Toll Brothers, Inc. — Form 10-Q Summary
Business Context and Reporting Period
Toll Brothers is a luxury residential homebuilder operating in the North, Mid-Atlantic, South and West regions of the United States. This unaudited Form 10-Q covers the quarter and nine months ended July 31, 2010, within fiscal 2010, compared primarily with the corresponding 2009 periods.
Management described the housing market as weak and volatile, citing unemployment, constrained mortgage availability, foreclosures, reduced consumer confidence and lower home prices. The Company was selling from 190 communities at July 31, 2010, compared with 215 a year earlier, and had 54 communities temporarily closed due to market conditions.
Key Financial Metrics
| Metric | Three Months Ended July 31, 2010 | Three Months Ended July 31, 2009 | Nine Months Ended July 31, 2010 | Nine Months Ended July 31, 2009 |
|---|---|---|---|---|
| Revenue | $454.2 million | $461.4 million | $1.092 billion | $1.269 billion |
| Operating loss | $(10.5) million | $(118.8) million | $(136.3) million | $(412.3) million |
| Loss before tax | $0.8 million | $(111.3) million | $(107.7) million | $(389.7) million |
| Net income (loss) | $27.3 million | $(472.3) million | $(53.9) million | $(644.4) million |
| Diluted EPS | $0.16 | $(2.93) | $(0.33) | $(4.00) |
| Cost of revenues as percentage of revenue | 86.4% | 110.9% | 93.0% | 113.9% |
| SG&A as percentage of revenue | 14.8% | 15.6% | 17.8% | 18.4% |
Reported results benefited substantially from lower inventory impairment charges and lower deferred-tax valuation adjustments than in 2009. Excluding inventory impairments, cost of revenues was 83.6% of revenue in the quarter and 85.0% for the nine months.
- Inventory: $3.257 billion at July 31, 2010, compared with $3.184 billion at October 31, 2009. Nine-month inventory impairment charges were $88.2 million, versus $379.9 million in 2009.
- Cash and liquidity: Cash and cash equivalents were $1.435 billion; marketable U.S. Treasury and Agency securities were $205.8 million. Combined cash and marketable securities totaled approximately $1.64 billion.
- Operating cash flow: $(62.5) million for the nine months, versus $57.0 million provided in 2009. Cash use reflected inventory investment and losses, partly offset by a $152.7 million tax refund.
- Debt: Loans payable were $410.4 million, senior notes were $1.554 billion, and the mortgage warehouse loan was $47.3 million. Total debt book value, including unamortized items and excluding certain presentation differences, was approximately $2.02 billion.
- Credit facility: The $1.89 billion facility extended to March 2011, with $331.7 million outstanding under the term loan, no revolving borrowings and approximately $164.6 million of letters of credit. Approximately $1.39 billion remained available under the revolving facility.
- Leverage and net worth: The reported leverage ratio was approximately 0.26 to 1.00 versus a maximum of 2.00 to 1.00; tangible net worth was approximately $2.47 billion versus a required minimum of approximately $1.88 billion.
- Backlog: $939.4 million representing 1,636 homes at July 31, 2010, compared with $930.7 million and 1,626 homes a year earlier.
Material Changes Versus the Prior Comparable Period
- Nine-month revenue declined 13.9%, driven by a 7.7% decrease in homes delivered and a 6.7% decrease in average delivered price. Quarterly revenue declined 1.6% despite a 1.4% increase in homes delivered because average price declined 2.9%.
- Nine-month net contracts increased 32.4% to $1.157 billion and 2,047 homes, but quarterly net contracts declined 10.6% to $400.1 million and 701 homes.
- Cancellation rates improved materially: 6.0% by homes for the nine months and 6.2% for the quarter, compared with 19.0% and 8.5%, respectively, in 2009.
- SG&A declined $39.9 million, or 17.1%, for the nine months and $4.9 million, or 6.8%, for the quarter, reflecting lower compensation, advertising, promotion, model operating and insurance costs, as well as reversals of previously accrued litigation costs.
- Directly expensed interest increased to $18.6 million for the nine months from $1.8 million in 2009, reflecting lower qualifying inventory available for interest capitalization.
- The 2010 quarterly result included $12.5 million of inventory impairments versus $109.7 million in 2009. Nine-month impairment charges were $88.2 million versus $379.9 million.
- The 2010 nine-month tax benefit was $53.9 million, compared with a $254.7 million tax provision in 2009. The 2009 provision reflected substantial deferred-tax valuation allowances; the Company had valuation allowances against its entire $503.7 million of net deferred tax assets at July 31, 2010.
- The Company reduced debt through repayments, redemptions and open-market purchases, including $35.5 million of senior notes purchased during the quarter. It redeemed the remaining $47.9 million of senior subordinated notes in December 2009.
Guidance, Outlook, Risks and Unusual Items
- Management estimated fiscal 2010 deliveries of 2,500 to 2,700 homes, including 560 to 760 homes in the fourth quarter, with an average delivered price of $560,000 to $570,000.
- Management expected fourth-quarter gross margin before interest and write-downs to exceed the fiscal 2009 fourth-quarter level. Fourth-quarter SG&A was expected to decline in absolute dollars but increase as a percentage of revenue.
- The Company controlled approximately 35,800 home sites at July 31, 2010, including approximately 29,200 owned sites, and had acquired control of more than 5,800 lots during the first nine months.
- Land purchase agreements expected to be acquired had an aggregate purchase price of approximately $592.2 million; approximately $503.8 million of additional payments would be required if all such parcels were acquired, subject to credits and amounts already accrued.
- Investments in and advances to unconsolidated entities totaled $193.5 million. The Company reported approximately $60.3 million of guaranteed debt exposure and estimated maximum exposure under certain completion and conditional repayment guarantees of approximately $50.3 million, net of accrued amounts.
- At July 31, 2010, mortgage funding commitments totaled $510.3 million, including $196.7 million of interest-rate-lock commitments.
- Outstanding surety bonds totaled $470.6 million, including $401.0 million primarily related to community improvements. The Company estimated $165.1 million of work remained on those improvements.
- Key risks include further housing-market deterioration, lower sales pace or prices, cancellations, mortgage-credit constraints, additional inventory or joint-venture impairments, land-approval delays, refinancing and liquidity risk, interest-rate exposure, construction and warranty claims, and legal proceedings.
- The Company was engaged in discussions with the DOJ and EPA concerning alleged storm-water discharge violations. A securities class-action settlement had been reached in principle, subject to court approval, with the settlement amount expected to be funded by insurers. Chinese-made drywall claims remained pending, although management believed related accruals were adequate.
- A 1% increase in variable-rate interest rates would increase annual interest expense by approximately $3.9 million, based on debt outstanding at July 31, 2010.
Most Important Facts for Investors to Verify
- Whether the improvement in quarterly profitability is sustained after the reduction in impairment charges and tax-related benefits.
- Future inventory valuations, particularly the $3.26 billion inventory balance and the assumptions for sales pace, pricing and absorption.
- Fourth-quarter deliveries, average selling price, gross margin and SG&A relative to management’s guidance.
- Liquidity after the March 2011 credit-facility maturity, including refinancing terms and availability of replacement financing.
- Cash conversion, given nine-month operating cash outflow and continued investment in inventory, land and unconsolidated entities.
- Exposure from joint-venture guarantees, land commitments, mortgage commitments, surety bonds and pending litigation.
- Whether the backlog of $939.4 million converts to deliveries without elevated cancellations or additional incentives.