NVR Seeks to Weather Downturn By Stockpiling Options to Build

NVR has accumulated $388 million in options to build on land already prepared for development at a time when home builders across the nation have walked away from projects because of the slide in the real estate market.

In recent years, the Reston home builder has tried to minimize the risks from a downturn by investing in land that already has roads and sewer lines installed, as opposed to buying undeveloped property outright. The payoff from speculating can be greater, but it typically takes longer to complete a project, creating more uncertainty for the builder, especially when business slows.

NVR's strategy has served it well, but some analysts said the company may increasingly be forced to give up on some projects, losing its deposits on the options and taking a charge against earnings.

For the first three months of the year, NVR reported a $12.3 million charge for abandoning projects, up from a charge of $7.2 million for the corresponding period a year ago. For all of 2006, the company recorded charges totaling $174 million, up from $12.6 million in 2005.

Analysts say NVR may be forced to write off more in the coming months.

"We think land developers will be less willing to renegotiate [contracts] and see lower returns while NVR maintains high margins," Banc of America Securities analyst Daniel Oppenheim wrote in a recent note to investors.

NVR did not return calls seeking comment about the issue.

Other home builders have been hammered by land impairment charges in recent months. Centex took a $150 million charge in 2006 after abandoning options for 37,000 lots nationwide and wrote down the value of other land by about $300 million, helping set off a 79 percent drop in fiscal 2007 profit.

D.R. Horton wrote off $81.2 million in the first three months of the year when it walked away from contracts that it said it no longer intends to pursue.

Ryland Homes took a $65 million hit during the first quarter by abandoning housing projects, some of which were in the Washington market. Pulte Homes and K. Hovnanian also reported quarterly losses after taking about $132 million and $34 million in similar charges, respectively.

Still, some analysts say buying options for developed land has shielded home builders from even more devastating losses.

"It's about minimizing the damage during the down cycle," said Jim Wilson, an analyst at JMP Securities in New York. "The entire industry has been moving in the direction of options rather than buying land outright."

NVR builds homes only on developed land, and the company has benefited from forming close relationships with developers in the mid-Atlantic region, which accounts for 73 percent of its home building profit. In its most recent quarterly report, NVR said new orders increased by 18 percent over 2006, but it "experienced a noticeable slowdown in market conditions" in the mid-Atlantic in the first quarter.

NVR also reported reduced home buyer traffic and an 11 percent decline in the average sales price for new orders. In the Washington market, prices dropped by 16 percent.

Under the terms of the options, home builders typically have to begin work during a specified period of time. If they cannot renegotiate the terms of the contract, or if they decide that holding on to the land is no longer worthwhile, companies may end up cutting their losses and moving on, said Rashid Dahod, an analyst who covers the industry for Argus Research.

"Given the market right now, it's expected that most builders will report some kind of impairment," he said. "Companies that own options aren't necessarily faring better."