Operating with a view that conditions in the home building industry are not likely to improve until 2009, M/I Homes CEO and president Robert H. Schottenstein spoke during the company's third-quarter earnings call about the "predominantly defensive operating strategy" being deployed.
According to Schottenstein, ongoing efforts focus on reducing overhead and other costs, significantly curtailing land purchases and land investments, and strengthening the company's balance sheet.
M/I on Tuesday reported a net loss of $21.7 million for the third quarter of 2007, which, if the payment of $2.5 million in preferred share dividends is included, rises to $24.2 million. The loss included pre-tax charges of $33.4 million, comprised of land-related impairment and abandonment charges of $26.5 million, joint venture write-offs of $6.1 million and $0.8 million in severance costs.
For the quarter, sales were down 2% from last year to 561; deliveries were off 15% to 787; and homes in backlog was down 42% to 1,468 with a sales value of $481 million based on an average sales price of $327,000. M/I Homes had 159 active communities at the end of the quarter, down from 170 at the same time last year. For the first nine-months of the year, new contracts declined 11% to 2,191 from 2,472 in 2006; deliveries decreased 18% to 2,246.
Caught with the need to move land and specs through the development pipeline, the company generated little cash flow during the quarter at a time when cash is king. The company reported $11 million of cash from operations during the third quarter and $74 million year-to-date.
"We have been spending some money this year moving land from land under development to finished lots," said CFO Phil Creek. "In the fourth quarter, we should be closing more homes; also, the spec homes have been progressing through the pipeline. We are closing more and more specs. That's where the majority of the cash flow is coming from. We figure everything else will pretty much be a push between building out the inventory, developing lots, and everything else."
Also affected by the company's heavily-weighted owned land position was SG&A. At 18.6% for the quarter, SG&A is running high compared to the company's historical rates of roughly 12.5% in years past. But executives noted that the percentages are deceptive due to the high level of land the company was developing before the downturn. Today, roughly 20% of the company's SG&A is associated with the operations invested in land. "On an absolute basis, our SG&A has actually come down and continues to come down" said Schottenstein.
In an effort to spur sales, the company is attempting to be competitive on pricing and also offer unique incentives. "We are in the subdivision business," said Creek. "We look at it every Tuesday. We would sure like to have at least one per month per community. Two would be better, but you have to balance off what's in the marketplace and what's going on."
Schottenstein noted that the company is constantly reviewing every community in an effort to get pricing inline with the market. In addition, the company is offering an incentive on favorable 30-year fixed rate financing for express delivery or spec homes. "We are marketing them with a 4.875% 30-year fixed rate, and we have got other below-market rates that we utilize on new builds," he said.
The company cited several initiatives to recognize cost savings:
- Ongoing negotiations with suppliers and subcontractor partners on a national and market basis. Year-over-year, the company indicates a 5-7% reduction in sticks and bricks as a result.
- Renegotiations on lot takedown agreements.
- Cycle time reduction by nearly 50% on new models and spec homes. Last year, it took between 120-150 days to build in most markets. Today, the goal is to be near 60 days.
Reflecting on performance by region, Schottenstein noted that the Midwest continues to be a challenge for the company. As a result of poor job growth, permits in Columbus, Indianapolis, and Cincinnati are all down, and M/I has reduced its lot supply in the Midwest by 14%. Still, the company expects to deliver nearly 50% of its total homes there this year and has recognized gross margins in the 12-14% range.
In Florida, the company saw a slight increase in new contracts year-over-year, though this comp reflects a 2006 third quarter number that was off by over 50% from 2005. Schottenstein said there continues to be "significant pricing pressures" in the market and cited can rates at nearly 45%.The company also reduced lot inventory in the Midwest by 14% and is seeing gross margins on new orders near 15%.
Clearly, the strong point remains the Mid-Atlantic, where new contracts and homes delivered increased approximately 30% and 35% respectively when compared to last year. Margins on new orders are 16-18% in Charlotte and Raleigh, sales have increased in both, and backlog is up 75% in Raleigh. Said Schottenstein, "Charlotte and Raleigh are still faring better than other markets; however, let's be clear we are seeing a slowdown there as well."
Offsetting those trends, the Washington, D.C., market remains tough for the company though inventory levels are slowly reducing. In Maryland and Virginia, new contracts have more than doubled for the quarter year-to-date. Closings for the region are projected to be near 800 for the year.