Orders. The word is pure music and magic to a home builder’s ears right now. And just now it’s just that, a word. After all, home building’s collective condition is in seasonal limbo but for a few second-home warm weather communities. During the white-knuckle countdown to February’s second weekend, orders is little more than a construct made up of equal parts anxious near-recent past and hopeful near future, a conflation of belief, history, and fantasy.
A challenge home building organizations must meet today, what you need to know this critical moment, is what you can do—preparedness, operational excellence, communications seamlessness—to cause orders to happen before they actually do so.
It’s periods like this one—where an organization whose identity is thoroughly wrapped up in developing, designing, financing, building, and selling people on a new house they’ll proudly call home cannot close the loop on its go-to-market plan—that test and form and crystallize a culture. It is its own brand of adversity, and it’s becoming recognized that certain types of adversity, disadvantage, and difficulty make individuals and organizations stronger.
This torturous seasonal stretch of latency comes with the turf.
Out of it come highly energized, well-calibrated, hell-bent armies who’ll go to any length to reach and exceed their operational and selling goals, which, when fully locked-and-loaded, accrue to some 8,000 or 10,000 hives we call actively selling communities.
If each actively selling community logged in at an absorption rate of four orders per month, then 8,000 new-home neighborhood projects would account for an annual seasonally-adjusted rate of 384,000, which seems about right for the 200-or-so top high-volume home building organizations to contribute to a projected new-home sales rate of about 600,000 in 2014.
So, among the many questions that emerge on the eve of a 2014 orders wave before it begins to builds to its crescendo narrow to a single big one: how many communities will builders be able to open this year?
Calculated Risk blog guest housing economist Tom Lawler posted this weekend:
Lots owned or optioned by 13 large publicly-traded home builders near the end of last year (some as of 9/30, some as of 10/31, and some as of 11/30) were up 19.5% from a year earlier and up almost 30% from two years earlier.
Still, knowing that builders have extensively expanded their lot supply during the past two years makes it surprising to hear that roughly the same bucket of public home builders were able to increase their collective community count by only about 4% in 2013, and that’s with all the tail winds builders had from the tipping point in housing that began in 2012.
Wells Fargo Securities senior analyst for home builders and building products manufacturers Adam Rudiger notes in his “The Lay of the New Home Land” analysis that, even accounting for a spree of private builder acquisitions by Ryland Homes and D.R. Horton, opening new communities is one of those phenomenon that’s easy to think and say should happen and hard to do.
While aggregate community count has gained some ground in the last two quarters, the growth has been sluggish, in our view, particularly when compared to order growth rates seen earlier in the year. We believe there are multiple challenges. First, some builders, such as Beazer, Hovnanian, and KB Home, carry above-average leverage and may not have had the adequate liquidity to grow their community count. Second, there is significant competition for quality land, so finding attractive land deals at reasonable valuations is also difficult. Third, strong demand may have caught many builders by surprise in late 2012 and 2013, resulting in faster-than-expected community closeouts. Finally, many builders have commented that opening new communities takes longer than anticipated, partly due to permitting delays.
In fact, Beazer, Pulte and Standard Pacific actually decreased in community counts during the past 12 months, and Toll Brothers and Hovnanian were about equal by the end of the year.
What we’re hearing may be a wrinkle in looking at new community counts in the coming year, which could play into at least a couple of the challenges Rudiger addresses in his analysis are:
• Big builders will be making more acquisitions of private home builders, some of which will take them into new markets where competition among other large players is already established, and some secondary and tertiary markets that have popped onto the radar as the new geography of jobs brightens the economics for some of these locales
• Some of the big builders have been able to accelerate local permitting processes by leveraging energy-efficiency in both homes and community infrastructures, which enable municipalities to claim a progressive approach to planning, new technologies, and energy use
• Private home builders face a classic “big fish in a small pond vs. a small fish in a big pond” predicament with respect to using their far more finite capital resources to open new communities. In other words, who would not want to be in the Carolinas or Nashville markets right now? When it comes down to the ability to counter-punch, not get into bidding wars on land deals, and the ability to attract home buyers with a program that’s differentiated from rivals, private home builders may prefer to opt out of the really hot markets right now in favor of securing a position as a bigger fish in a smaller pond. This way, a private doesn’t have to outbid a bunch of other players who want the same tract, nor vie on price for the same pool of home buyers.
Rudiger’s analysis has some great insights into the way production home builders’ communities work:
We believe it is important to understand the differentiated, self-liquidating, volatile, period-to period sales activity of communities. Some of the limitations of these data are as follows:
• Communities can be difficult to define. Each builder defines a “community” somewhat differently. For example, if a builder parcels out 400 lots and builds one set of four floor plans on 200 of the lots and a different set of four floor plans on the remaining 200 lots, but has one sales office that markets both lotsets, some builders might define this as a single community, while others would describe it as two.
• Communities are of different sizes. A community can have as few as 20 units (or fewer) and as many as several hundred.
• Sales per community (SPC) have “half-lives.” By this, we mean that communities tend to sell at higher rates during early phase releases and more slowly during later phases. One reason is that a community has fewer lots or homes to sell as it ages. In addition, in a normal environment (decidedly unlike the current one, in our judgment), builders tend to raise prices as phases are run through, especially as construction costs rise. Community “buzz” is also usually highest and demand is strongest at the opening, when the community just begins to tap pent-up demand in a market.
• Different price points sell at different normalized rates. In a normal environment, entry-level communities tend to sell at rates that can be twice as high as those for luxury communities, partially because of a broader base of demand for affordable product, but also because densities tend to be higher in entry-level communities.
• Intermittent phase-release patterns create volatility in SPC. While not the norm in the current environment, in strong-selling communities builders may sell out an entire phase release (say, 10-15 homes) in one hour and not release new homes for sale for another six weeks. This volatility can wreak havoc on numbers that are reported quarterly. Likewise, if quarterly community-count mix is skewed toward newly opened communities or older ones near closeout stage, total orders per community can suffer.
If one new-home sale per community per week were the norm among the current number of actively selling communities, we probably wouldn’t approach the NAHB’s projected figure of 600,000 for 2014. So the questions are: are you seeing big home builders aggressively readying new neighborhoods for grand opening come the weekend after Super Bowl XLVIII?
Communities are one of production home building's biggest enigmas. Imagine a business that starts its operational plan from from square one, creates infrastructure, product, construction operations, labor supply, materials supply chain, marketing, and sales ... all from scratch, sells through to the close out and shuts down that geographical line completely ... only to try to do it again, from scratch, a few miles away from there. It's a curious concept.
Do you anticipate that local permitting process and procedures will factor into constraining new-home supply this year?
Will labor or materials supply shortages become an issue as order growth grows and the rush to deliver and settle kicks into higher gear?