Hovnanian Enterprises, Inc. — FY2011 Form 10-K
Business and period. Hovnanian designs, builds and sells homes across six U.S. homebuilding segments and provides mortgage and title services. This filing covers the fiscal year ended October 31, 2011; the fourth quarter ended that date.
Financial and operating results
| Metric | FY2011 | Prior comparable period |
|---|---|---|
| Total revenue | $1.135 billion | $1.372 billion in FY2010, down 17.3% |
| Net income (loss) | $(286.1) million; $(2.85) per share | $2.6 million; $0.03 per share in FY2010 |
| Operating cash flow | $(207.4) million | $32.5 million provided in FY2010 |
| Homes delivered, consolidated | 3,832 | 4,729 in FY2010, down 19.0% |
| Homebuilding gross margin before interest and land charges | 15.6% | 16.8% in FY2010 |
| Inventory impairments and land-option write-offs | $101.7 million | $135.7 million in FY2010 |
Home sale revenue was $1.072 billion, down 19.2%; average selling price was nearly flat at $279,873 versus $280,715. Financial services earned $8.1 million pretax profit, compared with $8.9 million in FY2010. The fourth quarter reported revenue of $341.6 million and a net loss of $98.3 million, including $59.9 million of inventory impairment and land-option charges.
At October 31, 2011, total assets were $1.602 billion, cash and cash equivalents were $250.7 million, and restricted cash was $77.6 million. Total equity was a deficit of $496.6 million. Debt excluding nonrecourse secured debt and financial-subsidiary debt was $1.617 billion face amount ($1.603 billion net of discount); debt service payments during FY2011 were $157.3 million. The company had no revolving credit facility. Its mortgage warehouse facility had a $50 million limit and $49.7 million drawn at year-end.
Changes, outlook and key risks
- Revenue, deliveries and gross margin declined year over year amid weak housing demand, tighter mortgage underwriting and lower sales pace. Net sales contracts were $1.130 billion, up 1.1% in value, while the number of homes contracted fell to 4,023 from 4,206. Backlog, including unconsolidated joint ventures, rose to 1,663 homes worth $552.4 million from 1,394 homes worth $437.9 million.
- Operating cash use reflected roughly $400 million spent on land and development. Cash declined $116.4 million during the year. Management said available sources should be sufficient through FY2012, but also anticipated continued negative cash flow after land purchases and acknowledged liquidity could be inadequate if housing conditions failed to improve.
- Management’s strategy is to preserve liquidity, control costs and selectively acquire land at returns it considers acceptable. It described the housing recovery as uncertain and identified high unemployment, weak confidence and foreclosures as continuing obstacles. No specific earnings or revenue guidance was provided.
- Impairment estimates depend on community-level assumptions for prices, incentives, construction costs, sales pace and cancellations. Further deterioration could require additional write-downs. Inventory was $968.1 million net of substantial prior impairments; 59 communities were mothballed.
- Debt, covenant restrictions and limited financing access are material concerns. The company reported credit-rating downgrades during FY2011, including an S&P selective-default rating in October; subsequent upgrades and rating actions are described in the filing. Dividends on common and preferred shares were restricted. In November 2011, the company exchanged $195 million of unsecured notes for secured notes due 2021 and separately repurchased approximately $44 million face amount of notes for about $19 million.
- Other exposures include mortgage-investor claims under loan-sale representations and warranties, construction-defect and warranty claims, and potential additional land-option losses. The filing describes Chinese-drywall claims involving 47 homes in multidistrict litigation; estimated liability was reserved. A storm-water consent decree required a $1.0 million payment and ongoing compliance measures. Management said ordinary-course litigation was not expected to materially affect results.
Investor verification priorities
- Review near-term liquidity, cash burn, restricted cash and the availability and terms of credit and letter-of-credit facilities.
- Verify debt maturities, interest burden, covenant compliance, collateral pledged and the effects of subsequent exchanges and repurchases.
- Track sales pace, cancellations, backlog conversion, incentives and home prices by market, especially in the Northeast and West.
- Assess impairment sensitivity and the assumptions supporting land values, option deposits and mothballed communities.
- Evaluate the realizability of tax attributes: the company reported $1.3 billion of federal NOLs and an $899.4 million valuation allowance; Section 382 ownership-change limits may restrict use.
Audit note: Deloitte & Touche issued unqualified opinions on the consolidated financial statements and internal control over financial reporting as of October 31, 2011.