Monday, January 25, 2010

Homebuilders Turn to Private Equity for Financing


More than 40 U.S. homebuilders have teamed up with private equity firms to acquire and complete unfinished subdivisions as banks cut construction lending.

The investments will pay off for the builders and their investors if the prices are low enough and the locations are in areas where demand is recovering, said Megan McGrath, a home building industry analyst at Barclays Capital Inc. in New York.

“I’ve been getting the question: Why aren’t housing starts at zero?” McGrath asked. “The answer is, they’re probably as close to zero as they’re going to get and in some cases it still makes sense to build.”

Managers of at least 22 funds raised $12 billion in 2009 for development projects and other residential real estate deals, Bloomberg BusinessWeek magazine reports in its Feb. 1 issue, citing data compiled by Bloomberg, Institutional Real Estate Inc. of San Ramon, California, and Real Estate Alert, an industry newsletter in Hoboken, New Jersey. Those firms have invested with at least 42 builders, the data show.

Hovnanian Enterprises Inc., the nation’s seventh-largest homebuilder by revenue, last year announced joint ventures with two New York-based private equity firms, in which the investors provided at least 80 percent of the money for the developments. GoldenTree Asset Management and Hovnanian are working on 11 projects around Chicago and Palm Beach, Florida, while Angelo Gordon & Co., with $21 billion under management, teamed up for other projects in Florida.

“For every one that we’re doing business with, there are 10 more that we’re talking to,” Ara K. Hovnanian, chief executive officer of the Red Bank, New Jersey, homebuilder, said at a Nov. 17 conference in New York organized by UBS AG.

Building Permits

Home building permits climbed to 653,000 in December, the most since October 2008 and a sign of optimism about demand, the Commerce Department reported yesterday.

Steve McGee, principal of investment firm Developers Financial Solutions Inc. in Rancho Santa Fe, California, said he interviewed 30 builders at this week’s National Association of Home Builders convention in Las Vegas and found six viable partners, whom he declined to name.

“We saw an opportunity to provide financing at this stage of the recovery,” said McGee, whose firm has more than $1 billion to invest in residential and commercial real estate and Atlantic Beach vacation homes.

Slowing Bank Loans

The private equity firms are a new source of funding for the homebuilding industry, which has traditionally relied on bank loans and bond sales. Banks slashed lending to homebuilders because regulators pressured them to reduce real estate assets as defaults on construction loans climbed, said Robert Seiwert, vice president of the American Bankers Association.

“What got us into this situation was people making loans that shouldn’t have happened,” Seiwert said in a telephone interview from the organization’s headquarters in Washington.

Outstanding bank loans for land and new development sank to $113 billion in the quarter ending Sept. 30, down 44 percent from a peak of $203 billion in June 2008, according to Federal Deposit Insurance Corp. data. Loans for all construction and development fell to $492.2 billion from a peak of $629.5 billion in June 2008, the FDIC said Nov. 24.

The supply of new homes on the market rose to 7.9 months in November, compared with the five-year average of 7.2 months, according to the Commerce Department. With unemployment and foreclosures still at quarter-century highs, demand could remain weak for a while, especially with federal tax incentives for home buyers set to phase out in April.

Confidence Drop

Confidence among homebuilders fell this month to the lowest level since June, as traffic hit a 10-month nadir, the National Association of Home Builders said Jan. 19.

U.S. sales of new homes fell to an annual pace of 355,000 in November, down 11 percent from October, the Commerce Department reported Dec. 23. Homebuilders have seen orders and revenue decline since 2005, when 1.28 million new homes sold, according to the Census Bureau.

Grosvenor Investment Management of Philadelphia and KeyBank Real Estate Capital Residential Investment Partners, which raised $100 million in 2007, took almost two years to make their first investment, said John Hay, manager of the fund for KeyBank Real Estate Capital Markets, a private equity unit of Cleveland- based KeyBank NA.

‘Very Challenging’

The managers wanted to buy ready-to-build lots for about 20 cents on the dollar. They wouldn’t invest in markets such as Las Vegas, South Florida, or Southern California. So far, the fund has entered five deals totaling about $30 million each for subdivisions outside Atlanta, Denver, Philadelphia, Portland, Oregon, and Raleigh real estate in North Carolina.

“This investing, while it’s ahead of the game, is still very, very challenging,” Hay said.

Reuben S. Leibowitz, managing director of JEN Partners LLC, a New York-based private equity fund, said he invested $50 million in 2009 for land and construction partnerships in Southern California and Arizona, where he believes the buyers are coming back.

In May, Leibowitz bought Canta Mia, a 600-home “active- adult” community outside of Phoenix that caters to retirees. The original developer, Tousa Inc., filed for bankruptcy and Leibowitz acquired the project -- complete with model homes -- for less than the cost of improvements, such as roads and waterlines. He expects to get his money back in four to seven years, although he doesn’t think there are many other good deals out there. “There won’t be many people who are successful” at bottom-fishing in this market, he said.

At least one private equity fund has pulled up stakes. Rockpoint Group, a Boston investment firm, raised $470 million for a residential real estate fund from investors including a $270 million commitment from the California State Teachers Retirement System. In August, Rockpoint suspended the fund, returning the money to investors, after it failed to find enough workable deals.

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