The first quarter of 2007 opened with cancellation rates easing down from record highs, but second quarter results suggest that the relief may be fleeting. Distress in the mortgage markets and contingency sales are teaming up to keep buyers from the closing table, adding to already swollen inventories and eroding builders' much-needed backlogs.
With no end to the mortgage troubles in sight, the situation is likely to get worse before it gets better. As the year's preliminary third quarter results begin trickling in, anecdotal reports of cancellation rates of 40 percent or more are common.
From a statistical perspective, the national picture doesn't look quite so bleak. Hanley Wood Market Intelligence (HWMI) reports that in July, the national cancellation rate had grown from 12 percent the previous year to 16 percent. However, analysts are quick to note that official cancellations tend to be underreported and point to net sales as a more accurate indicator of true backlog erosion. Looking at that metric, the data group reports that new-home net sales are down 24 percent nationwide from the same period a year ago.
But any way it's sliced, the recent uptick in cancellations is causing industry stakeholders some heartburn; higher cancellation rates cloud builders' financial outlooks. In a recent Bank of America report on the sector, analyst Daniel Oppenheim states that informal "market checks point to a recent spike in cancellations as lenders pull loan commitments and buyers fail to qualify. We no longer view order backlogs as a reliable source of cash. Lower cash flow will strain liquidity, particularly for high leverage builders."
Lance Ramella, HWMI senior managing director, says rising cancellations are forcing builders to play catch up in their financial models. "I think the high can rates caught some builders by surprise," he says. "Builders are now factoring these extreme can rates into their planning so they can project cash flow and revenues a little better."
All this leads to a single realization: It's time to get the kid gloves out. From creative partnerships to new buyback programs, builders are pulling out the stops to keep their backlogs in tact, Ramella says. Many builders are purchasing their buyers' existing homes at a pre-determined price or helping them better market and merchandise their existing homes to increase salability.
Fending Off the "Vultures"
Beazer Homes asks court for protection against an institutional investor posturing for immediate repayment of $1.3 billion in loans.
In a preemptive strike against U.S. Bank National, Beazer Homes USA filed a lawsuit, begging for the court to hold off investors who are allegedly trying to strong-arm the company into immediate repayment of roughly $1.3 billion in loans.
The point of contention is both parties' interpretations of a loan agreement clause that requires Beazer to provide a copy of all documents filed with the U.S. Securities and Exchange Commission within 15 days or face default. The U.S. Bank trustee demands a copy of Beazer's financial results for the quarter ending June 30; Beazer management claims to be in compliance because it has yet to file with the SEC. Beazer executives have delayed filing the Form 10-Q while an independent accountant investigates possible accounting errors related to charges of mortgage fraud.
The filing states: "The motivation for the campaign is clear: Many of the noteholders, including a number of 'vulture investors,' have scooped up Beazer's bonds at discounted prices in light of both the dramatic and well publicized downturn in the credit markets and Beazer's previous disclosures. Those investors now seek to make a quick profit by attempting to accelerate full repayment."
Beazer management says the issue is causing the company "irreparable harm" by raising the specter of being in default of its loan covenants. Standard & Poor's and Moody's have placed Beazer's credit ratings under review for downgrade; Fitch already downgraded Beazer's credit rating.
This is the latest in the legal imbroglio that began with a series of stories in The Charlotte Observer, which exposed a high level of foreclosures in an older Beazer-built neighborhood and alleged the company bent lending rules to get buyers into homes they couldn't afford.
The legal volleying has sent Beazer's stock price plummeting, causing some investor excitement. Hotchkis and Wiley Capital Management upped its stake in Beazer to 10.9 percent from 3.79 percent on June 30, according to YahooFinance.com, making it the company's third largest institutional investor.