Cancelation Rates Returning to Normal

We give you 3 simple steps to help you reduce your rate of new home sales cancelations

By Pat Curry, HousingZone.com Contributing Editor
October 1, 2009
HousingZone

During the real estate boom years, demand was so high and values rose so rapidly that builders didn't particularly care about their cancelation rates. After all, if a contract fell through, they could sell the same house to someone else for more money. Since the market collapse, however, builders have struggled to hang on to every sale, hampered by a lack of buyer confidence, competition from foreclosures and short sales, the tough credit market, and appraisal problems. As recently as six months ago, cancelation rates were painfully high at 30 percent or more.

Recently, though, builders nationwide are reporting a return to normal cancelation rates in the mid- to high teens. A September survey of 269 public and private builders by John Burns Real Estate Consulting said that 61 percent of the executives reported cancellation rates between 1 percent and 15 percent. 

Irvine, Calif.-based MBK Homes has seen its cancelation rate drop from 22 percent at the first of the year to 13 percent now, and the reasons for cancelations have completely changed.

"The majority of cancelations we were having last year were due to buyers not having the confidence to proceed with the purchase," says Rick Fletcher, MBK's vice president of sales and marketing. "What’s happened now is cancellations due to buyers who want to purchase but can’t qualify. They want to buy, but it's much more difficult to get a loan."

In addition to the practical need to get buyers to the closing table, builders are working hard to keep their cancellation rates low because their lenders and Wall Street are scrutinizing those numbers.

"Wall Street has viewed lower cancellation rates as a signal that the bottom is coming," says John Rymer, president of Rymer Strategies, a sales advisory group for new-home builders.

"The public builders are very keen to try to show those numbers low and therefore their stock prices will rise. It’s taken on a life of its own. When they come out with lower cancelation rates, Wall Street views that as consumers feel better about buying a house."

Cancelation rates are important to stock analysts, says Josh Levin, an equity research analyst in the home-building sector for Citi Investment Research.

"When you own a stock, you think about future earnings. If cancelations are going up, it will affect future earnings."

Pushing pre-qualification with preferred lenders

Consequently, builders are being much more careful about who gets to sign a contract and what gets reported as a sale. The key has been a detailed sales process that includes pre-qualifying all buyers before a contract is signed.

"We make sure we pre-qualify before we write a single contract; the lenders like that," says Graham Hughes, national vice president for sales and marketing with Scottsdale, Ariz.-based Taylor Morrison. 

Taylor Morrison's cancelation rate is in the high teens, Hughes says, a rate he says they've been able to achieve by making sure customers understand the impact of their choices.

"The HVCC laws for valuations are making sure we're settling setting expectations realistically for customers," Hughes says. "We're saying to people bluntly, 'You could buy this house for $300,000 and put in $150,000 worth of options, but you won't get your value out of it, so let's be realistic.’ We've done a lot of training on this."

Owensboro, Ky.-based Jagoe Homes has been doing a fair bit of training itself on the subject, and has lowered its cancellation rate from as high as 50 percent to a current rate of 18 percent. Sales associates know to bring up financing and pre-qualification on a prospective buyer’s first visit to a community. They have incentives for buyers to pre-qualify with Jagoe’s preferred lender. The lender speaks with the customer, pulls their credit report, and calls back with an initial approval within 10 minutes.

“Any builder that is not tying their sales process directly to the financial process will undoubtedly end up with a higher cancelation rate,” sales manager David Crowe says. “If I’m competing against a builder who will write up a contract and then send them out the door to get financed, I’ll continue to outsell them and have lower cancelation rates.” 

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