June 24, 2001|By Robert Nusgart | By Robert Nusgart, SUN REAL ESTATE EDITOR
Stephen J. Ferrandi is in an enviable position: He's got the gold - and he knows it.
The gold in this case are the large land parcels the real estate agent is selling for 25 clients.
Typically, his clients are farmers who are selling land that's been in their families for generations.
And its Ferrandi's job in the Columbia office of KLNB Inc., a commercial real estate brokerage, to find a developer with the deepest pockets possible.
But in an era of high builder demand and short land supply, even Ferrandi has trouble comprehending the dollars being thrown at ever scarcer properties suitable for housing developments.
"I come in, do my analysis, do my spreadsheets and do what I need to do," Ferrandi said, figuring "this property should go for `X,' and 90 percent of the bidders are right where I thought it should be.
"But there are 10 percent of the people who are double that. And you say, `How can that be?' But you see it all the time."
Dwindling supplies of land are bringing top dollar. And national publicly traded companies are now using their financial muscle to buy land, squeezing out local builders and developers.
The mega-builders, who complete thousands of homes nationally, are even willing to take a loss on the land because they can make a profit in constructing a home or in offering mortgages and title searches.
"In the last two or three years, I have just seen this unbelievable thirst for land," Ferrandi said. "The publicly traded companies, they have to feed the machine. And they are gobbling up as many lots as they can take down.
"And it is forming some really interesting dynamics, one of which is that independent land developers, who used to do small-lot infill subdivisions, can't compete in the marketplace anymore. They absolutely cannot compete in the marketplace.
"If you have what they are looking for, the national homebuilders will throw money at the property."
During the last five years, most builders and developers acknowledge, there has been a squeeze in the amount of land in the Baltimore metropolitan area available for development.
The scarcity is blamed in part on land-use policies that limit the amount of land available for development. These include smart- and slow-growth regulations and preservation of agricultural land.
The scarcity also is being caused by a boom in the real estate market caused by a healthy state economy and low mortgage rates.
Buyers in the last three years have seen prices for new homes - single-family, townhouse or condominium - spiral upward as demand outstripped supply.
Although sales of new homes in the Baltimore metro area for the first quarter are down 19 percent from the corresponding period last year, builders aren't fazed. If they had more homes to sell, the sales statistics would be high.
"I still see it as a strong market that is just plagued by availability problems," said Anna Pitheon, a consultant for the Meyers Group, a Washington firm that tracks and analyzes new-home sales.
"If sales were stronger in Baltimore and Howard counties, compared with where they were three years ago, the market wouldn't be trading down, it would actually be increasing."
The gradual narrowing of the land pipeline can be seen in the decline in the number of new housing developments.
According to the Meyers Group, there are 309 housing developments for buyers to visit in the Baltimore metro area, down from 420 at the end of the first quarter of 2000, a 26 percent drop. It's even more significant when comparing it with 1998, when there were 494 such communities, a 37 percent decline.
High deposit demanded
In less hectic times, builders could purchase land on what is called a "take-down schedule." After putting down a small deposit on the land, a buyer would work out a house-building schedule with a developer, perhaps building only three or four homes, to minimize the risk.
"Five years ago, we would put up a very minimum deposit and we would purchase a model lot, and on a quarterly basis a minimum number of lots would have to be purchased to maintain your option," said Rick Kunkle, president of Patriot Homes in Howard County.
"Now, the deposit requirements have increased significantly, so you might have to put up 5 percent or 10 percent of the purchase price, and secondly, we might have to buy 10 lots up front instead of one."
Ferrandi, the real estate agent who represents sellers of large land parcels, said that if a builder wants to take out an option on the land, he expects him to pay a nonrefundable cash deposit equal to 10 percent of the total purchase - a demand he couldn't have made five years ago. At settlement, the builder pays the remaining 90 percent.
"Right now there is just demand and supply forces in effect, and the supply will not equal the demand," Kunkle said.
"Traditionally, for every 1.3 new jobs created, whether it is Maryland, or a particular county, there has been one new house built.
"Maryland continues to attract new businesses, and the job growth has been very good, very steady. And we are now looking, however, at a much higher ratio so that we only have one house [built] for every three new jobs created, and it seems to be going to four.
"Those are the kinds of numbers that we are looking at. So starting with the farmer or the landowner or the developer and all the way down to the builder, the supply of lots will not meet the demand. And that is what's happened."
Consequently, it is easy to see why the alarms are going off at the national companies and forcing smaller builders and developers to rethink their business.
Is the price right?
David Altfeld, co-owner of the Southern Land Co., has developed thousands of "raw" lots for builders in the Baltimore area in the last 17 years. But now he's noticed that public companies are making it harder for him to compete.
"The national homebuilders, the players in the market with the muscle, have stepped it up," Altfeld said. "And I guess the major difference between now and the past [is that] they are ready, willing and able to buy land at any stage of the game. We've never seen that before. They are calling us in, making us offers to buy our land at any stage. That means that they are chasing raw land.
"They are putting down big deposits, and they are being extremely aggressive on their pricing."
Fritzi Hallock, who manages her own builder consulting company, MarketSmart, said: "I can tell you that the national builders are waving 50 percent more money, 60 percent more, 70 percent more, 100 percent more money. There are huge premiums.
"Any time a parcel of land is put out for bid, on a competitive basis, [my clients] are not even losing closely, they are losing by a significant margin to national builders, who are public companies, who can buy land much more aggressively."
To value land prices, Ferrandi traditionally uses a basic formula.
Valuation formula changes
Take the selling price of the least expensive house in a development, divide that by a third, and that is what a "finished" lot - a lot that is ready for home construction - would approximately be worth. Next, divide that number by a third again and that is "what the raw land to the farmer was worth," Ferrandi said.
For example, if a builder thought the least expensive base price of a home for a parcel he was considering was $210,000, then his land cost would be $70,000. For the developer, purchasing the parcel from the farmer, the price would be about $23,300.
Ferrandi - and others - say that the national builders, "needing to feed the machine," have for the most part thrown that formula out the window.
"The strange phenomenon that we are seeing is that from one national [company] to another, [bids] are pretty comparable," Ferrandi said. "It's when you try to compare a Toll Brothers offer or a Ryland [both national companies] offer to an offer from Chateau Builders [a local firm] that the numbers really looked skewed."
Bob Lucido is president of Builders 1st Choice, a Columbia company that assists dozens of small- and medium-sized builders in the mid-Atlantic region with their marketing and sales strategy, and he has seen the run-up first-hand.
"There was a piece on Route 99, in Ellicott City. The developer put it up for auction," Lucido said. "The highest bidder was Ryland Homes. They came in with a ridiculous price, and they paid them huge dollars. They put up a big deposit, and individual people can't match those.
"For an undeveloped half-acre lot, I think it was close to $100,000, and everybody else bid $80,000 and $85,000, so they were 20 percent above what everybody else paid."
The development in question is the Preserve at Mount Hebron, where Ryland is selling 68 homes on third- or quarter-acre lots with prices beginning at $379,000.
Earl Robinson, marketing and sales manager for the Baltimore division of Ryland Homes, agrees that the company is paying more for land, but also says the company still maintains a "50-50 or 60-40" balance between purchasing raw land and finished lots.
"But in a market as strong as this, we're more apt to buy land raw," he said. "We are not going to let a piece go because it needs to be developed."
There are other examples.
A 24-acre property off of New Cut Road in Glen Burnie brought offers that ranged from a local developer's $950,000 to $4.96 million from a national builder.
Ferrandi said a farm he was representing in Anne Arundel County got bids of $11,000 per lot to a high bid of $40,000 from Ryland.
But Beazer Homes, another national builder, was selected with a slightly lower price because it was willing to put up a nonrefundable cash deposit.
In December, the 77-acre Mount Joy Farm, the last large undeveloped parcel zoned for development in Howard County, was purchased for about $12 million by Winchester Homes, Ferrandi recalled.
"Everyone just threw money at [the deal]," Ferrandi said. "We looked at it and said it was probably a $9 [million] or $10 million transaction. It went with a $1 million deposit. ... Winchester threw money at the deal as did every other national homebuilder [and the] locals pretty much got blown out of the water instantly."
Said Lucido: "What the nationals do is go in and say, `Look, everybody else is giving you $85,000 [a lot]. We'll give you $100,000 and a $1 million deposit.' The little guys are like, `How bad do I want this piece of property?' "
Pricing out ofhand
Lawrence I. Rosenberg, president of the Mark Building Co., a medium-sized builder in Owings Mills that has built a reputation of providing good value, doesn't admit to being blown out of the water, but says pricing has gotten out of hand.
At Beaverbrook, a luxury development in Worthington Valley, Rosenberg was the first to build in the development, but was quickly followed by a national company, NVHomes.
"When we bought those lots, the nationals hadn't come in," Rosenberg said. "NVHomes bought two other sections of Beaverbrook and paid more money and took all the lots at one time.
"What happened is that NV would go in and build a house that was less expensive than what we were building, [and doing it] on a more expensive lot, or an equally expensive lot, for less money just to keep the wheels in motion.
"When we first started in there the land was around $135,000 a lot, and they paid $155,000, and the price of the house was less than what our base price was. And I can't understand how they can do that. Those are real dollars."
Big builder is watching
So how are the nationals able to throw all that money around?
The answer is threefold.
First, they are flush with cash. The publicly held national building companies have seen their profits grow tremendously in the last five years.
For instance, NVR Inc., the parent for NVHomes and Ryan Homes, showed a net profit of $158.2 million at the end of 2000, compared with $28.8 million in 1997. Pulte Homes Inc. finished 2000 showing a profit of $188.5 million, compared with $52.7 million in 1997, and Ryland Homes' profit increased from $21.8 million in 1997 to $88.2 million at the end of last year.
Second, they are willing to eliminate the independent land developer and buy and develop raw land. They also are willing to shepherd the projects through the government approval process and finish the lots themselves.
And finally, they are willing to take a loss or no profit on a development in hopes of making it up by constructing the homes themselves and through their mortgage and title operations.
"They [nationals] tend to buy stuff to keep everything moving," said Lucido of Builders 1st Choice, who has started a company just to help his clients purchase land. "They are not as prudent as an individual entrepreneur.
"The people who are buying the ground are not risk-takers and entrepreneurs. It is not their money. Whereas a private individual can lose their house, their cars, everything if they make the wrong decision. They have to have enough cushion in there to make sure that it is the right decision.
"Also, an entrepreneur is not going to work on a 2, 3 or 4 percent [profit] margin. If they can't go in there and make decent margins, they are not really going to do it. The nationals will go in because they have a mortgage and title company, they'll make less on the house, knowing that they'll get it on their ancillary business.
"Even if they don't, they sell so many houses, if they just made $1,000 or $5,000 on 5,000 houses, they'll make a lot of money."
Off the radar screen
So is the small builder or developer an endangered species?
Not yet, but for the builder who is thinking about the big picture, the future is ominous.
"Assuming that the smaller builder is not ready to pack their bag and head to the Carolinas, I think that the smaller builder has to be prepared to spend a lot more time and work a lot harder at assembling small parcels, because that is really all that is left," said Altfeld of the Southern Land Co.
Rick Kunkle of Patriot Homes says he once hunted for land himself. Now he has added a full-time land acquisition manager and says that the company is building in places - such as Northern Virginia - where it has never gone before.
A longer drive
Rosenberg used to have a rule that Mark Building Co. wouldn't build outside a 30-minute drive of its Owings Mills offices. Now, it's a 60-minute drive.
He also believes companies such as his must go places where the nationals either haven't discovered or don't want to go because a location doesn't fit their parameters.
"What the medium-sized builder or a niche builder needs to do is to identify locations and opportunities that are off the radar screen, that haven't appeared on the radar screen of the national builders," Rosenberg said.
"National builders typically have a certain criteria, a threshold in which these projects have to fit into. And if they don't, they don't end up on their radar screen. It's imperative for the medium builder to look at the opportunities that the national builder won't."
One such opportunity for Rosenberg is WaterView, a single-family home development priced in the $150,000 range to be built in the Riverdale community in Middle River on the old site of the Village of Tall Trees apartments.
`He's out of business'
"The builder who is focused on land will still make money and survive," Lucido said. "But if he ... worries about plywood and worries about subcontractors ... he's out of business. He's got to be spending most of his time with land. It's a land game, not a building game."
Ferrandi of KLNB takes a broader view of what may be down the road
"I definitely see land developers leaving this market and looking for other markets, because you can't make your return on investment here." he said.
But he also predicted the nationals would move on. " ... You will see the national homebuilders starting to retreat from this market into more aggressive markets, where there is more land and better prices to be had.
"They may be going down to the Eastern Shore or to Southern Maryland or they may just be leaving the Baltimore metropolitan area completely."