M/I Homes, Inc. Q4 2008 Earnings Call Transcript

Feb. 5.09 | About: M/I Homes, (MHO)

M/I Homes, Inc. (NYSE:MHO)

Q4 2008 Earnings Call

February 5, 2009 4:00 p.m. ET

Executives

Phil Creek – Executive Vice President and Chief Financial Officer

Robert Schottenstein – Chief Executive Officer and President

J. Thomas Mason, Executive Vice President

Paul Rosen – President of our Mortgage Company

Ann Marie Hunker – Corporate Controller

Analysts

Dennis McGill – Zelman & Associates

David Frank – Wanger Asset Management

Lee Brady – Wachovia

Jim Wilson – JMP Securities

Alex Barron – Agency Trading Group

Larry Taylor – Credit Suisse

Operator

Good afternoon, my name is Lindsey and I will be your conference operator today. At this time I’d like to welcome everyone to the MI Homes Year End Conference Call. (Operator Instructions)

Mr. Creek, you may begin your conference.

Phil Creek

Thank you very much and thank you for joining us today. Joining me on the call today is Bob Schottenstein, our CEO and President, Tom Mason our Executive Vice President, Paul Rosen, the President of our Mortgage Company; and Ann Marie Hunker, our Corporate Controller.

First to address regulation fair disclosure, we encourage you to ask any questions regarding issues that you consider material during this call because we are prohibited from discussing significant non-public items with you directly. As to forward-looking statements, before we began I would like to remind everyone that the cautionary language about forward-looking statements contained in today’s press release also applies to any comments made during this call.

Also be advised that the company undertakes no obligation to update any forward-looking statements made during this call. The audio of which will be available on our website through October 2009. With that I will now turn the call over to Bob.

Robert Schottenstein

Thank you, Phil, and good afternoon, everyone. The results we announced this morning clearly evidence that these are very difficult times for home builders. The combination of weak demand, falling home prices, historically low levels of consumer confidence, mounting foreclosures and the increasing recessionary pressures dominating the general economy have resulted in what many regard as the most severe housing recession in decades – perhaps ever,

After experiencing challenging conditions throughout most of 2006 and all of 2007, market conditions further deteriorated in 2008. For more than two years we have been engaged in a predominantly defensive operating strategy focusing on strengthening our balance sheet, reducing our debt and inventory levels, generating cash and reducing expenses.

We firmly believe that conserving capital and managing the balance sheet is the correct approach given the severity of current market conditions. We’ve been consistent with our actions and have been proactive in doing that which is necessary during these unprecedented times. We remain committed to this defensive strategy and believe it has served us quite well as we continue to make meaningful progress in a number of key areas.

First cash flow and debt reduction – the fourth quarter of 2008 marked our ninth consecutive quarter of positive cash flow. As a result, we ended the year with $33 million in cash on hand and zero outstanding borrowings under our credit facility. That credit facility stood at $410 million at the beginning of 2007 and $115 million at the beginning of 2008.

Second, our balance sheet – our shareholder’s equity at year end equaled $333 million with no bank debt and no other significant debt maturing until 2012 and having just recently successfully amended our credit facility. (Inaudible) managed to work through this downturn and capitalize on opportunities that will occur when housing conditions improve. At the end of 2008 our net debt to capital ratio stood at 32%. This is one of the lowest levels in the home building industry.

Three, land – during 2007 we had tremendous success in selling off excess land. That success continued in 2008. Our own lot count was 8,800 lots at the end of the year, 40% less than a year ago. Our goal is to own about a two-year supply of land. Please know that we will continue moving through our 4,000 finished lots and that we will continue to generate cash.

Four, expenses – we reduced our active community count by 12% from a year ago. Additionally, we reduced our investment levels and specs by over 40% and with regard to SG&A expenses they are down today 23% year-over-year. Further, we’ve taken our head count down by nearly 60% since peak levels in 2006.

Robert Schottenstein

Five, sales – as reported our new contract or sales for 2008 were 25% below 2007 levels, though new contracts were up 5% during 2008’s fourth quarter and for January of this year just completed our new contracts are 7% ahead of a year ago – this despite the fact that our community count as I said is down 12% from a year ago. The relative strength of our sales is clearly worthy noting. It underscores the importance of quality, good product, customer service and effective marketing.

During 2008 we undertook a number of steps to improve our business processes for the future. We reduced our operating structure down from 11 to 9 divisions and centralized some back end operations. We also reorganized financial functions in an effort to streamline and gain efficiencies.

Additionally, we have reduced the number of plans we offer, improved our cycle time and continued to look at how we can further reduce all of our costs. Within the next several months, we will be launching a new product line of what we consider to be best in class affordable homes. We are very excited about this, and we continue to focus on superior customer service – it shows.

Last year we received improved customer satisfaction scores in every single one of our divisions. We believe this is truly significant given that we’re in one of the toughest years the housing industry has ever seen and one in which it would normally be difficult to receive high satisfaction scores. Before turning things back over to Phil, I will briefly review our three regions.

First the Midwest – Midwest housing markets remain soft and single family permits continue to be down. For us our new contracts were up approximately 35% during the fourth quarter which is our first positive increase for this region in (inaudible) quarters. While this by no means should be construed as an improvement in conditions, it should however be noted that we are outperforming the general market. At December 31, 2008 we owned approximately 5,200 lots in the Midwest versus 6,400 lots a year ago, a 19% decrease.

In Florida general market conditions also continue to be challenging. Home prices continue to be under pressure as this market works off excess housing inventory and like the rest of the nation fights very weak demand.

New contracts in our Florida region for the quarter were down 25% when compared to the prior year. Homes delivered were down approximately 50% compared to the same period in 2007. At December 31 of 2008, we owned approximately 1900 lots in Florida versus 5,300 a year ago, a 64% decrease in owned lots.

Finally the mid-Atlantic region – new contracts for the mid-Atlantic region were up 24% for the fourth quarter, while homes delivered were down approximately 40% when compared to the same period of 2007. At year end, we owned approximately 1,700 lots in the mid-Atlantic region versus just over 2,000 a year ago – a little more than a 15% reduction.

Our Raleigh and Charlotte markets weakened considerably during the second half of 2008. Notwithstanding this, we believe we are well-positioned in both of these markets. The D.C. market also continues to be challenging but we believe we’re making progress there as well.

Now I’d like to turn matters over to Phil who will review our financial highlights.

Phil Creek

Thanks Bob. New contracts for the fourth quarter increased 5% and our new contracts in January increased 7% over last year’s level. Our cancellation rate for the fourth quarter was 31% down from 9% in the fourth quarter of last year.

Our traffic for the quarter decreased 11%. Our sales were down 21% in October and traffic was down 4%. Sales were down 8% in November, while traffic was down 20%. And our sales were up 54% in December, while traffic was down 9%. Our active communities decreased 12% from prior year’s level of 146 to 128. The breakdown by region is 73 in the Midwest, 25 in Florida and 30 in the mid-Atlantic.

Homes delivered in ‘08’s fourth quarter were 554, won 44% from last year’s 984 and we delivered 71% of our backlog this quarter compared to 70% in 2007. Our fourth quarter results included pre-tax charges of $53 million of impairments consisting of $39 million related to land that we intend to build homes on and the $39 million is broken down by $18 million in the Midwest, $8 million in Florida and $13 million in the mid-Atlantic, $4 million related to write-off of deposits and pre-acquisition costs for land deals that we no longer intend to pursue, $4 million related to land that we sold and $6 million related to our investment in joint ventures.

The fourth quarter impairments represented approximately 2,600 lots in 66 communities, with 42% of the impairments in the Midwest, 26% in Florida and 32% in the mid-Atlantic. Over the last two and a half years we have incurred pre-tax charges totaling $432 million of impairments and have impaired over 50% of our own lots and have impaired 97 or 76% of our active communities.

With respect to total impairments taken to date, approximately $10 million reversed into housing gross margins in the fourth quarter of ’08. We continue to evaluate our assets each quarter by the standards of FAS-144. It is possible, depending on market conditions, that the company will incur additional impairment charges in the future.

Our gross margins exclusive of the impact of the aforementioned inventory and investment impairment charges were 9% for the quarter and 12% for the 12 months ended December 31, 2008. Our margins reflect our focus on generating cash and reducing our land investment. Our margins in our year-end backlog are about 10%.

G&A expenses were $26 million in the fourth quarter, which included $5 million of land abandonment charges and $1 million in severance costs. G&A also included $3 million for the write-down in estimated value of our company aircraft, which we have listed for sale. Excluding these items, G&A for the quarter was $17 million.

Selling expenses for the quarter and 12 months ended December 31, 2008 decreased $10 million and $24 million, respectfully. We continue to work on reducing our expenses. We currently employ (inaudible) people, which is down 41% from prior year-end.

Interest expense decreased $1.4 million for the quarter and $4.1 million for the year. The decrease in the fourth quarter was primarily due to the decline of $4.2 million interest incurred to $4 million. This was primarily due to a reduction in our weighted average borrowings from $465 million last year to $229 million this year, and our quarterly weighted average borrowing rate was 7.8% compared to 7.5% a year ago.

During the fourth quarter exclusive of asset impairment charges, abandonments and severance, we had an $18 million loss from operations. We are focusing daily on reducing this operating loss. We have $26 million in capitalized interest on our balance sheet at year end compared to $29 million a year ago, which is less than 4% of our assets. We continue our policy of expensing interest when land is raw and when lots are developed.

We capitalize interest when land is under development and when homes are under construction. We recorded a non-cash after tax charge of $29 million for the fourth quarter and $109 million for the year for evaluation allowance related to our deferred tax assets as required by FAS-109. At December 31, 2008, our net deferred tax asset is zero and we do not expect to record any additional tax benefits until we return to profitability.

We do have a $39 million tax receivable on our books and we expect to receive these cash refunds in the first quarter of this year. If the economic stimulus package is approved as we understand it, allowing for a five year carry back of taxable losses, we could have an additional $80 million available for carry back with $20 million for our ’08 tax year and the remainder available for ’09 tax losses.

Now Paul Rosen will address our mortgage company results.

Paul Rosen

Thank you, Phil. Mortgage and title operations pre-tax income decreased from $1 million in 2007’s fourth quarter to $587,000 in the same period of 2008. The change was primarily the result of a 44% decrease in loans originated from 812 in 2007 to 455 in 2008.

Additionally enhanced financing is being offered to M/I Homes customers to help generate sales, lowering overall margins. Loan-to-value on our first mortgages for the fourth quarter was 88% in 2008 compared to 85% in 2007’s fourth quarter.

For the quarter 47% of our loans were conventional with 53% being FHA/VA. This compares to 90% and 10% respectively for 2007 the same period. Approximately 80% of our communities are now eligible for FHA financing.

The percentage of closings in the fourth quarter where customers received down payment assistance was 14% versus 5% for the same period in 2007. We no longer offer down payment assistance program. Overall our average total mortgage amount of $226,000 in 2008’s fourth quarter.

The average borrower credit score on mortgages originated by M/I Financial was 718 in the fourth quarter of 2008. The same as 2008’s (inaudible). These scores compare to 728 in 2007 fourth’s quarter and 726 in 2007’s third quarter.

We sell our mortgages along with their servicing to a number of secondary market investors. Our main investors in the fourth quarter were Citi Mortgage, Wells Fargo, Chase and Countrywide. We have not repurchased any mortgages this year. Our mortgage operation captured 89% of our business in the fourth quarter compared to 2007’s 86%.

I will now turn the call back to Phil.

Phil Creek

I will now turn the call back to Phil. Thanks Paul. As far as the balance sheet summary, our total home building inventories at 12/31/08 decreased $281 million of 35% below prior year levels. Total building sites owned and controlled as of 12/31/08 totaled 9,700 lots which includes our share of joint ventures – 90% of which were owned and 10% of which were controlled. These reflect reductions of 30% and 40% from a year ago.

The mix of lots owned and controlled are 59% in the Midwest, 20% in Florida and 21% mid-Atlantic. With respect to our lots under contract, we have $4 million at risk in deposits, LCs and pre-acquisition costs at year-end.

Our unsold land investment at year-end is $329 million, which is 8,000 lots, compared to $484 million, which was 11,000 a year ago. Compared to a year ago, raw land decreased 47%, land under development decreased 24% and finished unsold lots decreased 28%.

At 12/31/08 we had $67 million of raw land, $73 million of land under development and $189 million of finished unsold lots. And the finished unsold lots, as Bob stated, represent 4,000 finished lots and we’re constantly focused on getting these finished lots through our system to generate cash. The market breakdown of the $329 million of unsold land is $147 million in the Midwest, $61 million in Florida and $121 million in the mid-Atlantic region.

In the fourth quarter we purchased $8 million of land and $23 million of land for the year. Our current estimate for 2009 land acquisition purchases is similar to 2008. As to land development expenditures, we spent $40 million in 2008. We currently estimate to spend about $15 million on land development in 2009.

At 12/31/08 we had $13 million investment in joint ventures, down 67% from $40 million a year ago. These joint ventures are for land acquisition and development purposes only and they’re all with home building partners. We have one joint venture with third party financing. In that one we are 50/50 partners with a large public builder and that loan does have a loan-to-value maintenance ratio. This venture has debt of $12 million and partner’s equity of $15 million.

At the end of the quarter we had $70 million invested in specs, 142 of which were completed and 189 specs in various stages of construction. This translates into about three specs per community. And of the 431 total specs, 180 are in the Midwest, 11 are in Florida and 140 is in the mid-Atlantic. And at 9/30/08 we had 479 specs with an investment of $82 million.

At 12/31/08 the company had no borrowings under its credit facility and (inaudible) in cash. Effective January 15, 2009, we amended our bank credit facility. This amendment makes certain covenants less restrictive such as tangible net worth being (inaudible) to $100 million. It requires collateral and reduces the facility to $150 million. It also prevents us from purchasing our public debt. The facility maturity date remains October 2010.

Our borrowing availability under the terms of our amended agreement is currently $65 million less outstanding letters of credit of $30 million, which is the initial six month period under the agreement. This availability will increase as we secure assets.

Customer deposits were $4 million at year end and represent 3% of our backlog value, the same percent as a year ago. The company also announced that on January 15, 2009 our Board of Directors approved, subject to adoption by our shareholders, an amendment to its Amended and Restated Code of Regulations to restrict certain transfers of the company’s common shares for the purpose of protecting certain tax benefits, primarily net operating loss carry forwards, from the limitations of Section 382 of the Internal Revenue Code of 1986 as amended.

And cash provided by operating activities for the 3 and 12 months ended December 31, 2008 was $23 million and $149 million. It was our ninth straight quarter of positive operating cash flow. In the fourth quarter of ’08 (inaudible) dividends nor did we repurchase any stock.

We are currently restricted from paying any dividends or repurchasing any stock due to our restricted payments basket covenant in our senior note agreement. We continually focus on our liquidity and capital needs not making any cash flow projections for ’09 due to the difficult environment that we are facing. However, as we have frequently stated, continued positive cash flow is a very big goal for us.

This completes our presentation. We’ll now open the call for questions and comments.

Question–and–Answer Session

Operator

(Operator instructions) Your first question comes from the line of Ivey Zelman of Zelman & Associates.

Dennis McGill – Zelman & Associates

Hi, guys. It’s actually Dennis McGowan for Ivy. How are you?

Robert Schottenstein

Dennis, how are you?

Dennis McGill – Zelman & Associates

I’m good thanks. I just have one quick numbers question and kind of two big picture questions. So, on the landfills in the quarter, what was the total cost associates with that?

Phil Creek

There was very little land sold. The revenue was only a couple of million, so I have to get back to you on that Dennis, but it was just not very significant in the quarter.

Dennis McGill – Zelman & Associates

But the $4 million impairment that you said was land related would be related to those sales or is that on land that you still own?

Phil Creek

I think both are in that number. Let us get back to you on that Dennis.

Dennis McGill – Zelman & Associates

Okay. No problem. The first big picture just has to do with when I think about your cost structure you mentioned in the quarter you’ve obviously taken some costs out but if you look at where you guys were at the peak on the SG&A and then down around 30%, but revenue is down 55-60%, how can we think about that moving into ’09 because it seems like its very likely that revenues are down again, so it’s this cycle is making it very difficult to keep up with the revenue declines and you know the cost structure certainly doesn’t seem to be aligned? So what kind of leverage are you guys going to be able to pull next year and how should we think about that overhead burden as the top line continues to fall?

Robert Schottenstein

It’s a good question. Let me take a crack at it. First of all, we might have been a little late in being as aggressive as we were. We were continuing to cut costs and reduce expenses but we very sharply intensified our focus during the last four months of last year and have now, as I said before, effectively on a line-for-line basis reduced our run rate by over 20%.

Obviously if our top line revenues backing out extraordinary items were to stay the same in 2009, as they did in LA and were not anticipating that, but if they would then our SG&A as a percent to revenues would fall significantly. We’re just going to continue to manage it. As we sit here today and since the beginning of the year, we have taken steps to further reduce our SG&A and we’ll continue to do what we can to get it in line. I think sometimes the percent gain can be a little bit misleading when you take into account things like average selling price and just a sure size of a company. But we’re doing all we can in that area. We think we’re on the right track. Frankly we feel the same way about (inaudible) bricks and reductions that we’re starting to be much more focus on now. We’ve experienced breaking more the reductions than everyone of our divisions for each in the last two years and we’ve monitored on a monthly basis. We’ve intensified that effort as well and expect to see further improvement there.

Dennis McGill – Zelman & Associates

Do you think if any of this were down, let’s say 25% in’09, do you think your SG&A as for the dollars could be down more?

Phil Creek

(Inaudible) You know Dennis, we don’t give any kind of predictions like that. As Bob said, we’re working on it very, very hard. We cut our head count 40% last year. If you look at G&A in the fourth quarter with the unusual items added it, G&A was below $20 million. Obviously, some of the selling expenses are variable. We’ve also gone through and looked at everything out there. So again, we don’t give any public predictions on that, but we’re working very, very hard on the SG&A line as well as the hard cost sticks and bricks, etcetera. So, we’ll continue to make progress on that.

Dennis McGill – Zelman & Associates

Yes, that’s fair enough. The other question I had, it’s looking like the tax credit that’s been talked about and the government stimulus package is likely to be included in. Let’s just assume that it’s a 15,000 credit. There’s no repayment but you have to file. You’re not going to get the cash right away. It has to come when you file your taxes. How do you view that as far as being a help for the market given? Is it going to offset the fact that people don’t have the cash for the down payment or it’s difficult to sell your house if you’re trying to trade-off, how do you guys kind of cue what that could be?

Robert Schottenstein

We’ll, see. I think you know where we stand. We stand with essentially all the other builders and pushing for the fixed housing preference (ph) of all which called for a monetizible credit that could be used for down payment. This is not bad, but this is a whole lot better than the weak, completely ineffective $7,500 so called credit (inaudible) active in the last year. I think this will help because the numbers not insignificant. I think what Congress is saying is they want to make sure the buyers have skin in the game when they close. Having said that, I’ve got to believe it’ll help. How much remains to be seen. We believe and I think this is real as I’ve said it’s shared by virtually every other builder and frankly by many, many associations and organizations around the country than a more forceful stimulus package could really begin to stimulate demand and stop falling house prices. We’re not seeing that yet package into this so called stimulus plan. If this is all that we get though, it is better than what we’ve got right now. And it’s likely to help sales a little bit. I think it’s a net plus. How much, you know some people (inaudible) that it could be as many as a half a million sales, we’ll see.

Dennis McGill – Zelman & Associates

Alright, well thanks again guys.

Phil Creek

Ann Marie will give you a call back. The land sales in the quarter, the revenue was low less than $3 million and there was kind of just some scattered lots in the Midwest, a couple in Florida and a couple in the Carolina. Well, they may paying real significant, but she’ll give you a call back and go over the cost side of it.

Dennis McGill – Zelman & Associates

Great, I appreciate it guys.

Phil Creek

Thanks.

Operator

The next question comes from the line of David Frank with Wanger Asset Management.

David Frank – Wanger Asset Management

Hello, this is Dave Frank from Wanger Asset Management.

Robert Schottenstein

Hi, Dave.

David Frank – Wanger Asset Management

Bob, maybe you could give a little general color on what you’re hearing from your sales team on the ground and those various markets as to what type of properties are really selling and what’s a typical profile of buyers these days that are maybe showing you that little bit of uptake that you’re seeing?

Robert Schottenstein

You know, that’s a really good question. Clearly the strongest buying group is that group that does not have a house to sell and that has a very high credit score. We think that we have had very compelling marketing messages and propositions and we think we’ve got good communities and we think we priced them right to sell and we think that maybe one of the reasons why our sales comes really aren’t too bad. They’re nowhere near where any room would like to them to be. And our margins aren’t where we’re ideally like them to be, but we think its better when we sell than when we don’t and accordingly we’ve managed our company that way. But I’d say that the profounder (inaudible) are of the few buyers that are out there would fall into the category of those without a house to sell or those whose house is sold and feel unencumbered about buying.

David Frank – Wanger Asset Management

So, you sell some of the sweet spot, maybe the $150,000 to $200,000 house to a first time buyer?

Robert Schottenstein

Maybe a little higher than that, I think the sweet spot is going to be under $200,000 for single family detached homes in most of our markets. And I think it’s going to be to a first time buyer and I alluded to the fact that very soon we’ll be launching a new line of what we think (inaudible) is a best in class for a very strong line of affordable homes. And we hope to capitalize on some incremental business, we brace as low as they are and now that we’ve got this, appears to be $15,000 tax credit, you know we want to make sure we want to capture whatever’s out there.

Phil Creek

You see, if you look what’s happen to us David, as far as average sale price and backlog, we ended ’07 at 312. At June 30th we were 289 and at 12/31 we were at 247. So obviously our average sale price have come down a fair amount. Recently also we’ve been selling about 40% first time buyers, which is (inaudible) than historical for us. So that definitely reinforce to what Bob said.

David Frank – Wanger Asset Management

What is your take on the predominance of FHA deals among your buyers? I know, it’s a very— you gave the number out, is that to find the people who have down payments or what is the meaning of that going forward?

Robert Schottenstein

Well, I think those people believed and we do too that those buyers are going to be FHA as we look ahead. You know, Paul, you want to add anything to that.

Paul Rosen

We’ve seen, as Bob had said if we’re about buyers who really FHA buyers with 3.5% down.

David Frank – Wanger Asset Management

Right.

Paul Rosen

We don’t see and anyone really moving forward and putting a lot of large catch into the transactions right now. Those deals are few and probably trim.

David Frank – Wanger Asset Management

Okay, thank you very much for that detail. I appreciate it.

Operator

The next question comes from the line of Lee Brady from Wachovia

Lee Brady – Wachovia

Hi guys.

Robert Schottenstein

Hello Lee.

Lee Brady – Wachovia

Thanks. As usual you guys give a good amount of information on the call. I did have—you’ll launched a new product line that you talked about to come out in the next few months and I guess the sweet spot itself, and the committees you have now, how much further can you can continue to bring down price to get closer to that sweet spot?

Robert Schottenstein

Well, that’s a great question and we think we got—Let me just put it this way. We think we’ve got meaningful opportunity not in all, but in many of our markets to launch this product on lots, on the ground now and I’m not going to say how much we’re going to bring down our price for two reasons. One, I’m not prepared to and second, I don’t think it’s in our interest to, yet. But we do think that we’re going to have profitable, marketable product and it’s been designed to fit on lots that are finished and that are ready to go and we’re eager to get moving on it.

Lee Brady – Wachovia

Is this something that when you roll out—how do you build that roll-out? Do you roll it out to all your regions or do you roll it by region?

Robert Schottenstein

No. Initially it will be tailored primarily for the Midwest then likely to the Mid-Atlantic. Florida is working on some different things, so it’s not the same.

Lee Brady – Wachovia

Okay. On the gross margin, you mentioned that it come down to about 9% this quarter, as warrant does that (inaudible) by region?

Phil Creek

No, Lee. I would say no. It really does not. We also said our margins and backlog, we’re about 10%, but you know again, a few quarters ago, we have 6,000 finished lots. Today we have 4,000. You know, we’re trying to drive through those. We are in the subdivision business, our community count is shrinking, but as you see by our lot holdings we still have, especially in the Midwest a little more investment than we would like to have. So, we’re working to need to work through things.

Lee Brady – Wachovia

Great and then just kind of a number thing on that tax as you talked about if the five year carryback happens and I just want to make I understood this right. Is the, I heard of $80 million that you could take back, is that $80 million in refunds you can potentially get this year or is that a net of tax number, I guess, that’s what I’m trying to get at?

Phil Creek

What it is Lee, it is an $80 million number in total. $20 million would be available for the’08 tax year, which means we could get that this year. But the remaining $60 million would apply to the’09 tax losses.

Lee Brady – Wachovia

Okay. Got you. Alright, thanks very much.

Robert Schottenstein

Thanks.

Operator

The next question comes from the line of Jim Wilson with JMP Securities

Jim Wilson – JMP Securities

Hi guys, good afternoon.

Robert Schottenstein

Hey, Jim.

Jim Wilson – JMP Securities

Hey, Bob. So, a couple of questions. If I’m doing my map right, I guess filling and adding back the impairment and you might have mentioned the number, I didn’t get it at the beginning of the call, but the gross margin ex-impairment roughly at 11%, is that roughly correct?

Phil Creek

No, actually the gross margin for the quarter throwing out the impairments on closing was 9%, for the quarter at 12% for the year.

Jim Wilson – JMP Securities

9%, okay. And I guess within that, can you give any color on where you think you stand on seeing lower material cost, lower labor cost, kind of work there or wait throughout the CL a lot. You can take and play with impairments to help at that price keep getting cut in your face that costly negatively impact. And how much improvement can you or do you feel you’ve seen in a hard cost of building homes?

Robert Schottenstein

Some and we think we’ll some more. I don’t know that I can comment on the specific. We do expect our bricks and mortar cost to further reduce and in effect improve our bottom-line without closing another house. But the extent to which that occurs without closing any additional homes, I should say. To the extent to which that occurs, I just don’t think I can say that at this point.

Phil Creek

We’ve set different targets on a divisional level, but those obviously we’re working on this for a couple of years and we’re coming at it from the national account area. We’re also coming at it from a local level, but we do have specific targets, but right now we’ll not comment on that publicly. But we are working hard on the stick and brick side.

Jim Wilson – JMP Securities

Alright, great. Then the other question is on what option, structure and terms you’ve obviously reduced that plenty, but are you-- and in what you’re still in or committed to or have you been able to change terms that have— so what are some of the deals look like?

Robert Schottenstein

We have and I mean that they –- I don’t know that there’s a – it would be – you got to start with this. Before the market turn we were internally developing close to 80% of our communities. So, we didn’t have a large stable of what you call option contracts out there within which to renegotiate. I wish we had, but we didn’t. So, of the option agreements that we have left and that we have a walk from, we have for the most part had some success in renegotiating and some cases more than one or two or three times. Extension of takedowns, lot price reductions, skipping takedowns, moratoriums and so forth on takes. They’re sort of all over the map. In a lot of cases they haven’t come down as far as we’d like them that and when that occurred we’ve walked. And we haven’t been shy about or reluctant to walk when we felt it was necessary.

Phil Creek

If you look at our lot centered contract at the end of this year, it was only 900 lots. At the end of last year, it was 2400. So we definitely have cut down on our option lots. Again staying focus on the 8800 lots we owned since we’re trying to get down to that two year supply. You know, we still own too many lots and we’re trying to work through those obviously first.

Jim Wilson – JMP Securities

Right, okay. Alright, very good. Thanks.

Robert Schottenstein

Thank you Jim.

Operator

The next question comes from the line of Alex Barron with Agency Trading Group.

Alex Barron – Agency Trading Group

Hi guys.

Phil Creek

Hey, Alex.

Alex Barron – Agency Trading Group

Probably, if you’ve already discussed this today, I had a couple of little trouble getting on early, but what was (inaudible) from $17 million the last three quarters to $25 million this quarter?

Robert Schottenstein

Alex, you got to repeat the question. We lost the middle of it.

Alex Barron – Agency Trading Group

Okay, I was saying that what was the reason that the corporate SG&A went up by about $8 million this quarter?

Phil Creek

If you look at the G&A, which was $26 million for the fourth quarter, that includes its $5 million of land abandonment charges and it also included $1 million of severance cost, also SG&A was $3 million for the write-down and the estimated value of our company aircraft, which we have lifted for sale. So, if you ex-split those $9 million of unusual items, G&A for the quarter was $17 million.

Alex Barron – Agency Trading Group

Okay, got it. My second question was I was looking at your website and you guys have a AD for a 3.875% rate.

Robert Schottenstein

Are you interested in buying a house?

Alex Barron – Agency Trading Group

Sure. I was wondering, I mean how much of that kind of effectively cost you to do that? Like, in other words if you didn’t do that or to run that program, how much are you kind of having to spend to do that?

Phil Creek

You know, Alex that’s not something that we’re going to disclose obviously, but we think it has been a very effective program for us. It’s been a very good traffic generator. You know, it’s primarily directed towards quicker closings, you know 30 to 60 days, but it’s been a very, very effective to or for us.

Alex Barron – Agency Trading Group

Okay. My next thing, I think I did hear you mention it, but I was a little faster with my writing, you mentioned the benefit from previous impairments to gross margin?

Robert Schottenstein

$10 million in the quarter.

Alex Barron – Agency Trading Group

$10 million, okay. My other question was, given the pretty substantial level of write-downs we’ve seen to date, why do you feel like the margins are still 9%. I mean, weren’t they like going back higher which I wouldn’t assume would happen if given these write-downs?

Phil Creek

But there’s a couple for things there and that’s a very good question. If you look from a balance sheet standpoint, again a year ago we had almost $500 million amounts of land. At the end of this year, we had about $320 million. So we have brought our own sold land down quite a bit, trying to move through the finished lots. Trying to generate cash, so I think it’s the combination Alex that we had a higher and excellent level than we’ve wanted. We worked through there. We also wanted to move through the especially the finished lots and that impacted our margins some also. I also mentioned on the call we have impaired about 75% of our communities. We think that staying on top of that and trying to focus on what market pricing is, to continue generating some volume has been very important to us.

Robert Schottenstein

I think you got to look at all these things when you look—you got to look at whole canvass, I guess it’s the way I put it in. And I know that you do, and I appreciate that. And first of all the market has continued to deteriorate, but I mean, I think that our sales for last year were down 25% from’07. As I said early in the call, we wished they weren’t down that much, but I think that compares somewhat favorably with many others in our industry. Fourth quarter our sales were up 5% year-over-year and in January, the month that just standard, our sales were actually up 7% from a year ago. I think that’s a combination of a number of factors, whether it be products, the customer service, effective marketing, pricing strategies, all these things relate as you know. So, I think that we’re trying to reduce our investment level and generate cash and worked through things that we don’t think get better as they get older.

Alex Barron – Agency Trading Group

Right. I think you guys have definitely taken more realistic impairments. I’m just (inaudible) that you’ve taken so 75% of your communities and other builders are still saying they’d only impaired like a third or 25%. I mean, I guess I wonder if that’s more statement of their less realistic, or if you think it’s because you guys are more, you know?

Robert Schottenstein

Well, the easy answer is I hope they’re right. Because if they are then we got a lot to lift ahead of us.

Alex Barron – Agency Trading Group

Yes. Alright, well thanks a lot.

Phil Creek

Thanks, Alex.

Operator

The next question comes from the line of Larry Taylor from Credit Suisse.

Larry Taylor – Credit Suisse

Good afternoon.

Robert Schottenstein

Hey, Larry.

Larry Taylor – Credit Suisse

Just a kind of quick follow up. You gave some information on the availability of the bank loans, just to confirm, they are no impediments to you guys putting additional collateral in to have the full $100 million left whatever you have outstanding in LCs and is that your intent?

Phil Creek

Larry, you’re correct. I mean we can collateralize as much as we want to, to get that collateral obligation process done, tends to be a 90 to 120 day process. We have started on that, but in the interim period which is the first six months of the agreement, we’re allowed to have $65 million available less the LCs. It’s just a matter of timing. We just fit the amendment change or existing.

Larry Taylor – Credit Suisse

Right. And it’s just your intensive collateralized map just to have the whole $100 million in case you need it or right now do you feel like you don’t, you’re not there yet.

Phil Creek

Not there yet. Obviously, you don’t get an expense to do a (inaudible) and report more riches and all those things, we will obviously collateralized some things to give our sales some room, but we just feel what’s that on a 90 to 120 days go forward period. But again the whole thing is available to us, the $150 million.

Larry Taylor – Credit Suisse

Okay, thanks for that clarification.

Phil Creek

Thanks.

Operator

(Operator instructions). Your next question comes from the line of Dennis McGill with Zelman and Associates.

Dennis McGill – Zelman & Associates

Hey Phil, I just find to clarify on the tax carryback potential. When you say $20 million potentially related to the’08 return, is that implying that you’ve already realized losses that you just weren’t able to go back and recoup yet, so that would be an immediate benefit.

Phil Creek

That’s right.

Robert Schottenstein

And that in year end, and you understand that’s an addition to the $39 million.

Dennis McGill – Zelman & Associates

Right, exactly. And then the 60, when you’re looking out a year is that just based on what your assumptions are for what you’ll realize within’09 or have you already realized part of that as well?

Paul Rosen

Paul. If you go ahead up what you boxed you paid in tax is for the period, then you back up what you got to refund to be realized and is that kind of a different number and that’s how you come up with the 60 million.

Dennis McGill – Zelman & Associates

Okay. So you would still have to sell land and our homes and realize it to generate the carryback for the 60?

Ann Marie Hunker

You’ve got being tax for a lot.

Paul Rosen

If they could withstand that what the’09 taxable law says…

Ann Marie Hunker

You got to turn your (inaudible) period inventory.

Paul Rosen

They would avail what the’09 tax laws was and again whenever the rules get finalized we’ll take a look at there. What you’re alluding to is you do need obviously to liquidate the impaired inventory to get that tax benefit. So—

Dennis McGill – Zelman & Associates

So, the 60 is a cap on what you could potentially get if you liquidate it enough to get there?

Paul Rosen

The cap is 80 because that’s the last cap over a part of the tax that we’ve paid less on what we’ll get back.

Dennis McGill – Zelman & Associates

Right, okay. I’m (inaudible). Thank you.

Paul Rosen

Aha.

Operator

The next question comes from the line of Alex Barron with Agency Trading Group.

Alex Barron – Agency Trading Group

I’m sorry, I’m not sure I followed. How come you can only collect 39 this year and not the whole 60?

Robert Schottenstein

To (inaudible) applies.

Phil Creek

If the 39 fills up the two year carry back period. To get more than the 39, we have to go into the new five year deal.

Alex Barron – Agency Trading Group

Okay. But you said you already incurred the losses in’08, right?

Phil Creek

That’s right. We have another $20 million of taxes that we paid that go to the’08 tax year that we can get back later this year if the law is changed.

Alex Barron – Agency Trading Group

Okay.

Phil Creek

We just already filled up the two year carryback bucket. As of today , we’d go 20 years followers.

Alex Barron – Agency Trading Group

Okay.

Phil Creek

This will all goes back to five. That’s how we could pick up another 20 this year.

Alex Barron – Agency Trading Group

I get it now. Okay, I’m sorry.

Phil Creek

No problem. It’s not easy to get.

Alex Barron – Agency Trading Group

Did you give a number for any of the impairments?

Phil Creek

$6 million, yes we did. When we looked at the impairments in the quarter Alex, of the $53 million, $6 million related to the JV investment.

Alex Barron – Agency Trading Group

Okay, I got it. Thanks, Phil.

Phil Creek

A-huh.

Operator

(Operator’s instructions).

Phil Creek

If there is no other questions operator

Operator

No sir, there are no further questions.

Phil Creek

Thank you very much for joining us. We look forward to speaking to you at the end of the first quarter.

Operator

Thank you. This concludes today’s conference call. You may disconnect.

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