William Lyon's land fire sale

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graphrix_IHB

graphrix_IHB

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Anonymous linked <a href="http://lansner.freedomblogging.com/2008/01/14/lyon-sells-socal-lots-at-43-cents-on-dollar/">Lansner's post on Lyon's</a> $0.43 on the dollar land sale, but IMO there is a deeper story here. The land sale is the main story, because this marks to market the value of land. By doing this, Lyon was in violation of their debt covenants, and they had to restructure their credit lines. The <a href="http://sec.gov/Archives/edgar/data/1095996/000119312508005437/d8k.htm">SEC 8-K has more info</a> about the debt covenants, but only the details on one line going from $70mil to $50mil, nearly a 30% reduction.





So... What does this really mean? Well, if the banks that give Lyon credit lines also give other builders credit lines, then the banks are going to know that the land they are booking as an asset, is not marked to market. And, more and more builders will have to restructure their debt because they have to price the land asset at market value. This could be a big ouch for many builders. Some would be toast if they had to reduce the value to market price, because some land has zero value currently. BKs are coming.
 
I am surprised someone was willing to give them that much. The land holdings builders have are probably worth closer to $0.10 to $0.15 right now. As you noted, it is worth zero from a building perspective in Riverside county right now.
 
Irvine Renter,



I think that I saw the answer to your question: They have the builders rights, but on a fee system instead of built in profit (12% according to your analysis in the "Analysis" section). Let's say that instead of the 12%, they are accepting costs plus a fee of $20,000.00 (a lot of builders would take that deal right now), that gives another 40,000.00 that can be used for profit by the new landholder, or used to bring down the final sales cost.



$90,600,000.00 / 609 lots (5 with models - again, I am being simplistic) = $148,768



$148,768 less $40,000.00 (benefit I assumed above) = $108,768.00 = 31% of book value.



Lets say they build and it looks like this:



$148,768.00 (land)

$410,000.00 (Construction 4,100.00 square feet x $100 square foot - High End house)

$120,000.00 (16% sales/marketing, other costs - projected $750,000.00 sales price - 2001 pricing)

$20,000.00 (builders fee)



$698,768.00 Total cost



$750,000.00 Fire Sale 2001 price for 4,100 square foot house



$51,000.00 Profit / $148,768.00 Lot cost = 34% Profit



If the builder was still going to get 12% ($90,000.00) there would be no profit in this deal.



Now this also works for the builder $20,000.00 / $530,000.00 = 3.77%. Lets say they buil each unit in 8 months - that puts the profit against working capital at 5.6% per year after carrying costs (carrying costs built into $120,000.00 other costs). Not great, but not bad either.



IR, I'm sure you will find an error or two in in this, but I think that this is the gist of how the flat fee structure will work.
 
IR, if you don't mind, I'd love to pick your brain for a moment.





If I have understood your past writings on the topic, the reason land holdings in Riverside are worthless from a builders' perspective is because the cost of preparing the land for construction exceeds the value of the land that you would build on. Obviously the cost of preparation varies widely based on location and intended use of the land. Raw land that needs to have streets, sewers, and utilities brought on line is going to become economically worthless before a plot of land in or near an established housing development that needs to be graded and built on.





So first of all, when you say some land in Riverside is economically worthless, how far have things fallen? Is there any class of land that has economic value in Riverside right now?





Secondly, obviously the market doesn't care what you paid for an asset. It cares what that asset is worth now. While it is painful to sell something for 10 to 15 cents on the dollar, if you need cash, selling something that is economically worthless for anything can make sense. Would you expect the 10 to 15 cents on the dollar price to continue to fall as the housing market (and commercial RE sector) weakens? Or would you expect more desirable locations and/or land that requires less work to fall from current levels?





How far do you think we are from having blood running in the streets?





Thanks,
 
I hope... that my chiming in here is worth the €0.02 it is worth. And, I am hope IR will chime in on too, not only to add to this, but to correct any mistakes I might make. I have to admit, the ubernerd in me wanted to look at the numbers myself, even if they may be wrong.





cdm,





Your numbers are a great example. I do not know what the average sqft. home is at Lyon, but I did glance at <a href="http://sec.gov/Archives/edgar/data/1095996/000119312507242258/d10q.htm">their latest 10-Q</a>, and I didn't find it. I would guess it is around 2600 sqft., and I estimate the cost would be closer to $150 a sqft., making the cost number about $390k. The average selling price in CA. was $611k. But, all and all, it is not that far off from your number, and the rest of your numbers are pretty much in line. So, I am just being anal retentive here. Please, do not take it seriously, and laugh at the anal retentiveness.





However, one cost you did not factor for is the holding cost. Lyon, like most builders borrow money to hold land, and they have property taxes to pay as well. I would think, the new buyers are financing the cost of the land. Granted, they probably didn't finance 100% of the value, but if they did, at 8%, it would eat at the margin. If it takes 5 years to develop and sell these lots, it would cost about $34,141 a lot, and the property taxes would be around $4040, for a total of $38,181. So, if you take your $51k gross profit, and subtract Lyon's $20k fee, then the net profit for the new bag holder would be around -$7k. If they only financed 80%, then the profit would be $0 plus or minus a small amount. If they financed 50% the profit of $11k per lot, which would only be a 1.5% annual return, is pathetic. I would rather gamble on Cramer's picks than get that return. If you use the average SoCal price... it gets really ugly, and I would take Cramer any day over that loss.





You make a great point, Lyon scored on this deal. They get the write off from the loss, and they are somewhat guaranteed a profit from the fee. I mean, you and I would do the same, if we had to pay the bills, we would sell what we have on the cheap to make those bills. Especially, if we knew we would get something in return in the future. WINEX makes this point, in that 10 or 15 cents on the dollar is better than nothing. It is about freeing up cash, when the cash has run out. Just in the first year the interest costs on $211mil for Lyon would be almost $28k a lot, at a 8% a year interest rate. With just the holding costs, Lyon would have lost about $50mil over 5 years. With this deal they lose a $120mil that they can write off, and they stand to gain $122mil in fees, for a net of $2mil. I think you are right, I would take that over an estimated $50mil loss.





BTW, according to their 10-Q, this is about 15% of their lots in SoCal.
 
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