Long term we are undersupplying the need for homes and we are seeing evidence that the demand side of the market is starting to weigh in once again. By no means am I suggesting that we’ve turned the corner. I am always suggesting that we are starting to see signs that there is a corner out there to be turned and that the fact that there are factors presenting that will at some point help make that turn.
We are also seeing that there are fewer impediments out there and signs of danger. Still there are other factors that remind us that we still have quite a long way to go. Foreclosures are building and adding to inventory at accelerating rates.
Mortgage interest rates have been moving upward and in fact have climbed some 100 basis points over the past couple of months. This negatively impacts affordability. Tax credit programs that have stimulated purchasers to make purchases are ending in California or coming close to an end nationally.
And unemployment and gas prices are on the rise. Today’s economic environment in the housing market is tenuous at best and still suggests a great deal of downside risk. But that’s materially better than the absolute hopelessness that has existed for so long.
In the context of difficult market conditions, Lennar’s strategy has been to streamline our core homebuilding operations for profitability and cash flow and to position as a pure play homebuilder in a stabilizing and then recovering market.
Concurrently, we have been focusing on the asset management side of our business and have fortified our balance sheet to provide a solid foundation for our operations and to be positioned for growth as market conditions stabilize.
We’ve continued to make significant progress in both of these areas. Our homebuilding operating strategy is well defined and focused at the divisional level. We have four operating regions – northeast, southeast, central and west and 29 homebuilding divisions. Each division is focused on reducing and refining its asset base, identifying its core communities and core product offering, generating current operating cash flow and operating at break even for profitability.
Since quarter end, I have continued my quarterly operation reviews by going out to each of our operating division to monitor progress and I am pleased to say that many of our divisions are already there and the ones that are not are well on their way. I can clearly see light at the end of this tunnel.
Divisions that are operating at a profitable level are beginning to look at distressed opportunities to grow and expand organically leveraging their well run operating platforms while divisions that have not yet achieved profitability are purely focused on getting there. How do they get there? It’s right product, right cost, flash price and right size G&A.
First, in every division we have reworked our product to appeal today’s value oriented, first time, and move-up purchasers. These are the customers that benefit most from the tax incentives being offered and from low interest rates. So today, we are focused on offering homes that are priced and designed to offer a great value in each market.
We also know that architecture and product by its nature very localized. The value equation is different from Baltimore to Dallas to San Francisco and as a result our product strategy is extremely market driven and designed to quickly adapt to market changes both up and down. Today, value defines the market while tomorrow the market may demand larger homes and greater specifications.
Given the continuing dynamic shifts in market driven consumer demand our operating systems are focused on speed to market for new products that adapt to current market sentiment and a detailed financial analysis of each product offering.
The second step to profitability has been to provide the right value proposition meaning the right price to the customer, which is defined by the right cost to construct and the right efficiencies in the field.
As customers have been demanding more affordable, smaller square footage homes and with volume declining in a shrinking market we focused on rebuilding a streamlined, centralized homebuilding machine that will thrive when the market stabilizes and will comfortably scale larger and adapt to changing customer demand as the market expands again.
Today, we have strategically centralized accounts payable, processing, and purchasing functions in three regional operating centers across the country and we significantly reduced our construction cost by having shared services executed by a small group of associates.
Through our regional operating centers we are able to quickly identify our most efficient and higher gross margin plan and provide detailed cost information to our operating division. Additionally, over the last year we have reduced the number of floor plans that we offer by approximately 30% in order to additionally promote efficiency.
Centralized purchasing through our regional operating centers had has allowed us to leverage on a nationwide basis, the expertise of three lean purchasing teams. These three teams have the most updated and detailed cost information so that pricing and cost knowledge is available to every division everyday. Over the past year we have debundled labor from materials in all of our bids which gives us incredible visibility and cost control. This purchasing structure allows us to procure materials and labor by unit cost versus purchasing by plan for community.
In each region we are buying materials and labor at the same price across all product line. Through this process we are able to identify the most cost effective plans to build and bring them to market quickly in any of our operating divisions. This approach has enabled us to reduce our cost per square foot by up to 20% even while the square footage size of our homes is down by approximately 12%.
As I have gone on my division tours I am seeing examples of where costs are being reduced even more than these averages and those cost reductions are translating into meaningful value propositions for our customers.
The third step to profitability for each division is the right sized operating team of homebuilding professionals with the right organizational structure to keep our SG&A low and profit from the market as it exists. Our regional operating structure works with our lean division operating teams to keep our fixed cost down and to stay focused on maximizing cash flow while generating bottom line profit.
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