The Housing Chronicles Blog: Behind the scenes with builder & land development bankruptcies

Monday, February 11, 2008

Behind the scenes with builder & land development bankruptcies

There's a very interesting interview on the Lansner on Real Estate blog with Attorney Evan Smiley, who is a bankruptcy/insolvency specialist at Weiland, Golden, Smiley, Wang Ekvall & Strok in Costa Mesa and co-author of “Bankruptcy for Businesses,” published last year.

Imagine being underwater on not just a single home, but an entire unfinished subdivision or a big piece of raw land. While we continue to read numerous stories on individual homeowners unable to keep up with payments, there's also been tons of -- mostly unreported -- activity on the builder & developer side. Following is the entire interview:

Us: You guys have had a dramatic shift in work relating to real estate troubles …
Evan: At this point, we have been deluged by residential land development insolvencies. We are in workout discussions in many of them. In some instances we represent the land developers, and in others we represent the lenders. Everyone is nervous and there is a lack of confidence in the marketplace. In addition, many banks are attempting to get their loan portfolios divested of real estate loans. As a result, they are not renewing loan facilities as they have done in the past, and are calling notes due and payable. There are also enormous problems facing the homebuilders. There are partially completed projects where the cost of construction exceeds the gross sales price. The private equity market for developers (i.e. the money that developers often use to finance their deals) has also dried up. Everyone is running for cover and trying to sit tight to wait out this recession.

Us: From what you see and hear … Any chance we’ll have a “bottom” soon?
Evan: It’s hard to tell but it doesn’t seem like Southern California has bottomed out. Prices are still dropping, home sales are declining, and development deals are being put on hold. With the tightening of the credit markets, homebuyers are unable to purchase homes without a significant downpayment. This has greatly lessened the demand.

Us: How badly hurt are these firms. Do they just need breathing room, or are they largely, more or less, in a liquidation phase?
Evan: Many of the real estate brokerage firms are hurting. However, most of their expenses are commissioned based, so they may be able to scale back their operations to withstand the downturn. It is much harder for developers because they have little or no income coming into a project, they need to service the debt, and they need to fund development costs (i.e. environmental and engineering expenses) to get the raw land entitled. Without sufficient capital, the lenders may foreclose and take back the property.

Us: What kind of financing do troubled real-estate firms have?
Evan: With the lessened demand for homes, there is an over-abundance of supply, thereby creating a drastic softening of the value of homes and lots. Land developer financing typically runs in one-year terms. Land developers relied upon stable, or increasing values, to roll over these large balloon payments. However, since the collateral has diminished in value, lenders are nervous and are demanding to be paid in full. In addition, there is a lack of replacement lenders resulting in the default of many loans.

Us: What kind of recoveries do you think creditors will see?
Evan: It depends on the case. With real estate development companies, we have successfully worked out most of our situations through extensions of existing financing and/or refinancing. Where there is a Chapter 11, the vendors are exposed because they get paid only after the secured creditor is paid in full.

Us: Are bankers willing to negotiate. We’ve heard talk they’ve been hard on consumers …
Evan: On the commercial side, the bankers have been much more willing to negotiate during this real estate recession as compared to the 1990s. I believe they have learned that a Chapter 11 is an expensive process that can be avoided in most cases. The key is opening up a dialogue early with the lender and to keep them up to date.
On the consumer side, the banks are anxious to get the loan performing. If payments are missed, the lender will likely go through the foreclosure process and resell the home so that the lender can increase its liquidity. They are probably more unforgiving with consumers. Keep in mind that when loans become non-performing, the loans are very often charged back to the originating lender. With so many charge-backs, the mortgage companies are having their own liquidity problems. Thus, the mortgage companies want to move quick to meet their own liquidity concerns.

1 comment:

Anonymous said...

Thanks for helping bring this issue to light, these property and land builder and development companies are in trouble, and it does not get a lot of attention.