Hovnanian improved balance sheet in Q4 with exchange, buybacks, eyes further deleveraging

By Paul Deckelman

New York, Dec. 15 - K. Hovnanian Enterprises, Inc., like most homebuilders, continued to show lackluster results during the most recent quarter. While the Red Bank, N.J.-based company sees no real improvement in the housing market coming for at least the next two years, it continues to build its own better balance sheet as it waits for the turnaround.

Hovnanian said Thursday that it repurchased $25.6 million of its outstanding bonds during the quarter, at a hefty discount, while giving holders of $195 million of its nearest-term bond maturities an equivalent amount of new debt that doesn't expire until 2021.

During the company's conference call following the release of financial results for the fiscal fourth quarter and 2011 year ended Oct. 31, its chairman, president and chief executive officer, Ara K. Hovnanian, declared that "the combination of the debt exchange offer and the open-market purchases we've made have given us additional runway in terms of debt maturities and have also lowered our annual interest expenses by about $11.6 million. Both are meaningful improvements from where we were at the end of the third quarter."

Maturities stretched out

The company ended the quarter with $1.62 billion of bond debt on its balance sheet, versus $1.64 billion in the year-earlier period.

But the company's chief financial officer and executive vice president, J. Larry Sorsby, pointed out that the composition of that debt changed considerably in the interim, chiefly due to the big third-quarter note-exchange transaction.

The company successfully exchanged $141.8 million of new 5% senior secured notes due 2021 for a like amount of existing 11 7/8% senior notes due 2015 - the notes it wanted the most to take out - plus 6½% and 6 3/8% senior notes due 2014 and 6¼% senior notes due 2015. It also gave holders who tendered those notes cash equivalent to $100 per $1,000 principal amount as well as accrued interest. Holders tendered a little more than half of the outstanding 11 7/8% notes, about 31% of the 6½% notes, nearly 90% of the 6 3/8% notes and 59% of the 6¼% notes, all of which were accepted for exchange.

At the same time, the company exchanged $53.2 million of new 2% senior secured notes due 2021 for a like amount of the lower-priority 6¼% and 7½% senior notes due 2016 and 8 5/8% senior notes due 2017. Holders of those notes received only the new 2% notes and no additional cash payment, other than accrued interest.

Sorsby said that as a result of the exchange, as well as the fiscal fourth-quarter repurchase of an additional $25.6 million of its outstanding bonds in the open market, the company only has $53 million of debt that matures through the end of 2014 and a total of $137 million of debt maturing between now and the end of 2015.

The major liquidity crunch will come in 2016, when the company has $797 million of 10 5/8% senior secured notes maturing and $311 million of the remaining outstanding senior notes not taken out in the exchange - $160 million of the 6¼% notes and $151 million of the 7½% notes - and in 2017, when the remaining $177 million of the 8 5/8% notes not taken out in the exchange come due. After that, there are no more maturities until 2021, when the $195 million of new notes issued in the exchange will mature.

More buybacks possible

The CFO said that when Hovnanian bought back the additional $25.6 million of bonds during the quarter, it paid $14 million in cash plus another $1.1 million of accrued interest. After making those repurchases and paying another $14.2 million of cash consideration plus $3.3 million for accrued interest as a component of the exchange offer, Hovnanian has about $157 million of capacity left to repurchase additional bonds.

CEO Ara Hovnanian - in answer to an analyst's question about whether the fourth-quarter bond buyback was "a one-time anomaly" and whether there were definite plans in place to buy back more debt with the $157 million available for that purpose, asserted that "I certainly wouldn't call it a one-time anomaly given our track record on what we've done in terms of buying back debt over the past four or five years - and [we] have been pretty regular at it."

He said that "we periodically evaluate it, and if we see opportunities that make sense to buy back debt, given our liquidity position at the time and cash balance, etc., we may buy some in the future or we may choose not to. But it is something we constantly evaluate, and I think we have a pretty good track record of doing it periodically."

The Hovnanian executives declined to disclose whether there had been any further bond repurchases since the fourth quarter ended, with Sorsby declaring that publicizing such transactions during the same quarter was something "we never do."

'Comfortable' with liquidity

He said that that combining the exchange offer and the repurchases, "we've reduced our annual interest costs by $11.6 million. We felt comfortable with our liquidity BEFORE the exchange - and we feel even better about it now that it's done."

Looking at the company's overall liquidity picture, the CFO said that as of the end of October, after having spent about $95 million in cash during the fourth quarter to purchase 550 property lots and on land development across the company, Hovnanian ended the year with $302 million of cash, including $57.7 million of homebuilding-restricted cash used to collateralize letters of credit.

He noted that the amount of homebuilding-restricted cash used to collateralize letters of credit has steadily declined from about $135 million at the end of fiscal 2009 to the current level of $57.7 million.

He said that the company's focus "will remain on keeping a minimum cash balance at quarter-end within a range of $170 [million] to $245 million, with no single quarter falling below $170 million.

"We believe that we have adequate liquidity to reinvest in sufficient land to increase our community count" - i.e., the number of Hovnanian developments - "and deliveries [of new homes to buyers], as well as repay the debt that matures between now and the end of 2015."

He further said that Hovnanian "recognizes the need to repair our balance sheet. As the homebuilding market recovers and we return to solid profitability, we should be able to issue equity at higher prices than today, reduce leverage and refinance our 2016 and 2017 maturities."

Quarterly loss narrows

During its fourth quarter, the company lost $98.3 million, or 90 cents per share - narrowing the amount of red ink from its year-earlier loss of $132.1 million, or $1.68 per share. The latest-quarter per-share loss was considerably wider than the roughly 40 cents per share that Wall Street was looking for, although such estimates usually omit unusual items. Excluding land-related charges and a $10.6 million gain on debt extinguishment related to the bond buybacks, Hovnanian's pre-tax loss came to $45.2 million for the quarter.

Fourth-quarter revenue declined to $341 million from $353 million a year earlier, although the net number of new homes under contract increased by 3% to 1,175 homes from a year earlier.

Actual deliveries of new homes to buyers fell by 3% year-over-year, while the company's backlog of homes under contract increased by 19%.

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