison for defrauding investors in a carpet-cleaning company, ZZZ Best Co., he took public. His sentence included $26 million in investor restitution. Since his incarceration, Minkow has become something of a crusader against corporate fraud.
Lennar, which is typically restrained in its public statements about its business, has felt compelled to vigorously deny FDI’s assertions about its practices.
Lennar CEO Stuart Miller appeared on CNBC last Friday to defend his company against what Lennar calls “false and inflammatory” allegations in a press release distributed Friday. And this morning, Lennar issued a detailed statement—including corroborating financial data—in response to FDI’s allegations. The company says that Minkow is actually fronting for a client, Nicholas Marsch III, who has sued Lennar over past real estate deals. At least two housing analysts—Ivy Zelman of Zelman & Associates and Michael Rehaut of JPMorgan Chase—have stated their belief that FDI’s accusations are unfounded.
On its Web site, FDI raised “10 red flags” about allegedly fraudulent activities by Lennar, the most serious of which accuses the builder of a “Ponzi scheme” of moving the assets of other joint ventures into LandSource, a land-buying company it formed in 2003 with the California Public Employees Retirement System (CalPERS). CalPERS subsequently brought in one of its investment vehicles, MW Housing Partners, an arrangement which netted Lennar close to $700 million. LandSource went bankrupt last year, costing CalPERS $1.2 billion.
In its statement, Lennar refers to LandSource—in which it has a 16.2 percent interest—as an “arm’s length transaction.” More to the point, the builder says that it has never siphoned cash from one joint venture to another, doesn’t use an investment from one JV to collateralize the debt of another, and doesn’t commingle different JV assets. Lennar has been reducing its JV exposure over the past year; as of Nov. 30, 2008, it was invested in 116 unconsolidated entities versus 214 such ventures at the same time a year ago.
And, in his comments about this controversy, analyst Rehaut notes that neither CalPERS nor MW Housing Partners has accused Lennar of fraud since LandSource went bankrupt last June.
Lennar also denies FDI’s allegations that the builder took $37.5 million in funds contributed by a Marsch-controlled developer, Briarwood Capital, for a housing and golf course project called The Bridges, and directed it to a Lennar subsidiary without getting Marsch’s written permission. The builder adds that a lawsuit Marsch filed against the company over another project in San Diego was dismissed last November.
FDI also posed questions about the propriety of a $5 million loan that Lennar’s COO, Jon Jaffe, received from Robert Venneri, a loan broker. That loan is collateralized by Jaffe’s house in Laguna Beach, Calif., which already had two mortgages totaling $5.1 million.
FDI suggests—in what can only be described as a convoluted way—that this loan to Jaffe may have been “a disguised payment for services." (Venneri owns a company, Gulfstream Finance, which has a lending relationship with Bruce Elieff, the CEO of developer SunCal, to which Lennar owes $22 million.)
Without making any specific connections, FDI alleges that Lennar and SunCal have an “undisclosed relationship” on a joint venture in Kern County, Calif., (on which Venneri is said to have profited through his real estate company Canyon Capital) and have failed to disclose “Mr. Jaffe’s relationship with Mr. Venneri and Mr. Venneri’s relationship with Mr. Elieff.”
In its statement, Lennar retorts that Jaffe was referred to Venneri by Jaffe’s personal attorney; that Lennar and SunCal have never been joint venture partners with SunCal on any properties in Kern County; and that there is “no connection” between Jaffe’s loan—which he used to purchase Lennar stock—and the properties that Canyon Capital acquired, developed, and sold in Kern County.
Finally, FDI also accuses Lennar of receiving discounts from suppliers of Chinese drywall that, as the Wall Street Journal reports, is causing builders headaches because of an unpleasant odor it emits from sulfur gases that may also be eroding coils and wiring inside of the walls. Lennar states that it has never received a discount to use Chinese drywall as a substitute for domestically manufactured products. It also claims that it has been “working diligently” with homeowners to resolve any product defect complaints.
John Caulfield is senior editor at BUILDER.
Learn more about markets featured in this article: San Diego, CA.