Hovnanian Enterprises, Inc. — Q1 FY2017 10-Q
Reporting period: Three months ended January 31, 2017; balance-sheet comparisons are to October 31, 2016. The company builds homes across six U.S. regions and provides mortgage and title services. Unless noted, amounts below are in millions.
Financial performance
| Metric | Q1 FY2017 | Q1 FY2016 / comparison |
|---|---|---|
| Total revenue | $552.0 | $575.6; down 4.1% |
| Homebuilding revenue | $539.2 | $557.4 |
| Financial services revenue | $12.8 | $18.2; down 29.5% |
| Income (loss) before income taxes | $0.3 | $(13.2) |
| Net loss | $(0.1) | $(16.2) |
| Homebuilding gross margin before interest and land charges | 17.2% | 16.6% |
| Homebuilding gross margin after interest and land charges | 13.5% | 11.5% |
| Cash from operating activities | $25.9 | $(65.1) |
| Cash used in investing activities | $(15.5) | $(10.6) |
| Cash used in financing activities | $(155.4) | $(25.5) |
- Home sales revenue fell 4.6%: deliveries declined 9.3% to 1,290, partly offset by a 5.2% increase in average selling price to $411,949. Land sales and other revenue rose to $7.7 million from $0.6 million.
- Homebuilding SG&A was $44.4 million, down from $47.5 million. Financial services pretax income decreased to $6.0 million from $10.0 million.
- Cash and cash equivalents on the balance sheet were $195.8 million at January 31, versus $339.8 million at October 31. The company reported a $145.0 million decrease in consolidated cash and cash equivalents during the quarter.
Debt, liquidity and balance sheet
- Notes payable and term loan, net of discounts and issuance costs, totaled $1,567.7 million; the revolving credit facility had $52.0 million drawn, with $16.0 million of letters of credit outstanding. Nonrecourse mortgages secured by inventory were $73.5 million, and mortgages secured by operating properties were $14.0 million.
- Total liabilities were $2,273.6 million, exceeding total assets of $2,145.3 million; stockholders’ equity deficit was $128.3 million. Inventory totaled $1,293.4 million, including $171.6 million of consolidated inventory not owned.
- The company spent $190.4 million on land purchases and development and $30.8 million to repurchase debt. It reported a $7.6 million gain on extinguishment of debt from repurchases of senior notes and exchangeable note units.
- Management said available cash, housing and land sales, financing arrangements and other sources were expected to fund working-capital needs through fiscal 2017. It believed it was in compliance with applicable debt covenants at January 31, 2017.
Material changes and operating trends
- Active selling communities were 157, down from 217 a year earlier; management attributed lower deliveries and contract volume in part to the reduced community count. Net contracts declined 23.4% year over year, while contracts per average active selling community increased to 7.5 from 7.0.
- Backlog was 2,272 homes valued at $1.02 billion, down 20.8% in dollar value from a year earlier. Regional results varied: Midwest revenue fell 52.5%, while West revenue rose 73.7% and Southeast revenue rose 44.2%.
- Inventory excluding consolidated inventory not owned increased $47.4 million from fiscal year-end, primarily from land purchases and development. The company invested a further $11.2 million of net cash proceeds in a joint venture transaction involving communities and options.
- Management cited improved gross margin from delivery mix and reduced incentives on started unsold homes. Prior-period impairment reversals also benefited gross margin by $10.2 million in Q1 FY2017 and $11.0 million in Q1 FY2016.
Outlook, risks and unusual items
- Management planned to pursue land acquisitions in fiscal 2017, while continuing to prioritize liquidity and operating efficiency. It said sustained profitability depends in part on acquiring land at prices that support adequate returns. No specific earnings or revenue guidance was provided.
- Risks identified include restricted access to capital and limits on additional borrowing, debt maturities and covenant restrictions, rising mortgage rates or reduced mortgage availability, labor and material cost increases, economic uncertainty, seasonality, cancellations, and potential effects of lower oil prices on Texas markets.
- The company exited Minneapolis and Raleigh in fiscal 2016 and planned to wind down operations in the San Francisco Bay area and Tampa by completing sales from existing land positions.
- Inventory impairment losses and land option write-offs totaled $3.2 million, down from $11.7 million. Warranty and general-liability reserves were $118.0 million at quarter-end.
- The company disclosed that the EPA considers it a potentially responsible party regarding a Newark, New Jersey redevelopment site near a former lead smelter. The scope of any obligations was unknown, and the company could not assure that the matter would not have a material impact. Other ordinary-course litigation was not expected to have a material adverse effect.
- Debt covenants restricted dividends, including dividends on the 7.625% Series A Preferred Stock; management expected the restriction to continue for the foreseeable future. The deferred-tax valuation allowance was $628.1 million.
Important facts for investors to verify
- Whether backlog, net contracts and the reduced community base support management’s fiscal 2017 plans and future delivery volumes.
- Liquidity available for operations and debt service, upcoming maturities, refinancing access, and compliance with covenant and borrowing restrictions.
- Whether gross-margin improvement persists after accounting for delivery mix, impairment reversals, land charges and interest costs.
- Potential costs or liabilities related to the Newark EPA matter, warranty and construction-defect claims, and future inventory impairments.
- Whether mortgage-market conditions, construction inflation and regional economic changes affect sales, cancellations and financial-services earnings.