Struggling Builders May Break Home Loan Covenants
U.S. home builders are in jeopardy of violating their home loan lending agreements in coming months because of a widespread drop in national home sales, according to investors.
More than half, or 11, of the 21 builders that Moody’s Investors Service rates failed to generate more cash than they spent in 2006, analyst Joseph Snider in New York said in a report today.
Home builders often have to promise banks that they will have twice as much operating revenue as interest expenses over a given time or the bank can demand immediate repayment of a loan, Snider said.
The home builders’ situation is especially dire because cash flows usually turn positive during a slump as they cut back on starts and sell existing inventory, according to the analyst.
The housing and mortgage loan markets are so weak that home builders haven’t been able to cut their inventories, leading many to ask bankers for so-called covenant relief, Snider said in an interview.
Ratings may also be in jeopardy.
“The next year or so for them is going to be pretty grim,” Snider said.
Some of the requests being asked of lenders are to relax rules that govern the amount of cash flow they must have in relation to interest expense.
The Commerce Department yesterday said new homes sales totaled 858,000 in March. Sales were expected to be 890,000, according to the median of 71 projections in a Bloomberg News survey of economists.
Bloomfield Hills, Michigan-based Pulte Homes Inc., Atlanta- based Beazer Homes USA Inc. and Calabasas, California-based Ryland Group Inc. this week reported quarterly losses as the deteriorating housing market forced them to write down the value of property and abandon land purchases.
Moody’s believes the housing market has been shrinking for the past year and a half amid widespread mortgage market woes, and the ratings company has taken 16 negative rating actions on home builders since mid-2006.
“More will undoubtedly follow,” Snider said.
Pulte was one of three investment-grade companies generating negative cash flow for the previous 12 months at the end of the year. The other two are Dallas-based Centex Corp. and Toll Brothers Inc. in Horsham, Pa.
Debt sold by junk-rated home builders returned approximately 1.46 percent this year, compared with a 3.95 percent for high-yield, high-risk bonds on average, according to Merrill Lynch & Co. index data.
Houses started by U.S. home builders will fall to a 10-year low in 2007, according to the National Association of Home Builders, which released the forecast at a housing conference they sponsored today in Washington.
Single-family housing starts will decline to 1.16 million this year, the lowest since 1.13 million in 1997.
“The failure of a strong spring selling season to materialize, the unraveling of the subprime (bad credit mortgage) market, as well as the weakening of the Alt-A market, will also carry a significant toll,” Snider said in his report.
Alt-A mortgage loans represent mortgages that are considered a credit level above subprime, and are made to people with generally good credit histories who opt for atypical underwriting or loan terms.
Housing is unlikely to show any signs of stabilization until 2008 at the earliest, Snider stated, “given the oversupply of homes for sale, diminished affordability, declining home prices, excess inventory, weak consumer sentiment and more.”
SOURCE: Bloomberg Media