Builder Is Betting on Distressed Home Rentals

It is a renter’s market. So Beazer Homes of Atlanta, one of the country’s top-10 homebuilders, is betting on affordable, distressed home rental opportunities—for now.

The unlikely investor, the same as most builders facing slow sales and high inventory pressures, is the first to experiment such an approach. Beazer’s Pre-Owned Homes Division will purchase typically at a discount, quality foreclosures and short sales for rent and then resale when the market rebounds.

Ian J. McCarthy, the CEO of Beazer Homes, which specializes in energy-saving homes, said the new division addresses customer demand for more affordable, alternative solutions. The goal is to appeal to a broader range of consumers by “augmenting the sale of newly constructed homes with rental options of previously owned homes.”

The homebuilder is tapping into its cash reserve to invest in familiar markets where Beazer already has “skin in the game.” Purchases are made based on extensive knowledge about the communities, rents and how affordable home rentals can affect the prices of for-sale homes. “Beazer has the expertise to identify, acquire and improve this select group of previously owned homes,” said longtime Beazer executive Rich O’Connor, who has been appointed to lead the new division.

Distressed properties sell at bargain prices. Once renovated and inhabited they may help recover local housing prices. Beazer is betting on that, too, and the expectation of a recovery in the housing markets that will make these previously owned rentals marketable for resale either to their tenants or to other buyers.

The program targets homes built since 2004 “by a reputable builder,” including previously owned Beazer homes in select markets where the company currently operates. The properties “will receive necessary repairs and upgrades” so they comply with strict company standards. Third-party local property management companies will handle tenants and day-to-day operations.

In March after the first acquisitions were completed tenants moved into several properties in the Phoenix area. Executives said the company selected Phoenix to market-test the new division because the area has an estimated vacancy rate of below 5% and a very strong demand in the rental market for recently built homes.

The plan is expand the Pre-Owned Homes portfolio to over 100 properties by the end of fiscal year 2011. In the coming months Beazer also plans to expand the geographic coverage of the Pre-Owned Homes Division to include homes in Nevada and California.

The housing market is going through a period of self-adjustment where a higher number of single-family homes are being absorbed by the rental market, argues Eric Belsky, managing director of the Joint Center for Housing Studies at Harvard University. The slow recovery from the “Great Recession” is likely to push up rents faster than renter incomes recover keeping up demand for affordable rental housing, in both the multifamily and the single-family property market.

According to a Joint Center for Housing Studies rental housing report, in 2009 the number of single-family property rentals increased to 2.3 million. By the end of 2010 the number of rental households had increased by 4 million compared to 2005. The dramatic increase in the number of lower-income and middle-class families spending over 50% of their income on housing will sustain demand, Belsky says. In contrast with the continuous depreciation of single-family homes, multifamily property values have started to rebound and rent has started to move up in many areas, which “may trigger” more multifamily construction.

In 2010 the commercial and multifamily mortgage origination volumes increased to $118.8 billion, up 44% compared to 2009, according to the Mortgage Bankers Association. These data show that along with renewed investor interest in multifamily property construction, as property values start to recover more properties are being refinanced. Also, since the greater number of multifamily properties is financed through short-term loans (debt rolls over more often than on the single-family market), the multifamily property financing cycle, or time from when a permit construction is approved to when the construction is completed, is longer. Multifamily completions in 2009 were 250,000 but dropped to 155,000 in 2010. The market correction in construction starts occurred in 2010, Belsky said, so in 2011 the level of completions will remain low.

Meanwhile, foreclosure sales at bargain prices are up. According to the National Association of Realtors estimations in the last quarter of 2010, almost 29% of all sales were cash sales at bargain prices, of which millions are now available for rent.

Even though distressed property management is challenging because it requires additional capital to oversee rental properties in scattered sites, more private investors see the distressed market as an opportunity. So Beazer’s Pre-Owned Homes Division may give birth to a new breed of distressed property investors.

Builders and others in the industry “will be watching,” Belsky says. If the new division proves to be profitable other builders may follow suit.