Summary
Unforseen risks associated with homebuilder joint venture agreements and accompanying completion agreements.
Analysis
Joint Venture Completion Agreements
Most homebuilding joint venture loan documents contain a sponsor guarantee that the development of the project will be complete. In most cases, this relates to development of the underlying land. The loan typically contains funding for costs associated with performing this work and interest reserves to pay interest on the loan until the project cash flows. Slow home sales have caused issues for joint ventures with regard to cash flows.
Events altering the original timeline estimated in creating funding for the project can cause problems within the joint ventures. Slow absorptions of lots in a multiphase development may cause the interest reserve to be used up due to a longer funding period. If the project is complete, but absorptions are behind plan will cause larger loan amounts to be outstanding over longer time frames, further causing issues with interest reserves and loan repayments.
The need for the joint venture to generate cash to meets its obligations can be solved several ways, but most cause difficulties. One short lived alternative is to restructure the joint venture debt. Another alternative includes the sponsor (homebuilder) purchasing lots from the joint venture regardless of whether these end up being “parked” in the homebuilder’s inventory of land and lots. Finally, the homebuilder and other joint venture partners can make loans or capital infusions into the joint venture, whether required under remargin agreements or not.
As long as developments stayed on schedule and lots absorption occurred as predicted, homebuilders had little exposure under completion agreements. However, the large decline in home sales has caused issues with cash flows in joint ventures, where completion agreements may result in increase expenses for the homebuilder participating in joint ventures.
