Brains and Brawn

LAST YEAR, FIRST HOME Builders of Florida was struggling with too much of a good thing. Sales were soaring, and, coupled with significant price increases, so were the company's revenues. Yet, despite the record demand, the Fort Myers, Fla.–based builder couldn't find the trades it needed to close its homes on its desired schedule, 15 a day.

For First Home Builders, the answer was simple. It brought in-house the pieces of the process that were lagging behind the 15-a-day pace. Florida Construction Services, as the separate entity is known, now handles the concrete work, framing, painting, flooring, cleaning, trash removal, and septic system installation for First Home Builders, and the company continues to consider additional pieces, such as irrigation, which was added in January. “It's whatever we need to do to get to 15 a day,” explains Fred Hermann, company president.

The company is counting on the strategy to dramatically boost its production. Last year, the builder closed 1,819 homes in 2004, up 65 percent over 2003, and this year it's shooting even higher: Hermann has set a goal of 3,000 closings this year and 3,600 in 2006.

TURN UP THE VOLUME: First Home Builders of Florida developed a stand-alone company, Florida Construction Services, to handle many of the construction tasks that were keeping the builder from hitting its volume targets. First Home wants to close 3,000 homes in 2005, says president Fred Hermann.

But with the potential for great gains comes substantial risk. It can take 60 days for each new in-house service to become profitable, and the new employees—along with their medical insurance and vacation time—can't be easily shed if business gets tight. Hermann considers the additional costs and risks worthwhile. “In the long run, the craftsmen are better off and the end product is better,” he says.

Hermann is not the only builder taking risks in the hopes of greater returns in the future. Up and down our list, BUILDER 100 companies—and those in the Next 100 striving to move up a few notches—are experimenting with new strategies that they think will give them an edge over the competition.

Note the timing. Builders are bank-rolling these initiatives with the tremendous profits they have booked in recent record years, comfortable with investing more now than they'll get in return. What's important, they say, is that they find efficiencies and new money makers before a downturn happens.

“Builders are going to have to work harder to grow,” says Greg Gieber, housing analyst for A.G. Edwards, who predicts housing starts will fall 5 percent this year. “But there's no reason why any business can't grow in a flat or declining market. You just have to be more efficient.”

Test-driving possible efficiencies, such as limiting moves toward vertical integration to select markets, makes sense given the industry's continued strength, Gieber says. “[The big builders] are trying to test new procedures to help shove the medium-sized builders out of the market. Some of them will fail. But they're in a good position to try to figure out how to play tough when things become more competitive.”

SELF-GOVERNMENT: As Detroit-based Neumann Homes grew, company leaders turned to decentralization as a tool for maximizing that growth. Both employees and leaders now work on smaller teams and are more empowered and energetic, says CEO Ken Neumann.

While some of the national builders, including KB Home and Pulte Homes, say centralization will be one of the keys to competing successfully in the future, other BUILDER 100 companies are headed in another direction.

In the Midwest, Neumann Homes began shifting more management responsibility to its divisions two years ago. Today, its decentralization initiative is nearly complete, with each division operating as an autonomous business unit, responsible for everything that goes toward the bottom line. CEO Ken Neumann acknowledges that the process hasn't been easy, but he says it positions the company better for future growth. “We're past the pain,” he says, adding that the new structure has empowered leaders and energized employees, who now work on teams of several dozen rather than several hundred.

At Neumann Homes, the company's technology allows information to be transferred seamlessly among divisions. Managers at Roseville, Calif.–based Dunmore Homes are counting on a recently implemented budgeting system to boost their future success, as well.

Dunmore, which closed 776 homes in 2004 for $287 million in revenue, replaced a wide variety of Excel spreadsheets with Outlook Soft, an off-the-shelf system, in February 2004; it produced financial reports by June and generated 10-year budgeting projections by the end of the year.

CFO Bill West is enthusiastic about the system's long-term projections. The software allows the company to run forecasts for cash flow, debt, and land holdings based on specifications of projects it is considering, enabling better decision making.

“Companies get in cash flow trouble when they're growing,” West says. “My goal is to never end up in that position.” With the long-term projections from Outlook Soft, Dunmore is restructuring some of its credit lines according to the cash flow and debt levels it wants years from now.

Other BUILDER 100 companies see bottom-line promise in Envision, an options management system designed by manufacturers and the builder consortium Builder Homesite. The Web-based system enables builders to match up manufacturer data with their options packages; when some of Envision's 10 early adopters begin introducing it to home buyers later this year, the consumers will be able to see all the options online.

Envision fills a void, says Tim Costello, chairman and CEO of Builder Homesite and New Home Technologies. “It's what builders have been looking for, a tool that would improve the customer experience, where the customer would be more likely to buy more, in-house people would be more efficient at doing their jobs, training time would go down, and design center appointments might be reduced,” he says. Other options management systems have been too costly and failed to work for large-scale operations.

Costello and his team have set a goal of increasing options upgrades by 10 percent. That could be a boon for builders, who pay between $40 and $50 per house for the system.

LONG-RANGE VISION: A newly implemented 10-year budgeting and forecasting system will help Roseville, Calif.–based Dunmore Homes make better projections and decisions on land deals, says CFO Bill West.

Envision's low cost makes it appealing, says John Nygard, chief information officer for Lennar Corp. While Nygard declined to detail the performance benchmarks Lennar has set related to Envision, he thinks it will improve data quality and result in a more efficient process. “If you can successfully get options selected during the first [design center] appointment, that falls back into overall construction. We can affect the building cycle,” he says.

On this year's survey, dozens of BUILDER 100 companies ranked product diversification and expansion into new markets among their top business issues, and many have already begun to execute their plans.

Newport Beach, Calif.–based John Laing Homes earlier this year announced the start of its urban infill division in Los Angeles, but CEO Larry Webb doesn't expect it to produce closings for several years.

In the meantime, Webb says he's comfortable with eating the costs necessary to get the outfit running, including new staffers and land acquisitions. “We're large enough that we can afford to,” he says, citing a similar pattern several years ago, when the company started its luxury division. “We were willing to invest two or three years of overhead. It was profitable last year, and in 2005 it will have over $200 million in revenue.”

Not only does he expect the new division to get off to a similar start, he thinks within five years it will be one of John Laing's largest divisions, possibly expanding to other markets.

New-market expansion comes with those costs, too. Nevertheless, builders on our list continue to write the checks; Arizona, California, and Florida are among areas BUILDER 100 members have targeted for 2005.

Much of that expansion will come through “greenfield” growth, starting from the ground up. The strength of Rottlund Homes' Tampa, Fla., division—it accounted for nearly a third of the company's 1,450 closings last year—is enough to cushion the costs of expanding into nearby Sarasota, Fla., which will become a standalone division but won't contribute to the company's bottom line until 2006, says Michael Willenbacher, Rottlund's Florida division president.

Meritage Homes Corp. made the move to Florida last year, too, as part of its plan to double its size every two to three years, says John Landon, cochairman and co-CEO. Optioning 85 percent of its land helps hold Meritage's startup costs down; a recent greenfield startup in San Antonio turned a profit in its first year. Landon expects slightly longer time in the red—up to two years—in the company's new divisions in Orlando, Fla., and Denver.

The other piece of Meritage's growth strategy is a familiar one. In addition to its self-started divisions, the company averages about one acquisition a year. It bought Citation Homes of Southern California last year and closed on a deal to buy Fort Myers, Fla.–based Colonial Homes in February.

The Dallas-based builder invests in smaller companies that can double in size within three or four years, Landon says. Citation Homes fits into that mold; the company closed about 170 homes last year but has the land positions to be able to jump to at least 600 closings annually within the next three years, he adds.

A.G. Edwards analyst Gieber thinks some builders, including Meritage, Standard Pacific, and Beazer, will have to buy others to meet their growth targets within the next few years. But he sees all the top builders growing. “The largest market share gains they've shown in a long time will be demonstrated over the next two to three years,” he asserts. “Somebody has to lose. Some of the medium-sized builders will sell.”

That trend has picked up pace early this year. Bonita Springs, Fla., builder WCI Communities reached into the Mid-Atlantic region with its purchase of Renaissance Housing Corp., headquartered in Reston, Va. The other publics have been busy, too, with NVR's acquisition of Columbia, S.C.–based Marc Homebuilders and Standard Pacific's purchase of Probuilt Homes, headquartered in Bakersfield, Calif.

But by far, the biggest splash came with Hovnanian Enterprises' March 4 announcement of its purchase of Lombard, Ill.–based Town and Country Homes, itself ranked number 62 on this year's BUILDER 100 with 1,460 closings. The deal broke ground: It's believed to be the largest sale of a private home builder, and it was financed through a new joint venture between Hovnanian and Blackstone Real Estate Advisors.

The financing structure benefits both Hovnanian and Blackstone, says Tony Avila, managing director at JMP Securities, which represented Town and Country in the deal. Blackstone benefits from residential real estate's tremendous profits, and Hovnanian can stretch the dollars it puts into acquisitions.

With a deal that size, the questions about a public-to-public buyout aren't far behind. Will this be the year for the biggest experiment in consolidation yet? Not necessarily, says Stephen Kim, managing director of U.S. Equity Research for Citi-group Smith Barney. “Many combinations make sense, but from a public-to-public perspective, nobody needs to buy and nobody needs to sell.”

Land trouble leads to a few slips on the BUILDER 100.

Far and away, executives ranked land management as their top business issue on this year's BUILDER 100 survey. But for some, it was more than an issue in 2004—it meant the difference in not reaching their growth goals.

“We had a large number of subdivisions that were delivered extremely late,” explains Steve Garza, CFO of Arlington, Texas–based Choice Homes, which closed 572 fewer units in 2004. The lagging deliveries hit hardest in Atlanta and Houston, where the company had expected to post its greatest gains.

MORE FOR LESS: Despite an average of 20 percent closings growth for the BUILDER 100, 14 companies experienced drops in closings last year. But it wasn't all bad news—nine of the 14 watched their revenue numbers rise at the same time.

Garza doesn't deny that the presence of national builders in Choice's markets has made land acquisition more difficult but says the company can continue to compete. “We're being a little more aggressive now but more than anything, we have to be smart,” he says, adding that he expects the delayed land will boost closings this year.

Another Texas builder, MHI, felt the squeeze from the national builders last year, too, falling from 3,165 closings in 2003 to 2,848 last year. “The market is extremely competitive, with the abundance of builders trying to create market share,” says CEO Frank McGuyer, who also attributes some of his company's slip to delays in community starts.

Getting the land acquisition balance right can be tough. “We're always trying to look forward to ensure that we have an adequate lot supply. We want to make sure we don't have too much land out in front,” McGuyer says. “But it's inevitable that there will be dynamics where one year we maybe have too much and next year not enough.”

HOPS, SKIPS, AND SOME BIG JUMPS: Six companies made the big leap from the 2003 Next 100 to the 2004 BUILDER 100. Three of them are moving up with a bullet: Arbor Custom Homes jumped 42 spots, Park Square Homes 35, and Hunt.

Large-scale joint ventures give builders access to better land positions and potential for faster growth.

Focus Property Group, long a veteran of the Las Vegas land wars, added a weapon to its arsenal in 2004. It pooled resources with seven national and regional builders to win 1,940 acres in Henderson, Nev., at a Bureau of Land Management auction. It built off that consortium's success with a similar deal in February, winning another 1,710 acres in northwest Las Vegas for $510 million.

The big builders love these deals, which combine lower risks and high rewards. “Sharing the risk and the financial commitments is a safe and logical way to share the deals,” says John Ritter, CEO of Focus Property Group. “The banks we finance the deals with and Wall Street like that the risk is spread over many strong players. And because we have a lot of builders involved, the absorption can be faster, which also lowers the risk.”

Shea Homes, the largest private builder on the BUILDER 100 with 6,408 units closed in 2004, has turned to a new venture to finance growth in its active adult division, the fastest-growing component of the company. The California Public Employee Retirement System is investing $200 million in the first of a series of planned deals with the builder to help bankroll communities geared toward baby boomers. Shea will kick in some of its own funds and issue debt to make up the remaining $400 million needed for the first phase, says Rick Andreen, the division's president. “With the growing demographic, we felt we could be more profitable expanding into that niche a little more aggressively. In order to do that, we needed more outside equity, but we didn't need to go public,” Andreen explains.