Southmark Looks to a Big Profit on J.M. Peters Offering

Southmark Corp. stands to make a five-fold profit on its 1985 acquisition of Orange County developer J.M. Peters, according to figures contained in a registration statement filed by the company with the Securities and Exchange Commission.

In the planned public offering, Southmark will spin off about 30% of the Newport Beach-based development company for about $42.5 million, giving the firm a total market value of about $140 million. Southmark bought J.M. Peters just 22 months ago for about $22 million, according to the document.

The filing gives a unique look inside the operations of one of Orange County’s largest land developers and reveals some of the company’s private problems.

In its 1984 and 1985 fiscal years, J.M. Peters lost $22 million on Belcourt, an upscale custom home development in Newport Beach begun in 1980.

Before the company could put the Belcourt problem to bed, it had to settle with its lender, who wrote off $37 million on the outstanding balance of a loan.

In fiscal 1983, in the throes of a housing recession, J.M. Peters sank into the red after an eight-year history of profits and posted a $4.9-million net loss, followed by a $2.988-million loss in fiscal 1984. The company also had a $10.96-million operating loss in fiscal 1985 but ended up with a $7-million net profit because of the windfall it received from its lender who wrote off part of the loan on Belcourt.

After the Belcourt debacle, J.M. Peters may have thought it saw a “white knight” in Southmark, whose San Jacinto Savings & Loan subsidiary sought to buy the private building company, according to a consultant close to the deal who asked not to be named.

The consultant said that without the lending capabilities of San Jacinto Savings & Loan, J.M. Peters might have had difficulty finding other lenders to provide the capital essential for development.

SEC documents disclose that when Southmark struck its deal with James Peters, the founder and sole owner of the building company, it gave Peters $19 million in cash plus a percentage of future company earnings. So far, those additional payments have amounted to more than $3.5 million. Peters also stayed on as president and chief executive officer at an annual salary of $236,000 a year--which will be increased to $400,000 plus 2% to 4% of the company’s profits after the company goes public.

Some observers say that at the time, Peters thought he got a “great deal” from Southmark because he was paid substantially more than his company’s $12-million book value at the time and because Peters could not have predicted that the housing market would become as bullish as it did in 1986 and 1987.

The registration statement also revealed that J.M. Peters plans to enter the mortgage banking business. The company plans to make loans to buyers of its homes and then sell the mortgages to San Jacinto and other financial institutions.

Southmark’s current move to spin off J. M. Peters as a public company may be ill-timed, according to some housing market analysts who note that housing stock prices have taken a sudden tumble because of investors’ concern about rising mortgage rates. Other home-building companies across the nation are scaling back and either canceling or delaying scheduled stock offerings, these analysts said.

Nonetheless, Southmark on May 12 filed a registration statement with the SEC for approval to offer for sale 4.25 million shares of stock representing 30.4% of J.M. Peters, while Southmark would retain a 69.6% stake in the firm. Although the final price for the stock has not yet been set, a range of $8 to $10 a share is the price suggested in the registration documents.

Officials for Southmark, a national real estate financial services company based in Dallas, said they are restrained by SEC regulations from addressing either the timing of the offering or the steep increase in J.M. Peters’ estimated value.

Peters was unavailable Monday to comment on the offering.

Securities analysts who watch homebuilding companies say the upturn in the housing market since 1985 that spurred Peters’ business has not entirely run out of steam. Nonetheless, they say fears stirred by projections of rising interest rates have sent housing stocks plummeting.

Barbara K. Allen, a housing securities analyst for Prudential-Bache Securities, said that since early April, housing stocks have dropped 15% to 20% in price. “Two months ago the market for housing stock looked real good, but the market just turned on a dime,” Allen added.

Besides noting the possibility of rising interest rates, the SEC documents also caution that J.M. Peters could suffer from increasingly tighter environmental, building and other zoning regulations. The documents also point out that San Jacinto Savings & Loan has entered into an agreement administered by the Federal Home Loan Bank of Dallas to reduce the S&L;’s overall investment in real estate.

The SEC documents said that although J.M. Peters does not believe the operating agreement will harm its operations, the federal home loan bank could use it to restrict San Jacinto’s “ability to provide financing to (J.M. Peters) and engage in other activities” on the company’s behalf.

Among companies that have suddenly reconsidered stock offers is Los Angeles-based Kaufman & Broad Inc. Jana Greer, Kaufman & Broad’s vice president of corporate affairs, said that when the public company filed application for a new offering of 2 million shares in April, its stock was trading at $27.75. Since then, she said, the company’s stock has dropped in value to about $22 a share despite higher reported earnings. Greer said Kaufman & Broad’s stock offering “is on hold right now.”

Similarly, Allen of Prudential-Bache said Toll Bros., a Pennsylvania-based home builder, recently canceled a stock offering, although she estimates that that company will realize a 50% increase in earnings in its current fiscal year.

“If they sold Peters today they wouldn’t get top value,” said Kenneth Campbell, president of Audit Investments Inc., a real estate investment firm based in Montvale, N.J. Campbell said he believes, however, that Southmark’s primary incentive for taking J.M. Peters public is to implement a broader corporate strategy designed to attract investors. He said that in the past Southmark stock has not been closely followed by securities analysts who find the conglomerate to be “frightfully complex.”

In March, Southmark had a public offering for 20% of National Heritage Inc., a nursing home management subsidiary, and it also has registered to sell shares representing about 15% of Integon Corp., a life insurance company.