This past fall I had the opportunity, if not exactly the pleasure, of hanging out at a finance and development conference in Las Vegas as a member of a panel discussion about how to value land, projects, and builders.
There were about 250 expensive suits, more neckties than I have seen in 20 years, and much talk about “basis points.” These were heavy hitters, well-pedigreed and controlling a large portion of the land and project development in the United States. I joke that I got an MBA to know what the enemy is thinking. There is at least a grain of truth in that. These folks are not the enemy, but they do talk and think differently from builders.
The good news is they hold the keys to a huge vault of money and those funds are looking for a home—or at least some land for building houses. The bad news is this money is impatient, temporary, and risk-averse. It wants to move in, collect big returns, and then move on quickly to the next big deal. Several panel members were seeking 18 to 20 percent annual returns before they’d grace your project with their cash. They’ll support you—but at a premium price.
The banks were not well represented. This was mostly private equity with a certain Wild West feel to the proceedings. In my usual role, I offered a contrarian view on something they have long held dear: how to
value a piece of land, a project, or a builder. I began by telling them in a firm voice, “You guys don’t count so good!” As the son of an English teacher, I know that’s not proper grammar, but it got their attention. Then I told them a less-than-due-diligence story.
Straightforward, or No?
Twenty years ago, I tried to worm my way into the asset management committee of my national builder employer. As vice president of
quality, however, what could I contribute? Due diligence was pretty straightforward stuff. A division submitted a pro forma with a price on the land determined by comparisons to other projects in the area. They searched for legal obstacles, took a cursory look at the market and
demographics, and then estimated development costs based on history. If the deal met our internal rate of return, and price and terms were good, we did the deal. We did hire an exceptional guy who brought an entirely new approach to market analysis, which made a huge difference over time.
We began to look for land that matched what we were good at, instead of getting the deal and then figuring out what to build, whether we knew how or not. That approach tempered the deal-chasing mentality and reduced risk, but it was still not a complete picture. Despite my efforts, I was never asked onto the committee. My notions about things we should evaluate under the banner of due diligence were thought to add
needless complication to a simple process.
Then one late-fall Saturday morning, my home phone rang, displaying an unknown area code. I picked up and heard in a soft whisper, “Thank you, Jesus.” This is a first, I thought. Perplexed, I listened in silence until a female voice asked, “Mr. Sedam?” pronouncing my name incorrectly. Most people would have just hung up, yet something in her voice gave me pause, so I offered a tentative, “May I help you?” For the next 15 minutes, I listened while the 30-something woman I’ll call Lydia told me through intermittent sobs in a soft Carolina accent a horrific story that left me sitting on the kitchen floor, trying to comprehend.
A Woeful Tale
Lydia and her husband had purchased their new home the previous spring from a builder my company had just
taken over that summer. This builder had a less-than-stellar reputation, and I tried to raise a red flag saying we should evaluate them more deeply than through the usual procedure of land, legal, and terms; but on paper, the deal was a winner. We were eager to get our hands on these lots in an emerging market that was easily reached from one of our older, established locations.
Lydia’s family became very close with their neighbors who had a teenage son. Lydia hired him that summer to babysit her young special-needs child. At first they seemed great together, but in time Lydia’s son began acting out with a litany of bizarre behaviors. After much counseling, it finally emerged that Lydia’s son was being molested by the boy next door, who confessed when confronted. The desperate cries of the offending boy’s mother, the begging by the father, and the pleading assurances that the teen would get counseling left Lydia and her husband reluctant to press charges. They immediately moved in with her parents and put the house up for sale. The very day they left, their son’s behavior began to improve. There was no going back. I could hardly fathom the gut-wrenching anguish this woman felt, but what did this have to do with me or my company?
As it turns out, a lot. When the first offer arrived on Lydia’s house, the inspector found something disturbing. There was no
insulation in the walls. How could that be? Lydia called the division. She got the brush-off and a, “We’ll get back to you.” The company was not sure if they were responsible for the warranty on homes they did not build. The real estate agent told Lydia that without insulation, there could be no sale, and the estimate for a retrofit required cash they did not have.
Lydia’s next call to the home office was equally frustrating. The corporate policy simply sent homeowners with complaints back to the original division to solve on the local level. With her sense of desperation growing, Lydia then dug up my name, saw my VP Quality title and, after a bit more searching, found my home phone number. She told me I was her “last hope.” For the well-being of her son, Lydia and her husband had to sell their house. It was defective and she needed our help. The only response I could think of was, “Of course, I’ll get on this first thing Monday morning.”
On Monday I quickly determined that we were indeed officially responsible for the
warranty on more than 100 homes in the new location, including Lydia’s, so that was one battle avoided. I got the boss’s support to both quickly initiate repairs on Lydia’s home and also quietly evaluate all other homes in case this was not an isolated incident. Only a few of us ever knew the horrific circumstances that drove the inspections, but we uncovered a long list of discrepancies, and Lydia’s home was not the only house missing insulation. We spent a lot of time speculating just how this got by the drywaller, the sider, and the superintendent, not to mention the inspector; but the damage was done.