Orange County’s high-end housing market is proving to be a big source of business for The New Home Co.—even if it’s been a source of confusion to some Wall Street investors and analysts who follow the homebuilder.
The Aliso Viejo-based company went public early this year and has a market value of $235 million. It reported nearly $44 million in home sales for its most recent quarter for its wholly owned and joint venture projects, plus another $20.4 million in revenue from its fee-building operations.
The company also reported a backlog of nearly $280 million as of the end of September, more than double from a year earlier.
You can thank sales at several pricey projects that are moving ahead in OC for much of the jump in the backlog. A big contributor is the upscale Orchard Hills development of Newport Beach-based Irvine Company, a project that opened in May.
New Home is currently selling the two most expensive types of homes at Orchard Hills, dubbed the Trevi and Amelia models. They average more than $2 million apiece and accounted for $84 million of the company’s backlog as of last month.
The brisk pace of sales New Home has maintained at Orchard Hills and other Irvine Co. projects hasn’t bowled over analysts, but has instead drawn scrutiny that stems largely from a profit-sharing structure that was pioneered by Irvine Co., the largest landowner and developer in OC, and that remains unique, for the most part, to Southern California.
The typical structure for land sales by the Irvine Co. to builders won’t necessarily yield profit margins on par with those from more traditional developers.
The lower margins on Irvine Co. projects recently prompted a round of inquiries by analysts. That, in turn, led New Home executives to shed more light on the structure of the deals in an earnings call and later communication with the Business Journal.
The deals appear to be based on a trade-off of sorts, with homebuilders cutting the Irvine Co. in for a share of profits above a certain level on home sales. The draw for homebuilders is the track record of lower risks that have come with projects on the developer’s Irvine Ranch, which has been the best-selling masterplanned community in California for several years running.
In a typical Irvine Co. deal, “effectively builders have the ability to achieve a 9% net margin before a profit participation agreement kicks in, and that profit participation agreement provides 70 cents of every dollar above that 9% margin to the Irvine Co.,” New Home Chief Financial Officer Wayne Stelmar said during a call with analysts.
“So a 12% to 14% gross margin is pretty normal for an Irvine Co. deal,” Stelmar said.
That’s a significantly lower margin than what most area builders typically underwrite for their non-Irvine Co. deals.
Irvine-based TRI Pointe Homes Inc., for example, typically expects gross margins in the 18% to 22% range, according to Chief Executive Doug Bauer.
Newport Beach-based William Lyon Homes reported a 19.6% gross margin for its latest quarter, while Irvine-based Standard Pacific Corp. reported a 26.3% gross margin last quarter—one of the highest margins in the homebuilding industry.
TRI Pointe has built several projects on the Irvine Ranch in recent years and has homes going up at Orchard Hills.
William Lyon Homes is selling homes at one Irvine Co. project in Portola Springs.
Standard Pacific, the largest builder based in OC, has not been involved in an Irvine Co. project in several years.
The pattern holds true with New Home. The company’s gross margins for its non-Irvine Co. joint-venture projects tend to run a little more than 20%, Chief Executive Larry Webb told the Business Journal.
Irvine Co. officials declined to comment on the structure of their land deals with builders.
Other large land owners in the area, including Rancho Mission Viejo LLC and FivePoint Communities, the Aliso Viejo-based developer of the Great Park Neighborhoods, are said to employ similar profit-participation plans with builders.
“It’s a California concept, and especially a Southern California concept,” Webb said.
Guaranteed Sales
The profit-sharing structure points toward the perceived benefits of the Irvine Co.’s scale and the rigor of its master plan.
Doing deals with the Irvine Co. “is a great business opportunity,” said Webb, who previously ran John Laing Homes of Irvine and has built numerous projects on the Irvine Ranch.
“These are great master plans, where the market isn’t your issue, in terms of sales,” he said.
New Home Co. got its start about five years ago as one of the companies tapped by Irvine Co. to build homes under the developer’s “executive builder program,” which paid builders to put up homes amid the then-depressed real estate market.
New Home Co., in addition to building homes under its own name, currently has a large fee-building operation at Orchard Hills, where it builds homes for Irvine Pacific LP, the in-house builder of Irvine Co.
New Home Co. officials said they employ different gauges of profitability for its land deals with Irvine Co., which allows builders to buy lots for homebuilding in smaller batches than the industry norm.
Many traditional land owners might require a builder to purchase all of their designated lots at one time.
The Irvine Co. model “reduces the capital we have out at any given project,” Webb told the Business Journal. “It’s a win-win.”
Or, as New Home CFO Stelmar told analysts last month, “we are more interested in our returns on invested capital rather than our gross margin” on deals with the Irvine Co.
In its OC operations, New Home is busy beyond the Irvine Ranch.
At Meridian, a luxury condominium project near Fashion Island in Newport Beach, New Home reported selling 34 homes as of last month. That’s more than 40% of the community, which only held its grand opening on Dec. 5.
The fast start on sales at Meridian looks more impressive when prices are considered. Condos at the 79-unit project, which is next to the Newport Beach Marriott Hotel & Spa, are selling for more than $2 million. The project is being built in a partnership with Hillwood West, a unit of Ross Perot Jr.’s Hillwood, the Dallas-based development firm.
Newport Coast Next
New Home remains “very comfortable” with the profits the Irvine Co. projects generate, Webb said.
The company remains active in its land deals on the Irvine Ranch. Last month the builder announced it would be building 39 homes at Pacific Ridge, a Newport Coast development overseen by the Irvine Co.
The homes at the project, called Fiano, will run from 4,600 to about 5,300 square feet and are expected to be priced at roughly $3 million. The development is expected to open early next year.
That will likely lead to some more rounds of explanation of the land-buying model used here—and its benefits to New Home Co.—for Wall Street analysts.
“It’s difficult for them to understand,” Webb said. “When we were on our (initial public offering) road show, a lot of the people didn’t know where Irvine was.”
Investors appear to be learning. New Home Co.’s stock is up nearly 20% since its IPO, among the best returns for a builder over that time.
