“That was the stupidest thing that ever happened,” said one of our highly placed public home building company executives.

Right about now, after a phalanx of home builders completed an 18-month tear to devour finished home lots everywhere at prices that swelled to double or triple distressed-deal pricetags, the sense of this comment, “the stupidest thing that ever happened,” becomes clear.

When you think about it, home building’s biggest beneficiary of an NOL refund–Pulte–already had enough land, so it didn’t need to participate in the ‘09-’10 run on finished lots. Too, the No. 2-ranking NOL refund recipient, Hovnanian, probably did use some of the windfall for land purchases, but most likely banked the lion’s share of the tax rebate for operations.

So, in fact, less actual NOL refund money made it into the land-buying market than meets the eye. But, that doesn’t mean the perception among land-sellers and banks has not been impacted by NOL refunds’ flow into builders’ acquisitions piggy-banks.

Says another home building company CEO:

It scares me, to be honest, when I look and see what happened in the Fall. There were three years of pain–builders beating land sellers and banks over the head, trying to convince them that market values weren’t there… and [the land sellers and banks] had to get to a psychological adjustment on what market values needed to be, because when you residual it back, their perspective on what the values were just didn’t work. And overnight we made that go away.

 We just said, ‘poof!’ and it was gone. Because, now after the big Fall, everybody says, ‘those really are worth what I thought they were.’ But guess what, when it comes through the cycle, the house isn’t going to appraise there.

In other words, invoking the option to shift accounting timing on collecting tax refunds on business losses from later (the future) to sooner (the past) may well have won a policy battle, but it likely made the war longer and more difficult, with an even greater list of casualties as a result.

Says one of our trusted public home building company leaders:

“[NOL refunds] probably did contribute to a temporarily elevated demand for lots, and distorted the market for a while, but that’s over now.”

So thanks to an “extend and pretend” bank regulatory environment, an artificially inflated liquidity pool of cash put into the coffers of public builders who were bursting at the seams to open new communities to flex their competitive muscle and validate their footprints, an opportunity was lost.

A true-up of land market bids and asks that could have occurred widely by now got delayed. Near-term cash-generation interests trumped longer-term health and profitability.

Here’s a painful truth. Minus a jobs and consumer confidence recovery (which could still emerge, however anemically, out of the fog of broad regional economic trends), housing’s now stuck between a rock of no demand stimulus and a hard place of land sellers who won’t mark their lots to realistic end-home-buyer market rates.

Home builders’ focus on what they can control–which is not the economy and jobs growth–is more important than ever.

A key story of the balance of 2010 will be whether at least the public home builders displayed financial discipline (or not) in their lot acquisition activities dating back to Spring 2009. We have, or will see a fair number of communities come on line in 2010 and early 2011 based on those lot purchases, and the question of the moment is whether the underwriting was sound or not.

So even as end demand remains in the thrall of unclear employment and disastrous home finance trends, the supply side–namely land prices–is going to be where players seize a competitive and profitability edge coming out of 2010. But that won’t occur for anyone who hasn’t learned to pencil lot acquisitions with the discipline to exclude both appreciation and a faster pace of absorptions.

An anemic recovery is a recovery, period…

(Folks, this note will be our last until our return from a week on the Sonoma California Coast … a vacation we gratefully appreciate. Until August 9, then, best regards to you all!)

One in 10 of a universe of 4.9 million can conjure bad-trip flashbacks to October 2008 through June 2009 for most new home builders. Still, most of the ones we’re talking with believe that the 4th quarter of 2010 will mark the moment housing will begin to walk on its own feet for the first time since subprime meltdown became a Google search term.

Still, how many home building company executives feel precisely the way Sheryl Palmer, CEO of Taylor Morrison describes her sense of gravity-free zone housing entered since Uncle Sam stopped using tax dollars past, present, and future to prime the demand pump?

“For the first time in my life I should be on the debate team,” Palmer says of her gut sense of what’s next for housing. “I feel like I can get on either side of the debate and win! When I try to articulate where the market’s at, I can give you all the good reasons that we’re going to start to see improvement. But I can also give you all the reasons that this is going to stay with us for a while. I think they’re probably going to balance themselves out.”

Palmer attests to being an optimist with her optimism in check.

What will go on in the market through the balance of 2010 and all the way through 2011 and likely into 2012 is an X factor new home builders haven’t needed to script into their playbooks during past downturns: seven figures worth of homes whose borrowers will reach the end of their respective tethers.

So the plot line typical for a home builder to work through periods of rough going–which is to shrink the balance sheet, triage land exposure, cut directs and indirect costs, roll back prices, and gut out the worst by generating barely enough cash to cover everything that’s got to get paid for and hope that somebody doesn’t come along and appraise the land asset at less than one thinks one can get for it–doesn’t work for this downturn.

In too many instances and too many places where new home builders make their living, the market environment is too full of current and imminent distressed sales for the usual housing slump rules to apply.

Now, the questions of whether a prospective buyer can get financing, can afford to move, can sell their current home for what they paid for it or even what they owe on it, can hang on to their job, etc. loom large in today’s economy.

New-home builders offer new-home communities, and a certain number of times–one in 10 right now–buyers want that. What about the other nine out of 10?

How many of those 90% of resale buyers in today’s market are on the fence about whether they’ll go for used or new?

Realistic home building company strategists believe that their first best plan hinges less on the housing economy getting better and more on their own firm’s ability to take share in the current market.

“There are enough of our buyers out there right now,” is the way one of the nation’s dozen largest home building company CEOs puts it. “We just have to do better at getting at them.”

Truth be told, until the jobs picture changes, and changes sustainably–which some people believe is entirely possible as an entire multi-billion person consumer class of spenders continues to take shape on the other side of the planet–adversity will remain the flavor of the day in the residential investment part of the U.S. economy.

Meanwhile, the 200 or so companies who’ve been able to stay alive through a four-year slog to this point are going to have to step it up yet one more notch to snag sales from among buyers who are on the fence trying to decide whether to buy new or used.

“We needed a tie-breaker,” says Meritage Homes CEO Steve Hilton of his decision to make affordable energy sustainability a core skill of Meritage’s recovery strategy. “All other considerations being equal, we think our green initiatives can and will swing buyers our way.”

Hilton reports that Meritage’s vaunted Lyon’s Gate community in the Phoenix market town of Gilbert, Az., has netted 1o sales to buyers with qualified financing in its first three weeks since grand opening. Not a bad absorption rate in what may go down as one of the nation’s worst post World War II new home periods.

Meritage’s Lyon’s Gate equation–exceptional energy efficiency performance and exceptional affordability–owes part of its viability to the downturn itself. The 210 lots were purchased from RBC Bank as a result of the demise of Hacienda Builders–the reset on the land price was, and will continue to be the way any home builder can shut the gap between owning and renting, and between cost of owning and household means.

Also, the Meritage Green strategy now comes in four versions, of which Lyon’s Gate represents Version 4, the most ambitious. Each version of the Meritage Green starts with a minimum of Energy Star qualified plus, and ladders up the efficiency spectrum to solar/thermal and a high performance wall system that come as standard features in new-home communities such as Lyon’s Gate.

C.R. Herro, Meritage vp of environmental affairs, explains that just as all real estate is local, all affordable green home building initiatives are local as well. Step one is the lot purchase, which ensures that a production home builder or developer can roll back home prices substantially to compete in the market with resales, including distressed sales.

Next came building science, says Herro. “We worked on building the home the right way to achieve the energy savings we were shooting for, and after that we attacked the costs,” he said.

The savings to the buyer, he said, come with the overlays achieved not only on direct per square foot building and materials costs, but via concessions among vendors, credit programs with local utilities companies, and local and federal tax credit programs. It’s a complex layering of operational savings and cost take-outs that benefit the home buyer not only on the home price point but on the operating cost of the house.

Herro says that regional and divisional leaders across Meritage’s geographical footprint are enthused about introducing Lyon’s Gate type features and pricing in the communities they open nationwide. But they need, by the same token, to make sure they’ve got the same or equal cost savings and credit benefits to bring to bear, given their different climate zones, local green initiatives, utility company programs, and Meritage’s national agreements with key vendors.

“In many ways, we’re challenging the regional and divisional people to show us why they can’t implement these programs rather than to prove to us that they can execute,” said Herro.

Looks like Meritage may have found the “tie-breaker” it’s looking for to get a home buyer off that new-or-used home purchase fence.

Do you think new-home builders can or will make any headway in their efforts to wrest share from the resale market as the downturn stretches into its final innings?

With all due respect to most real estate reporters and stock analysts, they’re full of it. First they pooh-poohed the extension of a tax credit, saying that it wasn’t going to be effective at driving incremental sales, now they’re crying that the end of it is going to send the market reeling into oblivion.

Any home builder worth his or her salt fully expected a drop-off in sales after April the moment the extension and expansion legislation passed last November. Many we talked to last Fall used the term “another leg down” following the latest stimulus measure. Recent gloom and doom pronouncements over falling mortgage purchase applications and orders falling by 25% say the numbers are “worse than expected.”

Worse than who expected? Not home builders.

Never mind what happens to sales and traffic following the tax credit expiration. The more important point of focus right now is bringing your backlog in to closing on time, on budget, and without costly mistakes. Your final batch of homes that got orders before the Stimulus deadline day are going to close this month.

Many builders we’ve talked to have put themselves “on the hook” for the $8000 credit to home buyers. That is, if they don’t complete the home for closing by June 30, they’re contracted to give the buyer the $8,000 check that would have come from the U.S. government.

So, in the month ahead, there’s your buyers’ experience to deal with, along with tricky financing, escrows, home inspections, an appraisals landmine, construction cycle time, a looming June 30 settlement deadline, a host of unpredictables you need to manage with velocity to get your margin. Fletcher L. Groves deconstructs the relationship between velocity and margin in an elegantly logical essay in his “Escape from Averageness” blog series.

At the core of Groves’ logic, the theory is that speed is one of a new-home builder’s best friends in a competitive environment where distressed sales are chronic and pervasive.

Time, and the money lost or gained in the duration it takes to deliver a new home, is the hard currency that can give production builders an edge that scales. Just as the land cost base needs to get wound back toward historic real estate norms, home builders can only achieve viable margins by improving their construction cycle times and inventory turns.

Now that the government punch bowl has been removed from housing, house prices both new and used will probably need to make up at least some of the $8,000 difference to re-ignite home buyer excitement in the market. To do that with any hope of sustainable viability, home builders will have to seize on costs that get away in the construction cycle and push the savings to the bottom line.

Meanwhile, we’re certain volatility isn’t going anywhere. Although June through August are typically slower months in home selling, operational focus on bringing that backlog in profitably will be where each team tries to work during the important period ahead.

We enjoyed this comment to Barry Ritholz’s The Big Picture quote of the day:

Charles Maley Says:
June 7th, 2010 at 9:40 am John Kenneth Galbraith once said “when it comes to the stock market there are two kinds of investors. Those who don’t know where the market is going, and those that don’t know that they don’t know where the market is going.”

Those that have knowledge don’t predict. Those that predict don’t have knowledge – LAO TZU

http://viewpointsofacommoditytrader.com/1507/the-last-man-standing-survivor-or-skill/

During our absence, we leave this thought in advance of Memorial Day. We are thankful to men and women of all ages, in our armed services in all parts of the world, who work around the clock to protect us and our freedom.

To you and your families and friends, we owe a debt of gratitude.

See you again June 2.

As a stimulus program, we believe the $8,000 and $6,500 tax credits for home buyers operated largely as designed, especially when you blend in the way that human nature works. Human nature–not so different than the Deep Blue IBM computer that used to match chess-playing skills and wits against one grand master or another of the human variety–learns by getting it wrong to get it less wrong next time, and eventually getting it right.

When it comes to home price corrections, combined with low low interest rates, combined with a tax credit bump, it certainly didn’t hurt a buyer under most circumstances to wait until the very end of the program. Providing a buyer could be assured of arranging financing to close by June 30, many of them would do better on price or other concessions if they could make builders wait ’til the 11th hour for a deal.

What should be debunked, after all however, is the myth that there is no demand. What should be affirmed is that demand is psychosomatically pre-disposed; it has been suppressed by turmoil in mortgage financing and job losses; it can be stimulated by policy incentives; and it is keenly sensitized to the felicitous and precise alignment of house prices, interest rates, and broader consumer confidence.

What also should be debunked after this week, and after this six-month push since Congress extended and expanded home buyer tax credits through the end of this month, is the myth of home building companies as nothing but oversized general contractor-order takers.

What the extension and expansion of the credit may not have done was to put new-home sales volumes on steroids, although it has brought the months’ supply of new-home inventory within a whisper of a normalized six months on a national basis.

What it likely did was to allow ever more discerning home buyers time to measure carefully what they’re getting for their money, giving “new” a chance to show its value amidst a tsunami of distressed, short-, court-house steps, and other foreclosure sales. New’s value shows up strong in manageable monthly payments, in predictable household maintenance costs, and in a tendency for savings on energy costs.

Even with the prospect of six million foreclosures more to work themselves through housing’s correction, new homes have gained ground among buyers who plan to dwell in their homes rather than lever them toward grandiosity.

What the extension from last November through April also no-doubt did was to improve the tenor of the national psyche through what might otherwise have been one of the longest and darkest winters anyone alive could remember.

Closer to home though, what has occurred in the past 12 to 18 months or so among home building organizations themselves essentially set up the possibility of having a record week in home sales maybe not seen since the bubble days.

This time though, discipline and risk kept close track of each other, and design, production, and sales have worked as they never have before.  Most home building companies today are 25% to 30% the size they were in 2006, and they’ve done some amazing things to reengineer their business structures to the market. How? Fewer people are causing more value.

After a week like this one, managements may get the best glimpse they’ve gotten for years at who the real talents are in their companies.

Clearly, we’re seeing in public company earnings announcements and in private company results that home building firms must reinvest if they want to drive recovery their way. That reinvestment comes in two key flavors, land and people.

The May issue of Harvard Business Review takes out a special report on “How to Keep Your Star Talent,” noting that, among 100 companies surveyed:

•  
  • One in four intends to leave your employ within the year.
  • One in three admits to not putting all his effort into his job.
  • One in five believes her personal aspirations are quite different from what the organization has planned for her.
  • Four out of 10 have little confidence in their co-workers and even less confidence in the senior team.

One of the big mistakes companies make with “high potential” performers, the article says, is shielding talent from tests were they could fail and another is keeping your young leaders in the dark.

Share future strategies with them–and emphasize their role in making them real.

This is exactly what we had in mind as we developed this year’s new high production home building management event, The Housing Leadership Summit, taking place in two weeks, May 10-12, at the Four Seasons in Chicago. We want both company leadership and “high potential” leaders there because our program addresses the information, networking, and management challenge needs of both groups.

With help from our friends Clark Ellis and John Doherty at FMI Inc., we’ve created specific workshop tracks that focus on development of your team, not just for the next year, but for a future that will demand more and different skills than they’re equipped with right now.

Here’s how we phrase one of the drills our workshop peer groups will go through on Tuesday, May 11, in an all-day, roll-up-your-sleeves work session:

Assume that your divisional staff is dealing with a set of typical circumstances. Those who remain have probably been forced to accept pay cuts, have certainly not had bonuses in several years, are wearing multiple hats, are working long hours, still are not sure that they will be retained and/or that their company/division will remain solvent and have seen friends and colleagues lose their jobs, homes and life savings over the last few years. 

Challenges:

• Morale is hard to gauge, it’s a combination of “survivor euphoria”, “survivor guilt” and fear.
• The market is at its bottom and should improve from here, which is a positive thing for your company. However, it also means that other builders, service companies and others will be looking for talent. Your remaining staff will begin to have employment options again for the first time in several years. Your best and brightest will be most at risk for leaving quickly and unexpectedly.
• How do you motivate and inspire your team to act as a team? People focus on their own self interest during the best of times. During times like we have seen in our industry since 2006, people become obsessed with their own self interest.
• How do you get your team to think “long term”? Define “long term”  in today’s market environment. This could mean getting the team to at least think through the impact of their decisions and actions through the month or quarter.

 Assignment:

In your table groups, develop at least three specific strategies, initiatives or actions that your team will implement to galvanize your team. Be prepared to discuss how you plan to engage and activate the creativity, energy, experience and brain power of your “survivors”. Think about and be prepared to discuss at least one significant risk to your plans.

We’ve already got a stellar roster of executives from public companies D.R. Horton, Hovnanian Enterprises, KB Home,  Lennar, Meritage, M/I Homes, M.D.C. Holdings, NVR, Pulte, Standard Pacific, Taylor Morrison, Toll Brothers, and from private builders like Bloomfield Homes, Caviness and Cates, Centerline, Charter, Cityview, Corey Barton, Dan Ryan Builders, David Weekley, Drees Homes, Fischer Homes, FourSquare Builders, Gehan, Holiday Builders, Joseph Carl, LGI, Mattamy, McBride and Son, Ole South, Providence, Rausch Coleman, Shea, Sivage, Surrey, Vicinato, Wade Jurney, and Westport Homes.

We still have some room, and we want you and your “high potential” talent there. What better time and circumstances to share your strategy with an up-and-comer.

What we’d like to do is to host you to a beverage in celebration of your best week in selling new homes in a while.

And we can work on how you’re going to do it again, and again, and again.

308,981,186

It’s April 1, National Census Day. The snapshot of America’s households that will serve as the key population benchmark, which leads to myriad decisions on apportionment of resources and responsibilities, for the next decade occurs today.

It’s a day that counts. It may also be regarded as a day of reckoning for the housing economy. Today, the housing economy–particularly as regards homeownership–begins to be de-coupled with economic rescue policy.

Here is a good, clear write-up of the big-time government support programs that have propped up housing as emergency measures for the past 18 months or so.

By the way, now, the Census Bureau population clock reads:

308,981,272

Calculated Risk does not write favorably about policy intended to support housing. The author reminds his readers repeatedly that the reason the crisis continues in housing is that there are too many vacant living units, and an overhang of homes for sale that need to be cleared out for the housing economy to re-find equilibrium.

Calculated Risk, whose name is Bill but who answers to CR, states often that the leading indicator to watch for genunine improvement in the housing economy is Residential Investment. He says that RI won’t improve until excess housing units become a normal number of vacant housing units.

The question remains, more policy or less policy. Can and will the private sector take care of the housing crisis.

By the way, the Census Bureau population clock now reads:

308,981,357

One of our friends, Ron Robichaud, who has long helped home builders with their capital structures, believes a combination of policy and free enterprise needs to focus on one goal: stabilizing house prices.

Here is his general thesis:

STABILIZING HOUSE PRICES
Assumptions.

It is a commonly accepted fact that the economy cannot stabilize until residential real estate stabilizes.

Residential real estate cannot stabilize until the excess inventory is absorbed and until prices stabilize.

Housing prices are caught up in a never ending downward spiral fueled by foreclosures and the dumping of those foreclosures on the market, selling them for 50% of the outstanding indebtedness or less.

In many housing markets, the combination of speculation and “creative financing” resulted in a disastrous housing bubble. Consequently, excess inventory was produced, and prices escalated far beyond affordability as a result of increased demand and larger houses with more expensive specifications. Some of the price escalation was smoke because it was artificially created (speculative versus legitimate demand), and some was real in the sense that something of tangible value that cost something generated the escalation. This distinction is important in designing any effort to stabilize house prices and transition to a “healthy housing market”.  The foreclosure/short market is ignoring that distinction thereby exacerbating the race to the bottom for house prices referred to as No.3 above.

Proposal Goal: To Stabilize House Values.

Proposal:  Issue USG Guaranteed Bonds to Fund a program designed to reduce the volume of foreclosures.

Administering/Executing Authority – State Housing Finance Agencies.

Program Summary:

Prior to foreclosure – bank alerts Agency.

Agency conducts analysis:

Value of the property in a normal market is determined.  In order to determine the value, a formula would be created that would consider the history of values of like properties in the market over a five year period.  Discounted replacement costs would also be part of the formula.

Condition of the property.

Mortgagor financial circumstances.

Agency proposes a tailored approach that includes the following:

The mortgagee writes down the amount of the loan to the value of the property in a normal market.

Fund assumes the obligations of the mortgagor by assuming the title; thru a second mortgage or by a tri-party agreement with the mortgagor and mortgagee.  Fund makes the payments to the bank.

During the period while the Fund is obligated, the municipality foregoes the real estate taxes.

The property is rented until it can be sold at its normal market value. Ideally the existing occupant remains in the property if they can pay the rent or if they qualify for a rent subsidy that combined with what they can afford meets the rent.  It appears that a significant number of people purchased houses who should not have and who have very little likelihood of ever being able to afford. It. They need to move, but there has to be a mechanism to do that that doesn’t destroy the value of the property or the lives of the purchasers.

Upon the sales or refinancing of the property the bank is paid the outstanding indebtedness and the fund retains the remainder.

Private sector money exists, and has urgency to find investment opporutnity, but the ones who control it are afraid. They want assurance about the wisdom of their investment and the magnitude of the risk they’re taking.

At the same time, a home buyer today would want assurance, if he or she can get it, that their purchase today won’t wind them up underwater tomorrow.

A key to the plan above would be how the appraised value of the property would be arrived at irrespective of the current title-holder’s means of paying that number.

By the way, here’s what the population clock now says (okay, I’ve had a few interruptions and technical difficulties).

308,981,677

So, within the space of about 40 minutes, we’ve added 491 people on the U.S. Census population clock. 350,000 SFD home starts just isn’t going to cut it to meet the need of America’s households, so recovery is going to come.

The trick is getting from here to there. If you’re working for a public company, you’ve got a headstart thanks to the capital your organization can draw on. But that six-step lead won’t last for that long, we don’t think. As soon as public company volumes start picking up, the money is going be looking hard for private home building operators who’ve been keeping their teams in good shape for the right moment.

It’s anybody’s guess when that might be.

308,981,741

Orleans Homebuilders, Inc. Files Voluntary Chapter 11 Petitions; Obtains Up to $40 Million in Anticipated New DIP Financing; All Homebuilding and Management Services to Continue Operations

BENSALEM, Pa., March 1 /PRNewswire-FirstCall/ — Orleans Homebuilders, Inc. (the “Company”, or “Orleans”) (Amex: OHB), which develops, builds and markets high-quality single-family homes and townhouses and whose operations in Pennsylvania and New Jersey date back more than 90 years, announced today that it filed voluntary petitions under Chapter 11 of the U.S. Bankruptcy Code for itself and most of its operating subsidiaries in the U.S. Bankruptcy Court for the District of Delaware in Wilmington (the “Filing”). Certain of the Company’s subsidiaries are excluded from these voluntary petitions, including its mortgage services subsidiary, Alambry Funding, Inc., which provides mortgage brokerage services for customers and financial institutions but which does not underwrite any customer mortgages.

The voluntary petitions result from the final maturity of the Company’s $350 million senior secured Second Amended Restated Revolving Credit Loan Agreement (as amended, the “Credit Facility”) on February 12, 2010, and the inability to reach agreement on an extension of the Credit Facility with 100% of the approximately 17-member bank group, or obtain a replacement of the Credit Facility. There is currently approximately $311 million of cash borrowings outstanding under the Credit Facility, excluding any letters of credit.

It’s no small irony that Big Builder listed Orleans among five publicly traded home building companies on the brink of disaster in its August 2007 cover story “A Year of Living Dangerously.”  Four out of five of those companies succumbed to bankruptcy. Comstock seems to survive as home building’s medical miracle, and WCI has reemerged from BK, primarily as a land seller.

Here’s a snippet from that analysis about Orleans:

THE SITUATION: Compared with larger peers, the financial risk profile of Orleans Homebuilders is scary on paper. It’s hardly time to bear a 70-plus percent debt-to-total capital ratio, on almost $600 million in long-term debt, amid gut-wrenching challenges to convert its shrinking backlog to cash. What’s more, as its fiscal year 2007 drew to a close on June 30, Orleans worked feverishly to renegotiate terms on a $75 million trust preferred security issue whose covenants call for an interest coverage ratio of 1.75 to 1.00. Unlikely to meet the demand of that indenture, Orleans hopes to reset terms to avoid triggering an interest rate increase from 8.61 percent to 11-plus percent on the security. Obviously, continued stresses on its cash position and balance sheet machinations take much-needed focus away from operating flawlessly.

HOW IT HAPPENED: A growth plan–both financial and operational–was set in motion in 2003 through 2005 that based itself on a trajectory to reach the mythic $1 billion threshold in sales volume and assumptions that included an unfortunate and unintentional dollop of investor buyers in Orleans’ Florida, Northeast, and Phoenix markets. In its 2004 acquisition of Realen Homes in Pennsylvania and [per clarification comment below, the Charlotte, N.C. division of] Peachtree Residential Properties in Georgia, and its acquisition of land position in Phoenix in 2006, Orleans paid top of the market prices. In 3Q2007, Orleans impaired 20 percent of its 11,800 lots, as it took $47 million in charges against land and model home inventory and another $27 million related to abandoned projects and goodwill charges. The hit to book value amid these asset impairments combines with slower, less profitable conversion of sales to deliveries, to exert intense pressure on covenants keyed to interest coverage.

Orleans’ press release details its plan to continue operations as it restructures under Chapter 11.

The Company also announced that it has reached agreement with certain of its lenders for up to $40 million of debtor-in-possession (DIP) financing, pending Court approval and syndication.  The new financing consists of up to $25 million in cash revolving borrowing availability and up to $15 million of availability for replacement letters of credit under the Credit Facility (the “DIP Revolving Facility”).

All of the Company’s 11 operating divisions in eight states will continue business in the ordinary course and without interruption. The Company has filed motions requesting immediate Court approval for the continuation of all home warranty and mortgage incentive programs and to preserve all pre-petition escrowed customer deposits on contracted homes.  The Company believes all existing customer deposits are protected in segregated escrow accounts and are not affected by today’s filing.  Building will now continue on homes under construction in all communities, as well as the closing of certain home deliveries temporarily postponed in the past two weeks.

According to Jeffrey P. Orleans, chairman, president and chief executive officer, “We have done everything we could to generate cash flow and to reduce operating expenses in light of falling home prices and reduced housing demand, yet still provide a high level of service to our many customers.  We reduced our bank debt by approximately 40%, from $513 million at January 1, 2007 to approximately $311 million today.  

“During this protracted downturn, most of our lenders, junior creditors and vendors had been supportive of the Company. In early December 2009, we approved a non-binding term sheet for a maturity extension of the Credit Facility; in mid-December 2009, the Company and 100% of the bank group extended the maturity of the Credit Facility to February 12, 2010. During this period of time, we executed a non-binding letter of intent relating to the sale of the Company.  However, the lenders could not achieve 100% lender approval of the documentation for a maturity extension or any other modification beyond February 12, 2010. The Credit Facility then matured, and we could not complete the sale. We intend to continue to pursue a sale of the Company through a negotiated sale, a plan of reorganization or other auction under Chapter 11.  We want to reassure our many current and future homebuyers that we will seek to continue to service their needs during this period.  We appreciate the support of our many loyal vendors, customers and employees.”

The Company has filed first-day motions asking the Court to approve, among other things, payment of employee wage and benefit charges that were incurred before the petitions were filed, future employee wages and benefits, incurred commissions, the continuation of certain customer sales incentive programs, and the continued use of cash collateral and existing cash management systems.

Although Chapter 11 law prohibits payments for any invoices that were outstanding at the time of the filing without prior Court approval, it does provide greater protection to those providers of goods and services who conduct business with the Company from this point forward. The Company has also filed a motion to honor prepetition claims for certain critical vendors whose goods and services are deemed essential to operations.

“We regret the hardship that this filing will have on many of our trade suppliers.  We are arranging new financing that should be available almost immediately, pending Court approval and syndication,” stated Mr. Orleans. “We expect these new funds will be sufficient to support our operations while we are under Court jurisdiction.”

The Company is providing information about the reorganization at http://www.orleanshomesreorg.com. For the next few days, a call center will be open from 8:00 am to 6:00 pm, Eastern Standard Time, at (888) 215-9315. Messages may also be left on that number during other times.

Mr. Orleans went on to describe the challenges of the past three years: “Since the latter part of fiscal 2006, we and the entire housing and financial services industries have faced unprecedented challenges.  The U.S. economy is in the worst recession since the Great Depression, consumer confidence remains weak, and national housing starts are at or near all-time lows.  From the fiscal year 2006 to fiscal year 2009, our residential revenue decreased by two-thirds, from just under $1 billion to approximately $322 million.  Now, the housing market appears to have either stabilized or slightly improved, albeit at historically low levels.  Our net new orders have increased by more than 40% in each of the last two quarters on a year-over-year basis, and our backlog has now been relatively stable between June 30, 2009 and December 31, 2009.”  

Mr. Orleans added: “We achieved good progress on our key objectives for liquidity/cash flow, capital structure, balance sheet/portfolio review and cost structure.  Since January 1, 2007, we reduced our total net debt by approximately 30%, and since June 30, 2006 we reduced our spec homes by approximately 75%; total lots by 66% and staff headcount by approximately 70%.  We have creatively refocused our land portfolio in December 2007, and also exited certain markets.  Despite the Company’s high debt leverage, we were cash flow positive in eight of the past 12 fiscal quarters, and cash flow neutral in two others.  Since January 1, 2007, we also repaid more than $200 million under the bank facility, or approximately 40% of the total outstanding loan balance, including cash bank repayment of over $21 million in approximately the last six months.”

In light of the negotiations with the banks during the fall of 2009 on the Credit Facility maturity extension, the Company did not pay approximately $1.5 million of subordinated note interest for the  quarterly coupons scheduled between September 30, 2009 and January 30, 2010 on its two subordinated notes indentures, which amounts were intended to be paid by the Company upon the completion of the non-binding maturity extension term sheet the Company agreed to with certain lenders on December 3, 2009.  Prior to the final maturity of the credit facility, the Company did not miss any interest payment on its bank debt.

According to Garry P. Herdler, executive vice president and chief financial officer, “We believe our banks and trust preferred holders had shown support to the Company in the past, as evidenced by the completion of two syndicated bank maturity extensions in September 2007 and September 2008, plus numerous other bank amendments, including the temporary maturity extension from December 18, 2009 through February 12, 2010.  Two and a half years ago, we completed a trust preferred security amendment, and in August 2009, we completed a debt exchange agreement for 100% of the $75 million of subordinated notes which included a reduced 1% interest coupon for five years ( $39 million of future interest savings), and a unique significantly below par redemption option at approximately 30% of par.”

The Company has also significantly reduced its lot count, spec homes, overhead and headcount during this extended downturn.  As of June 30, 2009, the Company owned or controlled approximately 5,673 building lots, which included approximately 1,003 building lots controlled through option contracts, which represents a 66% decrease in total owned and controlled lots and a 43% decrease in owned lots since fiscal 2006.  Approximately 90% of the Company’s lot inventory is in the Company’s Northern and Southern regions.  From September 30, 2006 to December 31, 2009, the Company decreased its speculative home inventory by over three quarters.  From June 30, 2006 to June 30, 2009, the Company reduced its general and administrative expenses by more than 50%.  From June 30, 2006 to today, the Company has decreased its total employee headcount by 69%, from approximately 990 employees to approximately 300 employees.

As previously indicated, in early December 2009, the Company approved a non-binding term sheet for a maturity extension of the Credit Facility; in mid-December 2009, the Company and 100% of the bank group extended the maturity of the Credit Facility to February 12, 2010. However, the lenders could not achieve 100% lender approval of the documentation for a maturity extension or any other modification beyond that date, and the Credit Facility then matured.

On February 1, 2010, Orleans also announced that in addition to its efforts to extend the Credit Facility or obtain alternative financing, it was continuing to pursue other strategic alternatives including the sale or recapitalization of the Company, and that it had presented potential transaction alternatives to its lending group. Recently, the Company executed a non-binding letter of intent relating to the sale of the Company; however, the Company was unable to complete the sale prior to the Chapter 11 filing. The Company intends to continue to pursue a sale of the Company through a negotiated sale, plan of reorganization or other auction under the Chapter 11 code.

Orleans Homebuilders is being advised by its restructuring financial advisor on the Credit Facility and now on the bankruptcy, FTI Consulting, Inc., and by its legal counsel, Cahill Gordon & Reindel LLP.  For its ongoing strategic alternatives, including the sale or recapitalization of the Company, Orleans has previously engaged its mergers and acquisitions investment banker, BMO Capital Markets Corp. and its homebuilding mergers and acquisitions consultant, Lieutenant Island Partners LLC, who are each anticipated to continue with the ongoing sale of the Company and other strategic alternatives during the Chapter 11 period.

As of December 31, 2009, the Company had total assets of approximately $440.0 million and total liabilities of approximately $498.8 million. Orleans had total debt of approximately $419.1 million (table attached), net debt of approximately $407.4 million, accounts payables (consisting mostly of trade debt) of approximately $40.2 million, and other accrued liabilities of $19.3 million.  Accounts payables (consisting mostly of trade debt) at the time of the filing were approximately $40.1 million.  As the attention of the Company’s senior management has been focused on matters relating to its Credit Facility and other strategic alternatives, the Company has not yet been able to adequately review the inventory impairment charges to be recorded for either the fiscal quarter ending on September 30, 2009 or on December 31, 2009.  

About Orleans Homebuilders, Inc.

Orleans Homebuilders, Inc. develops, builds and markets high-quality single-family homes, townhouses and condominiums.  From its headquarters in suburban Philadelphia, the Company serves a broad customer base including first-time, move-up, luxury, empty-nester and active adult homebuyers.  The Company currently operates in the following 11 distinct markets: Southeastern Pennsylvania; Central and Southern New Jersey; Orange County, New York; Charlotte, Raleigh and Greensboro, North Carolina; Richmond and Tidewater, Virginia; Chicago, Illinois; and Orlando, Florida.  The Company’s Charlotte, North Carolina operations also include adjacent counties in South Carolina.  Orleans Homebuilders employs approximately 300 people.

Orleans’ fate is that of scores of other home builders and developers who followed the Pied Piper of false demand into the middle part of the decade past. The company’s best hope now is that the weeks and months ahead push the needle of value on its land holdings from south of nothing to north of something.

But hope is not a strategy. And for the 300 people whose livelihoods draw from Orleans’ payroll, we can hope there is a strategy.

However, M&A or no, we  feel that consolidation of home building capacity — Simply it is this: greater share of a smaller market for fewer players — is one of the lightning rod issues of 2010. It will underscore who gets to be in or near the black and who must malinger in the red, or worse, fail to make it beyond the doorway of this new decade.

Whether Lennar’s deal for an FDIC $3.05 billion real estate portfolio was one of the ones we’d been hearing about has not been confirmed. We did hear that at least two other public home building companies were in the running for the FDIC portfolio, but that Lennar-Rialto’s legacy strength in land work-outs clearly won the day.

Carl Reichardt, Wells Fargo managing director and senior research analyst for the home building sector, provides perspective on the magnitude and significance of the deal by saying it’s a “skeleton key,” a template for more transactions that look and act like this one. This particular plunge, he says, is less important in itself than the “philosophical notics that an historically successful and well-known distressed ‘player’ is back in the market.”

Lennar’s dead of winter coup highlights a fact sometimes forgotten or at least under-appreciated among observers of the housing market on a macro basis–not all public home builders are created equal in skill sets, profit models, even core businesses.

Fact is, we see a “fearful symmetry” when you look from a high-level at what Pulte Homes did last year in acquiring Centex Homes vs. what Lennar is doing with its distressed real estate portfolio play this year.

Both deals are “talk of the town” transactions, costing in the billions, ranking as “game-changers.” 

They’re so different on the surface from one another, but we see the two as almost diametrically opposite routes to the identical place, the most important place for any new-home builder that expects to have its doors remain open into and beyond 2011: business unit profitability. For Pulte, adding Centex could provide faster and more scaled entree into the price-value sensitive entry-level and first-time buyer market.

For Lennar, it has decided that making more money amid the limbo of wide-scale deleveraging and marking assets down in price is the way to keep both its senior management talent and its construction operations infrastructure preoccupied as more of the dust settles on what anything of value is worth in dollars or cents right now.

One company’s master plan affirms a strategic combination with an operator whose geographical footprint and construction system add up to huge cost-out opportunities, the elimination of a key competitor in many of the same sub-markets, and a turn-key entry-level new-home brand platform. 

The other company embraces a balance-sheet management play that suggests by its nature and scope that Lennar’s bandwidth and strategic ballast had best focus less on opportunistic home building operations and more on the margins of land asset re-pricing expected to flow through the financial system over the next two to three years.

That’s not entirely the case, of course. Lennar, like every builder, public, private, national, regional, or local, is working on managing it’s assets, shooting for first-time and value buyer opportunities, re-negotiating trade deals and materials contracts, and trying to remove non-value added steps from both SG&A and construction operations at every turn.

The making-money-by-losing-money days are done.

As one trusted divisional president from a top-10 public home building company told us, the fire-sale, sell at any cost period of the downturn cycle largely has run its course. “I told a customer who was in one of our new communities that I’d practically had to give away houses for three years, but I’m not doing that any more. There are real buyers at our price levels, so we’re going to keep at them. So he paid our full price.”

This division president went on to say that sales absorption rate projections for his communities come from the most conservative, reality based demand analyses imaginable, and that pro formas factor in zero price appreciation for the whole life-span of each community, whether it’s one year or four. “They’re penciled in as profitable no matter what comes next. If recovery is interrupted for any reason, we take a hit on margins, but our unit profitability is solid. We just have to get all our operating and business units there.”

Another insight from this division president flashes back to the question of similarities and differences in the Pulte-Centex merger vs. the Lennar echo-RTC asset work-out deal.

He says that today’s buyers are gravitating to communities they know have surfaced out of broken and repriced deals, now offering an altogether new package of values in this wary, toe-in consumer environment.

“You have to feel for those communities that got started toward a goal of 350 homes in 2005, and got 100 homes or more in before hitting a wall in late 2006,” he says.  “Those communities are hanging out there with very little appeal because nothing’s been happening at them for more than two years. Whereas if you open a new community now at a newly reset land cost-base, then you can have the fresh appeal to buyers and the product and pricing they’re looking for now.”

What this means is that, for all the underwater homeowners there are out there, there’s at least proportionately as many underwater new-home communities that are going to need to re-price their way toward eventual sell-out.

So maybe Lennar’s FDIC portfolio acquisition is the company’s sequal to Net Operating Loss claw-backs of 2007,  ‘08, and ‘09. The strategy may say: we can’t count on getting to business unit profitability on home building operations alone, because it’s still too full of uncertainties and possible set backs. But we can get to balance sheet improvement and a greater cash position if we jump into the Big Two-Thousand Teens Work-Out game and figure out how to play the margins well there.

Pulte, meanwhile, means to get to its corporate next step by continuing to flash its operational plan forward–driving down costs, rationalizing every land holding for its three- to four-tier brand platforms, and pulling home buyers–we know they’re there if we can get them “financeable” new home opportunities–from off the fences.

Questions for you:

• Are your 2010 opportunity areas more in the distressed land buying, marketing, and selling businesses, or do they focus more on your home building operations’ redesigned and reprice home offerings?
• Does purchasing packages of distressed or foreclosed homes or projects represent a viable bridge opportunity for your operation?
• Without the magnitude of NOL tax carry-back opportunity in 2010 that existed this past year, will the focus be on home building operations or non home building operations to generate cash and profitability at a corporate level?
• Does the Lennar plan to put value on and share profit in distressed properties reflect a smart plan in anticipation of the coming “Withdrawal of Federal Policy” moment housing faces after April 30?

You have heard and seen in other reports that the sentiment among attendees was positive although attendance at last week’s International Home Builders Show was middling at best. File them under wishful thinking–if optimism turns out to have been well-placed, it will be less the result of what challenges are likely to play out, and more to do with what lucky turns of events are unlikely to play out.

As for take-aways, here are a  half-dozen IBS show nuggets you can’t make up if you try:

• 1) A senior management executive from one of the fastest-growing, most successful private home building companies in the country right now says this:

“So, do you think this ‘green stuff’ is here to stay?

You’d think that might be a rarity to hear among home builders, but it’s surprising how widespread an attitude it is among those who believe that if home buyers won’t pay for energy performance, then it’s not a consideration. Period.

• 2) Carl Mulac, whose JEN Partners-backed Joseph Carl Homes is about to grand open CantaMia, a 1,700-unit sustainable (solar and thermal standard in every unit) active adult community in the Estrella, Goodyear, Az. master-planned development has been out presenting to potential capital partners. At one such event, the former Engle Homes’ Phoenix division president had his “You Lie!” moment. Opening his power point preso recently, he says to a roomful of prospective lenders and investors:

“My name is Carl Mulac, and I’m starting a home building company.” A heckler, whose name will go unpublished, responded: “You’re crazy!”

Still, in an environment where bank funds to go vertical are as rare as rocking horse dung, Mulac and company got $2 million to build on from National Bank of Arizona, so expect the sound of saws and hammers out at CantaMia to echo through the foothills of the Sierra Estrella Mountains.

• 3) Lewis Ranieri is said to be raising $2 billion to buy up distressed home mortgages, write down the principal, and keep people in their homes … yes, the same Lewis Ranieri who’s credited to be the inventor and father of mortgaged backed securities. A home building capital specialist comments:

“[The Selene Residential Mortgage Opportunity Fund] It’s his attempt at atonement. But $2 billion is $2 billion, and there are hundreds of billions of home mortgages in distress right now, so it’s not going to put a dent in foreclosures.”

• 4) One of the Las Vegas Valley’s most active entry level home builders may have pulled a fast-one with former lenders. He shuttered one company, but not before he drew down a big check from a bank facility in the days before. Within weeks, he was plunking down cash on tracts of finished lots, right up there with the big boys, and has never looked back. Or maybe he is looking back. Says one local land specialist:

“There’s talk he withdrew cash from the credit facility set up for the old company and is using it for the new company. How he’s going to wind up getting away with that is anybody’s guess.”

• 5) One large bank equity home building and building materials analyst noted that we wrote here about how private home builders would best consider exploring secondary and tertiary markets to find the volume opportunity they need to navigate through the next 24 months or so. This way, the privates wouldn’t have to compete in the bidding for land parcels against multiple other strategic bidders, driving up the purchase price for the lots. Says this analyst:

“You talk about privates, but why would public companies continue to counter-bid one another and drive their own land acquisition prices up? Who’s going to be profitable this year? NVR, yes. Maybe, Meritage. Who else? How insane is it for them to be overpaying for lots just like they did three years ago just because they all want the same parcels?

• 6) Woodside Homes, which agreed to meet conditions of its plan for reorganization on Dec. 31, 2009 after 14 months of bankruptcy, emerged from Chapter 11 on Jan. 14, 2010. With 83 current communities, and 10,000 lots in various stages of development in 11 markets across the U.S., Woodside no sooner surfaced from its lengthy reorganization process than it caught the eye of public home builders covetous for finished, lower-price lots, with billion-dollar treasure chests of “dry powder” cash. Third-generation home building scion Joel Shine, who’s taking over as chairman and CEO of Woodside, and fully intends to operate the company, has this to say to public builder CEOs who are around kicking the tires:

“We’re in the process of developing a strategy to operate the company and generate value as an operator going forward. We’re not for sale.”

That’s not to say that scores of lenders and creditors who retain significant influence on what Woodside’s asset portfolio should ultimately do to generate them value won’t ultimately push for sale of the company.

Still, they worked through a long, painful process to come to new terms as a top-five private builder operator, so it seems likely they should at least give Shine a strong crack at his strategy:

“A private builder culture that looks like a public builder.”

Sounds like he might be aiming to navigate the balance of the market downturn and position Woodside to go public when the right moment comes along in the months ahead. Still, that doesn’t stop Woodside from being–like the North American home building operations of Taylor Wimpey, including Taylor Morrison–assets that may find high regard among public builders.

Other than these take-aways, about all we know is that exactly no one is sleeping easy about what happens to the market come the sunset of the the extended and expanded home buyer tax credit on April 30 for sales, and June 30 for closings.

After the Colts-Saints bash-fest on Feb. 7, 2010, in Miami, Saturdays and Sunday afternoons reopen as that traditional time for couples of many ages to renew their nesting instincts. Spring selling season this year, should it actually occur, may reset the bar of expectations for whether the housing recession can end this year or drag on into 2011, where the IBS venue will return to Orlando.

The IBS this year was populated by a group of intrepid believers in the industry, ones who tend to drop into a disaster scene as soon as possible after a calamity ends. They’re the ones who say, “we’re going in,” and they start the mission of stabilizing the place for a more concerted recovery operation. We didn’t hear optimism at the show. We heard determination. We heard urgency. We heard in the voices of many we trust, this message:

“The time to hesitate is through.”

Face it, practicing with the short stick might make the puts go straighter, but not too many folks we spent time with wouldn’t give up some birdies for a string of quarters operating in the black.

Earlier this week, all the talk was about job satisfaction – or the historical lack thereof — among the 90% or so of the population the Bureau of Labor Statistics counts among the employed.

Now it’s the end of the week, and we’re all talking about our dissatisfaction with the latest data on non farm payrolls from the BLS, which reports that in December 2009, the economy lost another 85,000 jobs.  That figure will undergo revision, but it’s neither what “consensus” forecasters–i.e. people who make a living being wrong most of the time–expected nor wanted.

Now, the Conference Board has been tracking job satisfaction for a long time — since 1987 or so — which we think would make them one of the experts on the topic. They say job satisfaction is at its lowest level in two decades, and that younger workers are way more dissatisfied with their employ than older ones.

Here’s a look — demographically — at our workplace malaise.

Dissatisfaction is not exclusively the province of the young. Right up and down the age ladder, you’ve got around two more folks in every 10 who are less pleased with their lot in work life than they’d been.

(Sidenote: Glad we’ve plowed all those resources into political correctness and career development planning in our companies since the late 1980s. All that management sensitivity training has done wonders on office morale.)

Still, we can’t help but think it’s cynical to focus on employee satisfaction when so many of our comrades are just plain out of work all together.

We have some collective nerve to think that our satisfaction should rank among our entitlements.

We had a boss once who used to say, “Turnover is good. If you lose a good staffer, hire a better one.”

Beneath the politically correct rhetoric layered into workplace human resources self-validation, turnover is good. If someone doesn’t want to be working alongside you as a warrior, you don’t want them there, whether it’s a good or a bad job market.

The issue is this. If you regard your talent as critical to the company’s ability to generate new value in 2010, then chances are some other company might do the same. In some finite number of cases, it will be the smart thing to do to go into certain of your staffs’ compensation programs and ensure that they reflect your enthusiasm and expectations.

• Big Builder contributor Jamie Pirrello takes up this topic in his column this month.

Now, let’s get to a basic law of management. Employees’ criteria for satisfaction and employers’ sense of what those criteria may be are widely apart.

This came out in one of the most recent Harvard Business Review analyses on “Breakthrough Ideas for 2010,” where, of course, managers guessed wrong about what motivates their staffers.

In a recent survey we invited more than 600 managers from dozens of companies to rank the impact on employee motivation and emotions of five workplace factors commonly considered significant: recognition, incentives, interpersonal support, support for making progress, and clear goals. “Recognition for good work (either public or private)” came out number one.Unfortunately, those managers are wrong.

Having just completed a multiyear study tracking the day-to-day activities, emotions, and motivation levels of hundreds of knowledge workers in a wide variety of settings, we now know what the top motivator of performance is—and, amazingly, it’s the factor those survey participants ranked dead last. It’s progress.

Imagine! Actually cutting down on the inertial effect of meetings and the paralyzing impact of hanging in limbo can help morale around the water cooler. What a surprise!

In real estate and construction, where risk, dramatic miscalculations, grave errors, and humbling consequences have ruled and tied decisive decision making up in knots, a company whose focus is on getting it done will be the destination. A company that believes it can keep its top performers by “recognizing their achievement” and keeping tabs on their “engagement” will be a point of departure.