Straight Talk From the ex-Homebuilder CFO: Yes.. straight from the Lennar CEOs mouth... land has zero value...

One of the major aspects of my blog series was that land was worthless...  I copied and pasted the Lennar CEO quote from big builder magazine and a link if you want to read the whole article...

Lennar CEO quote below

For the quarter ending Aug. 31, Lennar wrote off deposits and pre-acquisition costs on 15,000 home sites it no longer plans to buy. That adds up to a total of 24,000 home sites the company has abandoned in the first nine months of this year.

"We look at costs to develop a parcel of land and actually develop home sites and include in that the cost of building a home, and you get to the point where the residual value of the land itself–even in well located areas–is close to zero," says Lennar CEO Stuart Miller.

"Lennar has mothballed some large projects because the effective result of selling currently implies the land has zero value," says Stephen East, an analyst with Pali Research. "It also provides the company some accounting breathing room. By mothballing the projects, LEN is able to avoid taking impairment charges on the land that would reduce the value effectively to zero."

So the next time some clown laughs at you and says "oh yea, right that land is worthless... grunt... it has no value... grunt".... just attach the link

Key points on raw land

- time value of money has a cost and it is steep

- interest expense (leverage) has a cost and it is steep

- property taxes and insurance have a cost

- your original feasibility determines what you will pay for land... so if you run the feasibility at a high price and pace and it is much lower price and pace, then the 3 points above will bury you

My example - A real deal in Florida

The deal is 600 raw lots at multiple sites.  We start with 6 months of entitlement, followed by 6 months of development, then we would sell finished lots at 36 a quarter from the different sites.  It takes around 4 years to get out of all the positions (sell all the finished lots).  I ran the numbers and we could only pay 34,000 per raw lot to make this deal work (meet our profit threshold)............ but guess what..... if you ran the same deal and you entitled land for 6 months, followed by 6 months of development..... however, KEY POINT... found one or multiple builders to take down all 600 lots at the end of development instead of over 4 years... we could pay up to 67,000 per raw lot (twice as much)...  this is why so many people lose their a$$ in the land game... if you make the wrong assumptions and you paid the 67,000 and couldn't unload... you are dead... this is no different from a builder who paid for land based on the wrong sales price and pace assumptions and now finds he can't meet those expectations

Comments

[Sippn]

Most of the land decisions were done with high velocity and rising sales prices - killer for IRR models. Doubt many of the young MBAs doing the modeling had seen risk or RE slowdowns/declines before.

Execs didn't want to admit and slow the pipeline - easier to bail out when bonuses stopped - heck - golden handshake is often better than no bonus year.

Now look at how the CDOs were modelled on Wall Street!

[Reggie]

The funny part is that you don't have to live through a slow down. All you have to do is study your history. RIF - Reading is Fundamental!

Sometime in the next day two, I will post a complete analysis Lennar, probably the most extensive available on the web. I will point out that spreadsheets can only take you so far. Case in point, what the price to book value tells you (Even adjusted) versus what grandma's good 'ole common sense will tell you. Lennar is close to practically insolvent.

[DB]

Reggie,

Land has no value. Agreed. But why then does NVR, a DC based homebuilder, with options on land as its model, still trade at 2.5X book value?

[Reggie]

NVR is a better managed company than many of its peers. Much of its inventory is of a vintage before the boom peak, so they have a much lower cost basis than Lennar, et. al., and they have cash. Due to the fact that they didn't binge on debt during the peak of the boom to buy land and hide the risk and losses in a bunch of off balance sheet vehicles, they are in a much better position than the average public builder.