Q3 2020 Hovnanian Enterprises Inc Earnings Call

September 3, 2020

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Good morning, Thank you for joining us for their opinion enterprises' fiscal 2023rd quarter earnings Conference call. An archive of this webcast will be available for the after the completion of the call and will run for 12 months. This conference is being recorded for rebroadcast in all participants are currently in listen only mode.

Management will make some opening remarks about the third quarter results and then open the lines for questions. The company will also be webcasting, a slide presentation, along with opening comments from management. These slides are available on the investors page of the company's website at Www Dot Kate.

Each auvi dotcom, those listeners who would like to follow along should now log onto the website I would now like to turn the call over to Jeff O'keefe, Vice President Investor Relations. Jeff. Please go ahead.

Thank you and thank you all for participating this morning's call to review the results for our third quarter, which ended July 31st 2020, all statements. In this conference call that are not historical facts should be considered as forward looking statements within the meaning of the safe Harbor provisions of the private Securities Litigation Reform Act of 1995, such statements involve known and unknown risks.

These and other factors that may cause actual results performance or achievements of the company to be materially different from any future results performance or achievements expressed or implied by the forward looking statements such forward. Looking statements include but are not limited to statements related to the company's goals and expectations with respect to its financial results for future financial periods. Although we believe that are.

Plans intentions and expectations reflected in your suggested by such forward looking statements are reasonable we can give no assurance that such plans intentions or expectations will be achieved by their nature of forward looking statements speak only as of the date. They are made are not guarantees of future performance or results and are subject to risks uncertainties assumptions that are difficult to predict or quantify.

Therefore, actual results could differ materially and adversely from those forward looking statement as a result of a variety of factors such risks and uncertainties and other factors are described in detail in the sections entitled risk factors in management's discussion and analysis, particularly the portion of them DNA entitled Safe Harbor statement and our annual report on form 10-K for the.

Fiscal year ended October 30, Onest 2019, and subsequent filings with the Securities Exchange Commission, except as otherwise required by applicable security laws. We undertake no obligation to publicly update or revise any forward looking statements whether as a result of new information future events changed circumstances or any other reason.

Joining me today on the call, our Ara Hovnanian, Chairman President and CEO.

Resource be executive Vice President and CFO and bread O'connor Senior Vice President Chief Accounting Officer, and Treasurer, I'll now turn the call over to Ara Ara. Please go ahead.

Thanks, Jeff I Hope all of you and your family's remains Saizen are healthy during these challenging times here. We are in September 2020, and although Kobin continues to impact all aspects of all of our law.

The environment for new home sales remains robust.

I'm going to review, our third quarter results and then address the current market environment as usual Larry Sorsby will follow me with more detail before that unit.

Covidien has changed the way, we do almost everything the safety and well being of our associates customers trade and trade partners remains a huge focus that our company.

We continued to successfully worked through all the obstacles that are thrown our way by cobot by the Cobot 19 pandemic, we're working hard to ensure a safe working environment. Our associates have been absolutely amazing in continuing to day to day effort to keep our operations running and.

Planning for the future in the face of these uncertain and very difficult times.

We switched to a virtual environment seamlessly and actually moved into high production sales and delivery mode at the same time.

Given the challenges that cobot 19 has created we're pleased with a third quarter performance on slide four we compare year over year results for our third quarter.

You can see in the upper left hand quadrant of the slide total revenues grew 30% to $628 million during this year third quarter.

Moving to the upper right hand portion of the slide you can see that our gross margin was $106 million for the third quarter compared to $84 million last year.

Reacting to slower demand in the early stages of the Cobot 19 crisis, we offered consumers additional incentives on spec homes that could be delivered during our third quarter.

This increase the volume of deliveries and gross margin dollars. Despite a reduction in our gross margin percentage from 18 point board to 17.5%.

Demand began rebounding in may.

June we pivoted to increasing home prices in virtually all of our markets.

These home price increases should offset potential price increases and result in improvements in future gross margins beginning in the very next quarter, our fourth quarter.

In the lower left hand quadrant of the slide you can see that our total as DNA ratio improved to 9.5% that's 260 basis points below last year's third quarter.

We were able to reduce the ratio because our total SGN $8 only increased 2%, including a $3 million charge for severance and related expenses, while our revenues increased 30%.

In the lower right quadrant of the slide we show that EBITDA increased 88% from 35 million in last year's third quarter to 66 million this year.

On the left then portion of slide five you can see that our pretax income for the third quarter increased $23 million from a 7 million dollar loss last year through a 16 million dollar profit this year.

If you ignore that 2 million dollar land charge in the $4 million gain on extinguishment of debt. The pretax adjusted income was $15 million for this year third quarter compared with the 5 million dollar loss in the same quarter last year.

Slide six shows the number of consolidated contract on a monthly basis for each month from January through August compared to the same months one year ago.

You can see we began the calendar year with solid improvements in sales up 31% in January of 44% in February. This is before most Americans were aware of the co that issue.

Typically the spring selling season peaks in April each year.

But 2020 is a strange year that it's been whipsawed by the cobot 19 problems.

Due to the nationwide shut down demand during our typically strong spring selling season was dramatically dampened during March and April you can see that on this graph.

In the month of May our sales pace rebounded and has remained exceptionally strong each month.

We recognize that demand was outstripping our ability to get these new homes built and delivered within a reasonable timeframe. Furthermore, lumber costs of recently increased and we suspect that are industry may experience additional material and labor cost soon.

Therefore, starting in June we focused on raising home prices to offset potential price increases and to improve our gross margin by increasing home prices, we understood that demand could cool down from the white hot sales level. Nonetheless during August we sold seven.

135 homes up 65% over last year's August.

If you look at contracts per community on a monthly basis as we do on slide seven you can see a similar trend.

Contracts per community increased for the first six months shown and then of course Cobot 19 impacted March and April then the turns back again, and we had a very strong increase in made all the way through August.

Our August sales per community increased from 3.2 last year to 6.6. This year, that's a 106% year over year improvement.

It's certainly indicative that demand for new homes remains exceptionally strong.

We plan to continue pushing home prices recognizing that this may slow down sales pace in certain communities, we believe that trading margin.

And pace makes sense in this market right now.

On slide eight we show that our quarterly contracts increased 47% to 2226 homes from 1515 homes in last year's third quarter.

This is the highest level of contract.

Quarter since the second quarter 2008.

The picture is even better on a per community basis, which we show on slide nine here you can see that we had 19 contracts per community for the third quarter. This year, that's compared to 11 for the last year third quarter, that's a 73% increase year over year.

When you have a 73% increase in year over year contracts per community per the recent quarter, followed by 106% year over year increase for the most recent month, it's easy to worry about approaching the market peak, but you really need to take a step back and look with a broader.

Long term perspective.

We do that on slide 10.

Here, we show annual housing starts from 1997 to the year to date annualized pace as of July 2020.

In July of 2020, we're only at an annualized pace of 1.29 million starts.

Thats not a level that indicates a market peak or a bubble.

Obviously, we're doing much better as an industry than we were in the depths of the great housing recession in 2009.

But we're not even close to previous decade annual averages for starts let alone near any cyclical peak that we hit in the last 60 years.

It's also comforting that the purchases seem to be driven by end users today not speculators.

When you consider that historically low interest rate environment, which is likely to be with us for some time. It makes one even more comfortable with the current sales market.

This recent significant uptick in the housing market caught developers and homebuilders by surprise at the current sales pace.

Builders will be selling out of communities faster than they plan.

This makes it challenging for most builders to grow their community count over the short term.

It will take significant time to gain control of new land parcels obtain entitlement complete land development and opening new communities for sale.

Therefore in order for our industry to meet the increased level of demand for new homes I suspect that sales velocity per community will remain at higher than normal levels for some time to come.

Are simply not a large enough supply of loss available in the marketplace. If you turn to slide 11, you can see another view of contracts per community with longer term trends on the left hand side, we show our average annual contracts per community from 1997 to 2000.

In two as we've said many times in the past this was neither a time a boom or bust for housing.

We averaged 44 contracts per community. During this period in the middle of the Slide you can then see the steady growth in contracts per community for each of the past several years.

Finally on the right hand side of the slide we show the contracts per community for the trailing 12 months that we just ended were 48 compared to 37.4, a year ago for the first time in over a decade were slightly above our historical normalized sales.

Space, but we're still well below the peak pace somewhere near 60 homes per community and this is what we achieved during the last cycle.

Once again based on the historical perspective have you as housing starts and the scarcity of new communities that are ready an open for sale I wouldn't be surprised or overly concerned to see the current higher sales pace per community continue over the next year or two.

As many of discussed we also believe that there are three factors that are influencing this increased market demand for new homes that are.

That everyone is seeing throughout the country.

First we were at historically low mortgage rates, making homeownership very affordable today.

Second in most markets the inventory of existing homes for sale are extremely low and finally, there's a strong desire by households for more indoor and outdoor space.

When you are shelter at home for a month on and you really think about what kind of home you want to be living and.

The combination of these three factors is demand is driving much of the demand that we're seeing and community today I'll now turn it over to Larry Sorsby our CFO.

Thanks Sara.

I'll start on slide 12. This was another strong quarter for our financial services Division driven by historically low rates and increased volumes financial services third quarter pre tax earnings increased 182% year over year to $11 million.

On slide 13, which show that we had a solid backlog of 3056 homes under contract at the end of the third quarter. The number of homes in backlog was up 20% and the dollar amount was up 17%.

Our white hot sales pace caused us to sell out of communities faster than we anticipated.

If you turn to slide 14, you can see that our consolidated community count declined by 21 communities from 138 on July 30, Onest 29 chain to 117 at the end of July. This year. In addition to selling through communities faster than we expected there were two additional reasons for the decline.

First we had 14 community Grand openings that were expected to have occurred by July 30, Onest. This year, but were delayed primarily due to cobot 19 issues second we contributed four wholly owned communities into unconsolidated joint ventures during the first quarter fiscal 2020.

Frankly, we thought that we would achieve revenue growth through community count growth and reality the significant improvements in sales price. We're achieving has been the driver of our 27% growth in revenues through the first nine months of this year.

Similar to our peers during the initial stages of covered 19, and the uncertain economic environment. It created we took measures to preserve cash by delaying certain land purchases land development activity and beginning work on some unsold homes during the third quarter, we've returned to our normal activities.

With respect to land purchases land development and building spec homes.

However, as you can see on slide 15 are extremely strong sales price made it very difficult to increase our supply of unsold homes homes were selling faster than we could get some started we ended the quarter with 288 started unsold spec homes. This compares to 790 spec home.

At the end of the first quarter.

As you can see on this slide the spec count has been steadily trending down we had two and a half spec homes per community at the end of the third quarter, we've not made any changes to our spec strategy the lower spec count at the end of the third quarter is simply a result of the hot market.

Turning to slide 16.

There is no doubt that some home buyers want to move in to their new home correctly on the left hand portion of the slide you can see that contracts for spec homes increased 15% year over year during the third quarter.

What some of you may find surprising is that demand for to be built homes as even stronger then for spec homes shown on the right hand portion of the slide our contracts for to be built homes were up 81% during the same quarter.

Clearly, having an ample supplies specs homes is not required to achieve significant growth in sales and revenues.

On slide 17, we controlled 25748 lots or 4.4 year supply at the end of the third quarter.

Despite the adverse impact of covert 19, we added 1700 newly controlled lots during the third quarter after temporarily slowing new land acquisitions due to covert 19 during the second quarter, given the recent improvement and demand for our homes today, our land acquisition teams are back in the market.

Get sourcing new deals.

We control today, virtually 100% and almost 80% of lots required to meet our respective 2021, and 2022 delivery forecast, including meaningful growth and 2021 deliveries and additional growth and Twentytwenty too.

I can tell you that the number of land and lot opportunities being brought to corporate land Committee has significantly picked up recently.

We remain disciplined through our underwriting standard using current home sales price current home sales pace and current construction costs, if we find land opportunities that pencil under the self adjusting criteria, we will move forward to control them.

As you can see on slide 18, we ended the third quarter with $334 million of liquidity.

During the third quarter fiscal 2020, our land and land development spend was $163 million a slight increase over the same quarter a year ago, our third quarter liquidity position remained above our target range. Even after we purchased $26 million of R 22.

Bonds at a discount we have excess capital to invest and we're busy replenishing our land supply.

Turning to slide 19.

Compared to our peers you can see that we had a third highest percent of land controlled via options. We continue to use land options whenever possible in order to achieve high inventory turns enhance our returns on capital and reduce risk.

We're pleased to control, 61% of our land through options.

Looking at our consolidated communities in the aggregate, including mothballed communities and the $195 million of inventory not alone. We have an inventory book value of $1.2 billion net of $189 million of unfair.

Turning now to slide 20.

Compared to our peers you can say that we have the second highest inventory turnover rate for the trailing 12 month period, although we lag NVR its industry, leading turnover number our turns remained 50% higher than the next highest peer below us high inventory turns are key component of our overall strategy.

We believe one of the key pure operating metrics for the homebuilding industry is EBIT to inventory this metric neutralizes the impact of debt on slide 21, we show the trailing 12 month EBIT to inventory for us than our peers. This ROI metric measures pure operating performance before interest expense.

We remain well above median when compared to our peers on this metric we in the tire industry are still not at normalized historical ROI levels, but we believe ROI returns will improve for all of US. We continued to work hard to get even further to the right on this chart. One other ways. We can achieve this is Bob.

Maintaining our focus on inventory turns.

Another area of discussions related to our deferred tax asset our deferred tax asset is very significant and because it is fully reserved for by evaluation allowance. It is not currently reflected on our balance sheet. We have taken numerous steps to protect this asset as of July 30, Onest 2020, our deferred tax asset in the aggregate was 500.

$93 million, we will not have to pay federal income taxes on approximately $1.9 billion of future pre tax earnings.

On Slide 22, we show that we ended the third quarter with a shareholders deficit of $480 million you add back our valuation allowances. We've done on this slide our shareholders' equity would be positive $113 million.

Turning to slide 23.

On the top of this slightly shorter maturity ladder at the end at the second quarter.

On the bottom of the slide we show what it looked like at the end of the third quarter.

During the third quarter fiscal 2020, we used $21 million of cash to repurchase $26 million a face some out of our 10% second lien notes due 2022, we're confident that we will either pay off or refinance adder prior to maturity, our remaining $111 million of second lien note.

Do and Twentytwenty too.

We will continue the annual analyze and evaluate our capital structure and explore transactions to further strengthen our balance sheet.

Turning to slide 24.

I would now like to discuss our expectations for the fiscal 2024th quarter, assuming no changes and current market conditions. We expect to report fourth quarter results with total revenues between $650 million and $680 million gross margins to be in the range of 19% to 20%.

SDMA as a percentage of total revenues to be between eight and a half and nine or half percent, excluding land related charges and gains or losses on extreme mission that we expect adjusted EBITDA to be between 70 and $85 million and our adjusted pre tax profit for the fourth quarter fiscal 2020 to be.

Between 20 million and $35 million.

Looking at the fiscal 2021, and assuming no changes in current market conditions, we expect total revenues to be between two and a half and $2.6 billion for the full year. Additionally, we anticipate meaningful improvements and EBITDA and pre tax profits for fiscal 2021 compared to fiscal 2020.

We also expect improvements in our gross margin, but it's difficult to give clear guidance on gross margins given the recent rising lumber prices and given the increased demand for new homes, there's potential for additional material and labor price increases.

That concludes our FRE prepared remarks, and we'll now open it up for any questions you might have.

The company will now answer your questions. So that everyone has an opportunity to ask questions participants will be limited to one question and one follow up after which they may get back into the queue to ask other questions.

At this time I would now like to open the call for questions. If you have the question at this time. Please press Star then one on you touched on telephone. If your question has been answered and you'd like to move yourself from the Q. Please press the pound key our first question comes from the line of Alex Barron from housing Center. Your question. Please.

Hey, guys very strong quarter congrats on that.

I was curious about your guidance on the margins, 19% to 20% sounds very good but what was the reason the margins kind of took a step back this quarter or what accounts for the step back now versus a step up next quarter can you elaborate on that.

You're a group so I'll.

Comment on that as we mentioned.

In the depth of Recoded crisis in the Middle of March and April when things were looking fairly die or frankly sales were really off the economy was uncertain and basically a the U.S. shut down or to be conservative we.

The discounted a bid and raised incentives, particularly on spec homes that could deliver soon those homes are the ones that delivered a lot of them in the third quarter and they had lower gross margins as we mentioned also in the script. We then pivoted.

And.

You know the month of May were strong in the month of June were stronger in every month since has been stronger. So we began raising prices and we continued raising prices that's why you're going to see higher gross margin in the fourth quarter or Ah because we're going to begin to see the benefits of that.

Pivot in pricing strategy.

Okay that sounds that sounds good so even though you're not me, giving guidance for next year.

I imagine maybe we can expect similar margin for the first quarter of next year.

Okay, great on the the other question wasn't a joint ventures. So net income right now is only coming from.

Some of the existing joint ventures, you're not limiting any homes in the K assays. So when you expect the case they will start showing some contribution.

Oh, we are on the verge of delivering homes right now we're just on the verge now I'd expect.

That should begin in the next quarter or too.

There are other reason I'm hesitating, because though just does the a pandemic has created lots of issues and delays in the U.S.

It's done the same in Saudi Arabia, as well, but all is going well sales are strong production is continuing so we're just going through the logistics debts to begin delivering homes in fairly large quantities.

Okay, Great piping ask one last one so your liquidity looks pretty good here you guys took advantage and bought back from that this quarter is there anything that constrains how much you could do that next quarter.

And repeat the question more time.

Thanks.

Yes, yes, it's like your liquidity I think you said was over 300 million S is important.

When you bought back like 25 million of the 2022 bonds is there anything that constrain.

How much you could buy next quarter, yes, we have unlimited capacity a under various covenants to do additional repurchases of the 2022.

Bonds.

So I would say that you should not expect a similar amounts to be done next quarter.

Okay, great I'll get back into queue. Thanks.

Thank you. Our next question comes on line of Tom's Maguire from Zelman <unk> Associates. Your question. Please.

Hey, guys great job in the quarter. Thank you just done.

Just on the price risk case dynamic what whatsoever that makes you pull that are you get the are you talked about raising prices across virtually all communities what drives that decision and kind of say you know that pace is enough or is there a return metric you're thinking about is that more of that you don't want the backlog to get to par extended or or just how do you think about that.

Oh really all the above I mean, the reality is we.

Analyze it on a community by community basis, if we sold a couple of homes in a week.

And that meets our budgets, we are not shy to raise prices that week, if we raise prices and still so a couple of homes. We will raise prices again and then we'll see what happens if we continue to so we will raise prices again, if a price increase in a particular.

Community or begins to dampen sales then we'll hold back on a selling on raising prices. So it's really a dynamic situation that we analyzed community by community market by market across the entire country.

That makes you kind of sense that it and then just on the community Count I know, there's 10, moving pieces and you're continuing to close out communities with a robust pace here, but how do you think about the ability to fill on that number and begin ramping moving forward and United We talked about qualitatively the revenue and you know with land deals come into the committee.

Is your line is tied to that number moving higher in the coming quarters, and then what drove the though isn't to contribute communities to the jvs.

First.

You know, we don't anticipate at the moment contributing more communities to JV is.

But no we review that strategy a month to month.

We are having fairly good success right now in acquiring new parcels of land parcels in almost all of our markets.

That meet our return hurdles at current prices in current paces, assuming no home price appreciation, so we're pretty comfortable there.

And feeling good for the longer term into shorter term as we mentioned in the script, we have 100% of all the land we need to achieve meaningful growth in 2021 next year, which began for US in November and then we've got 80% of all the land.

We need to have meaningful growth again in 2020 too. So we're feeling like we're in pretty good shape.

In terms of our land position frankly, a little better than we normally would be a this early on and we're finding opportunities that should fill our 2020 too.

Die or is that remaining 20%, a and then opportunity for 2023 delivery beyond that.

I think you know that the focus needs to really be on.

Revenue growth, whether we get that run by having additional communities or whether we get that by having a higher sales on a per community basis.

Uh huh.

The objective is to get higher revenues and higher profitability. So if in fact, we continue as we suspect we will at a higher sales pace per community given the increased demand that just is going to cause us than every other homebuilder out there to.

You know sell through communities faster than they had previously anticipated, but the end result will still be revenue and profit growth for us and the industry.

Very good. Thank you I really appreciate it congrats again in the enjoy along with them.

Thanks.

Thank you as a reminder, ladies and gentlemen, if you do have a question at this time. Please press Star then one our next question is a follow up from the line of Alex Barron from House Research Center. Your question. Please.

Yes, Thanks goes to your tax rate been incredibly low these last few quarters.

Is there any expectation of when that goes back to normal.

All that in their tax line on a piano right now as state taxes.

You don't see any federal taxes, because the deferred tax asset that's fully.

As a full reserve against that so anytime we have income.

Deferred tax asset gets used and the evaluation allowance gets reduced but there is no piano effect and that will change until we are able to reverse the reserve, which is something that we probably wouldn't be able to look at it. So.

We have sustained profitability at a reasonable level. So maybe this this time next year.

Trends continue we can have the conversation and consider reversing some or all the reserve.

Okay, Yeah that was going to meet my next question is if it was reasonable to expect maybe towards the end of next year that.

The qualifying poorly reverse in the DC and.

I think we'll be certainly looking at it around that time yeah.

Okay, great. Thanks, so much.

Thank you and this does conclude the question and answer session of today's program I'd like you I'd like now I'd like to hit the propane back to our having Brady for the remarks.

Well. Thank you very much Ah as I said at the outset, we're pleased with our results, but we're even more excited about the the results to come we look forward to giving you a continued good news the into very near future. Thank you.

Thank you, ladies and gentlemen shoe participation in today's conference. This does conclude the program you may now disconnect good day.

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Spends are currently into listen only mode management will make some opening remarks about the third quarter results and then open the lines for questions. The company will also be webcasting, a slide presentation, along with the opening comments from management. These slides are available on the investors page the company's website at <unk>.

W. W Dot Kate H O V dotcom, those listeners who would like to follow along should now log onto the website I would now like to turn the call over to Jeff O'keefe, Vice President Investor Relations. Jeff. Please go ahead.

Thank you and then thank you all for participating this morning's call to review the results for our third quarter, which ended July 31st 2020, all statements. In this conference call that are not historical tax should be considered as forward looking statements within the meaning of the safe Harbor provisions of the private Securities Litigation Reform Act like 95, such statements involve known and unknown risks I'm sorry.

Although we believe their plans intentions and expectations reflected in your suggested by such forward looking statements are reasonable we can give no assurance and such plans intentions or expectations will be achieved by their nature forward looking statements speak only as an update their made are not guarantees of future performance or results and are subject to risks uncertainties assumptions that are difficult to predict.

Hi, Fi therefore, actual results could differ materially and adversely from those forward looking statements as a result.

Variety of factors, such risks and uncertainties and other factors are described in detail on the sections entitled risk factors in management's discussion and analysis, particularly the portion of them DNA entitled Safe Harbor statement and our annual report on form 10-K for the fiscal year ended October 30, Onest 2019, and subsequent filings with the Securities Exchange Commission.

Except as otherwise required by applicable security laws, we undertake no obligation to publicly update or revise any forward looking statements whether as a result of new information future events changed circumstances or any other reason.

Joining me today on the call our Ara Hovnanian, Chairman, President and CEO, Larry Sorsby Executive Vice President and CFO, and Brad O'connor Senior Vice President Chief Accounting Officer, and Treasurer, I'll now turn the call over to Ara Ara. Please go ahead.

Thanks, Jeff I hope all of you and your family's remain saizen unhealthy during these challenging times.

We are in September 2020, and although Kogut continues to impact all aspects of all of our lives the environment for new home sales remains robust.

Going to review, our third quarter results and then address the current market environment as usual Larry Sorsby will follow me with more detail before the Q on it.

Oh, good has changed the way we do almost everything.

Thanks for your well being of our associates customers trade and trade partners remains a huge focus at our company.

We continued to successfully worked through all the obstacles that are thrown our way by cobot by the Cobot 19 pandemic, we're working hard to ensure safe working environment. Our associates have been absolutely amazing in continuing to day to day approach to keep our operations running and.

Planning for the future in the face of these uncertain and very difficult times.

We switched to a virtual environment seamlessly and actually moved into high production sales and delivery mode at the same time.

Given the challenges that cobot 19 was created we're pleased with a third quarter performance on slide four would compare year over year results for our third quarter.

You can see in the upper left hand quadrant of the slide total revenues grew 30% to $628 million during this year third quarter.

Moving to the upper right hand portion of the slide you can see that our gross margin was $106 million for the third quarter compared to $84 million last year.

Reacting to slower demand in the early stages of the Cobot 19 crisis, we offered consumers additional incentives on spec homes that could be delivered during our third quarter.

This increase the volume of deliveries and gross margin dollars. Despite a reduction in our gross margin percentage from 18.4% to 17.5%.

Demand again rebounding in May.

June we pivoted to increasing home prices in virtually all of our markets.

These home price increases should offset potential price increases and result in improvements and future growth margin beginning in the very next quarter, our fourth quarter.

And the lower left and Quadro. The slide you can see that our total as junaid ratio improved to 9.5% that's 260 basis points below last year's third quarter.

We're able to reduce the ratio because our total eschewing $8 only increased 2%, including a $3 million charge for severance and related expenses, while our revenues increased 30%.

And the lower right quadrant of the slide we show that EBITDA increased 88% from 35 million in last year's third quarter to 66 million this year.

On the left and portion of slide five you can see that our pretax income for the third quarter increased $23 million from a 7 million dollar loss last year through a 16 million dollar profit this year.

If you ignore that 2 million dollar Lan charge and the $4 million gain on extinguishment of debt. The pretax adjusted income with $15 million for this year third quarter compared with a 5 million dollar loss in the same quarter last year.

Slide six shows the number of consolidated contract on a monthly basis for each month from January through August compared to the same month, one year ago.

As you can see we began the calendar year with solid improvements in sales up 31% in January up 44% in February business before most Americans were aware of the coal that issue.

Typically the spring selling season peaks in April each year.

But 2020 is a strange year that has been whipsawed by the cobot 19 problems.

Due to the nationwide shutdown demand during our typically strong spring selling season was dramatically dampened during March and April you can see that on this graph.

In the month of May our sales pace rebounded and has remained exceptionally strong each month, yes.

We recognize that demand was outstripping our ability to get the new home built and delivered within a reasonable timeframe. Furthermore, lumber costs have recently increased and we suspect that our industry may experience additional material and labor costs.

735 homes up 65% over last year's August.

If you look at contracts per community on a monthly basis as we do on slide seven you can see a similar trend.

Contracts per community increased for the first six months shown and then of course Cobot 19 impacted March and April then it turns back again, and we had a very strong increase in made all the way through August our August sales per community increased from 3.2.

Last year to 6.6, this year, that's 106% year over year improvement.

It's certainly indicative that demand for new homes remains exceptionally strong.

We plan to continue pushing home prices recognizing that this may slow down sales pace in certain communities, we believe that trading margin.

Pace make sense in this market right now.

On slide eight re show that our quarterly contracts increased 47%.

All of them 226 homes from 1515 home and last year third quarter.

This is the highest level of contract.

Quarter second quarter 2008.

The pick those even better on a per community basis, which we show on slide nine.

There you can see that we had 19 contracts per community for the third quarter. This year, that's compared to 11 for the last year third quarter.

73% increase year over year.

When you have a 73% increase in year over year contracts per community per the recent quarter, followed by a 106% year over year increase for the most recent month, it's easy to worry about approaching the market peak, but you really need to take a step back and look with a broader.

Long term perspective.

We do that on slide 10.

Here, we show annual housing starts from 1997 to the year to date annualized pace as of July 2020.

On July 2020, we're only on an annualized pace of 1.29 million starts.

Thats not a level that indicates a market peak or a bubble.

Obviously, we are doing much better as an industry that we were in the depth sub the great housing recession in 2009.

But we're not even close to previous decade annual averages for starts let alone near any cyclical peak that we hit in the last 60 years.

It's also comforting that the purchases seem to be driven by end users today not speculators.

When you consider that historically low interest rate environment, which is likely to be with us for some time. It makes one even more comfortable with the current sales market.

This recent significant uptick in the housing market caught developers and homebuilders by surprise.

The current sales pace builders will be selling out of communities faster than they plan.

This makes it challenging for most builders to grow their community count over the short term.

It will take significant time to gain control of new land parcels obtain entitlement complete land development and open new communities for sale.

Therefore in order for our industry to meet the increased level of demand for new homes I suspect that sales velocity per community will remain at higher than normal levels for some time to column there are simply not a large enough supply of loss available in the marketplace.

If you turn to slide 11, you can see another view of contracts per community with longer term trends on the left hand side, we show our average annual contracts per community from 1997 to 2002 as we've said many times in the past this was either a time of boom.

Bust for housing.

We averaged 44 contracts per community. During this period in the middle of the Slide you can then see the steady growth in contracts per community for each of the past several years.

Finally on the right hand side of the slide we show the contracts per community for the trailing 12 month.

We just ended were 48 compared to 37.4, a year ago for the first time in the over a decade were slightly above our historical normalized sales pace, but we're still well below the peak pace somewhere near 60 homes per community and this is.

What we achieved during the last cycle.

Once again based on the historical perspective of US housing starts and the scarcity of new communities that are ready and open for sale I wouldn't be surprised or overly concerned to see the current higher sales pace per community continue over the next year or two.

As many of discussed we also believe that there are three factors that are influencing this increase market demand or new homes that are.

That everyone is seeing throughout the country.

First we were at historically low mortgage rates, making homeownership very affordable today.

Second in most markets the inventory of existing homes for sale are extremely low and finally, there is a strong desire by households for more indoor and outdoor space.

When you're shelter at home for a month on and you really think about what kind of home you want to be living and as.

Nation of these three factors is the math is driving much of the demand that we're seeing and community today I'll now turn it over to Larry Sorsby our CFO.

Thanks Sara.

On slide 13, which show that we had a solid backlog of 3056 homes under contract at the end of the third quarter. The number of homes in backlog was up 20% and the dollar amount was up 17%.

Our white hot sales pace caused us to sell out of communities faster than we anticipated.

First we had 14 community Grand openings that were expected to have occurred by July 31. This year, but were delayed primarily due to cobot 19 issues second we contributed four wholly owned communities into unconsolidated joint ventures during the first quarter fiscal 2020.

Frankly, we thought that we would achieved revenue growth through community count growth and reality the significant improvements in sales price. We're achieving has been the driver of our 27% growth in revenues through the first nine months of this year.

With respect to land purchases land development and building spec homes.

However, as you can see on slide 15 are extremely strong sales price made it very difficult to increase our supply of unsold homes homes were selling faster than we could get them started we ended the quarter with 288 started unsold spec homes. This compares to 790 spec.

Homes at the end of the first quarter.

As you can see on this slide the spec Cam has been steadily trending down we had two and a half spec homes per community at the end of the third quarter, we've not made any changes to our spec strategy the lower spec count at the end of the third quarter is simply a result of the hot market.

Turning to slide six thing.

There is no doubt that some home buyers want to move in to their new home quickly on the left hand portion of the slot you can see that contracts for spec homes increased 15% year over year during the third quarter.

What some of you may find surprising as the demand for to be built homes as even stronger then for spec homes shown on the right hand portion of the slide our contracts for to be built homes were up 81% during the same quarter.

Clearly, having an ample supplies specs homes as not required to achieve significant growth in sales and revenues.

On slide 17, we control 25748 lots or a 4.4 year supply at the end of the third quarter.

Despite the adverse impact of covert 19, we added 1700 newly controlled lots during the third quarter after temporarily slowing new land acquisitions due to cobot 19 during the second quarter given the recent improvement in demand for our homes today, our land acquisition teams are back in the market.

Get sourcing new deals.

I can tell you that the number of land and lot opportunities being brought to corporate land Committee has significantly picked up recently.

We remain disciplined through our underwriting standard using current home sales price current home sales pace and current construction cost if we find land opportunities that pencil under the self adjusting criteria, we will move forward to control them.

As you can see on slide 18, we ended the third quarter with $334 million of liquidity.

Bonds at a discount we have excess capital to invest and we're busy replenishing our land supply.

Turning to slide 19.

Compared to our peers you can see that we had a third highest percentage of land controlled via options. We continue to use land options whenever possible in order to achieve high inventory turns enhance our returns on capital and reduce risk.

We're pleased to control, 61% of our land through options.

Looking at our consolidated communities in the aggregate, including mothballed communities and the $195 million of inventory not alone. We have an inventory at book value of $1.2 billion net of $189 million of impairments.

Turning now to slide 20.

Compared to our peers you can say that we have the second highest inventory turnover rate for the trailing 12 month period, although we lag NVR is industry, leading turnover number our turns remain 50% higher than the next highest peer below us high inventory turns are key component of our overall strategy.

We believe one of the key pure operating metrics for the homebuilding industry is EBIT to inventory this metric neutralizes the impact of debt.

Slide 21, we show the trailing 12 month EBIT to inventory for us than our peers. This ROI metric measures pure operating performance before interest expense, we remain well above median when compared to our peers on this metric when that tire industry are still not at normalized historical ROI levels, but we believe.

Dave ROI returns will improve for all of US we continued to work hard to get even further to the right on this chart. One other ways. We can achieve this is by maintaining our focus on inventory turns.

Hundred $93 million, we will not have to pay federal income taxes on approximately $1.9 billion of future pre tax earnings.

On Slide 22, we show that we ended the third quarter with shareholders deficit of $480 million you add back our valuation allowance. So we've done on this slide our shareholders' equity would be positive $113 million.

Turning to slide 23.

On the top of this slide we show our maturity ladder at the end at the second quarter.

On the bottom of the slot Michel what it looked like at the end of the third quarter.

During the third quarter fiscal 2020, we used $21 million of cash to repurchase $26 million as face some out of our 10% second lien notes due 2022, we're confident that we will either pay off or refinance adder prior to maturity, our remaining $111 million up second lien note.

Do and Twentytwenty too.

We will continue the annual analyze any evaluate our capital structure and explore transactions to further strengthen our balance sheet.

Turning to slide 24.

I would now like to discuss our expectations for the fiscal 2024th quarter, assuming no changes in current market conditions. We expect to report fourth quarter results with total revenues between $650 million and $680 million gross margins to be in the range of 19% to 20%.

SDMA as a percentage of total revenues to be between eight behalf and nine or half percent.

Excluding land related charges and gains or losses on extreme mission that we expect adjusted EBITDA to be between 70 and $85 million and our adjusted pre tax profit for the fourth quarter fiscal 2020 to be between 20 million and $35 million.

Looking at the physical 2021, and assuming no changes in current market conditions, we expect total revenues to be between two and a half and $2.6 billion for the full year. Additionally, we anticipate meaningful improvements and EBITDA and pre tax profits for fiscal 2021 compared to fiscal 2012.

That concludes our for prepared remarks, and we'll now open it up for any questions you might have.

Hey, guys very strong quarter congrats on that.

Thank you I was curious about your guidance on the margins.

In the 20% sounds very good but what was the reason the margins kind of surface that back this quarter or what accounts for the step back now versus the step up next quarter can you elaborate on that.

Bruce.

Comment on that as we mentioned.

In the depth of Recoded crisis in the Middle of March and April when things were looking fairly dire or frankly sales were really off the economy was uncertain and.

Basically the us shut down.

To be conservative, we discounted a bit and raised incentives, particularly on spec homes that could deliver soon those homes are the ones that delivered a lot of them in the third quarter and they had lower gross margins.

You mentioned also in the script, we then pivoted.

And.

The month of May were stronger bottom June or to stronger and every month since has been stronger. So we began raising prices and we continued raising prices that's why you're going to see higher gross margin in the fourth quarter.

Because we were going to begin to see the benefits of that pivot in pricing strategy.

Okay that sounds that sounds good so even though you're not giving guidance for next year.

Imagine.

Maybe we can expect similar margin for the first quarter of next year.

Okay great.

On the.

The other question wasn't the joint ventures.

So that income right now is only coming from.

Some of the existing joint ventures, you're not limiting any homes in the K assays. So when you expect the case they will start showing some contribution.

We are on the verge of deliberating homes right now we're just on the verge now I'd expect.

That should begin in the next quarter or too and there are other reason I'm hesitating, because just as the pandemic has created lots of issues and delays in the us.

It's done the same.

In Saudi Arabia, as well, but all is going well sales are strong production is continuing.

So we're just going through the logistics debts to begin delivering homes in fairly large quantities.

Okay, great pipe could ask one last one.

So your liquidity looks pretty good here and you guys took advantage and bought back from that this quarter is there anything that constrains how much you could do that next quarter.

And repeat your question one more time in October.

Thanks.

Yes. So your liquidity I think you said was over 300 million assist corn.

You bought back like 25 million of the 2022 bonds is there anything that constraint.

How much you could buy next quarter, yes, we have limited capacity under various covenants to to do additional repurchases of the 2022.

Bonds.

So I would say.

That you should not expect a similar amount to be done next quarter.

Okay, great I'll get back into queue. Thanks.

Thank you aren't next question comes on line of Thomas Maguire from Zelman <unk> Associates. Your question. Please.

Hey, guys great job on the quarter.

Thank you just on.

Just on the price risk case dynamic what whatsoever that makes you pull that are again.

You talked about raising prices across virtually all communities.

What drives that decision and kind of say that is enough or is there return metric you're thinking about as a more of that you don't want the backlog to get to par extended or or just how do you think about that.

Really all the above I mean, the reality is we.

Analyze it on a community by community basis.

If we sold a couple of homes in a week.

And that meets our budgets, we are not shy to raise prices that week, if we raise prices and still so a couple of homes. We will raise prices again and then we'll see what happens if we continue to sell we will raise prices again, if a price increase in particular.

Community.

Begins to dampen sales then we'll hold back on.

Selling on raising prices. So it's really a dynamic situation that we analyzed community by community market by market across the entire country.

That makes you kind of sense that it and then just on the community Count I know, there's 10, moving pieces and you're continuing to close out communities with a robust pace here, but how do you think about the ability to four on that number and begin ramping moving forward in China, we talked about qualitatively the revenue.

With land deals come into the committee.

Is there a line of sight that number moving higher in the coming quarters, and then what drove the decision to contribute to the JV.

First.

No we don't anticipate at the moment contributing more communities to JV is.

But no we review that strategy.

Month to month.

We are having fairly good success right now in acquiring new parcels of land parcels in almost all of our markets.

That meet our return hurdles at current prices in current paces, assuming no home price appreciation, so we're pretty comfortable there.

And feeling good for the longer term in the shorter term as we mentioned in the script, we have 100% of all the land we need to achieve meaningful growth in 2021 next year, which began for US in November and then we've got 80% of all the land.

We need to have meaningful growth again in 2020 too. So we're feeling like we're in pretty good shape.

In terms of our land position frankly, a little better than we normally would be a this early on.

And we're finding opportunities that should fill our 2020 too.

Hi, or is that remaining 20%.

And then opportunities for 2023 delivery beyond that.

I think.

That the focus needs to really busy on.

Revenue growth, whether we get that right by having additional communities or whether we get that by having a higher sales on a per community basis.

[music].

Sell through community faster than they had previously anticipated, but the end result will still be revenue.

And profit growth for us and the industry.

Very good thank you.

Congrats again.

And with that.

Thanks.

Thank you and as a reminder, ladies and gentlemen, if you do have a question at this time. Please press Star then one our next question is a follow up from the line of Alex Barron from House Research Center. Your question. Please.

Well, Thanks goes to your tax rate been incredibly low these last few quarters.

Is there any expectation of when that goes back to normal.

All that in the tax line on the piano right now as state taxes.

See any federal taxes, because of the deferred tax asset that's fully.

As a full reserve against that so anytime we have income.

Deferred tax asset gets used and valuation allowance gets reduced but there's no piano effect and that won't change and so we are able to reverse the reserve, which is something that we probably wouldn't be able to look at so we.

We have sustained profitability at a reasonable level. So maybe this this time next year, our trends continuing to another conversation and consider reversing some or all the reserve.

Okay that was going to meet my next question. If it was reasonable to expect maybe towards the end of next year that.

The qualifying poorly reversing that.

I think we'll be certainly looking at it around that time yeah.

Okay, great. Thanks, so much.

Thank you and this does conclude the question and answer session of today's program I'd like you I'd like now I'd like to hand, the propane back to our Hovnanian Brady for the remarks.

Well, thank you very much.

As I said at the outset, we're pleased with our results, but we're even more excited about.

The results to come we look forward to giving you a continued good news the and the very near future. Thank you.

Thank you ladies and gentlemen few participation in today's conference. This does conclude the program you may now disconnect good day.

Q3 2020 Hovnanian Enterprises Inc Earnings Call

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