M/I Homes, Inc. — Q1 2014 Form 10-Q
Business context and period. M/I Homes builds single-family homes across Midwest, Southern and Mid-Atlantic markets and provides mortgage and title services. This unaudited report covers the three months ended March 31, 2014; comparisons are with Q1 2013 unless stated otherwise. Interim results are not necessarily indicative of full-year performance.
Financial and operating results
| Metric | Q1 2014 | Q1 2013 / comparison |
|---|---|---|
| Revenue | $234.8 million | $190.7 million; up 23.1% |
| Net income | $12.6 million | $4.6 million |
| Net income to common shareholders | $11.4 million; diluted EPS $0.41 | $2.4 million; diluted EPS $0.11 |
| Gross margin | 21.7% | Management reported the highest quarterly gross margin since 2006 |
| Operating margin | 7.1% | Management reported the highest quarterly operating margin since 2006 |
| Operating cash flow | $(2.1) million | $8.6 million provided |
| Cash and cash equivalents | $89.4 million; restricted cash was $11.6 million | Unrestricted cash was $128.7 million at December 31, 2013 |
| Debt carrying amounts | Approximately $431.2 million across bank financial-services borrowings, other notes, convertible notes and senior notes | Net debt to net capital was 39%, unchanged from December 31, 2013 |
Revenue included $220.7 million from home deliveries, $6.3 million from land sales and $7.9 million from financial services. The company delivered 737 homes, up 18%, at an average price of $299,000, up 5%. Gross margin improved primarily on higher deliveries and selling prices; rising lot, construction, labor and material costs partly offset the gains. Selling, general and administrative costs rose to $34.3 million, but declined to 14.6% of revenue from 15.3%.
Homebuilding backlog at quarter-end was 1,525 homes, up 10%, with aggregate value of $496.4 million, up 24%. New contracts fell 6% to 982, and companywide absorption declined to 2.1 homes per community from 2.6. Cancellation rate increased to 16.0% from 14.7%.
Material changes and notable items
- Net income included a $5.3 million tax benefit from reducing the state deferred-tax-asset valuation allowance; management attributed $7.3 million, or $0.23 per diluted share, to core profitability. The effective tax rate was negative 1.2%; management expected an approximately 38% combined federal and state rate for the rest of 2014 before any further valuation-allowance changes.
- Q1 2013 included $0.9 million of impairment charges and a $2.2 million noncash preferred-share redemption-related charge to common shareholders. No inventory or joint-venture impairment charge was recorded in Q1 2014.
- Operating cash flow turned negative as inventory investment increased; inventory rose to $723.6 million from $690.9 million at year-end. Cash declined $39.4 million during the quarter, including cash used for investment and net bank-borrowing repayments.
- Financial-services revenue declined 6% to $7.9 million; management cited lower loan-sale margins and a shift toward conventional financing. Mortgage originations were 493 loans versus 497.
- M/I Financial’s mortgage warehouse agreement was amended in March: maximum availability increased to $110 million, its term extended to March 27, 2015, and certain minimum liquidity and tangible-net-worth requirements rise beginning in Q3 2014.
Liquidity, outlook and risks
At March 31, 2014, the company had $89.4 million of unrestricted cash and $185.4 million of remaining availability under its $200 million homebuilding revolver; there were no revolver borrowings and $14.6 million of letters of credit outstanding. M/I Financial had $51.5 million outstanding under its mortgage facilities. The company reported compliance with applicable debt covenants and said cash, operating receipts and available borrowing capacity should cover anticipated needs for at least 12 months.
Management forecast $400–$500 million of land purchases and development spending in 2014, including $70.5 million spent in Q1, and anticipated peak homebuilding revolver borrowings of approximately $75 million. It expected housing demand to improve through the rest of 2014, but at a moderate and uneven pace, and offered no assurance that recent financial and operating improvement would continue. Management cited job growth, consumer confidence, mortgage rates and underwriting standards as important demand factors; it also cautioned that financial-services results may not match 2013.
Risks and contingencies include sensitivity to mortgage rates, affordability and housing demand; rising land, labor and material costs; severe weather and delayed community openings; competition; and uncertainty in inventory and joint-venture valuations. The company held $44.8 million in unconsolidated joint-venture investments and disclosed $445.3 million of contingent land and lot purchase agreements, approximately $96.0 million of completion bonds and standby letters of credit, and mortgage-related guarantees and indemnities. Management said ordinary-course legal matters were not expected to materially affect the company, while noting resolution costs could differ from estimates. Future inventory impairments are uncertain and depend on local market conditions and management assumptions.
Important facts for investors to verify
- How much of reported earnings growth reflects homebuilding operations versus the $5.3 million tax valuation-allowance benefit.
- Whether weaker new contracts, absorption and higher cancellations persist, particularly in Southern and Mid-Atlantic markets.
- Whether the company can sustain selling prices and margins as land, construction, labor and material costs rise.
- Whether planned land spending and inventory growth convert into deliveries and operating cash flow without materially increasing revolver use.
- Remaining tax-asset realizability, debt covenant headroom, land commitments, and potential warranty, guarantee, legal or impairment exposures.