D.R. Horton, Inc. — Form 10-Q Summary
Reporting period: Fiscal second quarter and six months ended March 31, 2014; unaudited. D.R. Horton is a U.S. homebuilder operating in 77 markets across 27 states, with mortgage and title services. Comparisons below are to the corresponding 2013 periods unless noted.
Financial and operating performance
- Second-quarter revenue and earnings: Total revenue was $1.735 billion, up 21%; pre-tax income was $201.9 million, up 42%; net income was $131.0 million, up 18%; and diluted EPS was $0.38, versus $0.32.
- Six-month results: Total revenue was $3.406 billion, up 26%; pre-tax income was $391.6 million, up 57%; net income was $254.1 million, up 43%; and diluted EPS was $0.73, versus $0.52.
- Homebuilding: Second-quarter revenue was $1.697 billion, up 22%, and pre-tax income was $191.7 million, up 50%. Home sales gross margin rose 210 basis points to 22.5%; homebuilding pre-tax margin increased to 11.3% from 9.2%. For six months, homebuilding revenue was $3.332 billion and pre-tax income was $373.6 million; home sales gross margin rose 280 basis points to 22.4%.
- Sales activity: Second-quarter closings rose 10% to 6,194 homes, with average closing price up 12% to $271,200. Net orders rose 9% to 8,569 homes and 20% in value to $2.390 billion. Backlog at quarter-end increased 5% to 10,059 homes, valued at $2.824 billion, up 18%.
- Financial services: Second-quarter revenue fell 7% to $38.4 million and pre-tax income fell 31% to $10.2 million. Six-month revenue fell 12% to $73.3 million and pre-tax income fell 44% to $18.0 million.
- Cash flow: In the six months, operating activities used $266.9 million, compared with $840.3 million used in 2013. Investing activities used $71.0 million; financing activities provided $352.8 million. Cash and cash equivalents increased $14.9 million to $951.4 million, including $930.8 million in homebuilding and $20.6 million in financial services.
- Balance sheet and liquidity: At March 31, total assets were $9.373 billion, total liabilities $5.023 billion and total equity $4.350 billion. Homebuilding inventory was $6.784 billion, up from $6.197 billion at September 30, 2013. Restricted cash was $79.8 million.
- Debt: Homebuilding notes payable were $3.638 billion, up from $3.270 billion at September 30, 2013; the mortgage repurchase facility had $223.8 million outstanding. Gross homebuilding debt to total capital was 45.5%, and net homebuilding debt to total capital was 38.4%, up from 36.7% at September 30. The $725 million revolving credit facility had no borrowings outstanding, with $70.5 million of letters of credit issued under it. The company reported compliance with debt covenants.
- Tax and dividends: The effective tax rate was 35.1% for both the quarter and six-month period, versus 21.9% and 29.1%, respectively, in 2013. A quarterly dividend of $0.0375 per share was paid in February; another $0.0375 dividend was approved in April for payment in May.
Material changes and management commentary
- Management attributed improved homebuilding results to stronger demand in many markets, constrained housing supply, higher sales prices and improved margins. Home sales revenue increased in five of six regions for the six-month period; the Southwest region remained weaker, particularly in Phoenix.
- Management expects growth in housing demand to be slow to moderate in markets with job growth, and says future average selling-price increases may be more limited as supply and demand balance. It also cautions that construction costs and interest amortized to cost of sales could rise, potentially pressuring margins.
- Inventory investment continued: homes in inventory increased to 17,600 from 17,000 at September 30, and homebuilding inventory rose to $6.8 billion. Owned and controlled lots totaled 171,600, down from 180,900 at September 30.
- The October 2013 Regent Homes acquisition cost $34.5 million in cash and added operations and land positions in North Carolina. Management said the acquisition was not material to consolidated results or financial condition.
- Financial-services profitability weakened amid lower mortgage capture rates, competition and reduced mortgage-sale gains. DHI Mortgage’s capture rate fell to 51% in the quarter from 58%; management also cited higher staffing and regulatory-compliance costs.
- Cash use remained significant as the company invested in homes, land and lots. Management said it expects inventory investment to grow at a slower pace as markets balance, but will continue to adjust investment to demand and market performance. It believes current cash and credit facilities provide sufficient near-term liquidity.
Risks, contingencies and unusual items
- Near-term maturity: Approximately $499.9 million principal amount of 2% convertible notes was due May 15, 2014, convertible into about 38.6 million shares at approximately $12.96 per share. The company stated its intent to settle conversion obligations in shares. The filing reports the notes as due shortly after quarter-end; investors should verify the subsequent outcome.
- Legal and warranty exposures: Reserves for legal claims were $454.2 million at March 31, primarily for construction-defect matters, with related insurance receivables of $136.1 million. The company warns actual claims, costs and insurance recoveries may differ materially from estimates. Warranty liability was $57.3 million.
- Land commitments: Option contracts covered land and lots with approximately $1.8 billion of remaining purchase price, against $41.3 million of deposits and related support. A limited number, representing $11.6 million of purchase price, had specific-performance provisions. The company also had $748.3 million of surety bonds and $75.2 million of letters of credit, with the letters of credit cash-collateralized.
- Inventory impairment: The company recorded $2.3 million of impairment charges in the six months, versus none in the comparable 2013 period, and wrote off $4.8 million of land-option deposits and pre-acquisition costs. Further impairments could result if market or community-level conditions deteriorate.
- Other sensitivities: Results are exposed to housing demand, employment, affordability, mortgage rates and credit availability; land and construction costs; mortgage repurchase claims; debt and covenant risks; and the ability to renew or extend DHI Mortgage’s repurchase facility, which matures in February 2015.
- Cash-flow presentation corrections: The filing describes immaterial classification revisions to supplemental consolidating cash-flow statements, including a correction related to the Regent Homes acquisition. Management said these changes did not affect the consolidated financial statements or notes.
- Seasonality: Management generally expects more closings, revenue and operating income in the third and fourth fiscal quarters; quarterly results and working-capital needs may therefore vary seasonally. No specific quantified earnings or revenue guidance was provided.
Most important facts for investors to verify
- How the May 2014 convertible-note maturity was settled, including the actual shares issued and any cash component.
- Whether orders, backlog and home closings continue to convert into revenue, particularly given cancellation rates of 19% for the quarter and 21% for the six months.
- Whether homebuilding margins hold as price increases moderate and construction costs or interest amortization rise.
- Whether operating cash use and inventory growth slow as management expects, and how leverage evolves relative to its stated long-term net-debt-to-capital range of 40%–45%.
- Developments in construction-defect claims, legal reserves and insurance recoveries, as well as DHI Mortgage’s repurchase exposure and facility renewal.
- Regional performance, especially continued softness in the Southwest, and mortgage capture rates and financial-services profitability.