D.R. Horton, Inc. — Q1 FY2012 Form 10-Q
Reporting period: Three months ended December 31, 2011; comparisons are with the three months ended December 31, 2010 unless stated otherwise. D.R. Horton builds and sells homes across 25 states and 73 U.S. markets and also provides mortgage and title services. Amounts are in millions except per-share data.
Financial performance and liquidity
- Revenue: Consolidated revenue was $906.6, up 15% from $788.2. Homebuilding revenue was $885.6, up 15%; financial services revenue was $21.0, down 1%.
- Profit: Pretax income was $29.2, versus a pretax loss of $19.9. Net income was $27.7, or $0.09 per diluted share, compared with a net loss of $20.4, or $0.06 per share.
- Homebuilding margins and costs: Home-sales gross margin rose to 16.8% from 15.6%; total homebuilding gross margin was 16.8% versus 14.4%. SG&A was nearly unchanged at $119.0, but fell to 13.4% of homebuilding revenue from 15.5%. Homebuilding pretax income was $25.0 versus a loss of $24.1.
- Financial services: Pretax income was $4.2, unchanged year over year. Mortgage capture rate fell to 60% from 62%.
- Cash flow: Operating activities used $3.3 of cash, versus $49.5 provided in the prior-year quarter. Investing activities used $0.8; financing activities provided $9.6. Cash and cash equivalents ended at $738.1.
- Liquidity and debt: Homebuilding cash and marketable securities totaled approximately $1.0 billion. Homebuilding notes payable were $1.582 billion, down slightly from $1.588 billion at September 30, 2011; the mortgage repurchase facility had $146.0 outstanding. Net homebuilding debt to total capital was 17.5%, versus 18.0% at September 30, 2011 and 17.0% a year earlier. Total equity was $2.65 billion.
- Operating indicators: Homes closed increased 13% to 4,118; average closing price rose 3% to $214,700. Net sales orders increased 13% by units and 17% by value to $823.2. Backlog grew 18% to 4,530 homes valued at $975.0. Cancellation rate improved to 26% from 28%.
Material changes versus the prior period
- Improved home closings, gross margins, lower impairment charges and reduced interest expense drove the return to quarterly profitability. Inventory impairment charges and land-option cost write-offs totaled $1.4, down from $8.4.
- Homebuilding interest incurred declined 21% to $27.9, and directly expensed interest fell to $6.9 from $16.2. Homebuilding debt was $1.6 billion, compared with $2.0 billion at December 31, 2010.
- Sales growth was broad but uneven: five of six regions increased net-order volume; the Southwest remained weak, with net orders down 2% and homes closed down 11%.
- Operating cash flow reversed to a modest use of cash, while cash balances remained substantial. Homebuilding inventory was $3.479 billion, slightly above $3.450 billion at September 30, 2011.
Outlook, risks and contingencies
- Management said demand remained low, though recent sales trends and national housing data suggested stabilization. It expected the usual seasonal pattern to continue and stated it expected profitability in fiscal 2012 if market conditions did not deteriorate; this is conditional outlook, not quantified earnings guidance.
- Management cited a strong balance sheet and liquidity as flexibility to pursue market opportunities. Strategy includes controlling land and development spending, using lot-option contracts, managing pricing and incentives, limiting unsold-home construction, and controlling SG&A.
- Key risks include prolonged economic weakness and unemployment, higher mortgage rates or tighter lending standards, constrained credit and capital access, housing-market and inventory impairment risk, construction costs and supply, substantial debt, and the ability to realize deferred tax assets.
- The company recorded a full valuation allowance against $837.1 of net deferred tax assets. It reported a three-year cumulative pretax loss of $355, which limits evidence supporting recovery of those assets; some state NOL benefits may be difficult to realize.
- Construction-defect and other litigation liabilities were $529.2, with related insurance receivables of $216.5. Management said losses beyond recorded reserves cannot reasonably be estimated and could result in significant additional charges. Chinese drywall claims included a $0.7 repair liability; potential recoveries were not recorded.
- A Department of Labor investigation into compliance with wage-and-hour laws was unresolved; the company had not recorded a liability and could not estimate potential costs. The mortgage subsidiary’s $180 facility matured March 4, 2012; renewal or replacement is important to financial-services liquidity. About 76% of mortgage loans sold in the quarter went to one major financial institution.
- Land and lot option contracts represented $995.7 of remaining purchase price, supported by $15.8 in deposits; a limited subset with $6.9 of remaining purchase price had specific-performance provisions. Letters of credit were $42.5 and surety bonds $664.4.
Investor facts to verify
- Whether order growth, backlog conversion and cancellation trends persisted beyond this seasonally weaker first fiscal quarter.
- Whether home-sales margins and impairment assumptions held up amid continued market uncertainty, particularly in the West, Florida and Arizona.
- Cash generation, land spending and progress against management’s leverage and liquidity objectives.
- Renewal or replacement of the mortgage repurchase facility and diversification of mortgage loan purchasers.
- Developments in construction-defect litigation, insurance recoveries, the Department of Labor inquiry and the deferred-tax valuation allowance.