Hovnanian Enterprises CEO Ara Hovnanian characterized his company's performance in fiscal 2010 as "bouncing along the bottom" during an earning's call with analysts Wednesday. The company managed to end the year in the black, bringing in $2.6 million, or $0.03 per share, thanks to a sizeable tax benefit of $291.3 million. However, a real return to operational profitability remained elusive. (For full year and fiscal fourth quarter earning results, click here.)
Part of the problem was that demand for new homes was uneven throughout the year. Business picked up from November 2009 through April 2010, aided by the federal home buyer tax credit. But the uptick was short-lived as business dropped off significantly in May and June following the tax credit's expiration. The company saw gradual recovery from July through October, but then November proved to be another leg down, as the holiday season kicked off and mortgage interest rates began to rise.
"We're anxious to see how the market returns when it gets back to normal in late January and February," said Hovnanian.
But even without a strong read on what to expect in the year ahead, Hovnanian said the company would be moving closer to operational profitability even if the market remained as challenging as it is today. Similar to other public builders, Hovnanian said the key to achieving that kind of progress would be growing net community counts and improving its mix of newly acquired communities to legacy communities in 2011. As of October, the company counted 192 communities on its books, 55% of which were tagged as newly acquired communities.
But before the company can leverage its newly acquired, more profitable communities, it needs to reload its land pipeline with more attractively priced land. CFO Larry Sorsby said the company's current land inventory represented roughly 3.7 years worth of lots, based on a trailing 12 months sales pace. At that level, Sorsby said the company could comfortably take on more land. In fact, management plans to use a good chunk of its $451 million in total cash to tie up more land.
In the past year, the company has been actively pursuing land deals. Since Jan. 31, 2009, the company has taken control of 15,000 new lots in 235 communities by buying them outright, optioning them, or investing in joint ventures. That pace has accelerated in recent quarters, with the company purchasing or optioning a total of 7,200 lots during its fiscal 3Q2010 and 4Q2010.
With fewer fully developed lots available at what management would consider reasonable prices, the company is also going after more raw land deals, where they would have to invest capital into the development of the lots. Although the turn on that kind of inventory is slower than with finished lots, Hovnanian said the margins on those deals were generally better and that there was a little more wiggle room in the underwriting, which he considered a plus given the murkiness in today's market.
In addition, Hovnanian announced that it has entered into a second joint venture with Golden Tree InSite Partners (GTIS) to acquire roughly 400 lots. The lots are located in three communities--one in Northern California, one in Southern California, and one in Virginia in the Washington, D.C., metro area. Although off-balance sheet joint ventures did a number of builders' balance sheets in the early part of the downturn, Hovnanian said they were a valuable tool for the company.
"We have a finite amount of capital, and we need to maximize what we can do with that capital," he said.
Joint ventures along the lines of the two the company has with GTIS allow the company to access large tracts of lands in pricey markets without tying up large amounts of capital. The bonus benefit is that, if the project meets pro forma, the company earns better returns on its capital than if the project was wholly owned.
"We put up 25% of the capital ,and we can take 50% of the profit," Hovnanian explained.
As the company continues to pursue various land opportunities with the goal of swapping out legacy communities for better performing, newly acquired communities, management said it expected to see improving financial results in the year ahead. By the second half of fiscal 2011, the company should be posting improved gross margins, executives said.