BEAZER HOMES USA INC quarterly report, Q1 FY2012

Beazer Homes USA, Inc. — Fiscal 2012 First Quarter 10-Q

Business context and reporting period

This Form 10-Q covers the three months ended December 31, 2011, Beazer Homes’ fiscal 2012 first quarter. The company operated three homebuilding segments—West, East and Southeast—in 16 states, and a developing Pre-Owned Homes business in Arizona and Nevada. Results exclude discontinued operations, including exited markets and title services.

Key financial metrics

Metric	Q1 FY2012	Q1 FY2011
Total revenue	$188.5 million	$109.0 million
Gross profit	$22.3 million	$11.3 million
Total gross margin	11.8%	10.3%
Operating loss	$16.7 million	$28.1 million
Loss from continuing operations before taxes	$35.0 million	$48.9 million
Net income (loss)	$0.7 million	$(48.8) million
Basic EPS	$0.01	$(0.66)
Cash flow from operations	$(71.1) million	$(137.0) million

Homebuilding revenue increased 72.0% to $186.9 million, driven by 867 closings versus 519 and a 3.0% increase in average selling price to $215,500.
Net new orders increased 35.6% to 724 homes, while cancellation rates were 31.4% versus 35.1%. Backlog increased 66.1% to 1,307 homes, with aggregate value of $315.8 million versus $198.0 million.
Gross profit included an $11.0 million recovery related to previously incurred water-intrusion warranty and legal costs. Excluding warranty recoveries, gross profit was $11.3 million versus $9.9 million in the prior-year quarter.
Homebuilding gross margin was 11.4%. Excluding inventory impairments and abandonments and interest amortized to cost of sales, homebuilding gross margin was 20.2%, or 14.3% excluding the current-quarter warranty recovery.
General and administrative expense declined to $28.2 million from $32.5 million, reflecting prior headcount, office-space and management cost reductions.
The $35.7 million income-tax benefit was primarily non-cash and reflected tax planning that enabled recognition of $27.1 million of previously unrecognized tax benefits. The reported effective tax rate from continuing operations was 102.0%.
Cash and cash equivalents were $272.5 million at December 31, 2011, down from $370.4 million at September 30, 2011. Restricted cash was $277.2 million, including $247.4 million supporting the cash-secured loan. Combined cash and restricted cash totaled approximately $549.8 million.
Total debt was $1.489 billion, substantially unchanged from September 30, 2011. The company had no borrowings under its secured revolving credit facility and was in compliance with debt covenants.
Stockholders’ equity was $200.4 million, and consolidated tangible net worth was $158.6 million. Certain debt indentures could require a repurchase offer if tangible net worth falls below $85 million at the end of two consecutive fiscal quarters.

Material changes versus the prior comparable period

Revenue, closings, orders and backlog improved substantially, particularly in the West and Southeast segments. Segment operating income improved to $0.9 million from a $4.2 million loss.
The East segment generated $0.8 million of operating income versus $0.1 million, while the Southeast segment generated $0.8 million versus a $1.1 million loss. The West segment remained unprofitable but improved to a $0.6 million loss from $3.2 million.
Operating loss narrowed by $11.4 million, primarily because of higher volume, lower G&A expense and the warranty recovery.
Inventory impairments and option-contract abandonments increased to $3.5 million from $0.6 million. One West-segment community generated a $2.0 million impairment charge, and total continuing-operations impairment and abandonment charges included $2.3 million of held-for-development impairments and $1.0 million of option abandonments.
Operating cash outflow improved by $65.9 million, although cash remained negative because of interest payments, reductions in accounts payable and other liabilities.
Financing cash outflow was $17.5 million, including a $15.9 million payment to settle obligations associated with the South Edge joint venture reorganization. The prior-year period had $86.6 million of financing inflows, largely from debt issuance.
The company paid no dividends and made no open-market share repurchases.

Guidance, outlook, risks and unusual items

Management reported increased traffic to communities but said sales conversion remained constrained by high unemployment, weak consumer confidence, limited mortgage availability, changing underwriting requirements and foreclosure-related appraisal pressures. Management intends to increase sales per community, gradually expand active communities, improve contribution margins and control overhead. It did not provide numerical earnings or revenue guidance.

Management expects to maintain a significant liquidity position during fiscal 2012, but acknowledged limited visibility into economic conditions and the possibility of additional equity or debt financing, debt exchanges or repurchases. No assurance was given that such transactions could be completed on favorable terms.
The company controlled 25,998 lots, representing approximately 7.2 years of supply based on trailing-twelve-month closings; 4,155 lots were under option. Remaining purchase obligations under options totaled $200.5 million, with deposits and other non-refundable costs of approximately $25.3 million.
Inventory valuation depends on assumptions regarding selling prices, absorption rates, market recovery and discount rates. Further market deterioration could produce additional material impairments.
The South Edge/Inspirada joint venture required a $15.9 million payment during the quarter. Future infrastructure and development obligations could not be quantified, and the carrying value of the investment may require future adjustment.
Joint ventures had $66.6 million of borrowings, while Beazer’s estimated maximum repayment-guarantee exposure was $0.7 million. The company also had approximately $165.6 million of performance bonds and $28.5 million of outstanding letters of credit.
Warranty reserves were $17.4 million. The company continued repairing homes affected by defective Chinese drywall and stated that additional inspections or higher repair costs could require increased reserves.
Pending matters include Chinese-drywall litigation, a Flagstar mortgage-related lawsuit with a potential demand of approximately $8.7 million if amended, mortgage repurchase claims involving fewer than 100 loans, shareholder litigation on appeal and alleged New Jersey wetlands-permit violations. Certain potential losses could not be estimated.
Under the deferred prosecution agreement and related settlements, future obligations are generally tied to 4% of adjusted EBITDA, with total obligations capped at $55.0 million; $16.0 million had been paid by December 31, 2011.
Credit ratings were Moody’s Caa2 and B- from S&P and Fitch, according to the filing. Downgrades or weaker operating performance could increase borrowing costs or restrict access to capital.

Important facts for investors to verify

Whether the substantial increase in orders and backlog converts into closings without elevated cancellations or margin concessions.
Underlying gross margins excluding the $11.0 million warranty recovery and the effect of impairment turns.
Liquidity after ongoing operating cash burn, approximately $50.7 million of quarterly interest payments and the use restrictions on restricted cash.
Debt maturities, covenant headroom and the company’s ability to refinance or reduce leverage, particularly with senior notes beginning to mature in 2013 and 2015.
Potential additional inventory impairments, option abandonments and future obligations associated with Inspirada.
Exposure from Chinese-drywall repairs, mortgage repurchase demands, litigation, performance bonds and the deferred prosecution agreement.
The extent to which the $35.7 million tax benefit and $11.0 million warranty recovery are nonrecurring and should be excluded when assessing sustainable earnings.