Veteran Builders Offer Tips to Weather Tough Times
Hunkering down for a housing correction that has turned out to be longer and tougher than expected because of a credit crunch in the mortgage market, veteran home builders who have suffered through economic downturns before shared their experiences with younger members of the housing industry who haven’t at a special panel discussion on Sept. 7 during NAHB’s fall board of directors meeting in Seattle.
“We knew that there would be a day that this market cycled” down from the housing boom, said Albuquerque, N.M.-based builder Michael Sivage, who moderated the open discussion on what builders can do to weather the economic downturn. However, just as in the past, the industry has been “caught by surprise,” he said, largely because previous housing downturns were accompanied by a national economic recession. This time, although interest rates have inched up steadily, he noted, the economy has remained “alive and strong.”
Some of the veteran builders participating in the “Weathering an Economic Downturn” presentation recalled the deep recession of the early 1980s when the housing industry had to contend with 17% mortgage rates. Others cited the downturn of the early 1990s, which was marked by a collapse of the savings and loan industry and a severe credit crunch for acquisition, development and construction loans. But all agreed that no matter what the cause of the problem, there are strategies that builders can follow to strengthen their businesses during a slowdown.
“If this thing deepens, what will rise to the surface is a lot of fear and denial,” said Ken Klein, a custom home builder and high-end remodeler from Tulsa, Okla., who has been in the business for more than 30 years. “But those who survive will be the most proactive” with their customers, suppliers, subcontractors and lenders and avoid falling into a state of paralysis.
“Don’t think that everybody’s going to be able to pay you, just like you can’t think that every buyer who comes through the door will be able to qualify and close,” Klein said. “Recognize what the future may hold and plan for what the future may hold.”
Tom Woods, a Kansas City builder and developer who has been in the business for three decades, stressed the importance of communication and persevering even when it appears that there’s nobody buying homes and nobody visiting models. “You have to keep going out every day to sell the houses,” Woods said. “And you’ll come out of this thing bigger, not smaller.”
Younger builders who haven’t been challenged with steering a business through hard times were advised to be up-front with lenders and others they are working with and to make paying them a top priority in order to keep liens off their properties.
Still Standing When It’s All Over
“It’s going to get better and veterans can help those who haven’t been through a downturn before,” said Bob Camp, a single-family builder and developer in Tacoma, Wash., who has been building since 1980 and up until recently had been constructing about 125 homes per year. “The name of the game is to be standing when it’s all over.”
Camp said that local home builders associations should be activating their past presidents councils to line up seasoned builders who can provide practical advice and exchange ideas with newer members on how to gear their operations to a soft market.
The youngest member of the panel, Steve Lawson, a third-generation builder who builds, renovates, owns and manages multifamily rental properties and constructs single-family homes in the Virginia Beach-Norfolk, Va. market, said that conditions were “miserable” when he entered the business in 1993 and his father’s advice is what saw him through the difficult times.
Lawson observed that multifamily rental activity ought to be performing much better than for-sale housing, “but a lot of markets are overbuilt and time will tell if we see a vacancy rise.” Even with demand for apartment rentals pulling ahead of demand from home buyers, financing for multifamily financing has tightened and underwriting standards are stricter, he said.
Cautious About Land
The pipeline has also continued to add to the lot inventory in his area, Lawson said, “and we’re not turning a lot of that off.”
Woods observed a similar increase in lots in Kansas City. “The plats are there, and it’s hard to stop,” he said. The mentality of developers in the last few years was that it was “cheaper to put the lots on the ground and pay the interest than pay for inflation in building materials."
Banks are becoming cautions about the land situation, Lawson said, and his lenders want him to hold off on developing land near a flood plain that took him 18 months to get through the permit process. “If we start again, it might take three to four years to get the product on the ground once the market recovers,” he said.
Camp said he had paid $135,000 for lots in one community and can now buy them across the street for $85,000. “Exercise options, if you can,” he suggested. On the home building side of the equation, “the inventory is growing tremendously, so now we are seeing builders who won’t make it through 2009.”
“When you’re building 20 houses a month,” he added, “it’s hard to recognize when you’re 60 days past where you should have stopped.”
Even in markets that didn’t turn red hot during the housing boom and weren’t as susceptible to a big downward correction — such as Tulsa, Kansas City and Seattle — sales momentum recently has been softening and consumers need a big boost in their confidence, panelists noted.
Other advice provided by the panelists in Seattle:
- Remodeling offers home builders an opportunity for diversifying their business, according to Bob Hanbury, a third-generation remodeler in the Hartford, Conn. market. While the industry is not countercyclical to home building, it does provide good margins, he said, and the significant growth in home equity that occurred during the housing boom has bolstered the ability of consumers to undertake professional remodeling jobs. The remodeling outlook is flat to a bit down for the year ahead, but substantially healthier than the new home market.
- To mitigate damage from higher standards in the mortgage market, Camp says his company appoints a vice president to stay in weekly contact with the lender for the final month of the sales contract to check the status of the loan.
Camp also admits that he didn’t know his buyers as well as he should have, recalling that he was nearing closing on nine houses only to discover that he was dealing with investors. “Know what their closing capabilities are,” he said. “You would be better off not building the house” and avoiding the fear of ending up with another unsold spec.
On the building side, Camp said that his company has gone to a preferred lender system over the past four to five months. Smaller builders can team up with other builders to get the most mileage out of this arrangement, he suggested, “You have to go to only one bank to check the status of loans, and that helps cut costs,” he said. He has found that this approach also helps qualify buyers and lenders are willing to participate in the advertising.
Camp also cited the importance of recognizing when prices are being discounted. “Open up your newspaper and you will see substantial discounts,” he said. “You have to play that market.” Builders need to know the profit margin on each of their spec houses, he said, so that they can calculate how much they can afford to give away and still remain profitable. “If you can’t give it away, don’t make the sale,” although “sometimes you may have to take a hit to move the inventory.” Another option for moving unsold houses out of inventory is to turn them into rentals.
Along with other panelists, Camp stressed the importance of advertising and staying ahead of the competition. “Make sure your product shines a little brighter than their product,” he said. Cutting the grass, spiffing up the model and making sure that sales people are always on hand to greet prospects are other important details for builders in a down market.
- Woods suggested gathering a group of business associates who can be “brutally honest” with each other and offer frank assessments of where their businesses stand on such issues as sales orders, labor, materials and more. In pursuing building plans, “you can set a timeline; if things haven’t happened by this date, I’m going no further,” he said. “Set your rules and stick with them.”
- Lawson advised for-sale builders to work especially closely with their mortgage lenders, a practice his company has always followed. He also recommended keeping the lender abreast of what the company is planning. “Go to the banker before you have a new project,” he said, to show that you are planning your cash flow and have a business plan. “Make sure the banker knows you’re on top of it,” he said.
In give-and-take with members of the audience in Seattle, more suggestions were made, including:
- Builders should walk their model homes with Realtors® and other builders for feedback. Focus groups with customers and the sales staff can also be helpful.
- Sell lots to buyers who are too nervous now to move forward on a final home purchase.
- Work with banks to expand the company’s line of credit. For instance, rotate unsecured lines of credit from different banks. Don’t use any one line for more than 90 days, and then let them rest for a while.
- Self storage facilities can provide a good opportunity for diversification.
- “If you have any kind of buyer, make them a buyer even if you have to lend them the downpayment.” Also, cut back and sell your liabilities, “even if you have to give them away.”
A Michigan builder in the audience offered this advice: “Get rid of inventory any way you can, pull in your horns on expenditures….The only way you will make your money is building houses.
Another panel discussion will be scheduled for the International Builders’ Show in Orlando in February.