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HBs at the Bank's Mercy



April 24, 2008 – Comments (0)

Moody’s says Homebuilders at the Mercy of their Banks

Several lower-rated homebuilders survived 2007 merely because of the leniency of their lending groups. As 2008 unfolds, these same homebuilding companies will once again find themselves at the mercy of their banks, according to Moody’s.

But now the banks are facing increasing pressure to 1) take a harder line on covenants, 2) reduce their homebuilding exposure, which has not provided them with the same level of fees as in the past, and 3) deal with their own balance sheet issues. As a result, Moody’s expects to see a rising number of
defaults amid this confluence of negative factors.

“As banks harden the line in 2008, we expect a number of homebuilders to face growing resistance when requesting covenant waivers or amendments, which could lead to a forced acceleration of debt repayment and consequent bankruptcy filings. This is of particular concern among homebuilders at the lower end of the rating spectrum, which have been limping along with weak liquidity and poor credit metrics.”

We believe 2008 will mark the year that banks finally begin to hold homebuilders accountable for their failure during the protracted slowdown to generate cash, maintain adequate liquidity, and reduce outstanding debt to levels more appropriate for their current revenue run rates, as would ordinarily be expected in a housing downturn.

Under a recession scenario, the pace of downgrades may exceed our prior expectations, Moody’s said. “We do not, however, anticipate downgrades matching the blistering pace seen in 2007.”

Moody’s Special Comment: Homebuilding Industry: Where’s the Cashflow? Also summarizes ratings actions in the sector and analyzes the impact of the economic slowdown on homebuilders.

In the past sixty days, public builders are starting to shut down marginal communities.  In a number of  cases, entire markets are being abandoned.  As the builders keep contracting, revenues will shrink.  Debt remains persistently high.

Shrinking revenues and high debt is a ripe environment for bankruptcies.  Now the JVs are blowing up and the lenders want their money.  It appears the banks are getting sick and tired of getting new homebuilders homes back in foreclosures.  In some areas, the banks are selling more homes than the builders and banks' inventory is rising.

Basically builders are liquidating down to dirt and debt.  Dirt has little value while debt wants to be paid.  As builders sell off their remaining vertical inventory, there will be little left to convert to cash.  I expect that half of all current public builders will be bankrupt or near bankrupt by the end of the year.

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