WSJ: Land Deals Help Home Builders Stay Alive (Not To Mention Tax Rule Changes, Government Largess)

By: TraderMark Tuesday, June 23, 2009 12:49 PM

Symbols: BZH, C, HOV, LEN, MS, RYL, SPF, TOL

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"Land can humble you," says Emile Haddad, Lennar's chief investment officer. "On the surface it looks like the simplest real-estate asset, but it's really the most complicated."

Lennar, based in Miami, was one of the largest home builders in states hit hardest by the housing collapse -- California and Florida. As the housing market was heading toward a cliff, it pulled off two complicated deals that got lots of risky land off its books before the market fell apart. The buyers: Morgan Stanley Real Estate Fund and the California Public Employees Retirement System, the giant pension fund known as Calpers. (the Morgan Stanley transaction was highlighted in the Dec 2007 piece I listed in paragraph 1)

In late 2007, Lennar cut a second big deal that raised cash. It sold about 11,000 home sites for $525 million to a partnership it formed with Morgan Stanley Real Estate Fund. Because Lennar was valuing the land on its books at $1.3 billion, the deal generated a large loss that allowed Lennar to collect a $320 million tax refund.

Lennar also entered into joint ventures to buy land, reducing its risk by not guaranteeing most of the $5 billion borrowed by the ventures. Some analysts say these agreements could come back to haunt Lennar, financially and legally, as lenders and partners seek to recover losses from soured projects. "The more joint ventures you have, the more partners you have that are likely to be struggling and angry,'' says Paul Puryear, a housing analyst at Raymond James & Associates. "It opens the door to a lot of disagreements."

Because Lennar typically owned 50% or less of each venture, or didn't hold voting control, Lennar says accounting rules required that it keep the debts off its balance sheet. (you have to love American accounting; instead of using logic like saying... well if you owe 35% of the joint venture you are responsible for 35% of the debt and it needs to go on your balance sheet, instead if you own 49.9% of the joint venture you don't have to put any of it on the balance sheet. Magic!)

Other publicly traded home builders also dumped land during the crunch. By selling land at huge discounts to what it was once valued, big builders generated large losses for tax purposes.

Here is the kicker....

By applying those losses against profits during prior years, they have collected about $2.55 billion in tax refunds this year, according to Zelman & Associates, a housing-research firm.

Nice.

... with land values now far below their peaks, Lennar and other big builders think the time is getting ripe to start investing in it again. Lennar hopes to eke out profits by building on low-cost land and by selling low-priced homes to first-time buyers.

The process...

When the housing market cratered, Lennar put together a team to buy distressed housing assets. Lennar is now about to reinvest in some of the same California land it unloaded in its deal with Calpers in 2007. Next month, a federal judge is expected to decide whether to approve the bankruptcy reorganization plan for LandSource, the company that owns the land. Under the plan, Lennar will invest new capital to retain a stake. Calpers has walked away from the venture.
Getting inexpensive land will be critical to builders' future profitability because new-home prices aren't expected to rise substantially for many months. (someone hasn't been watching CNBC) Lennar isn't the only big builder angling to take advantage of soft land prices. Ryland, a California builder, has teamed up with investment firm Oak Tree Capital Management to buy low-cost land. Toll Brothers has been speaking to lenders interested in unloading foreclosed real estate.

Too big to fail

Big builders are benefiting in other ways from the high mortality of small and midsize builders. The smaller players had loans cut off by lenders and are dying off in droves, surrendering market share to the big players. As many as half of the nation's privately held builders have shut down during the housing bust, and many others are struggling to survive, according to a Credit Suisse estimate.

The rest of the story details tales of duplicity and corporate fun among Lennar, Morgan Stanley, CALPERS, the city of Palm Springs... oh, so many ways to play the system and the accounting games. All legal of course...

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