1991 Orange County. The Year in Review : Builders Cast Wary Eye on ’92 : Most developers are winding up 1991 in worse shape than they began the year. And the big problem next year may be borrowing money for buying land and putting up homes.
It wasn’t supposed to be like this.
By now, the recession would be long over, the economic gurus told us late last year, and Orange County’s housing industry should be on the way to recovering its lost momentum.
But it didn’t happen.
The smart money now, according to many builders and industry consultants, suggests writing off most--if not all--of 1992.
It will be a year when things probably won’t get worse for the construction industry, but they probably won’t get much better either, according to Chapman University forecaster Esmael Adibi.
Adibi said he expects a further decline in construction next year, with a 10% drop in the number of residential units built in the county.
Perhaps the most upbeat forecast comes from the Meyers Group, a Newport Beach consulting firm that predicts a 5% hike in residential sales and building.
But coming after this year’s 43% plunge in residential construction and a 29% drop in sales, such an increase wouldn’t mean all that much.
Robert Jahn is one of the people whose lives and livelihoods are encompassed in the economists’ statistics. As well as anyone, Jahn--president of RWJ Homes of San Juan Capistrano--knows what it’s like out there in the trenches.
He is the sole proprietor and, since midyear, the only employee of the custom home-building company.
RWJ Homes isn’t an industry giant, but it has experienced the same turmoil that most other builders have this year.
When he started the business in mid-1988, Jahn was riding an economic and housing boom of unprecedented proportions. He had worked for a large home builder that was moving into commercial development--a then-healthy field that subsequently crashed--and decided to start his own business, so he could continue doing what he knew best.
In its first two years, RWJ built seven custom homes, all in the $1-million range. That was enough business to provide a gross annual income of more than $150,000 and kept Jahn so busy that he eventually hired two project managers to help him control subcontractor scheduling and the flow of materials critical for a smooth operation.
Even in 1990, the year the recession began and the construction industry began crumbling, RWJ Homes kept busy.
Jahn said he purposely targeted expensive custom homes because he believed that wealthy home buyers could better weather an economic slump. And in Orange County, there would always be a future, he thought, for a builder who could survive on just three or four contracts a year.
Initially, Jahn had jobs lined up so that one began as soon as the previous one ended. But the well ran dry in early 1991.
“The last job we had in 1990 ended in mid-December,” he said, “and the next job I got started in May of this year.” Consequently, Jahn figures his 1991 gross will fall to about $60,000.
By now, the statistics are familiar to everyone who depends on the well-being of Orange County’s building business--a long list that includes bankers, bakers, accountants and appliance salesmen.
In brief, development is tremendously important to Orange County, accounting for about 10%, or $7 billion, of the county’s direct economic output. And when the ripple effects are counted--the furnishings, landscaping, groceries and other consumer goods purchased by people who buy homes or earn their pay building homes and offices--the industry’s impact swells to 25% of the county’s overall economy, or almost $18 billion a year.
But since 1988, the peak year of a building frenzy that began in 1983, things have changed:
* New home sales in the county have plummeted by 50% while resales--which account for about 80% of all residential transactions --are down 26%;
* Permits obtained by builders for new single-family homes have fallen by 70%, while the number of apartment units planned or under construction this year is down 77%;
* The value of new commercial, industrial and retail construction projects has plunged 64%;
* And there has been a 15.5% drop in the number of people employed in the construction industry--meaning that an estimated 11,250 jobs have been eliminated.
It all adds up to what Chapman’s Adibi terms “a dismal picture,” made all the more grim because, for a while there, it looked like the ingredients were lining up to bust the housing industry loose from the recession’s grip.
Interest rates by early fall had plummeted to their lowest point in nearly a decade, and they continued dropping so thatnow they are at the lowest levels in nearly 15 years.
And new home prices by late November had deflated by almost 4% since the highs of 1989--knocking about $10,000 off the price of the average new home. Some builders were paring far more off the sticker price on luxury homes this summer, and several developers gave away carpets, cars and cruises to entice buyers into their tracts.
But the buyers, heeding warnings that the on-again, off-again recovery was off again, just weren’t there.
So Orange County’s housing industry ends 1991 in worse shape than it entered the year--and it was all banged up 12 months ago.
This year, builders have come to realize that there are fundamental changes occurring in the financing system--changes that will mean profound alterations in their business for decades.
A lot of little builders are disappearing and 1992 may be a year when the survivors transform the industry into a handful of large, diversified builders and a spattering of small specialists who exist on whatever is left.
William Foote, president of Southwest Diversified Inc., an Irvine-based home builder specializing in so-called infill development, said the big reason for the industry’s slump is that most consumers deserted the housing market in mid-1989--a year before the national recession officially began.
But this year, he said, things were made much worse by the ongoing federal crackdown on the thrift industry--a regulatory attack on lending practices that has decimated the building industry’s principal source of financing.
“Even if we had the customers now, builders couldn’t get enough financing to build the homes that would be needed,” Foote said. He acknowledges that his company, although successful with its building in existing neighborhoods, underestimated the severity of the recession and failed to meet its 1991 goals.
Along with thrift funding difficulties, Meyers Group President Jeffrey S. Meyers said that the heavily regulated banking industry now favors established, diversified, high-volume builders to reduce the risk in their construction and land acquisition lending.
So 1992 “will see a continuation of the builder battle over market share,” with larger builders continuing to take share away from smaller ones, he said. In 1991, according to a Meyers Group study, 24% of the builders active in Orange County captured 77% of all new home sales.
Builders, however, don’t see things in quite such clear-cut terms as a battle between big and little.
The leveling agent, they maintain, isn’t the size of the company but the depth of its pockets and the sources of its financing.
Foote said he believes 1991 has been a year that taught his industry two important lessons.
“We finally learned that California, and particularly Southern California, is not immune to the kind of deep-seated recessions that have overtaken other areas. We are ending the year mired more deeply in recession, I think, than any other part of the country except the New England states.”
Foote also said builders should have learned that “the belief that there is always capital available, even though it might be on terms you don’t really want to deal with, is nothing but a myth.”
That myth grew out of the spiraling inflation of the early 1980s, when the interest rates that banks and other lenders were charging builders for construction and land-acquisition loans were in the high teens.
“You didn’t like to pay it,” Foote said, “but if you were willing, then the money was there. And in the past it always had been there.”
Today, when loans are available, lenders typically require the builder to put up the equivalent of a 20% down payment.
Foote said Southwest, a partnership of Foote and publicly traded Coscan Development Co. of Toronto, avoids many of the typical money problems because of its ownership structure.
When Southwest needs money to buy land or fund a construction project, he said, it doesn’t have to borrow against a specific project--the traditional method of securing a loan. Instead, capital comes from retained earnings and Coscan’s general corporate borrowings.
In an effort to find new sources of money, a number of local builders, including Presley Cos., Pacesetter Homes and Standard Pacific, turned to the stock market or to private investors in 1991.
Foote and others see the nation’s $3-trillion pension-fund pool as a major untapped source of residential building capital, and many home builders are lobbying pension-fund managers to ease their restrictions on real estate investing, Foote said.
Ultimately, he said, the financing crunch will translate into higher housing costs for consumers as builders raise prices to compensate for the higher fees they’ll be paying to obtain their money.
Bob Jahn sees the results of the financing crunch every day.
He doesn’t have to chase money the way the larger development companies do because his projects are financed directly by the clients.
But that hasn’t insulated him from the credit crunch.
“It’s unbelievable. It used to be that if you owned your own piece of land and had the income and assets to support it, a loan to build your own home was the easiest thing in the world to obtain. You used the land to secure the loan, and it was golden.”
In the past year, however, Jahn said he has lost several jobs because the clients’ banks simply refused to loan them money. “The recession has dried up all the construction funds,” he said.
“Clients tell me their bankers are saying the regulators don’t want them lending money for construction. Basically, its gotten to be like that old joke--the banks will give you a loan if you can prove you don’t need it.”
Homes sales in Orange County plunged in 1989, and the decline has continued through 1991 because of the weak market for new homes. *1991 sales figures are totals for the first 11 months plus an estimate for December based on the 11-month average. Average sales prices of single-family homes and condos leveled off in 1990 and dropped 3.8% for new homes and 1.9% for resales in 1991. *1991 prices are for sales in November. Source: TRW-Redi Property Data Widespread layoffs in the construction industry are expected to continue through 1992. Appreciation rates of more than 4% seem to be relic of the past. Building permits, the barometer of future construction activity, continued a decline in virtually every category.
Single Multifamily Commercial Industrial Retail -Family Permits Value Permits Value Value Value 1991* 3,450 $605,000 2,700 $217,000 $314,000 $38,000 1990 3,352 604,766 8,627 556,257 626,613 58,917 1989 8,029 1,347,317 8,608 590,983 797,182 142,289 1988 11,514 1,674,298 11,941 687,218 905,011 141,729 1987 9,368 1,070,127 15,330 703,906 862,248 157,863
Value 1991* $80,000 1990 92,604 1989 97,727 1988 139,428 1987 91,216
*Estimate Source: Chapman University Center for Economic Research, TRW-Redi Property Data, Construction Industry Research Board
