BEAZER HOMES USA, INC. Executive Overview and Outlook Market Conditions The demand for new and existing homes is dependent on a variety of demographic and economic factors, including job and wage growth, household formation, consumer confidence, mortgage financing, and overall housing affordability. In general, factors including rising levels of household formation, a constrained supply of new and used homes, wage growth, strong employment conditions and mortgage rates that continue to be low by historical standards are contributing to improving conditions for new home sales. As conditions improve, risks and challenges that could adversely impact our business such as cost pressures and home price affordability concerns increase. To capitalize on market opportunities while addressing these risks, our operating strategy focuses on offering homes that provide our customers an extraordinary value at an affordable price. Overview of Results for Our Fiscal First Quarter Reflecting improving market conditions and our operating strategy, during the first quarter of fiscal 2020, we made improvements in closings, homebuilding gross profit, average selling price, sales pace, net new orders, and homes in backlog. Profitability For the quarter endedDecember 31, 2019 , we recorded net income from continuing operations of$2.8 million compared to net income from continuing operations of$7.3 million in the first quarter of fiscal 2018. There were certain items that impacted the comparability of net income from continuing operations between periods: • Income tax benefit from continuing operations was$0.2 million during the
current quarter primarily due to the recognition of
efficient homebuilding tax credits, as compared to
benefit for the prior year quarter primarily driven by
energy efficient homebuilding tax credits recognized during the quarter.
Refer to Note 10 of the notes to the condensed consolidated financial
statements for additional details.
• We recognized no inventory impairments in the current quarter compared to
quarter.
Balanced Growth Strategy We continue to execute against our balanced growth strategy, which we define as the expansion of earnings at a faster rate than our revenue growth, supported by a less-leveraged and return-driven capital structure. This strategy provides us with flexibility to increase return of capital to investors, reduce leverage, or increase investment in land and other operating assets in response to changing market conditions. The following is a summary of our performance against certain key operating and financial metrics during the current period: • Sales per community per month was 2.5 for the quarter endedDecember 31 ,
2019 compared to 2.0 for the quarter ended
emphasis on sales absorptions allowed us to expand the unit and dollar
value of our backlog despite higher year-over-year closings. Sales per
community per month remained unchanged at 2.9 for the trailing 12 months
ended
range of 2.8 to 3.2 we established for fiscal 2020.
• Our ASP for homes closed during the quarter ended
closings during the trailing 12 months ended
thousand, up 3.8% year-over-year, and our ASP in backlog as of
thousand. The dollar value of backlog increased by 23.4% year-over-year
from
and ASP in backlog.
• During the quarter ended
community count of 168, up 5.2% from the prior year quarter. We ended the
current quarter with 166 active communities. We invested
land acquisition and land development during the current quarter compared
to
strategic opportunities to purchase land within our geographic footprint,
balancing our desire to reduce leverage with land acquisition strategies
that maximize the efficiency of capital employed.
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• Homebuilding gross margin excluding impairments and abandonments and
interest for the quarter ended December 31, 2019 was 19.8%, up from 19.7%
in the prior year quarter. For the trailing 12 months ended December 31,
2019 , this adjusted gross margin was 19.8%. With our improving sales pace
and strong backlog, we believe opportunities remain for gross marginexpansion through maximizing revenue while reducing costs by simplifying
our product offerings.
• SG&A for the quarter ended
compared to 13.5% in the prior year quarter. SG&A for the trailing 12
months ended
30 basis points from the trailing 12 months ended
decrease in SG&A as a percentage of total revenue was due to our continued
focus on improving overhead cost management in relation to our revenue
growth.
Seasonal and Quarterly Variability Our homebuilding operating cycle generally reflects escalating new order activity in the second and third fiscal quarters and increased closings in the third and fourth fiscal quarters. Accordingly, our financial results for the three months endedDecember 31, 2019 may not be indicative of our full year results. 31
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RESULTS OF CONTINUING OPERATIONS:
The following table summarizes certain key income statement metrics for the
periods presented:
Three Months Ended
December 31,
$ in thousands 2019 2018
Revenue:
Homebuilding $ 417,399 $ 400,982
Land sales and other 405 1,058
Total $ 417,804 $ 402,040
Gross profit:
Homebuilding $ 63,108 $ 60,619
Land sales and other 29 36
Total $ 63,137 $ 60,655
Gross margin:
Homebuilding 15.1 % 15.1 %
Land sales and other 7.2 % 3.4 %
Total 15.1 % 15.1 %
Commissions $ 16,065 $ 15,737
General and administrative expenses (G&A) $ 39,699 $ 38,642
SG&A (commissions plus G&A) as a percentage of total revenue 13.3 % 13.5 %
G&A as a percentage of total revenue 9.5 % 9.6 %
Depreciation and amortization $ 3,427 $ 2,770
Operating income $ 3,946 $ 3,506
Operating income as a percentage of total revenue 0.9 % 0.9 %
Effective tax rate (a) (8.1 )% (115.4 )%
Equity in loss of unconsolidated entities $ (13 )
(a) Calculated as tax benefit for the period divided by income from continuing
operations. Due to a variety of factors, including the impact of discrete tax
items on our effective tax rate, our income tax benefit is not always directly
correlated to the amount of pre-tax income for the associated periods.
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EBITDA: Reconciliation of Net Income (Loss) to Adjusted EBITDA
Reconciliation of Adjusted EBITDA to total company net income (loss), the most
directly comparable GAAP measure, is provided for each period discussed below.
Management believes that Adjusted EBITDA assists investors in understanding and
comparing the operating characteristics of homebuilding activities by
eliminating many of the differences in companies' respective capitalization, tax
position, and level of impairments. These EBITDA measures should not be
considered alternatives to net income (loss) determined in accordance with GAAP
as an indicator of operating performance.
The following table reconciles our net income (loss) to Adjusted EBITDA for the
periods presented:
Three Months Ended December 31, LTM Ended December 31, (a)
in thousands 2019 2018 19 vs 18 2019 2018 19 vs 18
Net income (loss) $ 2,746 $ 7,311 $ (4,565 ) $ (84,085 ) $ 92,883 $ (176,968 )
Benefit from income taxes (228 ) (3,924 ) 3,696 (33,549 ) (17,530 ) (16,019 )
Interest amortized to home
construction and land sales
expenses and capitalized
interest impaired 19,669 17,438 2,231 111,172 94,075 17,097
Interest expense not qualified
for capitalization 1,442 242 1,200 4,309 2,132 2,177
EBIT 23,629 21,067 2,562 (2,153 ) 171,560 (173,713 )
Depreciation and amortization
and stock-based compensation
amortization 5,738 4,884 854 26,139 23,832 2,307
EBITDA 29,367 25,951 3,416 23,986 195,392 (171,406 )
Loss on extinguishment of debt - - - 24,920 1,935 22,985
Inventory impairments and
abandonments (b) - 892 (892 ) 133,819 5,430 128,389
Joint venture impairment and
abandonment charges - - - - 341 (341 )
Adjusted EBITDA $ 29,367 $ 26,843 $ 2,524 $ 182,725 $ 203,098 $ (20,373 ) (a) "LTM" indicates amounts for the trailing 12 months. (b) In periods during which we impaired certain of our inventory assets, capitalized interest that is impaired is included in the line above titled "Interest amortized to home construction and land sales expenses and capitalized interest impaired."
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Homebuilding Operations Data
The following table summarizes new orders and cancellation rates by reportable
segment for the periods presented:
Three Months Ended December 31,
New Orders, net Cancellation Rates
2019 2018 19 vs 18 2019 2018
West 737 519 42.0 % 15.6 % 19.2 %
East 233 201 15.9 % 14.7 % 20.9 %
Southeast 281 256 9.8 % 13.3 % 20.0 %
Total 1,251 976 28.2 % 14.9 % 19.8 %
Net new orders for the quarter ended December 31, 2019 increased to 1,251, up
28.2% from the quarter ended December 31, 2018 . The increase in net new orders
was driven by an increase in average active communities from 160 in the prior
year quarter to 168, as well as increase in our absorption rate from 2.0 sales
per community in the prior year quarter to 2.5 in the current quarter.
All three of our reportable segments experienced sales pace increases during the
current quarter, while average active community count increased in the West but
decreased in the East and Southeast. Specifically, in the West, the increase in
net new orders was primarily due to increases in sales pace at Dallas , Southern
California and Northern California markets, combined with increases in average
active communities across all West segment markets. In the East, the increase in
net new orders was mainly attributable to our Nashville market, where we
experienced increases in both sales pace and average active community count
year-over-year. In the Southeast, the increase in net new orders was
attributable to sales pace increases in the Atlanta , Raleigh , Orlando and Tampa
markets, as well as an increase in average active community count in the Atlanta
market.
The table below summarizes backlog units by reportable segment as well as the
aggregate dollar value and ASP of homes in backlog as of December 31, 2019 and
December 31, 2018 :
As of December 31,
2019 2018 19 vs 18
Backlog Units:
West 1,025 776 32.1 %
East 382 294 29.9 %
Southeast 440 455 (3.3 )%
Total 1,847 1,525 21.1 %
Aggregate dollar value of homes in backlog (in millions) $ 732.1 $ 593.1 23.4 %
ASP in backlog (in thousands) $ 396.4 $ 388.9 1.9 %
Backlog reflects the number of homes for which the Company has entered into a sales contract with a customer but has not yet delivered the home. Homes in backlog are generally delivered within three to six months following commencement of construction. The aggregate dollar value of homes in backlog as ofDecember 31, 2019 increased 23.4% compared toDecember 31, 2018 due to a 21.1% increase in backlog units in addition to a 1.9% increase in the ASP of homes in backlog. The increase in backlog units was primarily due to the aforementioned increase in net new orders for the three months endedDecember 31, 2019 compared to the same period a year ago. Homebuilding Revenue, Average Selling Price, and Closings The table below summarizes homebuilding revenue, the ASP of our homes closed, and closings by reportable segment for the periods presented: Three Months Ended
Homebuilding Revenue Average Selling Price Closings
$ in thousands 2019 2018 19 vs 18 2019 2018 19 vs 18 2019 2018 19 vs 18
West $ 254,398 $ 208,944 21.8 % $ 366.6 $ 347.7 5.4 % 694 601 15.5 %
East 77,645 87,765 (11.5 )% 404.4 466.8 (13.4 )% 192 188 2.1 %
Southeast 85,356 104,273 (18.1 )% 377.7 354.7 6.5 % 226 294 (23.1 )%
Total $ 417,399 $ 400,982 4.1 % $ 375.4 $ 370.3 1.4 % 1,112 1,083 2.7 %
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For the three months endedDecember 31, 2019 , the ASP changes were impacted primarily by a change in mix of closings between geographies, products, and among communities within each individual market as compared to the prior year period. It was also positively impacted by our operational strategies as well as continued price appreciation in certain geographies. On average, we anticipate that our ASP will continue to increase in the near-term as indicated by the ASP for homes in backlog as ofDecember 31, 2019 . For the three months endedDecember 31, 2019 , year-over-year increases in closings for the West segment were primarily attributable to ourHouston andSouthern California markets, which had higher units in beginning backlog for fiscal 2020 relative to the beginning of fiscal 2019. Closings in the East segment were up slightly year-over-year based on growth in ourNashville andVirginia markets. Southeast segment closings were down year-over-year as a result of lower beginning units in backlog for fiscal 2020 relative to the beginning of fiscal 2019. Our higher ASP coupled with the overall increase in closings described above resulted in growth in homebuilding revenue for the quarter endedDecember 31, 2019 compared to the prior year quarter. Homebuilding Gross Profit and Gross Margin The following tables present our homebuilding (HB) gross profit and gross margin by reportable segment and in total. In addition, such amounts are presented excluding inventory impairments and abandonments and interest amortized to cost of sales (COS). Homebuilding gross profit is defined as homebuilding revenue less home cost of sales (which includes land and land development costs, home construction costs, capitalized interest, indirect costs of construction, estimated warranty costs, closing costs, and inventory impairment and abandonment charges). Three
Months Ended
Impairments & HB Gross HB Gross Interest HB Gross Profit HB Gross Margin
$ in HB Gross HB Gross Abandonments Profit (Loss) w/o Margin w/o Amortized to w/o I&A and w/o I&A and
thousands Profit (Loss) Margin (I&A) I&A I&A COS (Interest) Interest Interest
West $ 52,109 20.5 % $ - $ 52,109 20.5 % $ - $ 52,109 20.5 %
East 13,892 17.9 % - 13,892 17.9 % - 13,892 17.9 %
Southeast 13,460 15.8 % - 13,460 15.8 % - 13,460 15.8 %
Corporate &
unallocated (16,353 ) - (16,353 ) 19,669 3,316
Total
homebuilding $ 63,108 15.1 % $ - $ 63,108 15.1 % $ 19,669 $ 82,777 19.8 %
Three
Months Ended
Interest
Impairments & HB Gross HB Gross Amortized to HB Gross Profit HB Gross Margin
$ in HB Gross HB Gross Abandonments Profit (Loss) w/o Margin w/o COS w/o I&A and w/o I&A and
thousands Profit (Loss) Margin (I&A) I&A I&A (Interest) Interest Interest
West $ 43,860 21.0 % $ - $ 43,860 21.0 % $ - $ 43,860 21.0 %
East 14,396 16.4 % - 14,396 16.4 % - 14,396 16.4 %
Southeast 14,105 13.5 % 858 14,963 14.3 % - 14,963 14.3 %
Corporate &
unallocated (11,742 ) 149 (11,593 ) 17,323 5,730
Total
homebuilding $ 60,619 15.1 % $ 1,007 $ 61,626 15.4 % $ 17,323 $ 78,949 19.7 %
Overall homebuilding gross profit increased by $2.5 million to $63.1 million for
the three months ended December 31, 2019 , compared to $60.6 million in the prior
year quarter. The increase in homebuilding gross profit was primarily driven by
an increase in homebuilding revenue of $16.4 million coupled with a flat
homebuilding gross margin year-over-year. However, as shown in the tables above,
the comparability of our gross profit and gross margin was modestly impacted by
certain items. Specifically, interest amortized to homebuilding cost of sales
increased by $2.3 million year-over-year, and impairment and abandonment charges
decreased by $1.0 million over the same period. When excluding the impact of
interest amortized to homebuilding cost of sales and impairments and
abandonments, homebuilding gross profit increased by $3.8 million compared to
the prior year quarter, while homebuilding gross margin increased by 10 basis
points to 19.8%.
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The year-over-year improvement in gross margin for the three months endedDecember 31, 2019 is due to a variety of factors, including: (1) the mix of closings between geographies/markets, individual communities within each market, and product type; (2) our pricing strategies, including the margin impact on homes closed during the current quarter; (3) increased focus on managing our house costs and improving cycle times; and (4) favorable discrete items in the current period, such as lower warranty costs. Going forward, we will continue to focus on optimizing pricing strategy through limiting sales incentives, and lowering construction costs through product simplification to drive further improvements in homebuilding gross margin. Measures of homebuilding gross profit and gross margin after excluding inventory impairments and abandonments, interest amortized to cost of sales, and other non-recurring items are not GAAP financial measures. These measures should not be considered alternatives to homebuilding gross profit and gross margin determined in accordance with GAAP as an indicator of operating performance. In particular, the magnitude and volatility of non-cash inventory impairment and abandonment charges for the Company and other homebuilders have been significant historically and, as such, have made financial analysis of our industry more difficult. Homebuilding metrics excluding these charges, as well as interest amortized to cost of sales and other similar presentations by analysts and other companies, are frequently used to assist investors in understanding and comparing the operating characteristics of homebuilding activities by eliminating many of the differences in companies' respective level of impairments and levels of debt. Management believes these non-GAAP measures enable holders of our securities to better understand the cash implications of our operating performance and our ability to service our debt obligations as they currently exist and as additional indebtedness is incurred in the future. These measures are also useful internally, helping management to compare operating results and to measure cash available for discretionary spending. In a given period, our reported gross profit is generated from both communities previously impaired and communities not previously impaired. In addition, as indicated above, certain gross profit amounts arise from recoveries of prior period costs, including warranty items that are not directly tied to communities generating revenue in the period. Home closings from communities previously impaired would, in most instances, generate very low or negative gross margins prior to the impact of the previously recognized impairment. Gross margin for each home closing is higher for a particular community after an impairment because the carrying value of the underlying land was previously reduced to the present value of future cash flows as a result of the impairment, leading to lower cost of sales at the home closing. This improvement in gross margin resulting from one or more prior impairments is frequently referred to in the aggregate as the "impairment turn" or "flow-back" of impairments within the reporting period. The amount of this impairment turn may exceed the gross margin for an individual impaired asset if the gross margin for that asset prior to the impairment would have been negative. The extent to which this impairment turn is greater than the reported gross margin for the individual asset is related to the specific historical cost basis of that individual asset. The asset valuations that result from our impairment calculations are based on discounted cash flow analyses and are not derived by simply applying prospective gross margins to individual communities. As such, impaired communities may have gross margins that are somewhat higher or lower than the gross margins for unimpaired communities. The mix of home closings in any particular quarter varies to such an extent that comparisons between previously impaired and never impaired communities would not be a reliable way to ascertain profitability trends or to assess the accuracy of previous valuation estimates. In addition, since any amount of impairment turn is tied to individual lots in specific communities, it will vary considerably from period to period. As a result of these factors, we review the impairment turn impact on gross margin on a trailing 12-month basis rather than a quarterly basis as a way of considering whether our impairment calculations are resulting in gross margins for impaired communities that are comparable to our unimpaired communities. For the trailing 12-month period, our homebuilding gross margin was 10.0% and excluding interest and inventory impairments and abandonments, it was 19.8%. For the same trailing 12-month period, homebuilding gross margin was as follows in those communities that have previously been impaired, which represented 10.3% of total closings during this period: Homebuilding Gross Margin from previously impaired communities: Pre-impairment turn gross margin (1.5
)%
Impact of interest amortized to COS related to these communities 5.0 % Pre-impairment turn gross margin, excluding interest amortization 3.5 % Impact of impairment turns 15.9 %
Gross margin (post impairment turns), excluding interest amortization 19.4 %
For a further discussion of our impairment policies and communities impaired during the prior year quarter, refer to Notes 2 and 5 of the notes to the condensed consolidated financial statements in this Form 10-Q.
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Land Sales and Other Revenue and Gross Profit (Loss)
Land sales relate to land and lots sold that do not fit within our homebuilding
programs and strategic plans in certain markets. In some periods, we also have
other revenue related to broker fees as well as fees received for general
contractor services that we perform on behalf of third parties. The following
table summarizes our land sales and other revenue and related gross profit
(loss) by reportable segment for the periods presented:
Land Sales and Other Revenue Land Sales and Other Gross Profit (Loss)
Three Months Ended December 31, Three Months Ended December 31,
in thousands 2019 2018 19 vs 18 2019 2018 19 vs 18
West $ - $ - $ - $ - $ - $ -
East 395 981 (586 ) 17 40 (23 )
Southeast 10 77 (67 ) 12 (4 ) 16
Total $ 405 $ 1,058 $ (653 ) $ 29 $ 36 $ (7 )
To further support our efforts to reduce leverage, we continued to focus on
closing a number of land sales in the three months ended December 31, 2019 for
land positions that did not fit within our strategic plans. Future land and lot
sales will depend on a variety of factors, including local market conditions,
individual community performance, and changing strategic plans.
Operating Income
The table below summarizes operating income by reportable segment for the
periods presented:
Three Months Ended December 31,
in thousands 2019 2018 19 vs 18
West $ 30,331 $ 24,261 $ 6,070
East 5,321 5,395 (74 )
Southeast 3,156 1,380 1,776
Corporate and Unallocated (a) (34,862 ) (27,530 ) (7,332 )
Operating income (b)
(a) Corporate and unallocated operating loss includes amortization of capitalized interest and capitalized indirect costs, expenses related to numerous shared services functions that benefit all segments but are not allocated to the operating segments, and certain other amounts that are not allocated to our operating segments. (b) Operating income for the 2018 period presented was impacted by impairment charges (see Note 5 of the notes to our condensed consolidated financial statements in this Form 10-Q). Our operating income increased by$0.4 million to$3.9 million for the three months endedDecember 31, 2019 , compared to$3.5 million for the three months endedDecember 31, 2018 , driven primarily by the previously discussed improvement in gross margin on homes closed during the period, partially offset by increases in SG&A costs and depreciation and amortization compared to the prior year quarter. While SG&A costs increased compared to the prior year quarter, commissions and G&A as a percentage of total revenue each declined by 10 basis points year-over-year, respectively. Below operating income, other expense, net increased by$1.3 million primarily attributable to a year-over-year increase in interest costs not qualified for capitalization. See Note 6 of the notes to our condensed consolidated financial statements in this Form 10-Q for a further discussion of these items. 37
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Income Taxes Our income tax assets and liabilities and related effective tax rate are affected by various factors, the most significant of which is the valuation allowance recorded against a portion of our deferred tax assets. Due to the effect of our valuation allowance adjustments beginning in fiscal 2008, a comparison of our annual effective tax rates must consider the changes in our valuation allowance. As such, our effective tax rates have not been meaningful metrics, as our income tax benefit/expense was not directly correlated to the amount of pretax income or loss for the associated periods. Beginning in fiscal 2016, the Company began using an annualized effective tax rate in interim periods to determine its income tax benefit/expense, which we believe more closely correlates with our periodic pretax income or loss. The annualized effective tax rate will continue to be impacted by discrete tax items. Our current fiscal year-to-date income tax benefit was primarily driven by the completion of work necessary to claim$0.7 million in energy efficient homebuilding tax credits related to closings from prior fiscal years, partially offset by income tax expense on earnings from continuing operations. The tax benefit for the three months endedDecember 31, 2018 was primarily driven by the completion of work necessary to claim$5.3 million in tax credits related to closings from prior fiscal years, partially offset by income tax expense on earnings from continuing operations. Refer to Note 11 of the notes to our condensed consolidated financial statements included in this Form 10-Q for further discussion of our income taxes. Three Months EndedDecember 31, 2019 as compared to 2018 West Segment: Homebuilding revenue increased by 21.8% for the three months endedDecember 31, 2019 compared to the prior year quarter due to a 15.5% increase in closings, in addition to a 5.4% increase in ASP. Compared to the prior year quarter, homebuilding gross profit increased by$8.2 million due to the increase in closings partially offset by a slight decrease in gross margin from 21.0% to 20.5%. The$6.1 million increase in operating income compared to the prior year quarter was due to the previously discussed increase in gross profit, partially offset by higher commissions and G&A expenses in the segment. East Segment: Homebuilding revenue decreased by 11.5% for the three months endedDecember 31, 2019 compared to the prior year quarter due to a 13.4% decrease in ASP, partially offset by a 2.1% increase in closings. Compared to the prior year quarter, homebuilding gross profit decreased by$0.5 million due to the decline in revenue, partially offset by higher gross margin, which increased from 16.4% to 17.9%. The increase in gross margin was driven primarily by lower sales incentives and a shift in product and community mix year-over-year. Operating income remained relatively flat year-over-year, the slight decrease of$0.1 million was primarily due to the previously discussed decrease in gross profit, partially offset by lower commissions and G&A expenses in the segment. Southeast Segment: Homebuilding revenue decreased by 18.1% for the three months endedDecember 31, 2019 compared to the prior year quarter due to a 23.1% decrease in closings, partially offset by a 6.5% increase in ASP. Compared to the prior year quarter, homebuilding gross profit decreased by$0.6 million due to the decrease in homebuilding revenue, partially offset by higher gross margin, which increased from 13.5% to 15.8%. The increase in gross margin was primarily driven by a shift in product and community mix year-over-year, and a$0.9 million inventory impairment during the prior year quarter. The increase in operating income of$1.8 million resulted primarily from lower commissions and G&A expenses, partially offset by the previously discussed decrease in gross profit. Corporate and Unallocated: Our Corporate and unallocated results include amortization of capitalized interest and capitalized indirect costs; expenses for various shared services functions that benefit all segments but are not allocated, including information technology, treasury, corporate finance, legal, branding and national marketing; and certain other amounts that are not allocated to our operating segments. For the three months endedDecember 31, 2019 , corporate and unallocated net costs were up$7.3 million from the prior year quarter due to an increase in the proportion of interest and indirect costs expensed to cost of sales year-over-year and higher corporate G&A costs. Liquidity and Capital Resources Our sources of liquidity include, but are not limited to, cash from operations, proceeds from Senior Notes, our Secured Revolving Credit Facility (the Facility) and other bank borrowings, the issuance of equity and equity-linked securities, and other external sources of funds. Our short-term and long-term liquidity depends primarily upon our level of net income, working capital management (cash, accounts receivable, accounts payable and other liabilities), and available credit facilities. 38
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Cash, cash equivalents, and restricted cash decreased as follows for the periods
presented:
Three Months Ended December 31,
in thousands 2019 2018
Cash used in operating activities $ (84,530 ) $ (54,690 )
Cash used in investing activities (2,547 ) (6,300 )
Cash provided by financing activities 24,319 4,778
Net decrease in cash, cash equivalents, and restricted cash
Operating Activities Net cash used in operating activities was$84.5 million for the three months endedDecember 31, 2019 . The primary drivers of operating cash flows are typically cash earnings and changes in inventory levels, including land acquisition and development spending. Net cash used in operating activities during the period was primarily driven by an increase in inventory of$69.0 million resulting from land acquisition, land development, and house construction spending to support continued growth, and a net decrease in non-inventory working capital balances of$23.7 million , partially offset by income from continuing operations before income taxes of$2.6 million , which included$5.7 million of non-cash charges. Net cash used in operating activities was$54.7 million for the three months endedDecember 31, 2018 , primarily driven by an increase in inventory of$29.7 million resulting from land acquisition, land development, and house construction spending to support continued growth, and an increase in non-inventory working capital balances of$34.5 million , partially offset by income from continuing operations before income taxes of$3.4 million , which included$6.2 million of non-cash charges. Investing Activities Net cash used in investing activities for the three months endedDecember 31, 2019 andDecember 31, 2018 , was$2.5 million and$6.3 million , respectively, primarily driven in both periods by capital expenditures for model homes. Financing Activities Net cash provided by financing activities was$24.3 million for the three months endedDecember 31, 2019 driven by net borrowings under the Facility, partially offset by tax payments for stock-based compensation awards vesting, cash settlement of performance-based restricted stock, and repayment of other miscellaneous borrowings. Net cash provided by financing activities was$4.8 million for the three months endedDecember 31, 2018 driven by net borrowings under the Facility, partially offset by common stock repurchases under our share repurchase program, tax payments for stock-based compensation awards vesting, the repayment of other miscellaneous borrowings, and the payment of debt issuance costs. Financial Position As ofDecember 31, 2019 , our liquidity position consisted of the following: •$41.3 million in cash and cash equivalents;
•
•
certain stand-alone letters of credit.
While we believe we possess sufficient liquidity, we are mindful of potential short-term or seasonal requirements for enhanced liquidity that may arise to operate and grow our business. We expect to be able to meet our liquidity needs in fiscal 2020 and to maintain a significant liquidity position, subject to changes in market conditions that would alter our expectations for land and land development expenditures or capital market transactions, which could increase or decrease our cash balance on a period-to-period basis. Debt We generally fulfill our short-term cash requirements with cash generated from operations and available borrowings. Additionally, we maintain the Facility, which had a total capacity of$250.0 million and an available capacity of$220.0 million as ofDecember 31, 2019 after considering our outstanding borrowings backed by the Facility of$30.0 million . We had no letters of credit outstanding under the Facility as ofDecember 31, 2019 . 39
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We have also entered into a number of stand-alone, cash secured letter of credit agreements with banks. These combined facilities provide for letter of credit needs collateralized by either cash or assets of the Company. We currently have$16.6 million of outstanding letters of credit under these facilities, which are secured by cash collateral that is maintained in restricted accounts totaling$17.8 million . To provide greater letter of credit capacity, the Company has also entered into a reimbursement agreement, which provides for the issuance of performance letters of credit, and an unsecured credit agreement that provides for the issuance of up to$50.0 million of standby letters of credit to backstop the Company's obligations under the reimbursement agreement (collectively, the "Bilateral Facility"). The Bilateral Facility will terminate onJune 10, 2021 . As ofDecember 31, 2019 , the total stated amount of performance letters of credit issued under the reimbursement agreement was$33.8 million (and the stated amount of the backstop standby letter of credit issued under the credit agreement was$40.0 million ) In the future, we may from time to time seek to continue to retire or purchase our outstanding debt through cash repurchases or in exchange for other debt securities, in open market purchases, privately-negotiated transactions, or otherwise. We may also seek to expand our business through acquisition, which may be funded through cash, additional debt, or equity. In addition, any material variance from our projected operating results could require us to obtain additional equity or debt financing. There can be no assurance that we will be able to complete any of these transactions in the future on favorable terms or at all. See Note 7 of the notes to our condensed consolidated financial statements in this Form 10-Q for additional details related to our borrowings. Credit Ratings Our credit ratings are periodically reviewed by rating agencies. InNovember 2019 , Moody's reaffirmed the Company's issuer corporate family rating of B3 and stable outlook for the Company. InJuly 2019 , S&P reaffirmed the Company's corporate credit rating of B- and its positive outlook for the Company. InOctober 2019 , Fitch reaffirmed the Company's long-term issuer default rating of B- and withdrew ratings for commercial reasons. These ratings and our current credit condition affect, among other things, our ability to access new capital. Negative changes to these ratings may result in more stringent covenants and higher interest rates under the terms of any new debt. Our credit ratings could be lowered, or rating agencies could issue adverse commentaries in the future, which could have a material adverse effect on our business, financial condition, results of operations, and liquidity. In particular, a weakening of our financial condition, including any further increase in our leverage or decrease in our profitability or cash flows, could adversely affect our ability to obtain necessary funds, could result in a credit rating downgrade or change in outlook, or could otherwise increase our cost of borrowing. Stock Repurchases and Dividends Paid During the first quarter of fiscal 2019, the Company's Board of Directors approved a share repurchase program that authorizes the Company to repurchase up to$50.0 million of its outstanding common stock. As part of this program, the Company repurchased common stock during fiscal 2019 through open market transactions, 10b5-1 plans, and accelerated share repurchase (ASR) agreements, totaling$34.6 million . The Company made no share repurchases during the three months endedDecember 31, 2019 . As ofDecember 31, 2019 , the remaining availability of the share repurchase program was$15.4 million . The indentures under which our Senior Notes were issued contain certain restrictive covenants, including limitations on the payment of dividends. There were no dividends paid during the three months endedDecember 31, 2019 or 2018. Off-Balance Sheet Arrangements and Aggregate Contractual Commitments Lot Option Contracts We historically have attempted to control a portion of our land supply through lot option contracts. As ofDecember 31, 2019 , we controlled 19,742 lots. We owned 72.3%, or 14,275 of these lots, and the remaining 5,467 of these lots, or 27.7%, were under option contracts with land developers and land bankers, which generally require the payment of cash or the posting of a letter of credit for the right to acquire lots during a specified period of time at a certain price. As a result of the flexibility that these options provide us, upon a change in market conditions, we may renegotiate the terms of the options prior to exercise or terminate the agreement. Under option contracts, purchase of the properties is contingent upon satisfaction of certain requirements by us and the sellers, and our liability is generally limited to forfeiture of the non-refundable deposits and other non-refundable amounts incurred, which totaled approximately$74.8 million as ofDecember 31, 2019 . The total remaining purchase price, net of cash deposits, committed under all options was$386.8 million as ofDecember 31, 2019 . Based on market conditions and our liquidity, we may further expand our use of option agreements to supplement our owned inventory supply. We expect to exercise, subject to market conditions and seller satisfaction of contract terms, most of our option contracts. Various factors, some of which are beyond our control, such as market conditions, weather conditions, and the timing of the completion 40
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of development activities, will have a significant impact on the timing of option exercises or whether lot options will be exercised at all. We have historically funded the exercise of lot options with operating cash flows. We expect these sources to continue to be adequate to fund anticipated future option exercises. Therefore, we do not anticipate that the exercise of our lot options will have a material adverse effect on our liquidity. Investments in Unconsolidated Entities Occasionally, we use legal entities in which we have less than a controlling interest. We enter into the majority of these arrangements with land developers, other homebuilders, and financial partners to acquire attractive land positions, to manage our risk profile, and to leverage our capital base. The underlying land positions are developed into finished lots for sale to the unconsolidated entity's members or other third parties. We account for our interest in unconsolidated entities under the equity method. Historically, we and our partners have provided varying levels of guarantees of debt or other obligations of our unconsolidated entities. As ofDecember 31, 2019 , we had no repayment guarantees outstanding related to the debt of our unconsolidated entities. See Note 4 of the notes to our condensed consolidated financial statements in this Form 10-Q for more information. Letters of Credit and Performance Bonds In connection with the development of our communities, we are frequently required to provide performance, maintenance, and other bonds and letters of credit in support of our related obligations with respect to such developments. The amount of such obligations outstanding at any time varies in accordance with our pending development activities. In the event any such bonds or letters of credit are drawn upon, we would be obligated to reimburse the issuer of such bonds or letters of credit. As ofDecember 31, 2019 , we had outstanding letters of credit and performance bonds of approximately$50.4 million and$276.1 million , respectively, primarily related to our obligations to local governments to construct roads and other improvements in various developments. Derivative Instruments and Hedging Activities We are exposed to fluctuations in interest rates. From time-to-time, we may enter into derivative agreements to manage interest costs and hedge against risks associated with fluctuating interest rates. However, as ofDecember 31, 2019 , we were not a party to any such derivative agreements. We do not enter into or hold derivatives for trading or speculative purposes. Critical Accounting Policies Our critical accounting policies require the use of judgment in their application and in certain cases require estimates of inherently uncertain matters. Although our accounting policies are in compliance with accounting principles generally accepted inthe United States of America (GAAP), a change in the facts and circumstances of the underlying transactions could significantly change the application of the accounting policies and the resulting financial statement impact. It is also possible that other professionals applying reasonable judgment to the same set of facts and circumstances could reach a different conclusion. As disclosed in our 2019 Annual Report, our most critical accounting policies relate to inventory valuation (projects in progress, land held for future development, and land held for sale), revenue recognition, warranty reserves, and income tax valuation allowances and ownership changes. There have been no significant changes to our critical accounting policies during the three months endedDecember 31, 2019 as compared to the significant accounting policies described in Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations included in our 2019 Annual Report on Form 10-K. 41
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FORWARD-LOOKING STATEMENTS This Quarterly Report on Form 10-Q (Form 10-Q) contains forward-looking statements. These forward-looking statements represent our expectations or beliefs concerning future events or results, and it is possible that such events or results described in this Form 10-Q will not occur or be achieved. These forward-looking statements can generally be identified by the use of statements that include words such as "estimate," "project," "believe," "expect," "anticipate," "intend," "plan," "foresee," "likely," "will," "outlook," "goal," "target" or other similar words or phrases. These forward-looking statements involve risks, uncertainties and other factors, many of which are outside of our control, that could cause actual events or results to differ materially from the events or results discussed in the forward-looking statements, including, among other things, the matters discussed in this Form 10-Q in the section captioned "Management's Discussion and Analysis of Financial Condition and Results of Operations." Additional information about factors that could lead to material changes is contained in Part I, Item 1A- Risk Factors of our Annual Report on Form 10-K for the fiscal year endedSeptember 30, 2019 . These factors are not intended to be an all-inclusive list of risks and uncertainties that may affect the operations, performance, development and results of our business, but instead are the risks that we currently perceive as potentially being material. Such factors may include: • the cyclical nature of the homebuilding industry and a potential deterioration in homebuilding industry conditions;
• economic changes nationally or in local markets, changes in consumer
confidence, wage levels, declines in employment levels, inflation or
increases in the quantity and decreases in the price of new homes and
resale homes on the market;
• shortages of or increased prices for labor, land or raw materials used in
housing production, and the level of quality and craftsmanship provided by
our subcontractors;
• factors affecting margins, such as decreased land values underlying land
option agreements, increased land development costs in communities under
development or delays or difficulties in implementing initiatives to
reduce our production and overhead cost structure;
• the availability and cost of land and the risks associated with the future
value of our inventory, such as asset impairment charges we took on select
California assets during the second quarter of fiscal 2019; • estimates related to homes to be delivered in the future (backlog) are
imprecise, as they are subject to various cancellation risks that cannot
be fully controlled;
• increases in mortgage interest rates, increased disruption in the
availability of mortgage financing, changes in tax laws or otherwiseregarding the deductibility of mortgage interest expenses and real estate
taxes or an increased number of foreclosures;
• our allocation of capital and the cost of and ability to access capital,
due to factors such as limitations in the capital markets or adverse
credit market conditions, and ability to otherwise meet our ongoing
liquidity needs, including the impact of any downgrades of our credit
ratings or reduction in our liquidity levels;
• our ability to reduce our outstanding indebtedness and to comply with
covenants in our debt agreements or satisfy such obligations through
repayment or refinancing;
• our ability to continue to execute and complete our capital allocation
plans, including our share and debt repurchase programs;
• increased competition or delays in reacting to changing consumer
preferences in home design;
• natural disasters or other related events that could result in delays in
land development or home construction, increase our costs or decrease
demand in the impacted areas;
• the potential recoverability of our deferred tax assets;
• potential delays or increased costs in obtaining necessary permits as a
result of changes to, or complying with, laws, regulations or governmental
policies, and possible penalties for failure to comply with such laws,
regulations or governmental policies, including those related to the
environment;
• the results of litigation or government proceedings and fulfillment of any
related obligations;
• the impact of construction defect and home warranty claims;
• the cost and availability of insurance and surety bonds, as well as the
sufficiency of these instruments to cover potential losses incurred;
• the impact of information technology failures, cybersecurity issues or
data security breaches;
• terrorist acts, natural disasters, acts of war or other factors over which
the Company has little or no control; or
• the impact on homebuilding in key markets of governmental regulations
limiting the availability of water.
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Any forward-looking statement, including any statement expressing confidence regarding future outcomes, speaks only as of the date on which such statement is made and, except as required by law, we undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which such statement is made or to reflect the occurrence of unanticipated events. New factors emerge from time to time, and it is not possible to predict all such factors. Item 3. Quantitative and Qualitative Disclosures About Market Risk We are exposed to a number of market risks in the ordinary course of business. Our primary market risk exposure relates to fluctuations in interest rates. We do not believe that our exposure in this area is material to our cash flows or results of operations. As ofDecember 31, 2019 , we had variable rate debt outstanding totaling approximately$96.6 million . A one percent increase in the interest rate for these notes would result in an increase of our interest expense by approximately$1.3 million over the next twelve-month period. The estimated fair value of our fixed-rate debt as ofDecember 31, 2019 was$1.17 billion , compared to a carrying value of$1.12 billion . The effect of a hypothetical one-percentage point decrease in our estimated discount rates would increase the estimated fair value of the fixed rate debt instruments from$1.17 billion to$1.24 billion as ofDecember 31, 2019 . Item 4. Controls and Procedures Disclosure Controls and Procedures As of the end of the period covered by this report, an evaluation was performed based on criteria established in the Internal Control - Integrated Framework issued by theCommittee of Sponsoring Organizations of theTreadway Commission (2013 Framework) under the supervision and with the participation of the Company's management, including the Chief Executive Officer (CEO) and Chief Financial Officer (CFO), of the effectiveness of the Company's disclosure controls and procedures as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934 (the Act). Based on that evaluation, the CEO and CFO concluded that the Company's disclosure controls and procedures were effective as ofDecember 31, 2019 at a reasonable assurance level. Attached as exhibits to this Quarterly Report on Form 10-Q are certifications of our CEO and CFO, which are required by Rule 13a-14 of the Act. This Disclosure Controls and Procedures section includes information concerning management's evaluation of disclosure controls and procedures referred to in those certifications and should be read in conjunction with the certifications of the CEO and CFO. Changes in Internal Control Over Financial Reporting There have been no changes in the Company's internal control over financial reporting during the quarter endedDecember 31, 2019 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting. 43
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