|Shares Out. (in M):||11||P/E||N/A||N/A|
|Market Cap (in $M):||200||P/FCF||N/A||N/A|
|Net Debt (in $M):||-100||EBIT||0||0|
Avatar Holdings might be in the worst possible business in today's economy, they own land and build houses in Florida and Arizona. But, to paraphrase much wiser investors, there are no such things as bad assets, just bad prices. The following is an argument for why the price might be right for Florida land assets through a long position in Avatar.
Headquartered in Coral Gables, FL, Avatar owns land on which they believe they can build 21,180 homes (as of Sep 30, 2009) in both Florida and Arizona. Of those lots, roughly 80% are in Florida and 20% in Arizona. Most of the lots in Florida are southwest of Orlando, perhaps a 30-minute drive to Disney World, so they're not involved in the worst Florida communities that have condos that may never be absorbed. Just for perspective, Avatar will put those lots on 16,700 acres of developable land, and they'll use another 15,000 acres of property as open space and wetlands.
Until the third quarter of 2009, the company has not purchased any land since 2004 (deal actually closed in 2005). They recently purchased land and a few houses in various stages of completion from a busted development in Port St. Lucie, Florida. In fact, of the 21,180 potential lots, 11,430 of them were purchased before 1980. It's hard to imagine that this land is worth less than book value now that it has been on the books more than thirty years.
So, how should one figure out the value of this land? It's simple, figure out what houses will be selling for in a decade and you've got it. Easy, right?
Let's go back to the year 2001, perhaps the last year before the Great Housing Bubble began in the U.S. In that year, Avatar's average transaction price was $174,000 per unit (that includes closings, bookings, and backlog). It would be hard to argue that 2001 was a robust year, so I use that as a good starting point. Remarkably, the transaction price rocketed to $341,000 by 2006 using the same calculation method.
What if we hadn't experienced a housing bubble? For the moment, let's just say that without a bubble, these properties would have appreciated 1% per year rather than the mind-boggling 14% per year from 2001 through 2006. And, let's assume that the 1% inflation figure is valid through 2009. If that would have happened, the price of an Avatar home would be about $188,000 today (in fact, they averaged about $159K during Q309). Below, we make the assumption that $188,000 is today's "normal" price had we not had the housing bubble and the subsequent hangover.
There are a handful of scenarios that one may wish to consider when thinking about sales prices a decade from now.
Annual Inflation 2019 Housing Price
Now, we're not suggesting the 6% number is even close, but we put that in the mix just to show that housing prices would finally reach the 2006 peak by 2019 using a 6% inflation rate off our calculation of today's "normal" selling price.
In residential real estate analysis, outside of the high cost land areas, one can safely assume that the land is worth roughly 20% of the property value (can be higher, but let's be conservative). In that case, the lots would sell as follows based on the above annual inflation estimates:
Housing Transaction Price Per Lot Value
So, what are we paying for the lots today? Before I answer that specifically, let me backtrack and touch on the current financial condition of Avatar. As of Sep 30, 2009, the company has cash of $220M and TOTAL LIABILITIES of $155M. Just considering debt, the company has ~$100M of net cash. Despite a GAAP loss through the first nine months of 2009, the company actually generated cash flow from operations (I'll ignore that because this is an asset valuation rather than an income statement analysis). My point in highlighting the balance sheet strength, and lack of cash burn, is to show that time is on this company's side with regard to when the Florida real estate market turns.
With all that said, let's assume that through this real estate crash, the company uses all of their net cash to survive. Under that assumption, I'll simply use the market cap of the company rather than the enterprise value to think about valuation.
Today, the market cap of Avatar is $200M, or $9,400 per potential lot. That valuation considers the land available for commercial development to be worth zero ($38M book value). It considers the "amenities" owned by Avatar in some of their developments to be worth zero (despite $51M of value on the balance sheet - and yes, they've already taken writedowns on that property). Just looking at the balance sheet without any adjustments besides those already made by the accountants, the book value of the company is just north of $38/share.
If you believe any of the future housing valuation numbers we outlined above, the annual return on AVTR shares from today's price ranges from 15% to 22% for the next decade assuming all the net cash is used to withstand the pain that is today's Florida real estate market.
It is our opinion that an attractive return opportunity exists as a buyer of Florida residential lots given the range of potential outcomes for prices over the next decade along with the relative financial strength of this balance sheet. In the meantime, the company is actively looking to buy busted developments and land from builders who aren't able to survive the crash. This is a very cheap, tax-efficient mechanism to participate in the distressed Florida real estate market.
|Subject||RE: Capital raise|
|Entry||02/03/2010 04:10 PM|
I agree that it will probably be unnecessary. But, in my opinion, raising some capital to take any liquidity issues off the table is worthwhile, though clearly dilutive. I really like that the idea seems likely to work without having to make any big calls on the timing of Florida real estate. Having that $38M increases the time before Avatar potentially is a seller.
In the meantime, if it turns out that opportunities arise that this management team can identify the return on this capital may be very high. If those opportunities do not arise, and prices firm in Florida, the expected returns on Avatar happen much more quickly.
Given the potential opportunities to provide liquidity to desperate sellers, and the increased balance sheet strength from the capital raise, I don't view it as a big negative in this situation.
|Subject||RE: RE: RE: Capital raise|
|Entry||02/03/2010 05:44 PM|
I do not believe they were desperate to raise capital. Rather, I think it was a decision to take the "go to zero" risk off the table in the event that Florida got/gets a lot worse. I, for one, have no clue when Florida gets better and so one could envision quite a few quarters before they are generating income. That said, I think the cash flow numbers won't be that bad, but if we have a double dip, who knows. The cash is not restricted, and sits in money market funds with US govt securities.
The Parkway is over in my estimation, unless Florida turns around very quickly. Polk County has no ability to sue Avatar in the event that Avatar is unable to complete the project. They have written the project down to $16M from the $46 you mentioned. I place no value on this project, though apparently Ernst & Young thinks there is enough evidence of future cash flow that they didn't force a writedown to zero.
Hope that helps.
|Subject||RE: Quality of land|
|Entry||02/04/2010 07:56 PM|
I've visited most of the land in Florida, and I wouldn't describe it as problematic for development. The big development is Solavita which is an active retirement community on the edge of Orlando (southwest). Clearly, I didn't count the lots there or down the road in Osceola County, but I didn't see any obvious reasons why it wouldn't get developed at some point. As I said in the writeup, this land is not on the Florida coasts, so I don't expect that it will ever be must have no matter how long it takes Florida to recover. I have not seen the land in Arizona, so I'm less certain about that property.
If I remember correctly (I'm traveling now, so I don't have my research with me), they were building 2,000 homes per year at the peak and now they are probably on a run rate just under 200. During 3Q, they actually grew their backlog, though from something like 27 homes up to 42 homes (remarkably low as one would expect). The FT today mentioned that homebuilders may end up participating in some M&A because they may very well run out of land, especially if there is any type of snapback in building. The article mentioned that many builders typically run with 8-10 years of land, and are now down to around 5 years. My point with that is even in the boom, it would have been quite normal to have that type of land bank on the balance sheet.
Hope that helps.
|Entry||03/17/2010 05:57 PM|
Avatar doesn't do quarterly conference calls, so any new information comes from the 10K or other sources. They released the 10K yesterday, and here are some interesting data points.
For the year, they reported a GAAP loss of $29M, or roughly $3/share. However, due to the nature of the business in today's economic environment, they actually generated $11.8M in cash from operations. They spent a whopping $621K in capex for the year. The cash flow comes from two things -- first as they deliver houses, the land inventory associated with the houses has no cash cost, just a GAAP cost. Second, they had impairment charges on the Poinciana Parkway project (we've always valued that at zero, so this doesn't make much difference), and on some land transferred into LLCs.
From a cash standpoint, there was an interesting development. On Nov 6, 2009 the government enacted the Worker, Homeownership, and Business Assistance Act of 2009. Effectively, this Act allows Avatar to use their NOLs to offset income earned up to five years ago. As such, the company will file an application for a federal tax refund of $34.2M that they now include as a tax receivable on their balance sheet (that represents more than 20% of their entire enterprise value!). From a GAAP standpoint, this is essentially a new asset because they had a valuation allowance against their deferred tax asset. They still have a DTA valuation allowance, but it is now $10.4M which will shield the company from taxes on future income.
They purchased another set of developed lots in Arizona during December for $3.725M. They received 86 lots for that cash.
The company delivered 230 housing units in 2009 at an average price of $195K. They had 25 units in backlog at 12/31/09 at an average price of $219K, though I expect the 2010 average selling price to be less than that figure once the dust settles.
The company has $217M in cash against debt of $119M. I would expect them to generate additional cash in 2010 especially given the $34M tax refund they will likely receive. At today's closing price, the EV is $156M and book value per share is $39.20. We continue to believe this offers an interesting opportunity for those that are willing to wait out the Florida real estate market.