KB Home — Q2 2018 Form 10-Q
Business context and reporting period. KB Home builds and sells homes across four U.S. regions and also provides insurance and title services. This unaudited report covers the three and six months ended May 31, 2018; the comparable periods are those ended May 31, 2017. Amounts below are in U.S. dollars.
Financial and operating performance
| Metric | Q2 2018 | Q2 2017 | Six months 2018 | Six months 2017 |
|---|---|---|---|---|
| Total revenue | $1.101 billion | $1.003 billion | $1.973 billion | $1.821 billion |
| Pretax income | $78.3 million | $52.0 million | $124.4 million | $73.4 million |
| Net income (loss) | $57.3 million | $31.8 million | $(13.9) million | $46.0 million |
| Diluted EPS | $0.57 | $0.33 | $(0.16) | $0.49 |
- Q2 homebuilding revenue increased 10% to $1.099 billion. Deliveries rose 5% to 2,717 homes, and average selling price increased 4% to $401,800.
- Q2 housing gross margin increased 170 basis points to 17.1%; excluding inventory-related charges it was 17.7%. The company’s adjusted margin, which also excludes amortization of previously capitalized interest, was 22.2% versus 21.0%.
- Q2 homebuilding operating income rose 50% to $74.2 million; operating margin increased to 6.8% from 5.0%. SG&A was 10.4% of housing revenue, unchanged year over year.
- Six-month housing revenue rose 8% to $1.958 billion. Deliveries increased 3% to 4,940, and average selling price increased 5% to $396,400.
- The six-month net loss primarily reflects a $111.2 million non-cash tax charge related to the Tax Cuts and Jobs Act (TCJA). Excluding that charge, the company reported non-GAAP adjusted net income of $97.3 million, adjusted diluted EPS of $0.97, and an adjusted effective tax rate of 21.8%. These are company-defined non-GAAP measures.
- Six-month operating cash flow was negative $19.4 million, compared with negative $64.6 million a year earlier; cash used for inventory investment was $152.8 million. Cash and cash equivalents were $669.8 million in homebuilding and $670.6 million including financial services at May 31, 2018.
- Notes payable were $2.354 billion, up from $2.325 billion at November 30, 2017. Debt-to-capital was 55.1%; net-debt-to-capital, a non-GAAP measure, was 46.8%. The $500 million revolving credit facility had no cash borrowings and $463.3 million available, with $36.7 million of letters of credit outstanding.
Changes versus prior comparable periods
- Q2 net income increased 80% and diluted EPS rose from $0.33 to $0.57, supported by improved homebuilding results and a lower effective tax rate.
- Net orders increased 3% in Q2 to 3,532, while net order value declined 2% to $1.362 billion, reflecting lower average order prices and regional mix. The cancellation rate improved to 18% from 21%.
- Backlog increased 3% year over year to 5,787 homes valued at $2.237 billion. Average community count declined 10% to 215; ending community count fell to 210 from 236.
- Regional results were mixed: Southwest and West Coast homebuilding pretax income improved substantially; Central grew modestly; Southeast remained small but improved from the prior-year first-half loss. West Coast Q2 net order value declined 13%.
Outlook, commentary, and risks
- Management described the housing market as generally healthy, citing employment, consumer confidence, constrained resale supply, and demand in many served markets. It attributed margin progress to community-level pricing and operating plans and deliveries from newer, higher-margin communities, partly offset by rising construction costs.
- For Q3 2018, KB Home forecast housing revenue of $1.23–$1.29 billion, average selling price of $410,000–$415,000, housing gross margin of 17.6%–18.0% assuming no inventory-related charges, and homebuilding operating margin excluding such charges of 7.8%–8.4%.
- For full-year 2018, it forecast housing revenue of $4.60–$4.80 billion, average selling price of $400,000–$410,000, housing gross margin excluding inventory-related charges of 17.6%–18.0%, homebuilding operating margin excluding such charges of 7.7%–8.2%, and return on equity of 14%–15%. Management expected ending community count to be slightly above 2017, including approximately 15% growth in the West Coast segment.
- Land and land-development investment was $843.7 million in the first half, up 19% year over year; approximately 60% was in the West Coast segment. Management said these investments and planned openings support growth, while noting future results depend on market conditions and opportunities.
- Key uncertainties include construction labor and material costs, interest rates, housing demand and affordability, land availability, access to financing, deferred-tax-asset realization, and execution of the growth plan. Inventory impairment charges were $10.7 million for the first half, versus $7.5 million a year earlier; management cautioned that weaker markets or changed assumptions could prompt further impairments or land-option abandonments.
- A Northern California homeowners’ association alleged approximately $100 million in construction-defect damages. KB Home had accrued an estimated probable loss and recorded a probable insurance-recovery receivable, but said it could not estimate reasonably possible loss above the accrual while its investigation continued.
- Warranty liabilities were $76.4 million and self-insurance liabilities were $176.7 million at May 31. The company cautioned that actual claims, repair costs, and insurance recoveries may differ materially from estimates.
- The $300 million 7¼% senior notes matured June 15, 2018 and were repaid with internally generated cash. The company reported compliance with its debt covenants at May 31. Its credit ratings were BB- from S&P and B1 from Moody’s; Moody’s outlook was positive.
Important facts for investors to verify
- Whether reported and adjusted results reconcile as expected, particularly the TCJA charge, deferred tax asset valuation, and subsequent tax guidance.
- Whether revenue and margin guidance is achieved, including the assumptions around inventory charges, cost inflation, pricing, and community openings.
- Whether lower community count and West Coast order-value trends affect future backlog conversion and deliveries.
- Cash generation and leverage after the June 2018 repayment, upcoming debt maturities, and continued access to the revolving facility.
- Developments in the Northern California construction-defect matter, warranty and self-insurance estimates, and inventory impairment exposure.
- Land-option commitments and deposits: $44.0 million of cash deposits supported rights to land with an aggregate purchase price of approximately $1.17 billion; exercise is generally optional, but planned takedowns and land investment require funding.