September 16, 2013

Land Developer Rebounds After Lehman Collapse

By Patrick Fitzgerald
The Wall Street Journal

When Lehman Brothers filed for bankruptcy in the early morning of Sept. 15, 2008, the impact on one of the nation’s largest land developers, SunCal Cos., registered barely a footnote in the countless articles chronicling the collapse of the nation’s fourth-largest investment bank. But in California communities from San Clemente to Oakland, work on more than a dozen multimillion-dollar real-estate developments ground to a halt.

“It was chaos,” said SunCal President Stephan Elieff. The investment bank had been SunCal’s main lender during California’s real-estate bubble.

In the aftermath of Lehman’s collapse, it wasn’t clear who actually owned the SunCal properties. Lehman wasn’t even sure if the properties had been part of the billions of dollars in extra collateral that clearing bank J.P. Morgan Chase & Co. had demanded in the weeks before the bankruptcy.

In addition, the developments were facing significant health and safety issues after their funding source was cut off. On one SunCal property in Oakland, homeless began moving into an 11-story vacant naval hospital slated for destruction, starting fires to keep warm.

By November, SunCal was forced to put 21 of its Lehman-backed projects into bankruptcy.

“You may have a decade-long relationship, you may be a strategic client like we were, but once they go bankrupt, when you pick up the phone there is no relationship any longer, there is no good will,” Mr. Elieff said in an interview with The Wall Street Journal. “That’s just the way it works in bankruptcy. It’s all gone.”

Lehman spokeswoman Kimberly Macleod declined to comment for this article.

Lehman’s collapse, however, didn’t take out its one-time partner. Five years on, a leaner SunCal is back, snatching up smaller parcels of land and readying them for home builders. The family-owned developer has moved beyond its Irvine, Calif., base, opening offices in New York, Washington, D.C., and Las Vegas, and buying property in Nevada, Illinois, Virginia, Texas and Georgia.

Ironically, Mr. Elieff said, Lehman’s collapse and the resulting industry shakeup actually helped boost SunCal’s fortunes. For years SunCal had ridden California’s boom-to-bust real-estate cycles.

When the most recent bubble burst, Mr. Elieff said, SunCal was able to avoid bankruptcy itself but the company was forced to slim down.

When the dust from Lehman’s failure settled, however, SunCal was one of the few survivors among property speculators and was poised to diversify into other markets with help of private-equity investors and hedge funds looking to capitalize on depressed land values.

“Although we were beaten up, we emerged as one of the last players standing, and our platform is now nationwide,” he said.

The legal wrangling wasn’t pretty. SunCal and Lehman spent years trading blows in bankruptcy courts on both coasts over control of the projects.

The two had worked together during the golden years of the California real-estate market, with the investment bank pumping more than $3 billion into SunCal’s business of buying up huge parcels of California land, furnishing them with roads, water and power lines and then reselling them to home builders, according to documents filed in the bankruptcy cases.

It was a lucrative arrangement for Lehman’s real-estate arm. For example, Lehman, by partnering with SunCal on an 1,100-acre master-planned community near Sacramento, netted $120 million on an investment of about $20 million, according to people familiar with the deal. And this was just one deal, by no means the biggest, of more than two dozen the two companies worked on throughout California.

But the partners fell out as the housing bubble collapsed and Lehman spiraled into bankruptcy with billions of dollars in bad debt on its books.

In bankruptcy court, SunCal claimed Lehman reneged on a promise to fund its real-estate projects in an effort to gain control of the developments. Lehman said SunCal, which never filed for bankruptcy protection itself, failed to maintain the projects.

In the end, Lehman’s bankruptcy estate ended up with the bulk of SunCal’s projects, including Marblehead in San Clemente, one of the last big stretches of undeveloped land along the Orange County coast and considered the crown jewel of the SunCal portfolio.

SunCal got five of the Lehman-backed projects. It partnered with private-equity backers Colony Capital and Dune Real Estate Partners to reacquire two of them-the golf-oriented Fairway Canyon and Delta Coves in the heart of the California Delta-from Lehman.

Looking back, Mr. Elieff acknowledges that SunCal shouldn’t have pursued an exclusive partnership with Lehman. Before entering into the arrangement, the developer had teamed with a number of firms-including D.E. Shaw, Lone Star Funds and the Carlyle Group-in successful deals. At the top of California’s overheated real estate market, there were plenty of hedge funds and private equity investors looking for the high yields offered by the SunCal projects.

“Our mistake, at the end of the day, was to let ourselves get single-source financed,” said Mr. Elieff. “But we never expected to be part of the biggest bankruptcy in history.”