Over the next several years, you will have opportunities to buy distressed assets from banks. This happens in all housing down cycles. Just as I consulted for banks, the Resolution Trust Corp., and a number of buyers during the early 1990s, we are now consulting for willing sellers, the banks, and willing buyers. Distressed assets are likely to come from four sources in the following order of priority:
This will occur in the outlying or metro areas these builders have decided to leave. By our count, public builders have already abandoned 58 metro areas, and we are certain there are many more to come. More often than not, the assets were sold to a local builder or investor. A few big portfolios have also been sold. While most of these areas are relatively small, we believe that many builders will abandon some of the largest markets as well, primarily if their local management team isn't executing as well as others, or if the five-year prognosis for the market is weak. For example, we believe some big builders will leave Riverside-San Bernardino and Las Vegas, both of which were Top 10 markets.
2. Overinvested Private Equity Groups Leaving the Business
One major pension fund and one major Wall Street firm are just two groups that come to mind with billions of dollars invested in raw land. They made huge returns earlier this decade and are likely to give most of them back in the form of losses. Although they might sell their positions outright, these properties are likely to be disposed of asset by asset, because the investments were made in separate legal entities. Many speculators will also decide to stop paying property taxes and hand the title back to the bank, giving you the opportunity to buy at a great price.
3. Distressed Lenders Abandoning Workout Negotiations
When home prices fall by $30,000, land prices fall by almost as much. In a closer-in area, that could be a decline of 20 percent of the land price, and the asset can be sold or homes built to repay the loan. In an outlying area, the $30,000 loss could be 90 percent of the land price; thus the loan has little value. Most lenders would rather sell the loan than own the asset, so consider becoming the new lender, then taking the borrower through the foreclosure process.
4. Land Developers Generating Cash Flow
The developers lucky enough to have patient capital partners and little debt have been waiting for better times. But at some point, they will need to sell land–one of the first signs of housing market stabilization.
To buy distressed land, you need cash. In today's market, there is virtually no debt available, so you will be paying cash. The need for cash and the lack of debt will limit the amount of competition for distressed land and allow you to make a better offer.
This won't be easy, but that is why you will make good returns.
–John Burns is founder and CEO of John Burns Real Estate Consulting. For more info, visit www.realestateconsulting.com.
Cash is not:
- Money in the bank account of someone you know.
- Seller financing.
- Something you can raise after you tie up the property or the loan.
- Something you deserve because you are a nice person or you used to work for a builder that is now in trouble.
How to raise cash:
- Put a significant amount of your own money in the deal–even if it's a small percentage of the purchase price.
- Explain what you learned from this cycle that will help you in the next. The fact you were responsible for land acquisition for a firm that is now on the verge of bankruptcy is likely to hurt you unless you can prove otherwise.
- Show that you can make money by buying right and without relying on price appreciation.
- Put together a clear, concise business plan.
- Network like crazy. Let every lender, investment banker, land broker, etc. know that you have cash and you want to buy land. Speak at every industry event you can.
- Know your corecompetencies. Look for deals that you can execute better than others.