Operative Builders

SIC 1531

Companies in this industry

Industry report:

This category covers builders primarily engaged in the construction of single-family houses and other buildings they sell on their own rather than as contractors. Establishments primarily engaged in the construction (including renovation) of buildings for lease or rental on their own account are classified in SIC 651: Real Estate Operators (Except Developers) and Lessors industries.

Industry Snapshot

Historically low interest rates in the early 2000s fueled an unprecedented housing boom in the United States. In 2003, new home sales exceeded 1 million for the first time in industry history. All segments of the residential construction industry, including operative builders, benefited from brisk new home sales. New housing starts hit record highs in 2005 when new starts reached over 2 million units. However a mortgage/banking crisis in 2008 caused the housing bubble to burst and, as a result, new housing starts plummeting. In 2009, new housing starts hit a 50-year low of 554,000 units. Many construction companies shed their workforces, and many shuttered their operations as business evaporated. Operative builders had difficulty securing credit to undertake new projects, and few had buyers for completed projects. The number of contractor-built houses fell to 83,000 in 2009, down from a high of 205,000 in 2003. Recovery came slowly and erratically during 2010.

Organization and Structure

Unlike general contractors who perform construction work on a for-hire basis for the owner or owners of a development, operative builders are the owners of the structures they build and act as their own general contractors. In addition to construction, operative builders engage in land acquisition, sales, and a variety of other non-construction activities associated with developing and selling properties. Operative building has traditionally accounted for a comparatively small percentage of construction. Operative builders typically employ fewer construction workers than general contractors did and employed a higher proportion of non-construction employees, such as executives, salespeople, administrative staff, and other professional categories, which reflected their wider involvement in site development, property sales, and other activities not performed by general contractors.

Although operative builders were primarily involved in construction, principal industry activities also included subdividing and site development work, real estate management activities, land sales, construction-related activities, and miscellaneous operations. The vast majority (95 percent) of construction performed by industry firms involved the erection of new buildings and service facilities, as well as the installation of equipment like elevators, heating and air conditioning, and plumbing. A small proportion of construction activities involved renovation work, such as additions, alterations, or reconstruction, and maintenance and repair.

An important component of the industry's non-construction-related activities was the acquisition of land for development or for resale in developed, undeveloped, or partially developed form to purchasers, including other builders. The decision to purchase of a tract of land is based on the evaluation of cost, as well as marketing and demographic studies conducted by the builder or by consultants. Other criteria included financial and legal considerations, governmental approvals and entitlements, environmental factors, the firm's experience in a particular market, real estate market trends and the general health of the economy. Engle Homes of Florida, for example, primarily purchased land already "improved" for building construction, land requiring site improvements, and "options" on improved land allowing the company to buy the site when market demand warranted construction. Firms that can afford to carry the costs of a large undeveloped "land inventory" may ultimately benefit from having purchased large tracts rather than several small, expensive parcels when it comes time to construct a large master-planned community on the site. It generally takes five years to develop purchased land into master-planned communities or subdivisions, while small, conventional residential projects take two to three years to complete. The purchase of land tracts involves a "contingency period" while zoning, environmental, and other governmental and infrastructure requirements are met.

In the 1980s and early 1990s, several factors had forced the building industry to seek new means to acquire financing for land purchases, including the federal Tax Reform Act of 1986, the revision of commercial banks' loan underwriting standards, and the decline of the U.S. savings and loan industry. One such approach was the formation of "land bank partnerships" in which investors pooled their resources to purchase land and used provisions in the tax code to avoid the costs associated with carrying the debt from the purchase of land on their balance sheets.

After purchasing land for a master-planned community, industry firms must determine the layout, size, and style of each of the site's lots, as well as the design of the overall community. A product line is then developed, based on such factors as existing housing, the expenditure for the lots, and the projected needs of the specific market. Once these general guidelines are established, the firm seeks the necessary governmental approvals, performs specific site planning, constructs or contracts for the construction of roads, sewers, water and drainage facilities, and, if necessary, conducts other engineering operations.

The development of the "balloon frame" building technique in the 1830s, which allowed homes to be constructed by laborers rather than by skilled carpenters, represented the birth of modern, industrialized home construction methods in the United States. Contemporary two-story homes are generally constructed using a "platform frame" method in which the studs that support the roof rest on the second story rather than extending all the way to the ground floor as in traditional balloon frames. Detached and attached single-family homes were the most common structures erected by operative builders during the late 1980s. The home of the early twenty-first century is much more than a frame, floor, roof, and walls, however, as home builders must install pipes for plumbing, fiberglass for insulation, ductwork for heating and air conditioning, special flooring for bathrooms and kitchens, and conduits for electrical wiring, as well as a wide range of building components.

Office buildings, industrial buildings and warehouses, and commercial buildings like stores, restaurants, and service stations represent a substantial amount of construction activity. Industry firms also developed and constructed condominiums, defined as townhouses, apartments, or any other structures in which the purchaser owns title to the three-dimensional space occupied by the unit as well as an undivided interest in the building's common property. Industry firms also developed cooperative apartments, which have the same physical form as condominiums but give owners stock in the company that owns the apartment rather than owning a unit of space. Industry firms also engage in speculative building of structures erected in the expectation of future demand without prearranged purchasers.

The operative building market, like other construction markets, is "counter cyclical." Operative builders are significantly dependent on the availability of credit offered by lending institutions that occurs when depressed economic conditions limit the number of industrial or manufacturing borrowers seeking loans for expansion. Because money loaned by banks and other financial institutions is more readily available to home-buyers and construction firms when the economy is in the trough of an economic cycle, the home building industry generally begins to improve when economic conditions are at their worst, earning the designation "counter cyclical." Home builders also are strongly affected by interest rate levels and general consumer confidence. Other economic factors affecting the home building industry include demographic trends, such as the number of adults in the prime home-buying years (ages 25 to 44), changes in the mortgage financing industry, increases in energy costs and property taxes, labor and building materials costs, and changes in consumer preferences.

The residential building industry during the 1990s and 2000s, was highly competitive, with only a few firms competing at the national level. Builders compete based on location, reputation, quality of construction, price, design quality, and amenities, among other factors. Builders with strong administrative and paperwork processing operations, superior on-site management, and sound construction systems were generally the most competitive.

Most residential building firms (including operative builders) were small, with the number of units constructed by a single establishment averaging 25 or less per year, although industry giants, such as Centex, Pulte, Ryland, Lennar, and Beazer, far exceeded this total. Such firms often started by building a small number of homes, acquiring additional land, and gradually expanding their market geographically, and perhaps demographically, offering "first home" residential construction, , for example, then moving up to expensive high-end home construction. Market research of the communities in which they intend to sell, prearranged financing for initial construction activities, analysis of competition, exploration of business relationships with construction suppliers, installation of computer-aided design computer systems for floor plan design and modification, and consultations with area realtors and investors were some of the preliminary activities conducted by start-up builders before beginning a construction project. Using specialized formulas, builders conducting market research were able to determine with some accuracy how many homes of a certain type would be purchased in a particular subdivision or development.

Builders may finance their construction activities through revolving lines of credit offered by commercial banks using the firm's inventory of homes as collateral. The amount of credit extended to the builder may be based on the value of the homes the builder has sold and may be about 50 percent of the home's intended sale price. Builders can expect profits of perhaps 15 percent of the sale price of a home. Larger home builders tend to have the financial resources to survive housing downturns and exploit emerging housing trends.

An important initial decision for the operative builder during the 1990s and 2000s was the choice between constructing and marketing individually designed homes or offering so-called "market units," which was basically a choice between unique home specifications and floor plans and generic housing specifications for a specific demographic market, master-planned development, or architectural style. Some firms offer a "personal builder" program that allows home buyers to modify the builder's design plans to create a "semi-customized" home. Other builders may purchase pre-designed house plans from "plan service" firms, eliminating design and architectural costs from their budgets. Many builders use the elevations provided in catalogs of home plans such as Sweet's Catalogue Files rather than incur the expense of retaining an architect.

The types of homes built by industry firms during the 2000s were as diverse as the U.S. housing market itself, ranging from government subsidized lower-income developments to customized, high-end estate homes. Housing markets are classified according to taste, race, family status, location (neighborhood as well as region), employment patterns, income, or age. Across all housing levels several trends have merged since the late 1970s. Mean home size has continued to increase and the percentage of new homes with 2,400 square feet of space or more has risen notably. Between 1978 and 1995, the percentage of homes with central air conditioning grew from 58 percent to 80 percent, those with two-car garages (or larger) increased from 52 percent to 76 percent, and homes with two and one-half baths or more nearly doubled, growing from 25 percent to 48 percent. By 2003, over 52 percent of homes were two-story and 37 percent were larger than 2,400 square feet. Roughly 55 percent contained two and one-half baths, while 36 percent had four or more bedrooms.

One of the largest hurdles faced by prospective operative builders was arranging financing through banks, which are much more inclined to lend money to established builders. In some markets construction financing was provided to builders by their suppliers (such as lumber companies) that could monitor the builder's financing needs and construction progress by observing the amount of materials they had ordered or used. Other sources of residential building loans included pension funds and insurance companies. Because construction costs can vary significantly over a two-month period, some builders planned to construct only the number of homes projected by their monthly research, and concentrated on selling the homes before beginning actual construction.

Industry firms generally sell their homes through independent brokers or by employing salespeople retained on commission. These salespeople operated out of model homes and conducted tours, provided floor plans, and described prices and design options. Available homes could be advertised in newspapers, magazines, and brochures; on billboards, radio, and video tapes; and through out-of-state home shows, direct mail, and special promotional events. Major sources of sales included referrals from customers or members of a region's home-building, real estate, architectural, or financial community, from traffic through model homes, and through bidding on planned residential development projects in competition with other builders.

Operative building firms may also maintain customer service departments that not only conduct home orientation tours for buyers before the final sale, but also may resolve any problems occurring after the sale is final. In the early 2000s, the largest costs incurred by operative builders were construction on work subcontracted to other builders; materials, components, and supplies; and payroll. To control costs, builders used a number of strategies, including using subcontractors to build homes and improve sites for a set price, arranging volume discounts for construction materials and special pricing arrangements from subcontractors, obtaining zoning entitlements before making land purchases, and building a limited number of speculative homes to meet short term demands and minimize inventories of unsold homes. Some larger home builders elected to lessen the financial risk inherent in residential construction by having a range of projects under development in several communities in each market at one time, minimizing their dependence on the any single project.

Firms in the industry engaged in secondary activities, such as the sale of improved lots, mortgage origination and title insurance services, cement aggregate and gypsum wallboard manufacture, and the purchase and sale of undeveloped land. Other activities included the sale and asset management of commercial properties and sites, residential and commercial property rental, real estate investment trust (REIT) management, development and marketing of vacation ownership resort communities, savings and loan operation, and aluminum and wood building component manufacturing.

The states with the largest number of operative builders (single-family construction) in the early 2000s were California and Florida, followed by New York, Pennsylvania, and Michigan. North Dakota, Alaska, South Dakota, Hawaii, and Wyoming had the lowest number of firms operating in this industry.

Most operative building industry establishments specialized in detached single-family housing construction, while about 10 percent specialized in attached single-family housing construction, and a minimal number specialized in apartment building construction, office building construction, and other commercial building construction.

Trends in the operative building industry in the 2000s included the continued increase in the use of prefabricated and component parts, such as pre-finished walls, partitions, and stairs. In addition, operative builders began to use a large amount of non-wood construction materials in response to rising lumber costs and increased their reliance on computer-aided design and other software for home design and business tracking activities. Other characteristics of the industry in the early 2000s included the ongoing trend toward larger homes, with new homes having an average 2,2330 square feet in 2002, according to the National Association of Home Builders; improved construction tools and equipment; decreased union representation among construction workers; continued increase in the average cost of land and homes; increased mergers and acquisitions among the largest national home builders; increased remodeling activities performed by industry firms; and gradual increases in the percentage of Americans owning homes, which reached 68 percent in 2002.

Despite recessionary economic conditions in the United States at the start of the twenty-first century, more people bought new homes that were increasingly lavish. This was due primarily not only to record low interest rates, which made housing more affordable, but also to increases in the amount of financing available to individuals.

According to the U.S. Bureau of Labor Statistics, the operative building industry, including single-family, multi-family, industrial, and office buildings, had 31,280 employees earning an average of $40,950 per year. Roughly 36 percent of these employees worked in construction, 21 percent worked in office and administrative support positions, 15 percent were in management, and 10 percent were in sales.

In 2007, there were 10,035 operative building firms primarily engaged in the construction of single-family houses and other buildings that they sold on their own rather than as contractors, with a value of almost $99.2 million industry-wide employment at 64,675 workers in 2007. Operative builders numbered 5,730 companies for more than 57 percent of the market share with revenues of more than $49.7 million. In 2007, California, Florida, Texas, New Jersey, and New York had the majority of operative builders.

Operative building firms were struggling in what was considered a very soft U.S. housing environment marked by high inventories of new and existing homes, intense price competition, and reduced availability of mortgage financing. Defaults on subprime loans and the resulting decline in the market value of those loans was creating significant instability. Consequently, the top ten operative builders reported declining earnings as total closings shrank between 2006 and 2007. For example, M.D.C. Holdings fell 38 percent to 8,195; Beazer Homes U.S.A.'s closings fell 35 percent to 11,366; Pulte Homes's closings plummeted 34 percent to 27,540; D.R. Horton's total closings fell 29 percent to 37,717; and Centex Corp.'s closing dropped 18 percent to 30,684; NVR Inc.'s closing declined 11 percent to 13,513. In addition, the Ryland Group and Lennar Corp. each reported 33 percent drops in closings to 10,319 and 33,283, respectively, while KB Home and Hovnanian Enterprises each reported 26 percent declines in closings to 23,743 and 14,928, respectively.

Industry leaders were doing whatever they could to maintain and survive while the market remained in a decline. For example, Pulte Homes and Centex each laid off 55 percent of its workforce. Centex also planned to cut back their total division count from a high of 44 to 30 by 2009. Elsewhere, Hovnanian was forced to sell its inventory at prices below the market. With 63,000 job losses in February 2007 alone and 299,000 manufacturing job losses between February 2007 and February 2008, the U.S. Labor Department was unable to determine when to expect a turnaround for the housing market. Industry watchers projected that the total value of U.S. new residential home construction and renovations would climb at an annual compounded rate of 2.1 percent between 2007 and 2012.

Current Conditions

Those who predicted growth in the housing market had no way of knowing the coming events of 2008, when millions of bad mortgage loans would fall into default, causing a banking crisis and the housing market to crumble. From a record of 2.068 million new housing starts in 2005, new starts reached only 554,000 in 2009--the lowest recorded since the federal government began keeping statistics 50 years earlier. Of these 554,000 housing starts, 445,000 were single-family dwellings, down from a high of 1.716 million in 2005. The value of residential construction, which peaked in 2006 at $619.8 billion, was valued at $253.6 billion in 2009.

Not only did the number of new housing starts decline in 2009, but the characteristics of the houses being built and sold changed. For example, in 2009, 24 percent of all new single-family houses sold were financed by the Federal Housing Authority (FHA), up from 16 percent in 2008 and just 4 percent in 2007. In addition, the average sale price of a new single family home in 2009, according to data from the U.S. Census Bureau, was $270,900, down from $292,600 in 2008 and $313,600 in 2007. Thus, not only were fewer houses being sold, those successfully taken off the market were selling for less than the previous two years.

The number of contractor-built houses fell to 83,000 in 2009, down from 107,000 in 2008 and a high of 205,000 in 2003. About 35 percent of contractor-built housing sold for between $200,000 and $299,999. Roughly 50 percent sold for under $200,000, and the remainder were valued at $300,000 and above. Average contract price was $253,100 per house in 2009, down from $307,300 in 2009.

Industry Leaders

In April 20009, Bloomfield Hills, Michigan-based Pulte Corporation, announced that it would purchase rival home builder, Dallas-based Centex Homes, in a deal valued at $3.1 billion. The transaction created the nation's largest home building corporation. Following the completion of the merger on February 10, 2010, Pulte shareholders held 68 percent of the company and Centex shareholders held 32 percent of the firm. Pulte also builds Del Webb branded homes.

Pulte's performance suffered from the sharp decline in the housing market during the late 2000s. Revenues, which reached over $14 billion in both 2005 and 2006, dropped to just $4.1 billion in 2009. The company posted a net loss in excess of $1 billion for a third year in a row in 2009. In an effort to shed costs in the difficult economic conditions, Pulte reduced its workforce from 13,400 in 2005 to 5,700 in 2009.

D. R. Horton, based in Fort Worth, Texas, builds entry-level homes for first-time buyers to luxury homes in 30 states. In 2009, the firm built 16,700 homes, down over 35 percent from the previous year and far from the over 50,000 build in the mid-2000s. Revenues in 2009 were $3.66 billion, down from a high of $15.1 billion in 2006. The company posted a net loss of $2.6 billion in 2008 but reduced the loss to $545 million in 2009.

Lennar Corporation, based in Miami, Florida, along with Pulte Homes and D. R. Homes, made up the three largest home builders in the United States. The firm had sales of $3.12 billion in 2009, down from a high of $16.27 billion in 2006. Lennar posted a net loss of $1.9 billion and $1.1 billion in 2007 and 2008, respectively. The company reduced its losses to just over $417 million in 2009.

The Ryland Group, based in Columbia, Maryland, focused on the typical middle-class home. Ryland had 2003 sales of $3.4 billion, reflecting 19.7 percent growth from 2002, and employed 2,558 people. By 2007, the Ryland Group had 2,036 employees with sales of $3.03 million compared to $4.75 million in 2006. Ryland was also negatively affected by the downturn in the economy, with revenues falling in 2009 to $1.28 billion. Other regional builders included Beazer Homes, based in Atlanta; Engle Homes, Inc., based in Boca Raton, Florida; and KB Homes, based in Los Angeles.

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