Hovnanian Enterprises, Inc. — Q1 FY2012 10-Q
Reporting period: Three months ended January 31, 2012; balance-sheet comparisons are with October 31, 2011. Amounts below are in millions of dollars unless stated otherwise. Hovnanian builds and sells homes across six U.S. regions and provides mortgage and title services.
Financial results and liquidity
| Metric | Q1 FY2012 | Q1 FY2011 / comparison |
|---|---|---|
| Total revenue | $269.6 | $252.6; up 6.7% |
| Homebuilding revenue | $262.9 | $245.5; up 7.1% |
| Net loss | $18.3 | $64.1 |
| Loss per common share | $0.17 | $0.82 |
| Cash from operating activities | $(43.1) | $2.5 provided |
| Cash and cash equivalents | $169.7 | $250.7 at October 31, 2011 |
| Total notes payable, net of discounts | $1,576.7 | $1,624.1 at October 31, 2011 |
| Total equity deficit | $(513.8) | $(496.6) at October 31, 2011 |
Home deliveries rose 5.2% to 889; average delivered home price increased to $284,000 from $279,000, reflecting delivery mix. Gross margin before cost-of-sales interest and land charges was 16.5%, down from 16.9%. After cost-of-sales interest and land charges, homebuilding gross margin was 10.9%, versus 5.5%. Homebuilding selling, general and administrative costs fell 17.3% to $33.3 million.
The net loss improved substantially, but included a $24.7 million gain on debt extinguishment. The company repurchased $44.0 million principal amount of 2016 senior notes for $19.0 million plus accrued interest. The November 2011 debt exchange generated $4.6 million of expenses; it was treated as a troubled debt restructuring, with no extinguishment gain or loss recognized.
Material changes and operating trends
- Net homebuilding contracts increased to 940 homes from 792, and backlog increased to 1,438 homes valued at $457.4 million from 1,196 homes valued at $367.6 million. Net contracts per average active selling community rose to 4.9 from 4.3.
- Active selling communities increased to 197 from 188 a year earlier. The overall cancellation rate was 21%, compared with 22% in Q1 FY2011; regional rates varied significantly, including 37% in the Northeast.
- Homebuilding pretax loss narrowed to $3.5 million from $26.0 million. Mid-Atlantic and Southwest were profitable; other homebuilding segments reported losses. Financial services earned $1.5 million pretax, compared with $1.6 million.
- Inventory impairment and land-option write-offs declined to $3.3 million from $13.5 million. Inventory was $978.9 million, net of $768.5 million in cumulative impairments; 57 mothballed communities had $137.5 million net book value.
- Cash declined by $81.1 million during the quarter. Management attributed major uses to approximately $74.1 million of land and development spending, note repurchases, and the debt exchange. Operating cash flow was negative as the company continued investing in land and development.
Outlook, risks and contingencies
- Management was cautiously optimistic but cited persistently high unemployment, economic uncertainty, potential foreclosures and uneven housing-market conditions. It said cash sources were expected to fund working-capital and other needs through FY2012; this is not a specific earnings or revenue forecast.
- The company had no revolving credit facility. Its mortgage subsidiary’s $50 million warehouse/repo facility was due April 4, 2012; $49.0 million was drawn at quarter-end. Management expected to obtain a replacement, but gave no assurance it would do so.
- Cash collateral for letters of credit was $35.7 million, restricting its availability for other uses. The company reported covenant compliance, but debt indentures restrict certain borrowing, asset sales and payments. Preferred dividends were suspended under covenant restrictions, with management expecting the restriction to continue for the foreseeable future.
- Further inventory impairments remain possible if market prices, sales pace or projected cash flows weaken. Management also noted exposure to joint-venture investment losses, construction and warranty claims, mortgage repurchase claims, regulation, environmental costs, interest rates and access to financing.
- A New Jersey class action concerning HVAC systems received class certification in December 2011, covering a potential 1,065 homes. The company said a loss was not probable and could not estimate a loss range; an interlocutory review request was pending. The company reported that a separate Florida homebuyer case settled for $3.3 million, paid in December 2011.
- After quarter-end, the company issued 1,182,801 Class A shares in February 2012 in exchange for approximately $4.8 million of debt.
Most important facts for investors to verify
- Whether operating cash use and the fall in cash continue as land investment and construction activity change.
- Whether the mortgage warehouse facility was replaced before its April 4, 2012 expiry, and on what terms.
- Whether backlog converts into closings, given cancellations, mortgage availability and regional variation.
- Whether gross margins stabilize and inventory impairment charges remain limited amid uncertain housing conditions.
- Debt maturities, covenant restrictions, collateral availability, suspended preferred dividends and the company’s ability to refinance or otherwise manage its debt.
- Developments in the HVAC class action, warranty reserves and mortgage investor claims.