Hovnanian Enterprises, Inc. (HOV) on Q2 2021 Results - Earnings Call Transcript
Operator: Good morning and thank you for joining us today for Hovnanian Enterprises Fiscal 2021 Second 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 second 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 website.
Jeff O'Keefe: Thank you, Liz and thank you all for participating in the call this morning to review the results for our second quarter. All statements in this conference call that are not historical facts should be considered as forward-looking statements within the meaning of 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 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 date they are made, are not guarantees of future performance or results and are subject to risks, uncertainties and 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 securities 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 are 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, go ahead.
Ara Hovnanian: Thanks, Jeff. I'm going to review our second quarter results and then address the current market environment. As usual Larry Sorsby, our CFO will follow me with more details and we'll end with Q&A.
Larry Sorsby: Thanks, Ara. I'm going to start with a discussion about the $17.5 million of incremental phantom stock expense that we booked in the second quarter of fiscal 2021. In 2019, for the only time in our history, phantom stock was used in lieu of actual equity for our long-term incentive plan or LTIP grant. This was done in the best interest of shareholders to avoid dilution concerns associated with the low stock price of $14.50 at the time of the grant. We determined that granting phantom shares eliminated the significantly higher-than-normal EPS dilution that would have resulted from granting actual shares at the $14.50 stock price. When actual shares are used for an equity grant there are no GAAP expenses related to stock price movements from one quarter to the next. However noncash GAAP expenses for phantom stock varies depending upon changes in common stock price each quarter during the performance period which began in 2019. Cash payments for the 2019 phantom stock LTIP grant will occur beginning in fiscal 2022. Since 2019 when we granted our phantom stock LTIP, our operating performance has significantly improved. As a result, our stock price has materially increased especially after we reported our strong first quarter results and guidance for fiscal 2021 in early March. The run-up in our stock price from $51.16 to $132.59 during the second quarter resulted in a $17.5 million of SG&A expense that would not have occurred had we granted our 2019 LTIP utilizing actual shares instead of phantom stock, where we were not surprised that the stock price went up, we were surprised by how much it went up in a single quarter. On Slide 12, we show our total mothballed lots as of the end of the second quarter of fiscal 2021. During the second quarter of fiscal 2021, we unmothballed 864 total lots including 732 lots in a large master-planned community in Northern California, a 99-lot community in Southern California and a 33-lot community in Virginia. That leaves us with 1514 mothballed lots in 8 communities with a book value of $4 million.
Operator: The company will now answer questions. So that everyone has an opportunity to ask questions, participants will be limited to one question and a follow-up. After which you will have to get back in the queue to ask another question. Our first question comes from Alan Ratner with Zelman.
Alan Ratner: Hey, guys. Good morning. Thanks for taking my questions. So, first one I'd love to dig in on, you guys mentioned several times this notion of trying to match your sales to start pace, which I think a lot of builders in the industry are doing right now. So if we look at your absorption rate going from 7 a month a few months ago down to 4-plus here in May, what is your production pace running at currently? And at what point do you think you can maybe open up the spigot a little bit more and perhaps let that absorption rate run a bit hotter than it is today, or is 4 kind of the new normal that you're kind of solving for at this point?
Ara Hovnanian: I'd say, Alan, part of that is dependent on when we can get our new communities on pace on the market. What we're being cautious, we don't want to gap out, so to speak, and sell-out too quickly. As we get more storefronts open. And as you saw our option position is growing a lot, our land spend positions are growing a lot. We've just got to get those communities open. As we get them open, then we can feel a little more comfortable letting the absorption pace grow more rapidly and go to a higher pace than the 4.5.
Alan Ratner: Got it. Okay. That's helpful. Second question, just in terms of the margin on homes you sold in May, you mentioned it's the highest level in a decade. I was a bit surprised, just looking at your margin guidance for the back half of the year. It doesn't really imply much improvement from the second quarter level. So can you talk a little bit about what the absolute margins are on homes you're selling today? And presumably, when that would begin to filter through to the P&L?
Ara Hovnanian: Well, yes, first, the homes that we're selling today are not really going to be delivering this fiscal year. Most of what we're delivering this fiscal year has already been in backlog. You'll begin to see these higher margins from our current contracts in next fiscal year, beginning with our first quarter. Obviously, we haven't started all of those just at this moment. So we are still subject to potential cost increases, but the margins in our current contracts are substantially higher. So we feel pretty confident, we're going to generate some pretty good margins as we deliver those homes.
Alan Ratner: I appreciate that, Ara. I guess, what I was thinking, you didn't just start raising prices in May, you've been raising prices for several months. And I think you've mentioned starting January, February, is where you really started to get aggressive there. So presumably, some of those homes would deliver before the end of the year. So that's where I was referring to, being a little bit surprised.
Ara Hovnanian: Some of them will. We're obviously being fairly cautious on margin guidance, given that it's a very challenging environment with cost increases in general. What's happened with lumber, up and down and other material costs and labor costs. So we're trying to be on the conservative side on our guidance.
Alan Ratner: Understood. Okay. Thanks a lot. Appreciate it. Good luck.
Ara Hovnanian: Thanks.
Operator: Our next question comes from Alex Barrón with Housing Research Center.
Alex Barrón: Yes. Thanks, guys. I wanted to ask about the deferred tax asset. What drove the fact that you didn't get the whole thing on the state side? And is that expected to get done later in the year, or how does that work?
Ara Hovnanian: When you evaluate the valuation allowance for state you have to look to each state individually and states will have different rules in terms of how long you can carry forward net operating losses. We also have states that since those NOLs were generated we're no longer operating in, or we've significantly reduced our operations. And as an example, we're winding our business down in Chicago. Currently, we're not operating in Pennsylvania. So we've got markets that we've left, and therefore, unlikely to at least at the moment to weren't able to forecast that we would use those NOLs in time before they would expire. It is something we would continue to evaluate. But I wouldn't anticipate that valuation allowance that currently on our books at $103 million to change dramatically in the coming – certainly the rest of this year, and maybe not much going forward. It will depend on changes in our operations in those states where we currently can't forecast using those NOLs.
Alex Barrón: Got it. And for modeling purposes, what kind of tax rate do you suggest using going forward?
Ara Hovnanian: I would say high – at the moment high 28%, 29% something in that range for federal and state.
Alex Barrón: Okay. Great. And then on the phantom stock –
Ara Hovnanian: Sorry. Just to add to something Larry said, while that will be our tax expense, we won't be paying taxes especially the federal taxes, because of our deferred tax asset I just want to make sure that was clear.
Alex Barrón: Correct, yes. And then on the phantom stock issue is that – it seems like it's going to be an ongoing issue based on your stock price, but is there a certain amount of stock that was issued and that's it, or is there going to be more issuances coming down the road?
Larry Sorsby: No. It was a onetime event. And just keep in mind, it does go up and down. At – today, our stock price is down as all homebuilders are down and it would actually result in a lowering of expense and an increase of profit of about $2.5 million at the moment. So it goes in both directions.
Alex Barrón: Got it. And if I could ask one last one. I think you said, your contracts for May were 413, because you're raising prices and maximizing margins. Is that roughly you think a run rate for the remainder of the year, or is this likely to go up from here based on other factors?
Ara Hovnanian: Yeah. Go ahead, Brad.
Brad O'Connor: Well, I think as Ara mentioned during the prepared remarks and even previously on one of the responses, as our additional communities opened later this year that we've talked about we should obviously get additional contracts and then be at a faster pace than we're currently running in May. And we also mentioned right now, we're intentionally restricting sales, because of our ability to produce and get caught up on our existing backlog. So I think as that frees up, and we get those fees open, you might see us increase sales space even on the existing communities at that point.
Alex Barrón: Okay. Great. Thanks. I’ll get back in the queue.
Ara Hovnanian: Okay.
Operator: Our next question comes from Jordan Hymowitz with Philadelphia Financial.
Jordan Hymowitz: Thanks, guys. A couple of questions on the debt refinancing and pay down, what is the earliest first of all you could pay down the 2024s?
Larry Sorsby: Well, it's dependent upon us achieving certain secured debt leverage ratio results. And so we are not there yet, and we are monitoring that each quarter end, but we're not projecting that at the moment. But if you look at the indentures, you probably could get a pretty good estimate all that yourself.
Jordan Hymowitz: But it looks like around the September, October time period? And I guess would your goal be to refinance those as soon as possible?
Ara Hovnanian: I don't think we've made any decisions on precisely when we're going to do that. We certainly intend to do it in advance of maturity and hopefully well in advance of maturity, but I don't think we put a fine point on precisely when.
Larry Sorsby: And in addition at the current moment, our plan is not to refinance, but rather just have a reduction in our -- the amount of our debt.
Ara Hovnanian: You said it all.
Jordan Hymowitz: Perfect. And are you -- once that occurs, I assume the ratings agencies would take a look at upgrading the rating for your company overall?
Ara Hovnanian: You would assume that and we hope that that is true and we intend to meet with the rating agencies in the not-too-distant future just to further update them on our improved performance.
Jordan Hymowitz: Okay. And different topic is -- doesn't the adjusted EBITDA add back the $17 million of SG&A expense?
Larry Sorsby: Because it's not taxes or interest depreciation or amortization. I mean, is it SG&A expense. I know you're trying to do it as a non-cash item. So you theoretically can do that on your own, but from a definition of EBITDA it's not any of those items.
Jordan Hymowitz: But adjusted EBITDA by nature is a non-cash definition and it's a non-cash item.
Larry Sorsby: You feel free to add it back.
Jordan Hymowitz: Okay. And final question. what do you think current coupons are if you were able to refinance the 2026s?
Ara Hovnanian: That's a difficult question to answer given the lack of liquidity in our current bonds, you really just don't trade. But if look at what similarly rated homebuilders to us are trading at yield wise, it's dramatically lower than our current coupon. But the fact that that is occurring versus, our ability to actually refinance our whole structure, we've got some work to do to reeducate the high-yield market on our improved performance and I'm very optimistic as we do that that the coupons that we can refinance that are materially lower and much closer to what our similar situated peers have.
Jordan Hymowitz: And what are your similarly situated peers have for those of us that are less familiar with the debt markets?
Ara Hovnanian: Yes. They're less than 6%.
Jordan Hymowitz: Okay. Thank you.
Operator: Our next question comes from Alex Barrón with Housing Research Center.
Alex Barrón : Yes. Thanks. I was wondering if you could talk about build times. Have those been extended to various supply chain disruptions? And if so by how much roughly?
Larry Sorsby: They have been extended partly due to supply chain disruptions, partly due to pressures on labor. Many builders are experiencing what we're experiencing, most builders with dramatically improved sales, which means a lot of strain on labor capacity. I'd say, depending on the geography in the moment, we've seen delays of 30 days to 60 days in many locations and product types. And we factored those delays into our guidance.
Alex Barrón: Got it, and in terms of your spec strategy, given the rise in cost and delays and so forth? How has that shifted if anything when you guys are -- how many specs you're starting, versus at what point in the construction cycle you guys are selling the homes?
Ara Hovnanian: Yeah. I know the strategy varies quite a bit by builder. Some builders are almost 100% spec. Some builders are still almost 100%, build to order. We're somewhere in between. At the moment, frankly, sales have been so robust, that all of our capabilities are going into starting the sold homes we have, which leaves a little less capacity for starting specs, just extremely active right now. So I'd say, in general, we're starting fewer specs than we did a year or two ago.
Alex Barrón: Okay. Thanks a lot. And best of luck.
Ara Hovnanian: Okay. Thank you.
Operator: I'm showing no further questions in queue. I'd like to turn the call back to Ara Hovnanian, for closing remarks.
Ara Hovnanian: Great. Well thank you very much. We're pleased with our results overall. And we're excited about, what we're going to be reporting in future quarters. So we look forward to sharing some good news in upcoming quarters. Thank you.
Operator: This concludes our conference call for today. Thank you all for participating. And have a nice day. All parties may now disconnect.
