Homebuilders Return to Former Glory May Be Wishful Thinking

Key quotes from D.R. Horton's (DHI) FQ408 conference call:

For those thinking homebuilders will someday soon be reporting high revenues and margins:

Q: More builders have begun to talk about gross margins post impairment for communities being in kind of a low double digit range, markedly below kind of normalized profitability. In our view it is a little bit of a shift from maybe a year or two ago where the talk was that that impairment was supposed to push you closer to either normalized or slightly below normal level of profitability on the gross margins side… Of your impairments today… is it closer to the low double digits type margin that you’re resetting your communities at?

A: For projects that had been impaired typically a post impairment margin on those projects would perhaps be in generally in the mid teens range. However, in order for a project to become impaired, generally the gross margin must drop down into the single digit range.

You may have some recently impaired projects where the margins are in the mid teens. You may have some projects that either have not been impaired but are declining, that may be down in the low double digits or the high single digits, but have not been impaired yet. And then you may have other projects obviously that are still performing very well from a margin perspective. So on an average, weighted average balance in this environment; I think the margin in the low double-digit range with a mix of impaired projects and unimpaired projects is probably a reasonable expectation.

And then if post impairment, those projects performed at exactly the level that you assumed, then margins would remain in the mid teens. But the reality over the last year or two is that the pricing environment has continued to decline, so subsequent performance quarter by quarter has slipped back down from the actual impairment level.

On leverage:

We had no cash borrowing outstanding on our homebuilding revolver at quarter end. However, as a result of the inventory reductions we achieved during the quarter, our borrowing base availability as of September 30 was $52.8 million. Our availability will increase when we redeem the notes that mature in January and February of 2009 and as we reduce other home building debt at a faster pace than further reductions in inventory levels.

With our $1.4 billion in cash, our expected $622 million tax refund in the first quarter of fiscal 2009, and our planned addition of positive cash flow from operations in fiscal 2009, we currently do not anticipate any need to borrow from our revolver.

Price declines:

Q: Prior to the sale, the total book value of the 32,000 lots that were sold was about $975 million.

A: The original cost on those lots was $1.8 billion.

Markets worsening:

It is going to be a worse year than we had last year... cancellations are increasing substantially in both the Phoenix [Arizona] and the Tucson market.

In California today, we are finding whereas that lots used to be during the peak somewhere around 35 or 40% of the cost of a home, we are now finding that the deals that we are looking out there, we’re seeing that the value of a lot is somewhere back to a more normalized company average which is around 25% of the cost of the home. So the land prices in California have come way down and as a percentage of the cost of a home getting in line with traditional overall D.R. Horton average lot as a percentage of the cost, which is a good sign from our perspective.

As we look around the country it is astounding and surprising to us that each market is very dismal. There’s just not much positive in any of the markets that are out there today.

Spec home backlog is actually a good thing:

When we have specs that are available and we have a short time, so when people come in and sign a contract to close, we have better certainty of closing and a lower cancellation rate. So those specs are actually helping us continue to move through our land and lots and continue to generate our cash flow. So we’re going to focus really on specs more as just a percentage of our projected closings rather than looking at it as a percentage of our backlog.

Best quote-Don Tomnitz on why foreclosures are not much competition:

A: If you’re Mr. or Mrs. America, if you’re looking for place to raise your kids, I would definitely be looking for someplace that is a new home as we like to even bring it down to the lowest common denominator, some dog hasn’t defecated on the carpet in the house, so therefore you at least can move into a new home with nicely done carpeting.

Q: Thank you for the visual.

Comments

[billp37:]

Overbuilding in the Albuquerque, New Mexico area is causing water problems now and possible electric shortage problems within the next several years.

Residential construction creates an illusion of false prosperity by jobs created to erect buildings that, once completed, do not bring money in.

2008 Dec 08 09:27 AM

[Gem Hudson:]

When there is no wealth building, there is no nothing to spread around. Not only nobody else is working the business until their business works out for them. Producing nothing for the money does not pay their bills. China dollar dumping days is not buying any more of the debt. The wealth is in the selling and the production what would sell for you. Is there any other money making scheme?

2008 Dec 08 11:11 AM

[User 232593:]

a society cant exist for long shuffling phony rated AAA worthless paper around. if you dont produce a usable end product you become what we are now- a debtor nation.of course you can eat your granite counter.the sheeples may be waking up but it may be too late.sad.

2008 Dec 08 02:39 PM

[SteveD64:]

The large public homebuilder will be a thing of the past by the end of 09. They simply cannot compete with the local/regional builder who can react quicker, knows the local market better and knows the sub-contractors better.

The strength of the big public HB is his access to vast amounts of capital in order to develop large subdivisions. Do we really think there is going to be a need for that product anytime in the forseeable future?

The smart ones will go private with assistance from a hedge fund looking to partner up with them....1 or 2 may stay public...the rest will slowly go to Chapter 7...liquidation....the... really have no assets other than too many lots/land.

One of Warren Buffett's main criteria is for a business to have a large "moat" around it....the homebuilding business does not even have a drainage ditch around it.....anyone can build a home....there are litterally thousands of small HB that build 1 or 2 houses a month.

2008 Dec 08 05:05 PM

[gordon:]

Don't the homebuilders have a 5-year tax loss carry-back coming to them? Why isn't this massive drain on future tax revenues being discussed? It's in the trillion$
if you add up all the industries getting all their taxes paid back for 2002-2004

2008 Dec 09 11:39 AM

[Fabien Hug:]

Change the carpet or, better, put hardwood floors and save $ 100K. If you don't like dogs of course.

2008 Dec 09 05:24 PM