MHO

Business Context and Reporting Period

This Form 10-Q covers M/I Schottenstein Homes, Inc., a homebuilding and financial services company, for the quarterly period ended September 30, 2002. The company operates primarily in the Midwest, Southeast, and Southwest United States, with significant operations in the Columbus, Ohio market. As of November 13, 2002, there were 15,172,519 shares of common stock outstanding.

Key Financial Metrics

Note: Total Debt includes $45M bank borrowings, $29M financial services loan, $12.7M mortgage notes, and $50M senior subordinated notes.

Material Changes vs. Prior Period

• Revenue: For the nine months ended September 30, 2002, total revenue increased 10% to $735.5 million compared to $667.4 million in 2001. This was driven by a 9% increase in housing revenue and a 47% increase in land revenue. However, for the three-month period, revenue decreased 2% due to a 9% drop in homes delivered, partially offset by a 6% increase in average sales price.
• Profitability: Net income increased 19% for the quarter and 34% for the nine-month period compared to the prior year. Income before taxes rose from $24.2 million to $28.9 million (quarter) and from $61.2 million to $81.8 million (nine months).
• Backlog: Total backlog decreased 3% to 2,601 homes with a sales value of $626 million as of September 30, 2002, compared to 2,683 homes valued at $648 million in the prior year.
• Cash Flow: Operating cash flow improved significantly, turning from a use of $12.4 million in the first nine months of 2001 to a provision of $63.8 million in the same period of 2002.

Guidance, Outlook, and Risks

Management Commentary: Management attributes the increase in gross margins to selling prices rising faster than housing costs, improved operating efficiencies, and a focus on premier locations. The decrease in new contracts for the nine-month period (down 8%) was attributed to soft economic conditions, particularly in the Midwest.

Liquidity and Capital Resources: The company maintains a Bank Credit Facility with a borrowing base of up to $315 million, with $45 million outstanding as of September 30, 2002. Approximately $258 million of unused borrowing availability remains. The company also holds $50 million in Senior Subordinated Notes maturing in 2006.

Risks and Contingencies:

• Interest Rate Sensitivity: The business is significantly affected by interest rate fluctuations, which impact consumer mortgage qualification and demand.
• Market Concentration: A significant portion of operating income is derived from the Columbus market.
• Land Position: The company risks significant capital to maintain its land position, with options and contingent purchase contracts totaling approximately $202 million.
• Regulatory and Economic Factors: Risks include zoning changes, environmental regulations, material shortages, and general economic downturns.

Investor Verification Checklist

• Backlog Quality: Verify the cancellation rate (21% for the quarter) and the geographic distribution of the $626 million backlog to assess revenue visibility.
• Debt Covenants: Review the specific borrowing base calculations and covenants within the $315 million Bank Credit Facility to ensure compliance.
• Land Inventory: Assess the $266 million in single-family lots and land development costs against current market absorption rates in key regions like Virginia and Phoenix.
• Margin Sustainability: Confirm if the 23.5% housing gross margin (Q3 2002) is sustainable given potential increases in labor and material costs.
• Interest Rate Hedging: Evaluate the effectiveness of the $75 million fixed-rate interest swap agreements in mitigating future interest expense volatility.