Price Cuts Put Builders in a Bind
New-Home Buyers
Hold Back, Waiting
For Further Trims
By DAWN WOTAPKA
November 20, 2007; Page D2
When freebies like granite countertops and no-cost closings didn’t woo enough buyers, many home builders began trying to outdo one another with price cuts.
Now the tactic appears to be backfiring. Potential home buyers are proving unwilling to purchase homes until prices stabilize, fearing further price depreciation, so builders have not gotten the sales volume needed to compensate for their reduced margins.
“If people stop cutting prices, that’s actually good [for builders],” says David Goldberg, an analyst with UBS Investment Bank. “If everybody does it, it works. If one builder does it, it doesn’t.”
Apparently, it doesn’t work if 60% of them do it. That’s the share of builders that cut prices last month. About half of them labeled the cuts at least “somewhat effective” in bolstering sales or limiting cancellations, down from nearly three-quarters in May, according to the National Association of Home Builders.
Yet with the market not expected to improve soon and builders desperate for cash and saddled with inventory, many have been unwilling to resist price-cutting. If they didn’t cut their prices, they reason, buyers would either turn to competitors who offer better deals or buy used or foreclosed homes.
Still, there are limits. “The reason some companies say ‘Enough is enough’ on the price cuts is because price cuts often generate expectations of further reductions,” says Dave Seiders, the Washington group’s chief economist. “The question is: ‘How far can you go?’ ”
Pretty far, actually. In California, for example, Meritage Homes Corp. has cut some prices, inclusive of incentives, by as much as 40%. The Arizona company’s prices have slipped to levels not seen since before 2004.
Meritage noticed that potential buyers are coming in “nine or 10” times and “if they hear the deal today is better than the deal was two weeks ago or a month ago, they’re not going to buy,” said Steven J. Hilton, the builder’s chief executive, at a recent UBS AG building conference in New York.
After its average order price fell 16% in the quarter ended Sept. 30, Pulte Homes Inc., the nation’s third-largest builder, said it is holding off on reductions and incentives except in “limited cases.” At the time, a spokesman said the Michigan company didn’t want to “contribute to a downward spiral in pricing.” Pulte didn’t comment for this article.
Toll Brothers Inc., a top luxury builder, has resisted price cuts, and Lennar Corp., the nation’s second-largest builder based on 2006 closings, has even taken some new homes in a development in Orange County, Calif., off the market.
Yet waiting for prices to rebound is risky, too. Empty homes carry costs, including insurance and maintenance. And after a year or so, there can be significant additional costs, such as repainting and redoing landscaping.
“It doesn’t get better with age,” says Jim Dietz, chief financial officer of WCI Communities, a Florida-based condo and house builder that has sold some units for minimal profit.
“Their risk is that, OK, sales drop 80% and now you don’t have enough cash coming in to pay the bills and your debt sours,” says Mr. Dietz. “I agree that discounting is bad, but I also believe that the market needs to reset. The inventory needs to be cleared through before we can get to a more-normal selling environment.”
That is why few builders have jumped on the anticut bandwagon.
The fourth-largest builder, Centex Corp., has said it is offering “record” discounts, and Ryland Group Inc. recently coughed up savings as high as 25% nationwide.
Hovnanian Enterprises Inc.’s three-day “Deal of the Century” in September generated 2,130 gross sales. Despite stricter mortgage requirements, cancellations haven’t been rampant, executives say.
Standard Pacific Corp.’s “Mission: Possible,” a September promotion with incentives and special pricing across the bleak Southern California market sparked 227 deals. It is too early to gauge cancellations, Senior Vice President Jari Kartozian says.
The California-based builder hasn’t ruled out trimming price tags in some areas. “I would say we’ve cut enough, without a doubt,” says Ms. Kartozian. But “we are trying to price to the market.”
That’s a smart move, says the NAHB’s Mr. Seiders.
“I’ve been advising builders, in general, [to] do whatever it takes to get rid of inventory now because the prospects for house prices in the coming year don’t look good,” he says. “I’m afraid that ’08 may be a year of pretty systematic price erosion, at least in many markets.”
