The last time home building Economics 101--healthy and growing demand creating a swelling need for new home supply--was this good, things didn't go so well. A liquidity tsunami surged into residential real estate, drawing its force from fantasy fundamentals and its own unstoppable nature. Now, of course, is different. The fundamentals--jobs, income growth, household formations, corporate profits, and still very low interest rates--are sound.
Still, while capital investment for home building is plentiful on some levels, it's unevenly available. For a few publics and even fewer private companies, access to capital for growth--on land, development, acquisitions, etc.--is no more than a complex process that is a means to an end. For many, many builders, mostly local, multi-market, and regional companies, the pursuit of acquisition, construction, and development capital is daunting, is a time-suck of leadership's band-width away from operations, and can--especially these days when land is expensive and competition among other builders to source those parcels is fierce--lead to overpaying, and exposing the company to financial distress.
Here, in three segments, is the story of Atlanta-based, 5-southeast-market regional private home builder, Smith Douglas Homes' pursuit of the kind of capital--public debt--that would allow it to compete for land strategically, smooth out market volatility in the near-term future, and--it's No. 1 goal--grow into one of the nation's top private home builders.
Greg Bennett steeled himself before sitting down for dinner that Saturday night at The Café fine eatery in the Ritz Carlton in Buckhead in August 2015. His intention was to get up the nerve to say “no” to Tom Bradbury.
Easier said than done. He and Tom went back. In 1986, Greg was a wet-behind-the-ears assistant builder when he joined Southeast regional powerhouse Colony Homes, founded nine years earlier by Tom Bradbury. Bradbury took Bennett under his wing and mentored him up the Colony management ladder. By 1997, he’d risen to Atlanta region president and when KB Home bought Colony in March 2003, Bennett stepped up as the new KB division’s executive vice president, overseeing operations of the $250 million 1,800 home southeast empire. Bradbury was largely to thank for the vaunted assignment.
Bradbury’s support was more than professional. He’d gotten to know Greg’s wife Tammy over the years, and watched the two children come of age; he knew the dogs, the golf handicap, and the record of the Little League team Greg coached.
And he knew how to get Bennett to say “yes.”
A week earlier that August 2015, Bradbury and his new partner and long-time friend Charles Schetter had met with Bennett at the same dining spot in the same Ritz Carlton and posed the same question to him, that he join Smith Douglas as its momentum shifted from 11% volume gains and 22% revenue increases from 2014 to 2015, to a 26% surge in unit deliveries with 106% revenue growth year over year from 2015 to 2016. Schetter and Bradbury knew that if they could win Bennett over, their growth could rocket-boost from good to meteoric.
“We were going to keep buying him dinner every Saturday night at that same restaurant until he gave us the answer we wanted,” recalls Schetter, who’s now Smith Douglas ceo.
Thing is, Bennett liked a lot about what he was doing. He ran his own outfit, a home building operation doing about 150 starter homes a year out of Atlanta suburb Cartersville, that he’d built up from scratch starting in 2004, and managed through the Recession. At the time of the second dinner meeting, he’d started 16 homes, and had a son, Colin, who was in college, and had shown some interest in coming into the business. G. Bennett Homes was doing well, and he liked the flexibility of being his own boss, and the thought of having an heir to bring into the business. Rejoining Bradbury, at that particular moment, felt like a risk to the life, and autonomy, and wherewithal he’d achieve.
So Bennett started pushing back when Tom and Charles proposed he come aboard to “get the band back together” for another shot at going big. Tom had answers for every objection—suggestion that Greg’s son Colin might be willing to join the team as well; use of Tom’s personally-owned aircraft for visits to Smith Douglas’ five markets on a regular routine basis; quality of life work-life balance based on “breakfast at home and dinner at home;” the whole nine yards.
“And he looked at me with those Tom Bradbury eyes,” Bennett said, and I couldn’t say ‘no.’” Bradbury doesn’t carry the title “chief culture officer” at Smith Douglas for nothing.
On the surface of it, Bennett said “yes” to rejoining his mentor, and to signing on with a $100 million-a-year or so enterprise he knew for its good bones, solid pedigree, and a deep-rooted soul. Perhaps more important, his agreement to take the reins as chief operating officer at Smith Douglas was emblematic of a moment in time. That moment gave both Bennett and Smith Douglas a future neither might have had if Bennett did what he’d intended to do. Just say no.
Smith Douglas only sprang onto Builder 100 rankings from off the radar in 2015, booking $89 million in revenue on 472 home deliveries in 2014. So, August 2015 was a reckoning point. Eight hard years leading up to that moment represented what the company was, a bootstraps enterprise started in the depths of the Great Recession by a guy whose home building Midas Touch moments—some thought—may have come and gone by the early 2000s, with Colony’s sale to KB Home.
Forward from that moment, in the same guy--Tom Bradbury--and a recombinant team of trusted Colony pros, with one important added ingredient of strategic gravitas in Charles Schetter, who’d climbed aboard a month earlier at Bradbury’s urging, emerges the Smith Douglas that could be.
Another way of looking at it is this. Check our Builder 100 rankings at the companies, say between 70 and 100, where the organizations deliver between 350 and 650 homes with annual revenues ranging from around $100 million to $200 million. That’s squarely what Smith Douglas was. Now, look up the list to the top 15-ranked builders, those delivering no less than 4,000 homes a year, and clearing revenue of over $1 billion in home building sales. That’s where Bradbury, Schetter, Bennett and team believe they’re going to be in seven years or less.
This past December, the company closed 2016 having delivered 665 closings, and generated $225 million in revenue. So, take that performance and factor in 344% revenue growth, and 501% growth in unit volume and you’re in the zone Bradbury, Schetter, Bennett and the team see themselves reaching. Soon.
Blood runs thicker than water in the business of home building, the way it does in families. That being the case may give a builder like Smith Douglas an opportunity to quantum leap from where it is into exclusive company among privately-held builders. Shea Homes, David Weekley Homes, and Ashton Woods are the company Smith Douglas aims to keep. These three organizations share three traits few if any other private builders hold in common. They are established and enduring home building leaders; they are privately-held and independently run; and they have access to debt market investors, just like the publics.
Now, realistically, what are the odds Smith Douglas Homes can achieve its plan?
Obviously, if Smith Douglas succeeds in doing what it’s trying to do—secure institutional bond investors to pony up into a hybrid type debt instrument that looks and acts a lot like the bonds big public builders issue—its chances of hitting its ambitious plan look mighty realistic. This type of debt would fix interest rates, push back maturities to a three-to-five-year comfort zone, allow the company to buy land more strategically, and smooth what could be some cyclical hiccups over the next few years, even if long-term fundamentals look good.
Builders that have been able to access this type of capital market—Shea and Weekley, and later Ashton Woods and Woodside Homes—tend to be able to expend less of their executives’ time securing and managing documentation and compliance on a lot of other operations and project finance lending, and allow them more time to do what they’re really good at, which is leading home building and new community development and operations. Moreover, that resulting ability to spread new starts and completions more evenly through up and down cycles can allow for more predictable, mutually beneficial relationships with trade partners and vendors by giving everybody transparency into an operations horizon that stretches forward into the future and allows for investment, inventory planning, and more efficient distribution channel management.
“Building enough equity to get access to the public bond market is basically reaching a promised land for a private builder,” says Robert Crowley, managing director at Moelis & Company, an investment banking and advisory organization that has worked with a number of builders on both transactions and on securing institutional investment in bonds. “These hybridized bonds would have terms that are a little tougher terms, higher rates, shorter maturities, tighter covenants, but they can be very helpful for a company that wants to grow the business, buy some land, do some development. This type of debt may separate winners and losers in a downturn as well, since they can ride through a decline until demand builds up again with the extended maturities.”
Likely, Smith Douglas would have to take a two-step process to reach what Crowley is calling “the promised land.” From a net worth perspective, Ashton, Shea and Weekley occupy rarefied air of over $200 million, which gets them over the minimum deal size threshold of about $250 million for a bond issue.
That’s well above Smith Douglas’ “pay-grade” for the time being, so the company’s strategic leaders may try to structure a junior-level deal, along the lines of what Ashton Woods did coming out of the Great Recession, when it went in for $95 million in private debt in 2009. Just the way lenders might look for a slightly riskier home buyer to offer a mortgage with slightly better terms to the lender, institutional investors might look at a Smith Douglas bond offering as a bet worth taking to get a higher yield on the investment.
Specifically, Smith Douglas is looking to structure one of two types of investments for bond holders, giving the company financial leeway, and capital for land purchases. One would be a mezzanine debt structure, with three successive years of investment, totaling $105 million, with a payback period of five year. The other would be a full-stack 3-year investment, with a total of $320 million, also with a five-year payback period.
Let’s take a look in the next segment (Wednesday, April 19, 2017), why don’t we, and unpack some of what Smith Douglas has going for it that might put it into a rare set among private home builders.