In its production office, Eagle Construction of Va. keeps a "countdown" chart that tracks what this Glen Allen, Va.–based builder needs to accomplish to finish the year in the black. "We're getting close," said Eagle’s president Bud Ohly in October. Close enough that Ohly confidently projected that his company would deliver 135 homes this year, versus 128 in 2008, and "make a little money."
Despite so many unanswered questions—about foreclosures, unemployment, bank financing, unpredictable publicly owned competitors, and fickle home buyers—builders continue to prepare for better days ahead. They haven’t lost confidence in their companies’ ability to ride out the storm and turn things around. Nor have they lost faith in the industry and its seminal place in the U.S. economy.
Some builders also recognize, however, that business will not fall into their laps as it did during the last boom, and to recapture lost ground they must regain the trust of consumers, lenders, investors, suppliers, and even their own associates.
"We want the housing boom back, but we know we’ll have to earn it," says Corey Barton, owner of CBH Homes in Meridian, Idaho.
This article is the second in a new series, Ten for '10: Ideas to Build On, which we’ll be publishing throughout next year. It focuses on 10 ideas builders should consider to capitalize on the early stages of market recovery.
CHANGES THAT LAST
Understandably, most builders are having trouble focusing on growth opportunities these days, after experiencing four years of rejection by customers, banks, and the market in general. During that stretch, more than 80 major companies (ones that built 100 units or more annually) have suspended construction, shut down operations entirely, or fell into bankruptcy, according to estimates from "Builders Gone Bust," a listing of distressed companies on Builder Online.
This "cleansing period" hasn’t been entirely negative, in Ohly’s estimation, because surviving it has forced builders to streamline their operations and business models in ways that should make them stronger. Many have embraced energy-efficient construction and intensified training and development of personnel.
The question is whether these trends have staying power, or will they be marginalized once business conditions return to normal. Builders say they are committed to change. Some can even point to their past performance as proof.
Harwood Homes in Agoura Hills, Calif., was one of the fortunate builders that kept its debt and construction in check. The builder didn’t lose a single project to foreclosure. "We saw early on that people were buying homes they couldn’t afford, so we pulled back," says its president Mike Simon. While Harwood isn’t building homes right now, it is "mapping and adding land" in anticipation of a comeback.
LAND-LITE PLAN
Dick Lombardo, president and CEO of Harkins Builders in Marriottsville, Md., thinks now is the time for builders to re-establish relationships with trade partners; they are "hungry" for business and willing to negotiate on price. Builders who put their procurement house in order during the recession stand to gain the most.
To that point, though, Gary Dahl, a former Lennar executive who is CEO of Builders Choice Sourcing Group, a Sacramento, Calif.–based outsource procurement service, notes that the recession exposed deficiencies in the ways small and midsize builders buy labor and materials. "A lot of them still don’t pay close enough attention to the scope of their subs' work," he observes.
One area where the recession seems to have altered builder attitudes the most is land acquisition. Though opportunities abound—several public builders in their third-quarter conference calls reported that they are aggressively pursuing development deals—private builders are reluctant to jump on them. They don’t want to be saddled with land on their books.
This is particularly true, of course, of insolvent builders such as Ennis Homes, based in Porterville, Calif. At the market's peak, Ennis had around 1,200 finished lots and 5,000 mapped lots. But since filing for Chapter 11 protection in early February, Ennis Homes "has been selling land like crazy," says owner Brian Ennis.
What some builders are putting on their land is different, too. The downturn has given builders time to ponder whether the homes they build match the demographic and financial profiles of current and future customers. Some have adjusted their house plans and construction practices to produce smaller, greener, and less-expensive houses without sacrificing quality.
“We went back to the drawing board to go after every dollar we could by reducing waste and simplifying construction,” says Bill Cellar, who owns Providence Homes by Bill Cellar in Jacksonville, Fla., which will close more than 200 homes in 2009, versus 147 in 2008. The effort allows Providence to build more affordable base houses and offer customers the alternative to pay for options and upgrades. “Our product has to be priced right, because we’re competing with 10- to 15-year-old existing homes, short sales, and foreclosures. That’s what the market’s going to be for the next few years.”
FINDING NEW BUYERS
In this process, builders have rediscovered first-time home buyers. Some say their infatuation will outlast the downturn. But will it, given the propensity of builders in the past to build homes that fetch the highest price and greatest margin?
“That’s the $64,000 question,” says Nelson Chung, president of Pacific Communities in Newport Beach, Calif. “Granted, there are a lot of first-time buyers out there. But they don’t have good credit, so it’s hard to get them qualified, and they don’t have the down payment.”
Barton of CBH Homes notes that demand for his company’s smallest (around 900 square feet) and most economical homes hasn’t been that great. What’s been more useful from a sales standpoint has been the “value packages” that CBH offers to suit different customers’ affordability needs. “We’re finally understand-ing what our customers want and are asking for.”
CBH Homes has experimented with texting, blogging, and other interactive media to stay in contact with brokers, agents, and customers. Barton is not sure how effective this is, though he acknowledges “it’s not something that you can do a little of, or sometimes.”
Richard Elkman, president of Group Two Advertising, thinks builders must do a much better job reaching customers via the marketing platforms these buyers are most comfortable with. “A lot of builders think that all you need is a website,” he says. “But builders don’t have a strategy for analyzing the potential of their traffic. And what [builders] need to ask themselves is what’s your [market] position, what’s your competition, what’s your goal, and what can you afford?”
CORE COMPETENCE
As they prepare for the future, builders should also be asking themselves if their companies are staffed correctly and sufficiently.
Across the industry, builders laid off anywhere from one-half to two-thirds of their workforces. Those personnel cutbacks were particularly drastic in the field, where access to labor is also limited because there are far fewer immigrant workers in the U.S. It would be difficult for many builders to ratchet up their operations significantly if business conditions suddenly improved.
But builders aren’t eager to elevate their production to boom-era levels, either. Virtually none of the builders interviewed has been replenishing their management teams with new hires. Most say they are content to rely on a “core” of essential associates who will be the foundation of leaner operations with fewer employees and supervisors.
“My takeaway from the recession is that I built a strong loyal team that stayed with me, and we all landed on our feet,” says Pat Neal, owner of Neal Communities in Bradenton, Fla.
1. BUILD FOR BANKS
Ryan McGowan says his company, Puyallup, Wash.–based Premier Communities, would be in even worse shape were it not for fee contract work to build out REO lots for banks.
Premier launched a new division, Portola Homes, for that purpose, and started 29 homes in September and October. By putting houses on lots, banks are recovering $20,000 more than they would from selling vacant real estate. Premier captures between 5 percent and 7 percent of what McGowan admits is a “stripped down” selling price. “It covers the overhead.”
Finding fee work is still tough, though, because banks are reluctant to release lots until market conditions improve. Chicago-based Magellan Development recently reactivated its Project Services subsidiary, which co-CEO Joel Carlins says helps banks analyze a project to see if it’s worth completing.
“Banks don’t want anyone to know about their [REO] property; you have to do your homework to find out,” says Ohly of Eagle Construction of Va., which is building for banks on a fee basis and purchasing unfinished homes and splitting the profits from the sales. These arrangements, he says, are “putting us into new markets,” and “allow us to maintain our core staff.”
2. FIND NEW FINANCIAL SOURCES
"Banks are the enemy," Barton of CBH Homes was told early in his career. He also knows that future borrowing from banks will hinge on how well his company "performs."
Building less means borrowing less. This fall, Pacific Communities was using only 30 percent of a $110 million revolving credit line, which it lowered recently from $160 million.
But when business picks up, builders will need to re-cultivate relations with banks that have zero confidence in the housing industry. Cellar, who owns Providence Homes, says the five banks he borrows from are far less willing to finance new than existing projects. Ennis Homes, which filed for bankruptcy protection in February, remains active only because its contractors accept payment when houses close.
Neal Communities recently renewed its credit lines with two banks. But it is also tapping other resources, such as hedge funds. In October, Eagle Construction of Va. was assembling a $50 million fund with 40 investors. “Private equity will be the way of the world for a long time,” predicts Ohly.
3. GO SMALLER
SNUG FIT: Neal Communities' best-selling house plan has been a bungalow under 1,000 square feet.
Like many builders, Ennis Homes succumbed to the urge to build bigger houses during the last boom. But 18 months ago, this Porterville, Calif.–based builder dusted off some house plans from the 1990s and came up with a 1,500-square-foot, entry-level house it could sell for $140,000.
Builders everywhere are rolling out smaller models to meet customers’ demands for efficiency and affordability. D.R. Horton, for one, is selling homes under 1,000 square feet. A 947-square-foot bungalow priced at $125,900 is Neal Communities’ bestseller. Neal says residents of his company’s Forest Creek neighborhood recently voted 23-3 to allow the builder to construct smaller houses there because “they know you can’t go back to the way things were.”
Those buyers still craving outsized abodes want bargains. “Houses need to be priced at $90 per square foot” to sell, observes Chung. As it dropped prices to 2002 levels, Providence Homes readjusted its construction practices to lower its costs. Bill Cellar thinks size and quality will be dictated by the need to keep houses under $250,000 as long as price colors customers’ choices about what they will buy.
4. GO GREENER
As demand expands and mandates loom, builders large and small are seeing the value in energy-efficient construction.
Through Oct. 12, 8,922 builders had registered to use the NAHB’s scoring tool for green building, 540 homes had been certified to the association’s guidelines or standards, and another 4,500 are in the certification process.
The 20 houses that Denver-based Harvard Communities built this year are 50 percent more efficient than code. Harvard also has a series of homes that is near net-zero energy. Energy efficiency “has become part of our brand,” says president John Keith, whose company was Built Green Colorado’s 2008 Builder of the Year.
But Keith speaks for many builders when he wonders if his homes exceed what customers will pay for. Harvard’s energy-efficient construction adds between $20,000 and $50,000 to the price of its homes, which now average around $700,000. That’s a tougher sell to price-driven customers, he concedes.
Energy efficiency and affordability can be compatible, as Artistic Homes in New Mexico and Ideal Homes in Oklahoma have proven. And Keith believes energy efficiency will be a differentiator for future buyers. Even if Harvard scales back a bit on green, “we’d still exceed our competition.”
5. BE BETTER PREPARED FOR CYCLICAL CHANGES
In an era of uncertainty, Chung of Pacific Communities is certain about one thing: Another housing downturn is inevitable. “Home building is a highly leveraged business, and big builders are going to act the same as they did before,” once market conditions improve, he says.
Must builders, then, resign themselves to a vicious circle of traumatic booms and busts? Not necessarily. Some say the recession has convinced them that trying to compete with public builders’ growth is a losing proposition, and that they must follow a more practical and fundamental course.
“We’re committed to being conservative in the face of exuberance,” says Simon of Harwood Homes. “If we can make a profit in the single digits, that’s good enough. Ten percent net is a sustainable business.”
Ennis wants to prevent his company from being trapped again by unbridled debt and expansion. At peak, this builder owed banks $120 million; now its debt is $80 million “and going down.” In 2005, Ennis Homes started 500 homes and closed 420. “The key now is for 250 to 300 [closings] to be our sweet spot.”
6. RELOAD YOUR MARKETING
SEEKING BFFS: Signature Homes promotes via Facebook.
Just as builders are embracing the Internet as their primary contact point with customers, social networks such as Facebook and Twitter are emerging as potential marketing tools. Those networks have become essential communications outposts for cell phone–addicted Americans, including younger first-time home buyers who are many builders’ main customers right now.
Hoover, Ala.–based Signature Homes made Facebook the focus of a marketing campaign it initiated for its Ross Bridge community. There, buyers of 10 live/work townhomes had all pulled out of their contracts when Fannie Mae stopped guaranteeing 30-year, fixed-rate mortgages. Those units sat empty for six months, “so we had to start over again,” says Jonathan Belcher, Signature’s president.
In late September, Signature launched a website for Ross Bridge with Facebook as its landing page designed to give visitors the impression that the young woman on the page lived in one of the 1,100-square-foot flats, whose prices range from $169,000 to $180,000. Signature’s support ads targeted younger female prospects working in a nearby hospital and attending a local university.
If this $32,000 campaign is successful, Belcher says he might try something similar for a 100-unit project Signature is trying to get rezoned from office condos to residential.
7. REINVEST YOUR EMPLOYEES
Consistent sales and a swing towards profitability make it likely that Neal Communities—which cut its staff in half during the recession—will fill 11 positions to support its design center during the first quarter of 2010, says Neal.
Neal, though, is rare among most builders still in survival mode. “I had a two-person forward planning department that I’m running myself now,” says Simon of Harwood Homes, whose closings this year are one-tenth of what they were in 2008. “Everybody here is doing double duty.”
As they rescale their production objectives, builders say they’ll get by with less going forward. “We’re building almost the same number of homes we did during the peak, but with one-third of the people,” says Cellar of Providence Homes, whose workforce is down to 13 from 50 in 2006, when it closed 297 homes, versus about 200 this year.
Getting maximum effort from employees, though, will require a cross-training paradigm. Harkins Builders concentrates on what its president calls a “top grading” process that keeps improving its personnel through development and coaching.
8. EMBRACE OPPORTUNITY
PRODUCT PLACEMENT: Excel Homes will now put its modules on pads.
Harkins Builders specializes in multifamily and military base projects. But the Maryland-based builder also ventures into commercial, student housing, senior living, and renovation.
“We’re always scrambling to find business opportunities,” says Harkins’ CEO Lombardo, whose company hasn’t laid off a single associate during the recession. Its sales this year will be off only about 8 percent, to $230 million.
The downturn has opened other builders’ eyes to diversity’s benefits. Half of Pacific Communities’ 165 deliveries in 2009 are rental units, which this Newport Beach, Calif.–based company got into three years ago. “Instead of giving away homes that weren’t selling, we’ve converted them to rentals,” explains Chung.
Eagle Construction of Va. has gravitated toward “commercial tenant uplift,” where it’s finishing retail stores within existing shells. “This brings a new discipline to our business,” says Ohly.
Camp Hill, Pa.–based modular manufacturer Excel Homes now offers a “set service,” which places its 40,000-pound factory-made modules onto foundations at jobsites. A turnkey sprinkler service should help its builders comply with new sprinkler codes. Excel’s president Steve Scharnhorst also wants commercial and multifamily production to eventually represent 20 percent of revenue, from 15 percent today.
9. REFLECT ON WHAT HAPPENED
“Give us an inch, and we’ll take a mile.” That’s Ohly’s take on how builders’ actions contributed to an epic housing recession that will linger into next year.
With industry losses in the tens of billions of dollars and hundreds of thousands of workers, some home building executives are finally conceding that they can’t pin their woes solely on the usual suspects—venal mortgage lenders, aggressive Realtors, avaricious investors, out-of-control public builders, clueless home buyers, government regulations. They also blame themselves and their brethren for believing that demand was endless, without thinking about the hangover after the party. “You can’t have a 2005 without a 2009,” observes Neal.
“The 100-year storm is possible,” adds Simon. “The market became so overheated that everyone and his brother became a developer.” And in their quest for market share and profits, established builders ignored fundamental management tenets. “The more homes you deliver, the more problems you have,” says Chung.
Barton says “humility” now informs his decisions about expansion. “I’ve also learned not to spend all our money, no matter how good a deal looks.”
10. BELIEVE IN THE INDSUTRY AGAIN
An economic storm that rocked their world may have lowered builders’ short-term expectations. But it hasn’t shaken their unflappable optimism.
Some builders have more to be hopeful about than others. Harkins Builders made money in 2009 and should do so again next year. “We’re ready for an upturn in 2010,” says Lombardo. “We have the right personnel and certainly have the capacity. Our relationships with our trade partners are as strong as ever.”
Future success, though, may be a matter of perspective. Pacific Communities, which closed about 160 homes in 2009, owns 10,000 lots outright. Its president measures profit based on gross margin and not by internal rate of return that other builders are obsessed with. “So I can look at these lots as long-term assets,” says Chung.
In September, Neal Communities had 27 net sales and was on track to close 22 homes in October. The builder also has more than 400 houses under construction “This is a time of great opportunity,” says Neal. “It’s fun when you’re at the top and it can be fun when you have challenges. We’re building specs again, and I like the challenge.”