The liquidity crisis for many builders continues to worsen. Cash reserves are dwindling to a few weeks or months. Builders in that position must have a detailed survival plan in place, or they may be forced out of business. Even if your reserves are solid, you need a contingency plan, as financial and cash problems may escalate in the days ahead after nearly three years of a cycle with no clear turning point in sight. A critical component of any plan includes preparing for bankruptcy.
A plan includes projections of sales, cash flow, overhead, and capital needs, as well as valuations of new-home and land inventories based on current pricing. Realistic planning and projections–including the bankruptcy option–put you in position to ask for and receive action from your banks.
No one knows when the markets will improve; you need to plan for the worst. At a minimum, that is a 36-month cash flow projection. Also, banks are under regulatory pressure. Builder lines are being cut or pulled and terms renegotiated. Even builders who think they are current with their banks may be transferred to the special assets department, since many are in some level of technical default on their loan covenants. Additional banks are likely to fail, and increasing regulatory pressures force every bank to re-examine the value of asset collateral.
This leads to another reason to plan for bankruptcy: You probably have a problem with your balance sheet. Land and new-home inventories in most cases are worth less than their corresponding loans, so you need to determine today's market value. If your banks aren't pressuring you now, they probably will be soon. In addition, if you don't reprice your land and new-home inventories to the market, you won't be competitive in the future–and you won't be able to attract new capital. The publics have already taken action through write-downs and impairments and have marked their assets to the market.
All of this takes a lot of time, and it must be done right. The objective is to protect your personal and business assets, and that goal is achieved through a long-term plan that includes and understands the possibility of filing for bankruptcy. Until you have a long-term plan, do not put any more capital into your business; you will lose it if you're forced into bankruptcy.
The purpose of a long-term plan is to know how to use all the tools available to you, including bankruptcy, to survive. Being prepared to use bankruptcy can be important to your bank negotiations, but it's a tool that hopefully won't be needed.
When a home builder's liabilities and assets get out of whack and its lenders refuse to cut it a break, sometimes the best option is to file for Chapter 11 bankruptcy protection. Since late 2006, 41 production builders have opted to claim insolvency, according to The Home Builder Implode-O-Meter. And dozens more no doubt should be on the ailing list.
Here's an abbreviated list of five prime-time BK examples–and a look at how awry their financials had gone when they filed. [Download PDF]