The recent spate of walkaways, write-offs, and write-downs on owned and optioned land underscores home builders' need to divest their balance sheets of some of the risks embedded in their already chosen lot pipeline. However, in a more perfect world, home builders would get to place dibs on coveted lots without stressing their precious balance sheets.
Competing alongside existing land banks, such as Hearthstone, Acacia Capital, and Lowe Enterprises, RLA will own builder-designated tracts of land through development and sell them back to builders on a staged take-down basis, minus the dizzying array of FIN 46 compliance exercises. FIN 46, issued by the U.S. Financial
Accounting Standards Board, is an accounting regulation that governs off-balance sheet transactions, such as joint ventures and land banking, protecting against sham financing.
RLA's unique capital and management structure allows builders to interact with the entity without incurring FIN 46's morass of proofs. Because RLA fits FIN 46's strict definition of a "business," transactions with the land bank aren't susceptible to the same accounting oversight. In contrast, doing business with some traditional land banks creates an accounting sticking point because the investor in land bank deals often is a fund rather than a company with its own business interests. Funds lack physical employees; instead management companies, which have employees, operate the funds. This structure necessitates that transactions fall within the scope of FIN 46.
Without RLA, builders can still work around FIN 46, but "there are typically a bunch of hoops they need to jump through in order to avoid the regulations associated with FIN 46," says Jim Martell, RLA's chairman. "In our model, the investor and the manager are the same company," therefore reducing the amount of necessary accounting rigmarole.
According to a Moody's report, the top 16 public builders carry more than $2.9 billion in debt associated with FIN 46 land-option deals and another $3.1 billion of debt from joint ventures on their adjusted balance sheets. Both types of debt impact operating metrics and cash flow; the latter can affect credit ratings.
Moreover, unlike other land banks, RLA concentrates only on transactions within a narrow window of the land buying process. Unlike competitors who also deal in unentitled land, housing joint ventures, land joint ventures, and more, RLA plans to invest solely in real estate assets that are entitled and are subject to a contract to buy the lots back on a take-down schedule.
"Our business model is to work with a builder who identifies the ground. They control it, they entitle it, and then, they don't want to buy it," says Martell. "Our focus is to securitize that little sliver of the pipeline asset that is the least risky, just before it gets sold. We'll be very disciplined in our underwriting, very disciplined in the builders we choose, and be diversified both geographically and by product type."
Because RLA's capital comes from direct investors, they can provide builders a continuous source of capital as opposed to funds with a finite life. The benefit to builders: With evergreen capital, there is not the same level of pressure at the end of project if terms need to be extended or renegotiated. Also, builders know the capital will be available for a future deals since they aren't precipitated on the creation of another fund.
The group introduces its model backed by $600 million in initial capital availability. Investment partners include two unnamed private equity institutional entities funding approximately 90 percent of the venture and an additional 10 percent of the equity comes from JMP Securities, which completed the capital raise.
Running the show at RLA is a team of former Hearthstone and public builder veterans. The company's senior executive team consists of Jim Martell, formerly of NV Homes and NVR Development, as chairman; Jim Griffin, formerly of Hearthstone, as president; Brian Buchanan, formerly of Beazer Homes USA, as senior vice president; and Joey Solis Jr., formerly of Pulte Homes, as CFO.
Already, Griffin reports two deals in due diligence and anticipates the company's average deals to range from $10 million to $50 million dollars. The RLA business model calls for an eventual IPO to allow the company further access to major REIT investors and a continuous source of capital.
"I think it's great," notes a CEO of one public company after learning of the venture. "Ultimately, businesses like this can help bring down the cost of capital for financing land deals."
–Lisa Marquis Jackson