Masters of Their Fate?

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It would be easy to jump to the conclusion that the Masters of the Universe captain their own destiny and do as they please.

April 01, 2003

 

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It would be easy to jump to the conclusion that the Masters of the Universe captain their own destiny and do as they please. It also would be a mistake, at least for the 17 public companies among the top 20 builders. Wall Street investors and stock analysts crack the whip on this group, even on champions of independent thought such as Don Horton and Bob Toll.

They demand the high growth rates and strong profits the builders have delivered for a decade, and still they are not satisfied, and low share prices show it. Builders have not shaken Wall Street's long-held conviction that their stocks are cyclical, short-term investments. (Price-to-earnings ratios for the public builders were averaging about 5.7 through the first three months of 2003, compared with 6.8 for all of 2002.)

But dancing to Wall Street's tune, the public builders are growing, via acquisitions, so fast that they forced our decision to separate the GIANTS into groups with similar operations, opportunities and challenges. The top 20 builders are certainly in a league of their own. With more than $7 billion in revenue and more than 30,000 closings a year, Pulte and D.R. Horton are neck and neck for No. 1 and so far above the average GIANT that they are in another dimension.

Pulte has divisions in 44 U.S. markets and three foreign countries. The median GIANT, No. 200 Hofmann Construction of Concord, Calif., closed 244 single-family homes for $90 million last year, a different universe.

 

The biggest move in the top 20 is D.R. Horton's, with growth in closings from 22,772 to 31,584 and in revenue from $4.56 billion to $7.07 billion. But there are other movers. Beazer's jump from No. 10 to No. 7 on unit growth from 9,582 to 15,743 reflects a strong position in the first-time-buyer segment, favorably affected by low mortgage rates, as well as the Crossmann acquisition boost. With $2.94 billion in revenue, Beazer has McLean, Va.-based NVR at No. 6 in its sights, but cracking the top five will be tougher.

"Being in the top 10 in a fragmented industry like housing is good," Beazer president Ian McCarthy says, because it creates a bandwagon effect. "Top five would be better. But what's really important is the momentum that scale creates. As soon as we did the deal for Crossmann, we immediately saw a lot more interest among major manufacturers wanting to negotiate national contracts with us."

Texas-based Meritage Corp. jumped into the top 20 with a move from $742.5 million (3,270 closings) to $1.11 billion (4,574 closings). Private Southern California GIANT William Lyon Homes also invaded the top 20, jumping from No. 24 to No. 19, mostly on the strength of higher prices in the rejuvenated California market. Lyon dropped in units from 2,566 to 2,522 but grew revenue from $768.1 million to $956.5 million.

Columbus, Ohio, GIANT M/I Schottenstein moved into the billion-dollar club with a jump from No. 19 to No. 17, also based on higher prices. M/I dropped in units from 4,227 to 4,140, but revenue increased from $940 million to $1.01 billion. M/I is pinning its hopes for more growth on a new product line of affordable TND houses. Just introduced in Columbus, the first project has 100 sales since November, at prices averaging $175,000. "We're trying to find land for it in Cincinnati, Indianapolis, Charlotte and Raleigh," president Bobby Schottenstein says.

 

At the bottom of the Masters of the Universe, private GIANT David Weekley Homes in Houston is counting on a new line of affordable, entry-level homes to reverse the firm's first downturn in revenue in eight years. Weekley dropped from $937.5 million to $855 million but managed to hold its No. 20 rank. Units fell from 3,412 to 3,082.

"It wasn't much fun watching other builders have their best years ever, but we got caught with too much product at high price points where sales were slow," CEO David Weekley says. "Our Imagination Homes product line starts below $100,000. We've opened five communities in Dallas over the last six months. I think Imagination could be 30% to 50% of our business within three to four years."

Compare the average cost ratios and profit margins reported by top 20 builders, shown here, to those for the Rich and Famous on the next page. You see the cost savings on construction labor, materials and financing costs that public GIANTS contend are the benefits of bigness. And the higher profit margins.

For the public builders, just keeping land in front of their lot-consuming, high-velocity operations is a major challenge with high risk. Investors and analysts don't want to see much land on the balance sheet, and yet in many high-profile areas such as Southern California and the Northeast, buying and developing land is a virtual necessity. In a downturn, those thousands of lots would be a heavy weight to bear. No wonder the top 20 list land issues as their greatest hurdle.

Market expansion is way up over last year as an opportunity. The top 20 are more focused on growing market share. "It won't help them if we really hit a downturn," says stock analyst Barbara Allen of Natexis Bleichroeder. "All we need is for one builder to get scared when orders and backlogs weaken and to start discounting, and the others will follow suit. No one has repealed normal human behavior, and that's what creates cycles. It bothers me to no end when I hear management I respect saying the cycle is dead. I liked it better when my builders were running scared, looking over their shoulders. They managed better."

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