PulteGroup, Inc. — Q2 2014 Form 10-Q
Business context and period: U.S. homebuilder with mortgage banking and title operations. This unaudited filing covers the quarter and six months ended June 30, 2014; comparisons are with the same 2013 periods unless noted.
Key financial results
| Metric | Q2 2014 | First half 2014 |
|---|---|---|
| Total revenue | $1,286.2 million, up 0.5% | $2,405.1 million, down 1.5% |
| Income before taxes | $67.7 million, versus $38.3 million | $197.7 million, versus $120.7 million |
| Net income | $41.9 million, versus $36.4 million | $116.7 million, versus $118.2 million |
| Diluted EPS | $0.11, versus $0.09 | $0.30, versus $0.30 |
| Home sale gross margin | 23.6%, up 480 bps | 23.7%, up 530 bps |
| Operating cash flow | Not separately presented | $74.3 million, versus $335.1 million |
Home sale revenue rose 2% in Q2 and 1% for the first half as average selling prices increased 12% and 11%, respectively, offset by 9% fewer closings in both periods. First-half net income was slightly lower despite substantially higher pretax income, reflecting a more normalized 2014 tax provision; 2013 tax expense was unusually low and primarily reflected changes in unrecognized tax benefits.
At June 30, cash and equivalents were $1.17 billion, restricted cash $101.6 million, and total assets $8.47 billion. Senior notes were $1.82 billion and Financial Services debt was $58.5 million. Debt to total capitalization, excluding Financial Services borrowings, was 28.1%. Shareholders’ equity was $4.64 billion.
Performance, changes, and capital allocation
- Homebuilding pretax income was $58.6 million in Q2 and $167.0 million for the first half, versus $22.0 million and $90.0 million. Improved gross margins were a key driver.
- SG&A was $229.8 million in Q2, up 53%, and $374.7 million for the first half, up 34%. The increase primarily reflected an $84.5 million charge to raise general-liability insurance reserves, as well as headquarters relocation and higher operating costs. SG&A was 18.4% of home sale revenue in Q2 versus 12.3% a year earlier.
- Q2 closings fell 9% to 3,798 homes; average selling price increased 12% to approximately $328,000. Net new orders decreased 2% to 4,778 units, while order dollars rose 5%. First-half closings and orders declined 9% and 4%, respectively.
- Backlog at June 30 was 8,179 homes, down 4% in units but up 2% in value to $2.77 billion. Active communities numbered 589, down 6% year over year.
- Financial Services pretax income declined 44% in Q2 to $9.1 million; first-half income was essentially flat at $30.7 million. Lower mortgage revenue reflected reduced originations, a lower capture rate, and competitive loan pricing. First-half results included an $18.6 million reduction in mortgage repurchase reserves.
- First-half operating cash flow was positive but materially lower year over year, principally because inventory increased $249.9 million amid seasonal homebuilding and land investment. Investing cash use was $60.3 million; financing cash use was $423.4 million. Cash fell $409.4 million during the half.
- The company retired $245.7 million of senior notes early, recording $8.6 million of losses; repurchased 5.0 million shares for $97.6 million; and declared two $0.05-per-share dividends totaling approximately $38.0 million. Remaining repurchase authorization was $136.7 million.
Outlook, risks, and unusual items
- Management described the U.S. housing recovery as being in its early stages, citing low new-home sales relative to historical levels, affordable payments, and improving prices. It expects disciplined land investment and sales-pace management to support margins and returns, while acknowledging that this may moderate near-term order growth relative to the industry. No specific revenue, earnings, or margin guidance was provided.
- Management cautioned that higher mortgage rates could moderate demand and pricing, while labor and material cost inflation could pressure margins. It also noted weaker activity in the Southwest compared with the strong first half of 2013 and ongoing mortgage-industry pricing competition.
- General-liability and other insurance reserves were $746.4 million, up from $668.1 million at year-end. The company disclosed a reasonably possible loss range of $700 million to $850 million; approximately 75% of general-liability reserves related to incurred-but-not-reported claims. The Q2 reserve increase was primarily associated with siding repairs in previously completed communities and related actuarial estimates.
- Mortgage loan repurchase liabilities were $62.7 million at June 30, down from $125.0 million at year-end after settlements, payments, and an $18.6 million reserve reduction. Actual claims could differ from estimates. Potential Centex mortgage indemnification exposure related to certain RMBS transactions could not yet be quantified; management did not expect a material adverse effect.
- Other exposures include $194.1 million of outstanding letters of credit, $973.9 million of surety bonds, and $1.6 billion of remaining purchase price under land options. The company reported $159.7 million of gross unrecognized tax benefits, plus $35.4 million of related interest and penalties; up to $127.9 million of gross benefits could decrease within twelve months.
- After quarter-end, on July 23, 2014, PulteGroup entered a new unsecured revolving credit facility of up to $500 million, maturing July 21, 2017, with an uncommitted option to increase to $1.0 billion. The facility has financial covenants, and the company reported compliance at execution.
Important facts for investors to verify
- Whether higher home prices and improved gross margins can persist as closings and net orders remain below prior-year levels, particularly in the Southwest and Northeast.
- The assumptions, actuarial sensitivity, and future cash costs underlying the $746.4 million insurance reserve and disclosed $700–$850 million possible-loss range.
- Whether operating cash generation improves as inventory and land investment rise, and how management balances investment with buybacks, dividends, and debt reduction.
- The sustainability of Financial Services earnings amid lower capture rates, competitive mortgage pricing, and remaining repurchase and indemnification exposures.
- Near-term liquidity and covenant capacity, including renewal or replacement of the mortgage repurchase agreement expiring in September 2014 and the transition to the new revolver as the primary letter-of-credit source.