Pulte Homes CEO: We're Beginning to See the Bottom

Homebuilding executive Richard Dugas discusses the market turmoil and the outlook for recovery.

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Six years into his tenure as chief executive of Pulte Homes, 44-year-old Richard Dugas faces the challenge of a lifetime: steering the Bloomfield Hills, Mich.-based home builder through the worst housing slump since the Great Depression. In the face of an eroding labor market, tighter mortgage credit, and anemic consumer confidence, Pulte lost more than $500 million in the year's first quarter. But the downtrodden housing market hasn't rattled Dugas's resolve. In April, the company announced a $1.3 billion deal to acquire rival Centex, which, if approved, would create the largest home builder in the country. In a recent interview with U.S. News, Dugas discussed the challenges facing his industry, what he'd like to see from the government, and the reasons he pulled the trigger on the Centex deal.

Excerpts:

What are the most significant macroeconomic head winds that home builders like Pulte are facing today? We are well into the fourth year now of the housing downturn. There are supply problems, and there are demand problems. The supply problems right now are primarily foreclosures. On the demand side, I break it down into three problems: One is consumer confidence, two is the inability to sell your existing home, and three is mortgage availability. We are slowly working on all four of those issues.

Foreclosures are not abating, but they at least are [being absorbed]. About 50 percent of all resales in the last couple of months have been foreclosure sales. That's a huge number. On the consumer confidence side, we are just beginning to see the first few stories come out about unbelievable affordability in housing. It's a great time to buy. Mortgage rates are hitting a new low. The inability to sell your home will get taken care of when people start feeling confident about housing. And then on the mortgage availability side, thank goodness we've got the Federal Housing Administration program. A traditional mortgage today is typically about a 20 percent down payment, which is a big number for people. Whereas as long as you have good credit, you only have to have a 3.5 percent down payment to get an FHA loan. It has been a help.

When will the housing market hit bottom? I think we are beginning to see the bottom. We are seeing for sure the rate of decline lessen, and stabilization has to come before things improve. Most builders are indicating that they've seen a seasonal change from the fourth quarter to the first quarter. The fourth quarter was just disastrous. The first quarter has been not great from an earnings standpoint, but you have seen better sales numbers from almost all the builders. I think probably we will look back and say this was doggone close to the bottom. Unfortunately, it is going to be in hindsight that we are going to realize it.

Which, if any, of your markets are firming up quicker than expected? Looking at our results, it would be hard to characterize any that are stronger than expected. Here's what I would tell you: Washington, D.C., is beginning to turn--the Virginia market, especially. The Virginia side is a very desirable place to live, and perhaps the government expansion, which is typically underway under a Democratic Congress, has helped.

We are also seeing some signs of life in California, of all places. That is being driven by the state's $10,000 new-home buyer tax credit. It's just for new homes, but it is also--very importantly--a first-come, first-served program. When they run out of that money, it is over. So you are getting a surge right now of people saying, "Hey, I've got to get in." Now, of course, you are eligible to add the $8,000 federal credit to that if you are a first-time buyer. California has been as dead as a hammer for quite some time, so that's encouraging.

That $8,000 first-time home buyer tax credit was included in President Obama's stimulus package. How is this incentive affecting sales? It's helpful, but the problem is that it's not very well publicized. We do a good job of telling our buyers about it when they come in our models. But frankly, the media hasn't written a whole lot about it. In addition, it's my contention that it is so similar to the $7,500 tax credit that was in place beforehand. The $7,500 tax credit was really just an interest-free loan. You had to pay it back. But the $8,000 tax credit is a true credit. If the stimulus package had included a credit of $10,000--or some number that was significantly different from $7,500--I think you'd see a bigger impact.

What should the federal government be doing now to revive the housing market? I would love to see a larger demand tax credit. All the work on foreclosure prevention is nice, but it is not going to make nearly as much difference as if we could get demand started. We need a bigger tax credit that is available to all buyers. First-time buyers are a big part of the market, but they are not everything. If you had a $15,000 or $20,000 tax credit and you said, "Look, get it while it's hot, it's only going to be here for six months," I think you would see a real rush to housing. Frankly, we have already told that to the administration and both houses of Congress. Everybody seems to acknowledge the role that housing plays in the economy, but politically there is still a group of legislators who feel like builders caused the problem. We couldn't disagree more with that. Our view is that the problem was incredibly lax underwriting rules that attracted a tremendous amount of investors into the market three or four years ago.

What are you doing to compete with all those foreclosed homes on the market? We are introducing smaller homes and more affordable homes. For example, we might offer a 1,200-square-foot home where 1,500 square feet might have been selling three or four years ago. That size difference can have a significant purchasing-price implication. We are also working with our vendors to lower the cost of the actual home construction so we can compete more effectively with foreclosures. But it's not just about dropping your price from $250,000 to $220,000. It's about lowering the cost of the home to where you can afford to do that and still have a shot at making money. We do that through features that are less expensive in the home and through floor plans that emphasize efficient building practices.

How will the homes you build 10 years from now be different from those you are building today? Almost all of them--instead of some of them--are going to be leading in energy efficiency. Low-flow toilets, high-efficiency furnaces, air infiltration barriers vis-à-vis the windows and siding. Definitely solar is going to be more important. We opened our first solar community in Las Vegas earlier this year. Believe it or not, we are selling pretty well.

Why did you decide to merge with Centex at such a tenuous time for the economy and the housing market? One of the big reasons for that was to help the companies--whether we are at the bottom or not--get back to profitability quickly. You can't time the bottom in this industry. But I will tell you this: Whether we are at the bottom or if we have two more years to go, we will be more profitable as a combined entity than we would have been alone because we are going to be able to leverage our workforce over a more appropriate level of volume. We had gotten to the level of diminishing returns on our job cuts. Another benefit is the geographic fit. Pulte was weak in Texas and for traditional buyers in the Carolinas. Those are Centex strongholds.

When you do something like this, it either makes sense on its merits or it doesn't. You can't get all caught up in "Did I pick the exact right window to do it?" Clearly, it makes a lot more sense near the bottom than it did near the top. Are we at the exact bottom? I don't know. But this is the kind of thing where you have to prove it to the world. People are going to write what they want to write about whether this is the right time. I am very confident that early next year, people are going to be saying, "Wow, that was a pretty good deal."

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