You can imagine the uplifting direction the conversation took when the first response to the challenge of identifying a finance-oriented opportunity area for the industry was: “Figure out a strategy to protect personal assets as well as you can, and wind down operations.” In other words, “Get out while you can!” Now there's an icebreaker.
In production home building, a chasm separates the capital structure of hundreds of private builders whose vital signs diminish as each day passes from that of a few handfuls of public builders with the ability to write down equity and manage operations by tapping into huge reserves of debt obtained cheaply years ago and due for pay-back years hence.
Since mid-September, shocks to the world's financial organism set off a litany of potential “last straws” for builders with any form of reliance on bank lending to carry on business. By Oct. 1, barely a trickle of home buyers remained, their access to mortgage loans was prohibitively difficult, land asset and new-home prices were in a death spiral, intrabank lending was one huge logjam, commercial paper was at a standstill, new real estate lending was a dirty term, and anybody who'd lent money who also owed money needed the money they loaned back so they could pay what they'd borrowed back.
So, to sum up the exercise—we were to discuss options when few if any options were left. Here's the deal: No cash coming in from selling homes; no way to borrow even the narrowest bridge to recovery; no relief on collapsing land asset values; and, after exhaustive efforts to pare costs back to the barest essentials, no more expenses to take out. What's a finance pro to do? Change the rules of the contest, of course! Improved profitability? Preposterous! Improved chances of survival? Now, there's a goal worth focusing on.
Good riddance, OldCo. Hello, NewCo. Where is the money these days, and what does one have to give up to get just enough of it to keep one's pulse going?
The profound de-levering at work in the broad economy meant all perspectives fell into one of two buckets: what we could do something about and what we couldn't. Naturally, much of our talk orbited the latter. Still, what began as a brainstorm of more than 20 issues in the room got baked and hammered into three tangible pathways to improved odds of survival in 2009.
ASSET LIGHT OR BUST In disaster movies, it's the “if we get out of this alive” denouement. Asset light is what most builders, both public and private, were and no longer are. And now they're paying for it. Look at what happened to the “A&D” part of most banks' commercial real estate portfolios during the years 2002 through 2006, and one can see that home builders were on the residential real estate equivalent of human growth hormone. Easy money, artificially intense demand, higher prices, easier money, artificially more intense demand, and even higher prices, and on it went, hypnotically.
Home builders now look at the very few players in their ranks who did not or could not fall under the dizzying spell of land price appreciation, and they say, “We forgot who we were: home builders.”
Asset light presumes gross margins in every unit achieved through excellence in materials and products sourcing, Swiss-precision logistics, effective labor management, high-level marketing and sales, and a tight-as-a-drum balance sheet that quickly reveals a deficiency in any of the aforementioned skill sets. The big I.E., little to no owned land.
The problem for most is getting from here—asset obese (relatively speaking)—to there. Until assets begin to throw off a real value and start trading at real prices, asset light is a conversation that needs to be going on with joint venture partners or outright buyers who'll wind up with chunks of present equity and debt and future upside.
“Even though nothing's happening now to any significant degree in transactions, and I don't think it will until sometime in 2009, we have to start imagining and creating new structures for land position, ownership, and management,” said Laurence Pelosi, executive director of Morgan Stanley Real Estate.