It’s A New Era For Land Banking And Homebuilders
By KIMBERLEY HAAS
The land banking industry is evolving as homebuilders develop relationships with these investors to finance deals.
John Burns Research and Consulting held a virtual webinar about land banking on March 25. Will Frank, senior vice president, consulting, and Don Walker, managing principal, consulting, spoke about this alternative capital source for builders.
Land bankers buy land on the behalf of homebuilders. They typically take a project from entitled land – land that has all the needed approvals and permits to be developed – and see it through the development process, earning a fee to own that land until the builder is ready to buy the lots as needed.
Frank started his presentation by saying land isn’t getting cheaper to buy or easier to find. By working with a land banker, homebuilders can focus on long-term strategic planning and assure their future land supply without tying up cash that could be used for other purposes.
And although public and private builders sacrifice margins for the optionality of using a land banker, margins have been extremely high.
Frank said that for the last four years, they have seen margins at 25% or more. Historically, the average is about 22%.
What do these deal structures look like?
The homebuilder finds the land and asks the land banker to purchase it. At the same time, there’s two agreements created between the land banker and the homebuilder: an option agreement and a construction agreement.
The builder typically puts down a 10% to 20% deposit, which is non-refundable, and agrees to develop the land using funds from the land banker.
The land is finally sold to the builder at a price that covers the land banker’s costs and an appropriate risk-adjusted return.
Frank said the typical deal size is about $30 million.
“However, there are land bankers that are doing deals below that as well as above that. We’ve seen deals of $300 million,” he added.
Walker said land bankers are willing to work with large and small builders. Larger builders with stronger balance sheets will likely get preferred rates, he said.
What are the risks for homebuilders?
For the builder, land banking costs more than going through a traditional bank, even though it is less expensive than joint venture partnerships.
The builder may also be responsible for finishing the lots, even if they walk away, Frank said.
What do homebuilders need to have in order to secure a deal with a land banker?
Land bankers are looking for credit-worthy builders with a good track record. They like to see a tenured and strong management team, a builder that is actively borrowing from banks, and a pipeline of developable lots.
“If you are a homebuilder thinking about land banking your first deal, get everything ready to go, all the moving parts of your project, and lay them out as nice and neat as you can for that land banker, especially for your first deal,” Frank said.
Examples of past projects with similar products are helpful, Frank said.
Walker said land bankers want to create long-term relationships, so builders should keep that in mind.
“What I would suggest is bringing two or three of your better projects to a land banker. You want to start off the relationship right, so deals that are a little bit above average on your margin,” Walker said. “A land banker is always really thinking about the downside risk that they are taking, all tied to market risks. So definitely bring a project with slightly above average gross margins; something well above 22% is what I would recommend.”
John Burns Research and Consulting works with land bankers as they go through their due diligence processes, which helps them respond to builder requests quickly and cost-effectively.
They also provide introductions for land bankers and homebuilders.