PulteGroup, Inc. — Q3 2017 Form 10-Q
Reporting period: Three and nine months ended September 30, 2017; interim financial statements are unaudited. Dollar figures below are in millions unless noted.
Business context and operating performance
PulteGroup is a U.S. homebuilder with mortgage banking and title operations. Homebuilding is reported across six U.S. regions; Financial Services principally supports homebuyers in those markets. Management described housing demand as improving, while noting that new-home sales remained below historical averages.
- Q3 home closings rose 2% to 5,151 and average selling price increased 7% to $399,000. Nine-month closings rose 5% to 14,420 and average selling price increased 6% to $389,000.
- Net new orders increased 11% in units in both Q3 and the first nine months; order dollars rose 23% in Q3 and 20% year to date. September 30 backlog increased 15% in units to 10,823 and 26% in dollars to $4.666 billion.
- Active communities totaled 778, up 10% year over year. Management expects to turn over and replace approximately one-third of communities in 2017.
Financial results and liquidity
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Total revenue | $2,130 | $1,943 | $5,780 | $5,175 |
| Income before tax | $268 | $212 | $530 | $520 |
| Net income | $178 | $128 | $370 | $330 |
| Diluted EPS | $0.58 | $0.37 | $1.18 | $0.94 |
| Home sale gross margin | 23.9% | 24.7% | 22.7% | 25.1% |
| Operating cash flow | Not presented by quarter | $252 | $(307) |
- Total revenue grew about 10% in Q3 and 12% year to date. Homebuilding revenue increased 10% and 12%, respectively; Financial Services revenue declined 2% in Q3 but rose 7% year to date.
- Home sale gross margin declined year over year. Management attributed the underlying pressure, excluding identified charges, to community mix and higher construction and land costs; the nine-month comparison also includes land impairments and a warranty charge.
- At September 30, cash, cash equivalents and restricted cash were $197 million, down from $723 million at December 31, 2016; unrestricted cash was $158 million. Inventory was $7.370 billion, versus $6.771 billion at year-end.
- Senior notes were $3.110 billion, revolving-credit borrowings $83 million, and Financial Services debt $246 million. The company reported $422 million available under its revolving facility and a 42.4% debt-to-total-capitalization ratio, excluding Financial Services debt and limited-recourse notes. It was in compliance with facility covenants.
- Operating cash flow improved to $252 million from a $307 million use in the prior-year period. Inventory investment used $758 million in cash. Financing activities used $739 million, including $660 million of share repurchases and $86 million of dividends paid.
Material changes, outlook, risks and unusual items
- Land portfolio actions: Following a strategic review, the company began marketing inactive or non-core land representing approximately 4,600 lots and is working to monetize two small communities representing another 400 lots. Timing of the sales was unknown; proceeds and related tax benefits are intended for higher-return projects. Nine-month land-related charges totaled $131 million, including $31 million of inventory impairments, $82 million of land-held-for-sale valuation adjustments, $8 million of unconsolidated-investment impairments, and $9 million of deposit and pre-acquisition write-offs.
- Other notable items: Nine-month results included a $12 million warranty charge for a closed Florida community, $20 million of insurance-receivable write-offs, and a $20 million insurance-reserve reversal. The prior-year period included a $15 million disputed-land settlement charge. These items affect comparisons across periods.
- Management outlook: Management cited job creation, consumer confidence, supportive interest rates and limited new-home supply as demand supports. It plans disciplined growth, greater construction and asset efficiency, and continued shareholder returns through dividends and repurchases. No specific earnings or revenue guidance was provided in the filing text.
- Disruptions and operating risks: Hurricanes Harvey and Irma disrupted Texas and Florida operations; permitting and municipal approval delays affected certain communities. Management also cited potential land and construction cost inflation, mortgage-rate and financing availability, labor and insurance costs, regulation, and housing-market volatility.
- Contingencies and commitments: General-liability and other self-insurance reserves were $825 million, with $261 million of related insurance receivables; $77.5 million of receivables were subject to litigation with insurers. Management did not expect pending litigation and regulatory matters to have a material adverse effect, but noted outcomes and ultimate losses are uncertain. Land-option agreements carried $2.3 billion of remaining purchase price; outstanding letters of credit and surety bonds were $245 million and approximately $1.2 billion, respectively.
- Other developments: On October 13, 2017, after quarter-end, the company increased revolving-credit capacity from $750 million to $1.0 billion. It also settled $123 million of 7.625% senior notes at maturity in October. The company adopted a stock-compensation accounting update that increased opening retained earnings by $18.6 million and reduced nine-month tax expense by $5.4 million. Management expected no material financial-statement effect from the revenue-recognition standard effective in 2018; it expected the 2019 lease standard to materially increase balance-sheet assets and liabilities, but not materially affect the income statement.
Important facts for investors to verify
- Whether backlog growth converts to closings and revenue, particularly given hurricane-related delays and community-opening constraints.
- How land-sale timing and proceeds compare with management’s plans, and whether further impairments or land-related charges arise.
- Whether gross margins stabilize amid higher construction and land costs, and how much reported earnings depend on unusual charges, reserve changes and tax benefits.
- The recoverability and timing of the $261 million insurance receivables, especially the $77.5 million under litigation, and the adequacy of the $825 million self-insurance reserves.
- Cash and debt trends after substantial share repurchases, including the effect of the post-quarter note maturity and expanded revolver capacity.
- Exposure from land options, surety bonds, warranty claims, tax examinations and other legal or regulatory contingencies.