Hovnanian Enterprises, Inc. (HOV) on Q1 2021 Results - Earnings Call Transcript
Operator: Good morning and thank you for joining us today for Hovnanian Enterprises Fiscal 2021 First Quarter Earnings Conference Call. An archive of the webcast will be available after the completion of the call and run for 12 months. This conference is being recorded for rebroadcast and all participants are currently in a listen-only mode. Management will make some opening remarks about the first quarter results and then open the line for questions. The company will also be webcasting a slide presentation along with the opening comments from management. The slides are available on the Investors page of the company's website at www.khov.com. Those listeners who would like to follow along should now log on to the website.
Jeffrey O'Keefe: Thank you, Jonathan, and thank you all for participating in this morning's call to review the results for our first quarter which ended January 31, 2021. 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, uncertainties 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 our plans, intentions and expectations reflected in or 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, 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 and other assumptions that are difficult to predict or quantify. Therefore, actual results could differ materially and adversely from those forward-looking statements as a result of a variety of factors. Such risks, uncertainties and other factors are described in detail in the sections entitled Risk Factors and Management's Discussion and Analysis particularly the portion of MD&A entitled Safe Harbor statement in our annual report on Form 10-K for the fiscal year ended October 31, 2020, and subsequent filings with the Securities and 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 are Ara Hovnanian, Chairman, President and CEO; Larry Sorsby, Executive Vice President and CFO; and Brad O'Connor, Senior Vice President and Chief Accounting Officer and Treasurer. I'll now turn the call over to Ara. Ara, go ahead.
Ara Hovnanian: Thanks Jeff. COVID-19 continues to present challenges from both a business and personal perspective and I certainly hope all of you and your families remain safe and healthy. I'm going to review our first quarter results and then address the current market environment as usual Larry Sorsby, our CFO will follow me with more details. I will then make a few closing comments and we'll follow with Q&A.
Larry Sorsby: Thanks Ara. Given the strong demand for new homes we recognize that some analysts and investors are concerned about builders having sufficient land supply and community count to meet that demand. We are pleased to report we are in a strong position. Virtually all of the land and communities necessary to achieve further growth and profits during fiscal 2021 and fiscal 2022 are already under contract. Today our land acquisition teams are primarily focused on obtaining control of land and communities for home deliveries in fiscal 2023 and beyond. We remain focused on growing our revenues. One scenario is that we sell fewer homes per community and therefore need to increase community count to grow revenues. Another scenario where we achieve both revenue growth and efficiencies of scale is when we sell at a faster pace per community from a smaller total community count.
Ara Hovnanian: Thanks Larry. I'd like to close by making a brief macro commentary on the housing market. I want to take a step back in time and remind everyone of what was going on in the housing market before COVID-19. On slide 28, we show that from 2014 through 2019, we had seen a steady increase in contracts per community each and every year. The compounded annual growth rate over that period of time was 6%. On slide 29, you can see the dramatic increases in sales face over the last year by month. The point I want to emphasize here again, is that prior to COVID-19, the market was already turning and already gaining strong momentum. COVID-19 only accelerated many long term trends that were already present in an improving market. Given the significant improvements that we've experienced recently, it would be easy to assume that we're entering a housing bubble, but it's important to put the overall housing market into perspective. Slide 30 shows annual housing starts dating back to World War II. Much like the trends I talked about regarding our contracts per community, housing starts were growing steadily for the past several years through the end of 2020. On this slide, we show average starts per decade with the horizontal black line going from the 1950s through the 2010 decade. If you throw out the highs of the 1970s and the lows of the most recent decades, where we averaged only a million housing starts per year, the long term average has been over 1.4 million stars per year. While it has grown steadily last decade, you can see the average production during the most recent decade was by far the lowest level since World War II. Even 2020 with 10 incredible months, housing starts were below historical decade averages. On slide 31, we show the annualized start pace for the most recent month of January. It's only one month but you can see a significant month jump. However, it's important to note that even now, with one of the most robust housing markets we've seen in a long time, housing production is only just above the historical decade averages. Further, the shortage of developable lots will likely keep the start pace somewhat moderated. You can see that annualizing the 2021 January starts pace would indicate total housing production of about 1.58 million homes per year. This level of starts is nowhere near the peak levels that we've seen in the past decades, which were plus or minus 2 million starts. It's especially impactful when you consider the historically low level of housing starts over the last decade. The last decade produced almost 4 million fewer homes than our normal decade. It's also important to note that today's homebuyers are users, not speculators that we've seen in prior housing peaks. I'd be remiss not to comment on the recent increase in mortgage rates over the past two weeks. The increase in rates was sudden and not generally expected especially true given the Fed said that it intends to keep rates low for the foreseeable future. However, rates are still incredibly low. If you look at slide 32, it puts our current interest rates into perspective by comparing them over the last 20 years and more importantly, higher mortgage rates don't necessarily mean that someone's going to change their decision whether to buy a home or not. It might mean that they buy a smaller home or as fewer does options or buy a home further out. As homebuyers reset their expectations to the current rates, I don't foresee the recent increase in rates will have much of a long term impact. A reminder, the United States built more homes in 1982 with mortgage rates in the teens than were built last year. While we're cautious regarding our outlook we believe that demographics the shortage of an existing housing stock and a shortage of developable land for new housing interest rates that remain near all-time lows and the likelihood of further economic stimulus all bode well for the near-term outlook for housing. I'll also mention that the baby boom generation is in their prime second home buying age; a trend that's likely to increase post-COVID. That concludes our prepared remarks and I'd now be happy to turn it over for Q&A.
Operator: The company will now answer questions so that everyone has an opportunity to ask questions. Our first question comes from the line of Alan Ratner from Zelman & Associates. Your question please.
Alan Ratner: Guys good morning. Congrats on the great performance and results. I appreciate the commentary especially around that that price and volume equation and I think it's a really interesting dynamic right now. If I look at your absorption pace really since COVID you've been selling somewhere in the 5.5 per month range over the last three quarters and it sounds when I'm hearing from you and correct me if I'm wrong that that perhaps that might be hitting a little bit of an upper bound in terms of how quickly you could actually get those homes built. So I guess my question is what is the ideal sales pace today that you're trying to solve for with these price increases and what happens if you cross that line on the low end? If you push too hard on price how low are you willing to take that before you have to actually roll back some of these increases?
Ara Hovnanian: Alan it's really a balance that varies depending on how soon we see our new communities coming online. What we don't want to do is gap out so to speak and let our community counts go down. So we're trying to balance the right pace and margin and part of that is affected by what we see as our new communities coming online. We're feeling pretty good about communities coming online and we're unmothballing a lot of communities as well that we talked about. So we feel like we can keep up with a pretty good pace and still show some really fabulous margins but we don't have a specific target. We're adjusting it based on what we can see in our production capabilities and that varies. We're adjusting it based on some ebbs and flows and material shortages. We're adjusting it based on what we're seeing on cycle times and adjusting it based on when we're getting some new replacement communities online. So we're varying it really month to month.
Alan Ratner: Got it. That's helpful. So sounds like there's not a hard number there and it might fluctuate based on whatever the bottleneck is at the moment whether it's land or labor, materials, etc. The second question just on the balance sheet certainly good news that your sounds like you're accelerating some of the debt pay down there. Just curious with the stock trading close to three times book now if you adjust for the full DTA. Is there any thought about tapping the equity markets to even further accelerate that reduction because clearly there's an opportunity to bring down the interest expense if you were to do that?
Ara Hovnanian: Yes Alan I want to start by reminding you that we expect our book value to grow dramatically by year-end. I mean it's the law of small numbers all home builders are going to have increases but we really expect ours to increase very significantly. Further, we think we've got a lot of opportunity to improve our equity and reduce our debt even without selling of any stock. We think it's based on what we're seeing out on the horizon. We think it's a little early to sell stock also keep in mind one other thing that we didn't mention in the call as we reduce debt early and we're really focused on that and as we increase our performance we think there's a great opportunity to refinance our debt. Most of our debt is at very high rates right now. We think there will be an opportunity at some point to refinance at significantly lower rates and that would really boost our earnings since our interest is a huge part of our operating results. So I think we're going to wait and consider our options a little later in the cycle. Larry do you want to add anything to that?
Larry Sorsby: You nailed it perfectly. I don't think I need to add anything.
Alan Ratner: That was very helpful. Can I just sneak in one just fact checking question. I might have missed it but did you give the 2024 notes that you said you intend to pay down early is that something you expect to do this year or are you just signaling it's going to happen before the actual maturity date?
Larry Sorsby: We just said it was going to happen in advance of the maturity date. We did not like a specific projection precisely when but we are committed to reducing debt.
Alan Ratner: Got it. Okay. That's very helpful. Thanks a lot guys.
Operator: Thank you. Our next question comes from the line of Alex Barrón from Housing Research. Your question please.
Alex Barrón: Good morning gentlemen. Great job in the quarter and just want to congratulate you all around you.
Ara Hovnanian: Thank you.
Alex Barrón: I have a question regarding your comments about Texas and the snowstorm and all that stuff. I mean I'm just curious are things back up 100% at this point and if there is any impact on deliveries roughly how many units do you think would shift into the next quarter?
Ara Hovnanian: Right now first of all I think I believe 100% of our communities are back up in terms of sales and construction is pretty much getting back to norm. The one wild card of course is how the utilities are affected and how long they might slow things down to repair some of the outages and in addition when insurance carriers start preparing or giving reimbursements how much of the trade base gets sucked away into that but at the moment we really believe would only slip a few deliveries in the month and we think we can actually make that up in the quarter. So thus far we're feeling pretty good, but all we don't know everything just yet.
Alex Barrón: Got it. And then, I'm not sure if I missed it but did you guys give a revenue guidance for the -- in terms of the gross margins sounds like you guys are at this point shifting more towards raising prices. So you feel like the gross margins have further upside than the range you've given us for next quarter in the back half of the year?
Ara Hovnanian: It's not even dry on the guide. If we just gave us and you're asking if there's upside to it. So anything's possible I guess but we're going to stick to the range we just put out.
Alex Barrón: Okay. Now correct me if I'm wrong but if you reverse the DTA later this year that will show up on your income statement not just on your balance sheet?
Ara Hovnanian: Larry, I'll let you handle it.
Larry Sorsby: That's correct. The reversal comes through the tax expense line item on the income statement.
Alex Barrón: Tax expense. Okay. Got it.
Ara Hovnanian: And Alex I will add the comment that we mentioned, I'll mention it one more time there is a lot of talk in Washington of raising federal income taxes while that's not a great thing for most home builders that because we have this large NOL and a large deferred tax asset it would actually increase our income and we have an opportunity to increase that reversal in the future. We don't know. We will see what happens but we're uniquely positioned and because we haven't used up our tax credit, it will do have the opposite effect on us compared to our peers.
Alex Barrón: Correct. Now as far as I know it's kind of looking up to next year but I'm going on the assumption that you probably will reverse the tax credit this year. If that's the case should we assume a tax rate for next year what 25% or something like that for modeling purposes?
Larry Sorsby: Yes that's, given current rate that's a good effective rate to estimate, yes.
Alex Barrón: Okay. And if I could ask one more on the diluted share count I noticed it went down from 6.7 million last quarter to 6.3. What was the reason for that? Did you guys buyback stock or what happened there?
Larry Sorsby: It was related to unvested compensation shares. So they changed. So if nothing with the outstanding shares all had to do with the non-vested compensation shares.
Alex Barrón: So for modeling reasons should we assume 6.3 going forward or the 6.7 or what?
Larry Sorsby: 6.3.
Alex Barrón: Okay. All right and I guess it sounds like you guys are pretty good on track to pay down debt which is going to be great. So at some point if you do pay down the 2022 and 2024 are you guys expecting to just let the leverage stay or are you guys expecting to replace that debt eventually with other lower cost of debt? In other words are you trying to just lower the overall amount outstanding or are you thinking you'll eventually replace that with some lower cost debt?
Larry Sorsby: We are trying to lower the amount of debt outstanding. So we're not intending to replace the 22s or 24s by refinancing them or by later replacing it with additional debt. We want to lower the debt and really focus on repairing the balance sheet.
Alex Barrón: Okay. Great. I'll let somebody else ask and good luck for the year. Thank you.
Larry Sorsby: Thank you.
Operator: Thank you. Our next question comes to the line of Jordan Hymowitz from Philadelphia Financial. Your question please.
Jordan Hymowitz: Thanks guys. Just checking math with the guidance you provided it comes out to almost $25 per share next year and I guess my question is that 25 a little less 24 something assumes the debt is outstanding for the first half of the year. Now it's a back half loaded earnings company but the run rate the following year would be a higher number because you would have a much lower cause of debt. Is that a way to think about it at this point?
Ara Hovnanian: Yes. I think, I can't argue with your math. I didn't actually do the math on EPS but I think your math is accurate and certainly it's accurate to state that as we pay off debt there will be less interest in subsequent years.
Jordan Hymowitz: And so I'll use the fine gentleman who asked the question of three times book before and maybe we should take advantage of that at under three times this year's earnings. I think he'd be crazy to issue his share of equity at this point.
Larry Sorsby: I agree with you.
Jordan Hymowitz: Okay. Thank you.
Ara Hovnanian: I fully agree. Yes.
Jordan Hymowitz: Okay. Thank you.
Operator: Thank you. This does conclude the question-and-answer session of today's program. I'd like to hand the program back to our Ara Hovnanian for any further remarks.
Ara Hovnanian: Great. Well thank you very much. We're certainly off to a great start and we're going to be reporting even better news in subsequent quarters. Thank you.
Operator: This concludes our conference call for today. Thank you all for your participation and have a nice day. All parties may now disconnect.
