It's probably the rare CEO of one of the nation's big builders today who doesn't still have his “curb guy's” phone number etched in his retrievable memory. Quite a few big bosses likely still even know by heart the numbers of the water and sewer pipe guys, excavators, quarry crushers, and asphalt guys they used to need to bring on for road improvements and other land development as they readied 50- and 80-acre parcels for new home projects. By natural evolution and economic necessity, big builders would need to perfect skills traditionally handled by land developers. They needed to get good at it, not only in the operational sense of making parcels buildable, but in the strategic sense of having enough of the right lots in their pipeline.
Just as they've continued to work with pure-play land developers, financial-play land banks, and each other, big builders became developers themselves. They had to, so that their access to lots would keep pace with their capacity to meet home buyers' needs. What's more, an inadvertent benefit emerged in the past few years, the “blended return” of land value appreciation, adding profitability to unit sales.
“If you think of land as our most basic raw material,” says Tim Eller, chairman and CEO at Centex Corporation, “we have to have the land before we can do much of anything. Controlling that process has some attractiveness to it. There's been a nice upside (through appreciation) in a number of cases, but for the most part, most of the profit in a house is still in building the house. In the past five years, in the heady times, the ability for land developers and suppliers to deliver finished lots in a predictable manner has been somewhat volatile. So, in response to that, we have focused more and more on acquiring lots through options and entitling and developing more of our own property. As the markets slow, we'll go back the other direction probably.”
The drama of land right now is this—mathematics' inevitability clashes with psychology's randomness. So a specific piece of land may be tremendously valuable now or worth very little.
What's likely is that the 14 or so biggest public companies will slow their lot consumption machines and let the land market cool as their own orders for homes settle and cancellations creep up. Depending on the severity and length of any downturn, they'll use cash to buy back shares and renegotiate options wherever they have leverage. A domino effect is likely. For a while, private companies that operate off different capital structures, more patient investors, and more cohesive business models will be able to zone in on prime land that fits their growth strategies. Smaller players will have to be more astute than ever to stay in the game, buying high and leveraging their position among home buyers to sell even higher in a down market.
Meanwhile, the scrutiny the publics face as to how they disclose the structures of their land inventories tightens. Joseph Snider, vice president and senior credit officer at Moody's Investors Services, goes so far as to say, “There is no disclosure of this type [of land banker] agreement in the footnotes [of public company financial reports], and according to our accountants, this type of information should be disclosed.”
What's clear is that all the work public home builders have done to clean up their balance sheets and manage their debt-to-capitalization ratios will probably fall short of the mark unless they become more transparent about their complex land bank deals or joint ventures.
What's more, mobility and migration trends that have been pushing development ever farther from regional activity centers may be about to swing back toward downtown. That may be land economics' biggest change ahead.
The impact of these shifts—marketplace and financial—on the appetite for big new land parcels is the focus of our special report coverage on land this issue, starting on page 42 with Lisa Marquis Jackson's story, “How Green is My Valley.”