Markets run hot or not, but it's submarket characteristics--commute times convenience to stores, healthcare, dining, nightlife and culture, etc., natural amenities, like parks, lakes, and the granddaddy of them all, good schools--that factor into the location, location, location equation for residential developers and builders.
For four years now, the home building company analysts and researchers at Raymond James Equity Research have gone deep with an exclusive (fourth annual) study that matches public home builders' land development banks with data from GreatSchools' ranking of more than 18,400 schools nationwide. What these analysts hope to do is to "look under the hood" of home builders' home site and community pipelines for ways to better understand present and future valuations, based on the desirability of some locations over others. They figure that home builders with more lots in better school districts will outperform home builders with fewer of same.
It's a noble effort.
One of the most important dramas that we believe will play out over the next 12 to 18 months in the new home development and construction arena will attest to the skills among the varying home builders to offer new homes and new neighborhoods where price, pace, and product align profitably. Have home builders been smart about the land and communities they're bringing online with a horizon of the next 12 to 24 months? Time will tell.
Land strategies tend to trip over into land tactical maneuvers as demand forces and impetus better define themselves following the first waves of recovery.
What this Raymond James study tries to do is to be predictive by filtering and solving for the geography of builders' actual land holdings and a well-regarded proxy for real estate valuation--the GreatSchools data base. From it, the RaymondJames folks assert that you should get an "around the corner" look at how well builders should do on the price, pace, and product continuum thanks to their relative proximity or distance from high-ranking school districts.
This sounds obvious, but to an extent, a "low hanging fruit" stretch of early recovery has focused primarily on converting lots acquired at a low cost base into inventory turns with higher-than-norm selling prices. That's who's been first back into the market for the past two years--buyers with cash, little-or-no-contingency sale worries, and discretionary means to take advantage on an individual basis of the spread between dollars and value that early-movers can achieve.
Now comes the tougher part. Rate of return spreads are going to narrow as builders start bringing lots online that they paid more for in the second or third wave of lot acquisition surges. The risks around stoking volumes and trying to amp up lower-priced product when labor costs are a crapshoot, lots already cost more, and other direct costs are playing a feint and dodge game as to where they're going, are all daunting.
Pay a few thousand dollars difference per lot and the ripple-effect into margins can add up quickly.
Ultimately, although we think the intent of the Raymond James analysis is well-placed and is exactly the kind of thing investors and other stake-holders need to do to try to understand whether and where the inventory turn and absorption rates will be stronger, it is flawed.
First of all, while the study's authors and research team have done an enormous amount of analytic calculation and manual work to plot big builder new communities in their respective school district boundaries, they assert that they're doing a comprehensive job of it. Fact is, their list of 16 home builders leaves out three publics--AV Homes, UCP, and New Home Company--which is curious.
What's more, although its methodology addresses and solves for the fact that portions of several public companies' land bank portfolios aim specifically at active adult communities, whose ultimate valuation might run in direct inverse proportion to ties to strong school districts, the notion that schools and land-buys are causally tied may be questionable.
As we look at the home builders at the bottom of the qualitative rankings Raymond James has come up with, we're seeing high-volume, entry-level oriented players, D.R.Horton, Century Communities, and LGI as the apparent laggards when it comes to picking land parcels based on strong school district appeal.
We've got two things to say about that.
One, is look at household composition trends in the past 30 years, and one can see that the "married-with-children" portion of households has been one of the fastest declining household types across the board. School districts will probably always be critically important to some households, but right now, good schools matter most to barely one-in-five households in that married-with-children under the age of 18 segment. Households are getting less traditional, so the school district as proxy for real estate value may one day be bygone.
Too, right now, the population is divided in two: Haves and compromisers. They're not necessarily "have-nots," but they do have to settle for less than they might like. The biggest priority for a big chunk of the first-time buyer market might be to get out of the chokehold of spiraling rent rates, into their own homes.
A strong school district may be important to those households, but many of them may have to compromise, and first get themselves out of the rent vicious-circle before they focus on having children and getting them into better schools.
Just my opinion.
Not saying this information from the analysts at Raymond James--Buck Horne, Paul D. Puryear, Sarah Frank, and Clark Gairing--is not fascinating. But as a meaningful and reliable predictor of how a home builders' lot pipelines correlate to the rankings of the nation's school districts and thereby separate who'll generate better investment returns than the rest, I think we need to be skeptical.
It may be a correlation vs. causation quibble, but I think there's more work to do--along these lines--to try to understand who's being smart and who's not so much, when it comes to land strategy.