MOVING AHEAD FROM THE LAST BUBBLE
BUILDERS: FUND YOUR DEVELOPMENT WITH NON-RECOURSE BUILDER FINANCING
During the last home building cycle, there was a frenzy of “home buyers” that were the ‘air’ that created the “bubble”. Unfortunately, these purchasers had no intention of ever moving into, much less owning the homes that they were contracting to buy. Instead, with very small deposits and the hope of “flipping” the contract to the end-user left most home builders holding the bag when in fact the appreciation game stopped and the “flipper” walked away from their deposits. In many areas, the recovery of the last downturn is in full swing.
What are the lessons to be learned so that history does not repeat itself for many of these home builders who watched a lifetime of credit and equity wash away in a few short years? The following are options that many homebuilders may want to consider as they get back into the “game”.
1. Construction to Perm – Certain Homebuilders are committing taking down a model and spec with the right to purchase lots under a takedown that allows them to market home sales via a Construction to Permanent Financing. In this scenario, the purchaser of the home obtains the construction financing that coverts to conventional financing upon the
2. Obtain All Cash or Large Deposit Contracts – Many of Regional and National Homebuilder’s report very high levels of all cash buyers. In some areas, reports of 65% all cash sales are commonplace among the large builders. There are two primary reasons for this occurrence. First, the baby boomers that sell their house in their current location and move to their retirement location in many instances have the equity to buy all cash. Second, many investors recall how far their portfolio fell in the Great Recession. The recovery of the Stock Market has returned the value. In many instances, those investors are pulling some off the table for the “sticks and bricks” of a vacation or retirement home.
3. Bring in an Equity Partner – With Financing unavailable or worry some option for those who experienced the pain of the last cycle, many quality builders have turned to equity partners for financing. This is likely to be the most expensive way to finance a development as those investors generally will take of the equity. In some instances, they will also require a preferred return on their investment.
4. Non-Recourse Builder Financing: Rather than brining in an equity partner, the option for Non-Recourse Builder Financing currently is attainable in certain markets. In this scenario, the lender does obtain a mortgage on the real estate, but does so for an interest rate and exit fee. The rates and exit fees vary, but the math generally works out to be substantially less than brining in an equity partners without the risk of personal guarantees. Besides the obvious advantages of giving away less equity and no personal guarantees, this scenario also provides a competitive advantage to those builders that are going the route of all cash or construction to perm financing.
These advantages include:
i. Selling a Finished Product: While Selling off a Model or Sales Center works, it still doesn’t replace having the actual house on the actual lot.
ii. Faster Contract to Close for Buyer: The universe of Buyers greatly expands when you have finished product to sell. Many Buyers want to contract and close in a designated time period. Without an inventory of home sites, a builder may lose those sales to the builder that has inventory homes.
iii. Benefits of Velocity: By adding more homes into production, the benefits of scale can be taken advantage of by the builder. First, better pricing is likely to be obtained with more velocity. Second, indirect costs are more effectively spread over a larger number of homes. Third, any community will present better to potential buyers with more activity.
If non-recourse building makes sense for you and/or a client, please reach out to Ashley.Bloom@svn.com or 941.961.7109 to learn more about the options that are available.
