0001437749-23-005546.txt : 20230306 0001437749-23-005546.hdr.sgml : 20230306 20230306164354 ACCESSION NUMBER: 0001437749-23-005546 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 93 CONFORMED PERIOD OF REPORT: 20230131 FILED AS OF DATE: 20230306 DATE AS OF CHANGE: 20230306 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HOVNANIAN ENTERPRISES INC CENTRAL INDEX KEY: 0000357294 STANDARD INDUSTRIAL CLASSIFICATION: OPERATIVE BUILDERS [1531] IRS NUMBER: 221851059 STATE OF INCORPORATION: DE FISCAL YEAR END: 1031 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-08551 FILM NUMBER: 23709504 BUSINESS ADDRESS: STREET 1: 90 MATAWAN ROAD, 5TH FLOOR CITY: MATAWAN STATE: NJ ZIP: 07747 BUSINESS PHONE: 7327477800 MAIL ADDRESS: STREET 1: 90 MATAWAN ROAD, 5TH FLOOR CITY: MATAWAN STATE: NJ ZIP: 07747 10-Q 1 hov20230131_10q.htm FORM 10-Q hov20230131_10q.htm
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Capitalized interest amounts are shown gross before allocating any portion of impairments, if any, to capitalized interest. The aggregate unpaid principal balance was $74.5 million and $110.2 million at January 31, 2023 and October 31, 2022, respectively. Represents capitalized interest which was included as part of the assets contributed to joint ventures, as discussed in Note 18. There was no impact to the Condensed Consolidated Statement of Operations as a result of these transactions. Lease payments exclude $13.7 million of legally binding minimum lease payments for office leases signed but not yet commenced as of October 31, 2022. The related ROU asset and operating lease liability are not reflected on the Company's balance sheet as of October 31, 2022. Corporate and unallocated for the three months ended January 31, 2023 included corporate general and administrative expenses of $25.5 million, interest expense of $6.6 million (a component of Other interest in our Condensed Consolidated Statements of Operations), and $3.0 million of other net expenses. Corporate and unallocated for the three months ended January 31, 2022 included corporate general and administrative costs of $29.4 million, interest expense of $11.5 million and $0.5 million of other net expenses. Cash paid for interest, net of capitalized interest, is the sum of other interest expensed, as defined above, and interest paid by our mortgage and finance subsidiaries adjusted for the change in accrued interest on notes payable, which is calculated as follows: $26.0 million of 8.0% Senior Notes due 2027 (the "8.0% 2027 Notes") are owned by a wholly owned consolidated subsidiary of HEI. Therefore, in accordance with U.S. GAAP, such notes are not reflected on the Consolidated Balance Sheets of HEI. At January 31, 2023, provides for up to $125.0 million in aggregate amount of senior secured first lien revolving loans. In the fourth quarter of fiscal 2022, we amended our Secured Credit Facility, which amendments became effective in the first quarter of fiscal 2023. As amended, the revolving loans thereunder have a maturity of June 30, 2024 and borrowings bear interest, at K. Hovnanian’s option, at either (i) a term secured overnight financing rate (subject to a floor of 1.00%) plus an applicable margin of 4.50% or (ii) an alternate base rate plus an applicable margin of 3.50%. In addition, K. Hovnanian will pay an unused commitment fee on the undrawn revolving commitments at a rate of 1.00% per annum. Other interest expensed includes interest that does not qualify for interest capitalization because our assets that qualify for interest capitalization (inventory under development) do not exceed our debt, which amounted to $6.6 million and $11.5 million for the three months ended January 31, 2023 and 2022, respectively. Other interest also includes interest on completed homes, land in planning and fully developed lots without homes under construction, which does not qualify for capitalization and therefore is expensed as incurred. 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Table of Contents

 

UNITED STATES

 

SECURITIES AND EXCHANGE COMMISSION

 

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

 

(Mark One)

Quarterly report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the quarterly period ended January 31, 2023

OR

 

Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934

 

Commission file number 1-8551

 

Hovnanian Enterprises, Inc. (Exact Name of Registrant as Specified in Its Charter)

 

Delaware (State or Other Jurisdiction of Incorporation or Organization)

 

22-1851059 (I.R.S. Employer Identification No.)

 

90 Matawan Road, 5th Floor, Matawan, NJ 07747 (Address of Principal Executive Offices)

 

732-747-7800 (Registrant’s Telephone Number, Including Area Code)

 

N/A (Former Name, Former Address and Former Fiscal Year, if Changed Since Last Report)

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

Trading symbol(s)

Name of each exchange on which registered

Class A Common Stock, $0.01 par value per share

HOV

New York Stock Exchange

Preferred Stock Purchase Rights(1)

N/A

New York Stock Exchange

Depositary Shares each representing

1/1,000th of a share of 7.625% Series A

Preferred Stock

HOVNP

The Nasdaq Stock Market LLC

 

(1) Each share of Common Stock includes an associated Preferred Stock Purchase Right. Each Preferred Stock Purchase Right initially represents the right, if such Preferred Stock Purchase Right becomes exercisable, to purchase from the Company one ten-thousandth of a share of its Series B Junior Preferred Stock for each share of Common Stock. The Preferred Stock Purchase Rights currently cannot trade separately from the underlying Common Stock.

 

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes ☒ No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).  Yes ☒  No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large Accelerated Filer ☐

Accelerated Filer ☒ 

Nonaccelerated Filer ☐  

Smaller Reporting Company 

Emerging Growth Company

          

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes   No ☒

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date. 5,276,785 shares of Class A Common Stock and 720,307 shares of Class B Common Stock were outstanding as of March 1, 2023.

 

true

 

 

HOVNANIAN ENTERPRISES, INC.  

 

FORM 10-Q  

 

INDEX

PAGE

NUMBER

  

  

PART I. Financial Information

  

Item l. Financial Statements:

  

  

  

Condensed Consolidated Balance Sheets (unaudited) as of January 31, 2023 and October 31, 2022

3

  

  

Condensed Consolidated Statements of Operations (unaudited) for the three months ended January 31, 2023 and 2022

4

  

  

Condensed Consolidated Statements of Changes in Equity (unaudited) for the three months ended January 31, 2023 and 2022

5

  

  

Condensed Consolidated Statements of Cash Flows (unaudited) for the three months ended January 31, 2023 and 2022

7

  

  

Notes to Condensed Consolidated Financial Statements (unaudited)

8

  

  

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

27

  

  

Item 3. Quantitative and Qualitative Disclosures About Market Risk

41

  

  

Item 4. Controls and Procedures

41

  

  

PART II. Other Information

  

Item 1. Legal Proceedings

42

   

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

42

   

Item 6. Exhibits

43

  

  

Signatures

45

 

 

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands, except per share data)

(Unaudited)

 

  

January 31,

  

October 31,

 
  

2023

  

2022

 

 

        

ASSETS

        

Homebuilding:

        

Cash and cash equivalents

 $234,929  $326,198 

Restricted cash and cash equivalents

  8,154   13,382 

Inventories:

        

Sold and unsold homes and lots under development

  1,066,455   1,058,183 

Land and land options held for future development or sale

  125,561   152,406 

Consolidated inventory not owned

  315,022   308,595 

Total inventories

  1,507,038   1,519,184 

Investments in and advances to unconsolidated joint ventures

  101,013   74,940 

Receivables, deposits and notes, net

  37,577   37,837 

Property and equipment, net

  28,089   25,819 

Prepaid expenses and other assets

  58,260   63,884 

Total homebuilding

  1,975,060   2,061,244 
         

Financial services

  112,756   155,993 
         

Deferred tax assets, net

  347,369   344,793 

Total assets

 $2,435,185  $2,562,030 
         

LIABILITIES AND EQUITY

        

Homebuilding:

        

Nonrecourse mortgages secured by inventory, net of debt issuance costs

 $133,886  $144,805 

Accounts payable and other liabilities

  331,314   439,952 

Customers’ deposits

  71,243   74,020 

Liabilities from inventory not owned, net of debt issuance costs

  209,579   202,492 

Senior notes and credit facilities (net of discounts, premiums and debt issuance costs)

  1,145,261   1,146,547 

Accrued interest

  52,036   32,415 

Total homebuilding

  1,943,319   2,040,231 
         

Financial services

  91,078   135,581 
         

Income taxes payable

  4,991   3,167 

Total liabilities

  2,039,388   2,178,979 
         

Equity:

        

Hovnanian Enterprises, Inc. stockholders' equity:

        

Preferred stock, $0.01 par value - authorized 100,000 shares; issued and outstanding 5,600 shares with a liquidation preference of $140,000 at January 31, 2023 and October 31, 2022

  135,299   135,299 

Common stock, Class A, $0.01 par value - authorized 16,000,000 shares; issued 6,178,146 shares at January 31, 2023 and 6,159,886 shares at October 31, 2022

  62   62 

Common stock, Class B, $0.01 par value (convertible to Class A at time of sale) - authorized 2,400,000 shares; issued 747,994 shares at January 31, 2023 and 733,374 shares at October 31, 2022

  7   7 

Paid in capital - common stock

  729,158   727,663 

Accumulated deficit

  (336,366)  (352,413)

Treasury stock - at cost – 901,379 shares of Class A common stock at January 31, 2023 and 782,901 shares at October 31, 2022; 27,669 shares of Class B common stock at January 31, 2023 and October 31, 2022

  (132,382)  (127,582)

Total Hovnanian Enterprises, Inc. stockholders’ equity

  395,778   383,036 

Noncontrolling interest in consolidated joint ventures

  19   15 

Total equity

  395,797   383,051 

Total liabilities and equity

 $2,435,185  $2,562,030 

 

See notes to condensed consolidated financial statements (unaudited).

 

 

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except per share data)

(Unaudited)

 

   

Three Months Ended January 31,

 
   

2023

   

2022

 

Revenues:

               

Homebuilding:

               

Sale of homes

  $ 499,645     $ 551,366  

Land sales and other revenues

    3,557       638  

Total homebuilding

    503,202       552,004  

Financial services

    12,164       13,309  

Total revenues

    515,366       565,313  
                 

Expenses:

               

Homebuilding:

               

Cost of sales, excluding interest

    391,040       427,917  

Cost of sales interest

    15,022       13,745  

Inventory impairments and land option write-offs

    477       99  

Total cost of sales

    406,539       441,761  

Selling, general and administrative

    47,918       42,746  

Total homebuilding expenses

    454,457       484,507  
                 

Financial services

    9,053       10,400  

Corporate general and administrative

    25,490       29,435  

Other interest

    15,093       13,393  

Other expenses, net

    386       368  

Total expenses

    504,479       538,103  

Income from unconsolidated joint ventures

    7,160       8,191  

Income before income taxes

    18,047       35,401  

State and federal income tax provision (benefit):

               

State

    2,211       2,543  

Federal

    (2,880 )     8,050  

Total income taxes

    (669 )     10,593  

Net income

    18,716       24,808  

Less: preferred stock dividends

    2,669       2,669  

Net income available to common stockholders

  $ 16,047     $ 22,139  
                 

Per share data:

               

Basic:

               

Net income per common share

  $ 2.37     $ 3.12  

Weighted-average number of common shares outstanding

    6,186       6,389  

Assuming dilution:

               

Net income per common share

  $ 2.26     $ 3.07  

Weighted-average number of common shares outstanding

    6,468       6,501  

 

See notes to condensed consolidated financial statements (unaudited).

 

 

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

Three MONTH PERIOD ENDED January 31, 2023

(In thousands, except share data)

(Unaudited)

 

  

A Common Stock

  

B Common Stock

  

Preferred Stock

                     
  

Shares

      

Shares

      

Shares

                         
  

Issued and

      

Issued and

      

Issued and

      

Paid-In

  

Accumulated

  

Treasury

  

Noncontrolling

     
  

Outstanding

  

Amount

  

Outstanding

  

Amount

  

Outstanding

  

Amount

  

Capital

  

Deficit

  

Stock

  

Interest

  

Total

 
                                             

Balance, October 31, 2022

  5,376,985  $62   705,705  $7   5,600  $135,299  $727,663  $(352,413) $(127,582) $15  $383,051 
                                             

Stock options, amortization and issuances

  209                  8            8 
                                             

Preferred dividend declared ($476.56 per share)

                          (2,669)        (2,669)
                                             

Restricted stock amortization, issuances and forfeitures

  18,051      14,620            1,487            1,487 
                                             

Changes in noncontrolling interest in consolidated joint ventures

                                4   4 
                                             

Share repurchases

  (118,478)                       (4,800)     (4,800)
                                             

Net income

                          18,716         18,716 
                                             

Balance, January 31, 2023

  5,276,767  $62   720,325  $7   5,600  $135,299  $729,158  $(336,366) $(132,382) $19  $395,797 

 

See notes to condensed consolidated financial statements (unaudited).

 

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

Three MONTH PERIOD ENDED January 31, 2022

(In thousands, except share data)

(Unaudited)

 

  

A Common Stock

  

B Common Stock

  

Preferred Stock

                     
  

Shares

      

Shares

      

Shares

                         
  

Issued and

      

Issued and

      

Issued and

      

Paid-In

  

Accumulated

  

Treasury

  

Noncontrolling

     
  

Outstanding

  

Amount

  

Outstanding

  

Amount

  

Outstanding

  

Amount

  

Capital

  

Deficit

  

Stock

  

Interest

  

Total

 
                                             

Balance, October 31, 2021

  5,595,734  $61   659,207  $7   5,600  $135,299  $722,118  $(567,228) $(115,360) $487  $175,384 
                                             

Stock options, amortization and issuances

  804                  4            4 
                                             

Preferred dividend declared ($476.56 per share)

                          (2,669)        (2,669)
                                             

Restricted stock amortization, issuances and forfeitures

  17,654      17,445            (552)           (552)
                                             

Conversion of Class B to Class A common stock

  48      (48)                       - 
                                             

Changes in noncontrolling interest in consolidated joint ventures

                                (88)  (88)
                                             

Net income

                          24,808         24,808 
                                             

Balance, January 31, 2022

  5,614,240  $61   676,604  $7   5,600  $135,299  $721,570  $(545,089) $(115,360) $399  $196,887 

  

See notes to condensed consolidated financial statements (unaudited). 

 

 

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

(Unaudited)

 

   

Three Months Ended

 
   

January 31,

 
      2023       2022  

Cash flows from operating activities:

               

Net income

  $ 18,716     $ 24,808  

Adjustments to reconcile net income to net cash used in operating activities:

               

Depreciation

    1,410       1,175  

Stock-based compensation

    2,070       1,635  

Amortization of debt discounts, premiums and deferred financing costs

    330       (280 )

Gain on sale of property and assets

    (14 )     (5 )

Income from unconsolidated joint ventures

    (7,160 )     (8,191 )

Distributions of earnings from unconsolidated joint ventures

    692       2,100  

Noncontrolling interest in consolidated joint ventures

    -       62  

Inventory impairments and land option write-offs

    477       99  

Decrease (Increase) in assets:

               

Inventories

    11,669       (159,227 )

Receivables, deposits and notes

    5,772       (2,139 )

Origination of mortgage loans

    (215,477 )     (272,877 )

Sale of mortgage loans

    251,923       342,090  

Deferred tax assets

    (2,576 )     9,465  

(Decrease) increase in liabilities:

               

Accounts payable, accrued interest and other liabilities

    (98,125 )     (70,490 )

Customers’ deposits

    (2,777 )     14,924  

State income tax payable

    1,824       1,122  

Net cash used in operating activities

    (31,246 )     (115,729 )

Cash flows from investing activities:

               

Proceeds from sale of property and assets

    69       5  

Purchase of property, equipment, and other fixed assets

    (3,740 )     (2,453 )

Investment in and advances to unconsolidated joint ventures, net of reimbursements

    (22,238 )     (1,033 )

Distributions of capital from unconsolidated joint ventures

    2,633       554  

Net cash used in investing activities

    (23,276 )     (2,927 )

Cash flows from financing activities:

               

Proceeds from mortgages and notes

    57,704       136,021  

Payments related to mortgages and notes

    (68,958 )     (63,892 )

Proceeds from model sale leaseback financing programs

    1,310       8,737  

Payments related to model sale leaseback financing programs

    (3,303 )     (3,553 )

Proceeds from land bank financing programs

    21,317       21,425  

Payments related to land bank financing programs

    (12,553 )     (13,642 )

Payments for partner distributions to consolidated joint venture

    -       (150 )

Net payments related to mortgage warehouse lines of credit

    (35,971 )     (63,311 )

Preferred dividends paid

    (2,669 )     (2,669 )

Repurchases of common stock

    (4,800 )     -  

Deferred financing costs from land banking financing programs and note issuances

    (464 )     (1,848 )

Net cash (used in) provided by financing activities

    (48,387 )     17,118  

Net decrease in cash and cash equivalents, and restricted cash and cash equivalents

    (102,909 )     (101,538 )

Cash and cash equivalents, and restricted cash and cash equivalents balance, beginning of period

    382,190       311,396  

Cash and cash equivalents, and restricted cash and cash equivalents balance, end of period

  $ 279,281     $ 209,858  
                 

Supplemental disclosures of cash flows:

               

Cash (received) paid during the period for:

               

Interest, net of capitalized interest (see Note 3 to the Condensed Consolidated Financial Statements)

  $ (3,904 )   $ (5,254 )

Income taxes

  $ 84     $ 7  
                 

Reconciliation of Cash, cash equivalents and restricted cash

               

Homebuilding: Cash and cash equivalents

  $ 234,929     $ 137,898  

Homebuilding: Restricted cash and cash equivalents

    8,154       14,260  

Financial Services: Cash and cash equivalents, included in financial services assets

    4,682       6,846  

Financial Services: Restricted cash and cash equivalents, included in financial services assets

    31,516       50,854  

Total cash, cash equivalents and restricted cash shown in the statements of cash flows

  $ 279,281     $ 209,858  

 

 

 

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED

 

 

 
 

1.

Basis of Presentation

 

Hovnanian Enterprises, Inc. (“HEI”) conducts all of its homebuilding and financial services operations through its subsidiaries (references herein to the “Company,” “we,” “us” or “our” refer to HEI and its consolidated subsidiaries and should be understood to reflect the consolidated business of HEI’s subsidiaries). Historically, the Company had seven reportable segments consisting of six homebuilding segments (Northeast, Mid-Atlantic, Midwest, Southeast, Southwest and West) and its financial services segment. During the fourth quarter of fiscal 2022, we realigned our homebuilding operating segments and determined that, in addition to our financial services segment, we now had three reportable homebuilding segments comprised of (1) Northeast, (2) Southeast and (3) West (see Note 17). All prior period amounts related to the segment change have been retrospectively reclassified to conform to the new presentation.

 

The accompanying unaudited Condensed Consolidated Financial Statements include HEI's accounts and those of all of its consolidated subsidiaries after elimination of all intercompany balances and transactions. Noncontrolling interest represents the proportionate equity interest in a consolidated joint venture that is not 100% owned by the Company directly or indirectly.

 

The accompanying unaudited Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X, and accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. These Condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended October 31, 2022. In the opinion of management, all adjustments for interim periods presented have been made, which include normal recurring accruals and deferrals necessary for a fair presentation of our condensed consolidated financial position, results of operations and cash flows. The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates, and these differences could have a significant impact on the Condensed Consolidated Financial Statements. Results for interim periods are not necessarily indicative of the results which might be expected for a full year.  

 

 
 

2.

Stock Compensation

 

During the first quarter of fiscal 2023, the Board of Directors approved certain grants under a new Long-Term Incentive Program (the “2023 LTIP”) that contain performance-based vesting conditions. The performance period for the 2023 LTIP commenced on November 1, 2022 and will end on October 31, 2025. At the end of the performance period, 50% of the awards, if any, are payable in cash-settled phantom shares and the remaining 50% of the awards, if any, are payable in shares of Company stock, subject to a mandatory two-year post-vesting hold period.

 

For the three months ended January 31, 2023 and 2022, stock-based compensation expense was $2.1 million (pre and post tax) and $1.6 million ($1.1 million, net of tax), respectively. Included in stock-based compensation expense was $8 thousand and $45 thousand of stock option expense for the three months ended January 31, 2023 and 2022, respectively.

 

8

 

 

3.

Interest

 

Interest costs incurred, expensed and capitalized were as follows:

 

  

Three Months Ended

 
  

January 31,

 

(In thousands)

 

2023

  

2022

 

Interest capitalized at beginning of period

 $59,600  $58,159 

Plus interest incurred(1)

  34,326   32,783 

Less cost of sales interest expensed

  (15,022)  (13,745)

Less other interest expensed(2)(3)

  (15,093)  (13,393)

Less interest contributed to unconsolidated joint venture(4)

  (3,016)  - 

Interest capitalized at end of period(5)

 $60,795  $63,804 

 

(1)

Data does not include interest incurred by our mortgage and finance subsidiaries.

(2)

Other interest expensed includes interest that does not qualify for interest capitalization because our assets that qualify for interest capitalization (inventory under development) do not exceed our debt, which amounted to $6.6 million and $11.5 million for the three months ended January 31, 2023 and 2022, respectively. Other interest also includes interest on completed homes, land in planning and fully developed lots without homes under construction, which does not qualify for capitalization and therefore is expensed as incurred. This component of other interest was $8.5 million and $1.9 million for the three months ended January 31, 2023 and 2022, respectively.

(3)

Cash paid for interest, net of capitalized interest, is the sum of other interest expensed, as defined above, and interest paid by our mortgage and finance subsidiaries adjusted for the change in accrued interest on notes payable, which is calculated as follows:

 

  

Three Months Ended

 
  

January 31,

 

(In thousands)

 

2023

  

2022

 

Other interest expensed

 $15,093  $13,393 

Interest paid by our mortgage and finance subsidiaries

  624   468 

Increase in accrued interest

  (19,621)  (19,115)

Cash paid for interest, net of capitalized interest

 $(3,904) $(5,254)

 

(4)

Represents capitalized interest which was included as part of the assets contributed to joint ventures, as discussed in Note 18. There was no impact to the Condensed Consolidated Statement of Operations as a result of these transactions.
(5)Capitalized interest amounts are shown gross before allocating any portion of impairments, if any, to capitalized interest.

   

 

 

4.

Reduction of Inventory to Fair Value

 

During the three months ended January 31, 2023 and 2022, respectively, we had 361 and 382 communities under development and held for future development or sale, which we evaluated for indicators of impairment. We did not identify impairment indicators for any community during the three months ended  January 31, 2023 or 2022.

 

We write off certain costs when communities are redesigned, abandoned or we do not exercise our options. Total aggregate write-offs related to these items were $0.5 million and $0.1 million for the three months ended January 31, 2023 and 2022, respectively. The number of lots walked away from during the three months ended  January 31, 2023 and 2022 were 2,182 and 420, respectively. The walk-aways occurred across each of our segments for both periods.
 

We decide to mothball (or stop development on) certain communities when we determine that the current performance does not justify further investment at the time. During the first quarter of fiscal 2023, we did not mothball any communities, nor did we sell or re-activate any previously mothballed communities. As of both January 31, 2023 and October 31, 2022, the net aggregate book value of our two mothballed communities was $1.4 million, which was net of impairments in prior periods of $20.3 million.

 

We sell and lease back certain of our model homes with the right to participate in the potential profit when each home is sold to a third party at the end of the respective lease. As a result of our continued involvement, these sale and leaseback transactions are considered a financing rather than a sale. Our Condensed Consolidated Balance Sheets at January 31, 2023 and October 31, 2022 included inventory of $47.4 million and $48.5 million, respectively, recorded to “Consolidated inventory not owned,” with a corresponding amount of $49.3 million and $51.2 million, respectively, recorded to “Liabilities from inventory not owned” for the amount of net cash received from the transactions.

 

We have land banking arrangements, whereby we sell our land parcels to the land bankers and they provide us an option to purchase back finished lots on a predetermined schedule. Because of our options to repurchase these parcels, these transactions are considered a financing rather than a sale. Our Condensed Consolidated Balance Sheets at January 31, 2023 and October 31, 2022 included inventory of $267.6 million and $260.1 million, respectively, recorded to “Consolidated inventory not owned,” with a corresponding amount of $160.3 million and $151.3 million, respectively, recorded to “Liabilities from inventory not owned” for the amount of net cash received from the transactions.

  

9

 
 

5.

Variable Interest Entities

 

The Company enters into land and lot option purchase contracts to procure land or lots for the construction of homes. Under these contracts, we will fund a stated deposit in consideration for the right, but not the obligation, to purchase land or lots at a future point in time with predetermined terms. Under the terms of the option purchase contracts, many of the option deposits are not refundable at our discretion. Certain option purchase contracts may result in the creation of a variable interest in the entity (“VIE”) that owns the land parcel under option.

 

We analyze our option purchase contracts to determine whether the corresponding land sellers are VIEs and, if so, whether the Company is the primary beneficiary. Although the Company does not have legal title to the underlying land, we are required to consolidate a VIE if we are determined to be the primary beneficiary. In determining whether it is the primary beneficiary, the Company considers, among other things, whether it has the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance and whether we have the obligation to absorb losses of, or the right to receive benefits from the VIE. As a result of our analyses, we have concluded the Company is not the primary beneficiary of any VIEs from which it is purchasing land under option purchase contracts.

 

Including deposits on our unconsolidated VIEs, at January 31, 2023, we had total cash deposits amounting to $187.7 million to purchase land and lots with a total purchase price of $1.8 billion. The maximum exposure to loss with respect to our land and lot options is limited to the deposits plus any pre-development costs invested in the property.

 

 

6.

Warranty Costs

 

We have an owner-controlled insurance program for certain of our subcontractors whereby the subcontractors pay us an insurance premium (through a reduction of amounts we would otherwise owe such subcontractors for their work on our homes) based on the risk type of the trade. We absorb the liability associated with their work on our homes as part of our overall general liability insurance at no additional cost to us because our existing general liability and construction defect insurance policy and related reserves for amounts under our deductible covers construction defects regardless of whether we or our subcontractors are responsible for the defect. For the three months ended January 31, 2023 and 2022, we received $1.0 million and $1.2 million, respectively, from subcontractors related to the owner-controlled insurance program, which we accounted for as reductions to inventory.

 

We accrue for warranty costs that are covered under our existing general liability and construction defect policy as part of our general liability insurance deductible. For homes to be delivered in fiscal 2023 and previously delivered in 2022, our deductible under our general liability insurance is or was $25.0 million, aggregate for construction defect and warranty claims. For bodily injury claims, our deductible per occurrence in fiscal 2023 and 2022 is or was $0.5 million, up to a $5.0 million limit in California and $0.25 million, up to a $5.0 million limit in all other states. Our aggregate retention for construction defect, warranty and bodily injury claims is or was $25.0 million for fiscal 2023 and 2022. In addition, we establish a warranty accrual for lower cost-related issues to cover home repairs, community amenities and land development infrastructure that are not covered under our general liability and construction defect policy. We accrue an estimate for these warranty costs at the time each home is closed and control is transferred to the homebuyer. Additions and charges in the warranty reserve and general liability reserve for the three months ended January 31, 2023 and 2022 were as follows:

 

  

Three Months Ended

 
  

January 31,

 

(In thousands)

 

2023

  

2022

 
         

Balance, beginning of period

 $97,718  $94,916 

Additions – Selling, general and administrative

  1,577   2,216 

Additions – Cost of sales

  1,303   1,424 

Charges incurred during the period

  (8,802)  (4,154)

Changes to pre-existing reserves

  (729)  (1,049)

Balance, end of period

 $91,067  $93,353 

 

The majority of the charges incurred during the first quarter of fiscal 2023 represented payments for construction defects related to the settlement of two litigation matters. Insurance claims paid by our insurance carriers, excluding insurance deductibles paid, were less than $0.1 million for both the three months ended January 31, 2023 and 2022 for prior year deliveries.

 

10

 

 

7.

Commitments and Contingent Liabilities

 

We are involved in litigation arising in the ordinary course of business, none of which is expected to have a material adverse effect on our financial position, results of operations or cash flows, and we are subject to extensive and complex laws and regulations that affect the development of land and home building, sales and customer financing processes, including zoning, density, building standards and mortgage financing. These laws and regulations often provide broad discretion to the administering governmental authorities. This can delay or increase the cost of development or homebuilding. The significant majority of our litigation matters are related to construction defect claims. Our estimated losses from construction defect litigation matters, if any, are included in our construction defect reserves.

 

We also are subject to a variety of local, state, federal and foreign laws and regulations concerning protection of health and the environment, including those regulating the emission or discharge of materials into the environment, the management of storm water runoff at construction sites, the handling, use, storage and disposal of hazardous substances, impacts to wetlands and other sensitive environments, and the remediation of contamination at properties that we have owned or developed or currently own or are developing (“environmental laws”). The particular environmental laws that apply to a site may vary greatly according to the community site, for example, due to the community, the environmental conditions at or near the site, and the present and former uses of the site. These environmental laws may result in delays, may cause us to incur substantial compliance, remediation and/or other costs, and can prohibit or severely restrict development and homebuilding activity. In addition, noncompliance with these laws and regulations could result in fines and penalties, obligations to remediate or take corrective action, permit revocations or other sanctions; and contamination or other environmental conditions at or in the vicinity of our developments may result in claims against us for personal injury, property damage or other losses.

 

We anticipate that increasingly stringent requirements will continue to be imposed on developers and homebuilders in the future. In addition, some of these laws and regulations that significantly affect how certain properties may be developed are contentious, attract intense political attention, and may be subject to significant changes over time. For example, regulations governing wetlands permitting under the federal Clean Water Act have been the subject of extensive rulemakings for many years, resulting in several major joint rulemakings by the EPA and the U.S. Army Corps of Engineers that have expanded and contracted the scope of wetlands subject to regulation; and such rulemakings have been the subject of many legal challenges, some of which remain pending. It is unclear how these and related developments, including at the state or local level, ultimately may affect the scope of regulated wetlands where we operate. Although we cannot reliably predict the extent of any effect these developments regarding wetlands, or any other requirements that may take effect, may have on us, they could result in time-consuming and expensive compliance programs and in substantial expenditures, which could cause delays and increase our cost of operations. In addition, our ability to obtain or renew permits or approvals and the continued effectiveness of permits already granted or approvals already obtained is dependent upon many factors, some of which are beyond our control, such as changes in policies, rules and regulations and their interpretations and application.

 

In 2015, the condominium association of the Four Seasons at Great Notch condominium community (the “Great Notch Plaintiff”) filed a lawsuit in the Superior Court of New Jersey, Law Division, Passaic County (the “Court”) alleging various construction defects, design defects, and geotechnical issues relating to the community. The operative complaint (“Complaint”) asserts claims against Hovnanian Enterprises, Inc. and several of its affiliates, including K. Hovnanian at Great Notch, LLC, K. Hovnanian Construction Management, Inc., and K. Hovnanian Companies, LLC. The Complaint also asserts claims against various other design professionals and contractors. The Special Masters appointed by the Court to decide non-dispositive motions issued an opinion that (a) granted the Great Notch Plaintiff’s motion to permit it to assert a claim to pierce the corporate veil of K. Hovnanian at Great Notch, LLC to hold its alleged parent entities liable for any damages awarded against it, and (b) further stated that the Great Notch Plaintiff is not permitted to pursue that claim until after any trial on the underlying liability claims. To date, the Hovnanian-affiliated defendants have reached a partial settlement with the Great Notch Plaintiff as to a portion of the Great Notch Plaintiff’s claims against them for an amount immaterial to the Company. On its remaining claims against the Hovnanian-affiliated defendants, the Great Notch Plaintiff has asserted damages of approximately $119.5 million, which amount is potentially subject to treble damages pursuant to the Great Notch Plaintiff’s claim under the New Jersey Consumer Fraud Act. The trial had been scheduled for April 17, 2023; however, the Court has adjourned the trial and has not yet set a new date. The Hovnanian-affiliated defendants intend to defend these claims vigorously.

 

In December 2020, the New Jersey Department of Environmental Protection ("NJDEP") and the Administrator of the New Jersey Spill Compensation Fund (the “Spill Fund”) filed a lawsuit in the Superior Court of New Jersey, Law Division, Union County against Hovnanian Enterprises, Inc., in addition to other unrelated parties, in connection with contamination at Hickory Manor, a residential condominium development. Alleged predecessors of certain defendants had used the Hickory Manor property for decades for manufacturing purposes. In 1998, NJDEP confirmed that groundwater at this site was impacted from an off-site source. The site was later remediated, resulting in the NJDEP issuing an unconditional site-wide No Further Action determination letter and Covenant Not to Sue in 1999. Subsequently, one of our affiliates was involved in redeveloping the property as a residential community. The complaint asserts claims under the New Jersey Spill Act and other state law claims and alleges that the NJDEP and the Spill Fund have incurred over $5.3 million since 2009 to investigate vapor intrusion at the development and to install vapor mitigation systems. Among other things, the complaint seeks recovery of the costs incurred, an order that defendants perform additional required remediation and disgorgement of profits on our affiliate’s sales of the units in the development. Discovery is ongoing. Hovnanian Enterprises, Inc. intends to defend these claims vigorously.

   

11

 

 

 

8.

Cash Equivalents, Restricted Cash and Customer's Deposits

 

Cash equivalents include certificates of deposit, U.S. Treasury bills and government money–market funds with maturities of 90 days or less when purchased. Our cash balances are held at a few financial institutions and may, at times, exceed insurable amounts. We believe we help to mitigate this risk by depositing our cash in major high credit quality financial institutions. At January 31, 2023 and October 31, 2022, $13.9 million and $13.4 million, respectively, of our total cash and cash equivalents was in cash equivalents and restricted cash equivalents.

 

Homebuilding "Restricted cash and cash equivalents" on the Condensed Consolidated Balance Sheets totaled $8.2 million and $13.4 million as of January 31, 2023 and October 31, 2022, respectively, which primarily consists of cash collateralizing our letter of credit agreements and facilities (see Note 12).

 

Financial services restricted cash and cash equivalents, which are included in "Financial services" assets on the Condensed Consolidated Balance Sheets, totaled $31.5 million and $36.1 million as of January 31, 2023 and October 31, 2022, respectively. Included in these balances were (1) financial services customers’ deposits of $28.4 million at January 31, 2023 and $29.7 million as of  October 31, 2022, respectively, which are subject to restrictions on our use, and (2) restricted cash under the terms of our mortgage warehouse lines of credit of $3.1 million at January 31, 2023 and $6.4 million as of October 31, 2022, respectively. 

 

Homebuilding "Customers deposits" are shown as a liability on the Condensed Consolidated Balance Sheets. These liabilities are significantly more than the applicable periods’ restricted cash balances because in some states the deposits are not restricted from use and, in other states, we are able to release the majority of these customer deposits to cash by pledging letters of credit and surety bonds.

 

12

 
 

9.

Leases

 

We rent certain office space for use in our operations. Our lease population at  January 31, 2023 is comprised of operating leases where we are the lessee, primarily for our corporate office and division offices.

 

Lease costs are included in our Condensed Consolidated Statements of Operations, primarily in "Selling, general and administrative" homebuilding expenses and payments on our lease liabilities are presented in the table below. Our short-term lease costs and sublease income are de minimis.

 

  

Three Months Ended January 31,

 

(In thousands)

 

2023

  

2022

 

Operating lease costs

 $2,859  $2,588 

Cash payments on lease liabilities

 $2,386  $2,440 

 

Operating right-of-use lease assets ("ROU assets") are classified within "Prepaid expenses and other assets" on our Condensed Consolidated Balance Sheets, while lease liabilities are classified within "Accounts payable and other liabilities". During the three months ended January 31, 2023, the Company recorded a net increase of $0.4 million to both its ROU assets and lease liabilities as a result of new leases and lease renewals that commenced during the period. The following table contains additional information about our leases:

 

(In thousands)

 

January 31, 2023

  

October 31, 2022

 

ROU assets

 $17,650  $17,899 

Lease liabilities

 $18,498  $18,862 

Weighted-average remaining lease term (in years)

  3.4   3.5 

Weighted-average discount rate

  9.5%  9.5%

 

Maturities of our operating lease liabilities as of January 31, 2023 are as follows:

 

Fiscal Year Ended October 31,

 

(In thousands)

 

2023 (excluding the three months ended January 31, 2023)

 $6,321 

2024

  5,779 

2025

  4,653 

2026

  3,111 

2027

  1,863 

Total operating lease payments (1)

  21,727 

Less: imputed interest

  (3,229)

Present value of operating lease liabilities

 $18,498 
     

 

(1) Lease payments exclude $13.7 million of legally binding minimum lease payments for office leases signed but not yet commenced as of January 31, 2023. The related ROU assets and operating lease liabilities are not reflected on the Company's Condensed Consolidated Balance Sheets as of January 31, 2023.

 

 

10.

Mortgage Loans Held for Sale

 

Our wholly owned mortgage banking subsidiary, K. Hovnanian American Mortgage, LLC (“K. Hovnanian Mortgage”), originates mortgage loans, primarily from the sale of our homes. Such mortgage loans are sold in the secondary mortgage market within a short period of time of origination. Mortgage loans held for sale are collateralized by the underlying property. Loans held for sale are recorded at fair value with the changes in the value recognized in the Condensed Consolidated Statements of Operations in “Financial services” revenue. We currently use forward sales of mortgage-backed securities (“MBS”), interest rate commitments from borrowers and forward commitments to sell loans to third parties to protect us from interest rate fluctuations. 

 

At January 31, 2023 and October 31, 2022, $58.0 million and $92.5 million, respectively, of mortgages held for sale were pledged against our mortgage warehouse lines of credit (see Note 11). We may incur losses with respect to mortgages that were previously sold that are delinquent and which had underwriting defects, but only to the extent the losses are not covered by mortgage insurance or the resale value of the home. The reserves for these estimated losses are included in “Financial services” liabilities on the Condensed Consolidated Balance Sheets. As of both   January 31, 2023 and 2022, we had reserves specifically for 14 identified mortgage loans, as well as reserves for an estimate of future losses on mortgages sold but not yet identified to us.

 

The activity in our loan origination reserves during the three months ended January 31, 2023 and 2022 was as follows:

 

  

Three Months Ended

 
  

January 31,

 

(In thousands)

 

2023

  

2022

 
         

Loan origination reserves, beginning of period

 $1,795  $1,632 

Provisions for losses during the period

  32   41 

Adjustments to pre-existing provisions for losses from changes in estimates

  -   - 

Loan origination reserves, end of period

 $1,827  $1,673 

 

13

 
 

11.

Mortgages

 

Nonrecourse

 

We have nonrecourse mortgage loans for certain communities totaling $133.9 million and $144.8 million, net of debt issuance costs, at January 31, 2023 and October 31, 2022, respectively, which are secured by the related real property, including any improvements, with an aggregate book value of $416.1 million and $418.9 million, respectively. The weighted-average interest rate on these obligations was 7.7% and 6.7% at January 31, 2023 and October 31, 2022, respectively, and the mortgage loan payments on each community primarily correspond to home deliveries.

 

Mortgage Loans

 

K. Hovnanian Mortgage originates mortgage loans primarily from the sale of our homes. Such mortgage loans and related servicing rights are generally sold in the secondary mortgage market within a short period of time. K. Hovnanian Mortgage finances the origination of mortgage loans through various master repurchase agreements, which are recorded in "Financial services" liabilities on the Condensed Consolidated Balance Sheets.

 

Our secured Master Repurchase Agreement with JPMorgan Chase Bank, N.A. (“Chase Master Repurchase Agreement”), which was amended on January 31, 2023 to extend the maturity date to January 31, 2024, is a short-term borrowing facility that provides up to $50.0 million. The loan is secured by the mortgages held for sale and is repaid when we sell the underlying mortgage loans to permanent investors. Interest is payable monthly on outstanding advances at an adjusted Secured Overnight Financing Rate ("SOFR"), which was 4.63% at January 31, 2023, plus the applicable margin of 2.25% to 2.375%. As of January 31, 2023 and October 31, 2022, the aggregate principal amount of all borrowings outstanding under the Chase Master Repurchase Agreement was $15.7 million and $14.1 million, respectively.

 

K. Hovnanian Mortgage has another secured Master Repurchase Agreement with Customers Bank (“Customers Master Repurchase Agreement”) which is a short-term borrowing facility that provides up to $50.0 million through its maturity on March 8, 2023, which we expect to be renewed for a one year term. The loan is secured by the mortgages held for sale and is repaid when we sell the underlying mortgage loans to permanent investors. Interest is payable daily or as loans are sold to permanent investors on outstanding advances at the current Bloomberg Short Term Bank Yield Index ("BSBY") rate, plus the applicable margin ranging from 2.125% to 4.5% based on the type of loan and the number of days outstanding on the warehouse line. As of January 31, 2023 and October 31, 2022, the aggregate principal amount of all borrowings outstanding under the Customers Master Repurchase Agreement was $20.3 million and $43.1 million, respectively.

 

K. Hovnanian Mortgage also has a secured Master Repurchase Agreement with Comerica Bank (“Comerica Master Repurchase Agreement”) which was amended on January 12, 2023 to extend the maturity date to January 10, 2024, and is a short-term borrowing facility through its maturity. The Comerica Master Repurchase Agreement provides up to $60.0 million on the 15th day of the last month of the Company's fiscal quarters and reverts back to up to $50.0 million 30 days thereafter. The loan is secured by the mortgages held for sale and is repaid when we sell the underlying mortgage loans to permanent investors. Interest is payable monthly at the daily adjusting BSBY rate, subject to a floor of 0.50%, plus the applicable margin of 1.75% or 3.25% based upon the type of loan. As of January 31, 2023 and October 31, 2022, the aggregate principal amount of all borrowings outstanding under the Comerica Master Repurchase Agreement was $22.4 million and $37.1 million, respectively.

 

The Chase Master Repurchase Agreement, Customers Master Repurchase Agreement and Comerica Master Repurchase Agreement (together, the “Master Repurchase Agreements”) require K. Hovnanian Mortgage to satisfy and maintain specified financial ratios and other financial condition tests. Because of the extremely short period of time mortgages are held by K. Hovnanian Mortgage before the mortgages are sold to investors (generally a period of a few weeks), the immateriality to us on a consolidated basis of the size of the Master Repurchase Agreements, the levels required by these financial covenants, our ability based on our immediately available resources to contribute sufficient capital to cure any default, were such conditions to occur, and our right to cure any conditions of default based on the terms of the applicable agreement, we do not consider any of these covenants to be substantive or material. As of January 31, 2023, we believe we were in compliance with the covenants under the Master Repurchase Agreements.

 

14

 
 

12.

Senior Notes and Credit Facilities

 

Senior notes and credit facilities balances as of January 31, 2023 and October 31, 2022, were as follows:

 

  

January 31,

  

October 31,

 

(In thousands)

 

2023

  

2022

 

Senior Secured Notes:

        

10.0% Senior Secured 1.75 Lien Notes due November 15, 2025

 $158,502  $158,502 

7.75% Senior Secured 1.125 Lien Notes due February 15, 2026

  250,000   250,000 

10.5% Senior Secured 1.25 Lien Notes due February 15, 2026

  282,322   282,322 

11.25% Senior Secured 1.5 Lien Notes due February 15, 2026

  162,269   162,269 

Total Senior Secured Notes

 $853,093  $853,093 

Senior Notes:

        

8.0% Senior Notes due November 1, 2027 (1)

 $-  $- 

13.5% Senior Notes due February 1, 2026

  90,590   90,590 

5.0% Senior Notes due February 1, 2040

  90,120   90,120 

Total Senior Notes

 $180,710  $180,710 

Senior Unsecured Term Loan Credit Facility due February 1, 2027

 $39,551  $39,551 

Senior Secured 1.75 Lien Term Loan Credit Facility due January 31, 2028

 $81,498  $81,498 

Senior Secured Revolving Credit Facility (2)

 $-  $- 

Subtotal senior notes and credit facilities

 $1,154,852  $1,154,852 

Net (discounts) premiums

 $1,930  $4,079 

Unamortized debt issuance costs

 $(11,521) $(12,384)

Total senior notes and credit facilities, net of discounts, premiums and unamortized debt issuance costs

 $1,145,261  $1,146,547 

 

(1) $26.0 million of 8.0% Senior Notes due 2027 (the "8.0% 2027 Notes") are owned by a wholly-owned consolidated subsidiary of HEI. Therefore, in accordance with U.S. GAAP, such notes are not reflected on the Condensed Consolidated Balance Sheets of HEI.

 

(2) At January 31, 2023, provides for up to $125.0 million in aggregate amount of senior secured first lien revolving loans. In the fourth quarter of fiscal 2022, we amended our Secured Credit Facility, which amendments became effective in the first quarter of fiscal 2023. As amended, the revolving loans thereunder have a maturity of June 30, 2024 and borrowings bear interest, at K. Hovnanians option, at either (i) a term secured overnight financing rate (subject to a floor of 1.00%) plus an applicable margin of 4.50% or (ii) an alternate base rate plus an applicable margin of 3.50%. In addition, K. Hovnanian will pay an unused commitment fee on the undrawn revolving commitments at a rate of 1.00% per annum.

 

General

 

Except for K. Hovnanian, the issuer of the notes and borrower under the Credit Facilities (as defined below), our home mortgage subsidiaries, certain of our title insurance subsidiaries, joint ventures and subsidiaries holding interests in our joint ventures, we and each of our subsidiaries are guarantors of the Credit Facilities, the senior secured notes and senior notes outstanding at January 31, 2023 (except for the 8.0% 2027 Notes which are not guaranteed by K. Hovnanian at Sunrise Trail III, LLC, a wholly-owned subsidiary of the Company) (collectively, the “Notes Guarantors”).

 

The credit agreements governing the Credit Facilities and the indentures governing the senior secured and senior notes (together, the “Debt Instruments”) outstanding at January 31, 2023 do not contain any financial maintenance covenants, but do contain restrictive covenants that limit, among other things, the ability of HEI and certain of its subsidiaries, including K. Hovnanian, to incur additional indebtedness, pay dividends and make distributions on common and preferred stock, repay/repurchase certain indebtedness prior to its respective stated maturity, repurchase (including through exchanges) common and preferred stock, make other restricted payments (including investments), sell certain assets (including in certain land banking transactions), incur liens, consolidate, merge, sell or otherwise dispose of all or substantially all of their assets and enter into certain transactions with affiliates. The Debt Instruments also contain customary events of default which would permit the lenders or holders thereof to exercise remedies with respect to the collateral (as applicable), declare the loans made under the Unsecured Term Loan Facility (defined below) (the “Unsecured Term Loans”), loans made under the Secured Term Loan Facility (defined below) (the “Secured Term Loans”) and loans made under the Secured Credit Agreement (as defined below) (the “Secured Revolving Loans”) or notes to be immediately due and payable if not cured within applicable grace periods, including the failure to make timely payments on the Unsecured Term Loans, Secured Term Loans, Secured Revolving Loans or notes or other material indebtedness, cross default to other material indebtedness, the failure to comply with agreements and covenants and specified events of bankruptcy and insolvency, with respect to the Unsecured Term Loans, Secured Term Loans and Secured Revolving Loans, material inaccuracy of representations and warranties and with respect to the Unsecured Term Loans, Secured Term Loans and Secured Revolving Loans, a change of control, and, with respect to the Secured Term Loans, Secured Revolving Loans and senior secured notes, the failure of the documents granting security for the obligations under the secured Debt Instruments to be in full force and effect, and the failure of the liens on any material portion of the collateral securing the obligations under the secured Debt Instruments to be valid and perfected. As of January 31, 2023, we believe we were in compliance with the covenants of the Debt Instruments.

 

15

 

If our consolidated fixed charge coverage ratio is less than 2.0 to 1.0, as defined in the applicable Debt Instrument, we are restricted from making certain payments, including dividends (in each such case, our secured debt leverage ratio must also be less than 4.0 to 1.0), and from incurring indebtedness other than certain permitted indebtedness and nonrecourse indebtedness. Beginning as of October 31, 2021, as a result of our improved operating results, our fixed coverage ratio was above 2.0 to 1.0 and our secured debt leverage ratio was below 4.0 to 1.0, therefore we were no longer restricted from paying dividends. As such, we made dividend payments of $2.7 million to preferred shareholders in the first quarter of both fiscal 2023 and 2022. Market conditions continue to adversely impact our business, and it is therefore likely that by the end of fiscal 2023 we will be restricted under our Debt Instruments from continuing to pay dividends on our Series A preferred stock. Dividends on the Series A preferred stock are not cumulative and, accordingly, if for any reason we do not declare a dividend on the Series A preferred stock for a quarterly dividend period (regardless of our availability of funds), holders of the Series A Preferred Stock will have no right to receive a dividend for that period, and we will have no obligation to pay a dividend for that period.

 

Under the terms of our Debt Instruments, we have the right to make certain redemptions and prepayments and, depending on market conditions, our strategic priorities and covenant restrictions, may do so from time to time. We also continue to actively analyze and evaluate our capital structure and explore transactions to simplify our capital structure and to strengthen our balance sheet, including those that reduce leverage, interest rates and/or extend maturities, and will seek to do so with the right opportunity. We may also continue to make debt or equity purchases and/or exchanges from time to time through tender offers, exchange offers, redemptions, open market purchases, private transactions, or otherwise, or seek to raise additional debt or equity capital, depending on market conditions and covenant restrictions.

 

Secured Obligations

 

On October 31, 2019, K. Hovnanian, HEI, the Notes Guarantors, Wilmington Trust, National Association, as administrative agent, and affiliates of certain investment managers (the “Investors”), as lenders, entered into a credit agreement (the “Secured Credit Agreement” and, together with the Unsecured Term Loan Facility (defined below) and the Secured Term Loan Facility, the “Credit Facilities”) providing for up to $125.0 million in aggregate amount of Secured Revolving Loans to be used for general corporate purposes, upon the terms and subject to the conditions set forth therein. Secured Revolving Loans are to be borrowed by K. Hovnanian and guaranteed by the Notes Guarantors. In the fourth quarter of fiscal 2022, we amended our Secured Credit Agreement, which amendments became effective in the first quarter of fiscal 2023. As amended, the revolving loans thereunder have a maturity of June 30, 2024 and borrowings bear interest, at K. Hovnanian’s option, at either (i) a term secured overnight financing rate (subject to a floor of 1.00%) plus an applicable margin of 4.50% or (ii) an alternate base rate plus an applicable margin of 3.50%. In addition, K. Hovnanian will pay an unused commitment fee on the undrawn revolving commitments at a rate of 1.00% per annum.

 

                  The 7.75% Senior Secured 1.125 Lien Notes due 2026 (the "1.125 Lien Notes") have a maturity of February 15, 2026 and bear interest at a rate of 7.75% per annum payable semi-annually on February 15 and August 15 of each year, to holders of record at the close of business on February 1 and August 1, as the case may be, immediately preceding such interest payment dates. K. Hovnanian may redeem some or all of the 1.125 Lien Notes at 103.875% of principal commencing February 15, 2022, at 101.937% of principal commencing February 15, 2023 and at 100.0% of principal commencing February 15, 2024.

 

                  The 10.5% Senior Secured 1.25 Lien Notes due 2026 (the "1.25 Lien Notes") have a maturity of February 15, 2026 and bear interest at a rate of 10.5% per annum payable semi-annually on February 15 and August 15 of each year to holders of record at the close of business on February 1 and August 1, as the case may be, immediately preceding such interest payment dates. K. Hovnanian may redeem some or all of the 1.25 Lien Notes at 105.25% of principal commencing February 15, 2022, at 102.625% of principal commencing February 15, 2023 and at 100.0% of principal commencing February 15, 2024.

                 

The 10.0% 1.75 Lien Notes due 2025 (the "1.75 Lien Notes") have a maturity of November 15, 2025 and bear interest at a rate of 10.0% per annum payable semi-annually on May 15 and November 15 of each year to holders of record at the close of business on May 1 or November 1, as the case may be, immediately preceding each such interest payment date. At any time and from time to time prior to November 15, 2023, K. Hovnanian may redeem some or all of the 1.75 Lien Notes at a redemption price equal to 102.50% of their principal amount and at any time and from time to time after November 15, 2023, K. Hovnanian may redeem some or all of the 1.75 Lien Notes at a redemption price equal to 100.0% of their principal amount.

 

The 11.25% Senior Secured 1.5 Lien Notes due 2026 (the "1.5 Lien Notes") have a maturity of February 15, 2026 and bear interest at a rate of 11.25% per annum payable semi-annually on February 15 and August 15 of each year to holders of record at the close of business on February 1 and August 1, as the case may be, immediately preceding such interest payment dates. The 1.5 Lien Notes are redeemable in whole or in part at our option at any time prior to February 15, 2026 at 100.0% of their principal amount.

 

16

 

On December 10, 2019, K. Hovnanian entered into a Senior Secured 1.75 Lien Term Loan Credit Facility due January 31, 2028 (the “Secured Term Loan Facility”). The secured term loans under the Secured Term Loan Facility (the “Secured Term Loans”) bear interest at a rate equal to 10.0% per annum and will mature on January 31, 2028, with interest payable in arrears on the last business day of each fiscal quarter. At any time and from time to time prior to November 15, 2023, K. Hovnanian may voluntarily prepay some or all of the Secured Term Loans at a prepayment price equal to 102.50% of their principal amount and at any time and from time to time after November 15, 2023, K. Hovnanian may voluntarily prepay some or all of the Secured Term Loans at a prepayment price equal to 100.0% of their principal amount.

 

                  Each series of secured notes and the guarantees thereof, the Secured Term Loans and the guarantees thereof and the Secured Credit Agreement and the guarantees thereof are secured by the same assets. Among the secured debt, the liens securing the Secured Credit Agreement are senior to the liens securing all of K. Hovnanian’s other secured notes and the Secured Term Loan. The liens securing the 1.125 Lien Notes are senior to the liens securing the 1.25 Lien Notes, 1.5 Lien Notes, the 1.75 Lien Notes, the Secured Term Loans and any other future secured obligations that are junior in priority with respect to the assets securing the 1.125 Lien Notes, the liens securing the 1.25 Lien Notes are senior to the liens securing the 1.5 Lien Notes, the 1.75 Lien Notes, the Secured Term Loans and any other future secured obligations that are junior in priority with respect to the assets securing the 1.25 Lien Notes, the liens securing the 1.5 Lien Notes are senior to the liens securing the 1.75 Lien Notes, the Secured Term Loans and any other future secured obligations that are junior in priority with respect to the assets securing the 1.5 Lien Notes, the liens securing the 1.75 Lien Notes and the Secured Term Loans (which are secured on a pari passu basis with each other) are senior to any other future secured obligations that are junior in priority with respect to the assets securing the 1.75 Lien Notes and the Secured Term Loans, in each case, with respect to the assets securing such debt.

 

As of January 31, 2023, the collateral securing the Secured Credit Agreement, the Secured Term Loan Facility and the secured notes included (1) $242.3 million of cash and cash equivalents, which included $5.8 million of restricted cash collateralizing certain letters of credit (subsequent to such date, fluctuations as a result of cash uses include general business operations and real estate and other investments along with cash inflow primarily from deliveries); (2) $470.7 million aggregate book value of real property, which does not include the impact of inventory investments, home deliveries or impairments thereafter and which may differ from the value if it were appraised; and (3) equity interests in joint venture holding companies with an aggregate book value of $96.9 million.

 

Unsecured Obligations

 

The 13.5% Senior Notes due 2026 (the “13.5% 2026 Notes”) bear interest at 13.5% per annum and mature on February 1, 2026. Interest on the 13.5% 2026 Notes is payable semi-annually on February 1 and August 1 of each year to holders of record at the close of business on January 15 or July 15, as the case may be, immediately preceding each such interest payment date. The 13.5% 2026 Notes are redeemable in whole or in part at K. Hovnanian’s option at any time prior to February 1, 2025 at a redemption price equal to 100% of their principal amount plus an applicable “Make Whole Amount”. At any time and from time to time on or after February 1, 2025, K. Hovnanian may also redeem some or all of the 13.5% 2026 Notes at a redemption price equal to 100.0% of their principal amount.

 

The 5.0% Senior Notes due 2040 (the “5.0% 2040 Notes”) bear interest at 5.0% per annum and mature on February 1, 2040. Interest on the 5.0% 2040 Notes is payable semi-annually on February 1 and August 1 of each year to holders of record at the close of business on January 15 or July 15, as the case may be, immediately preceding each such interest payment date. At any time and from time to time, K. Hovnanian may redeem some or all of the 5.0% 2040 Notes at a redemption price equal to 100.0% of their principal amount. 

 

The Unsecured Term Loans bear interest at a rate equal to 5.0% per annum and interest is payable in arrears, on the last business day of each fiscal quarter. The Unsecured Term Loans will mature on February 1, 2027.

 

Other

 

We have certain stand-alone cash collateralized letter of credit agreements and facilities under which there was a total of $5.7 million and $6.0 million letters of credit outstanding at January 31, 2023 and October 31, 2022, respectively. These agreements and facilities require us to maintain specified amounts of cash as collateral in segregated accounts to support the letters of credit issued thereunder, which will affect the amount of cash we have available for other uses. At January 31, 2023 and October 31, 2022, the amount of cash collateral in these segregated accounts was $5.8 million and $6.1 million, respectively, which is reflected in “Restricted cash and cash equivalents” on the Condensed Consolidated Balance Sheets.

 

17

 
 

13.

Per Share Calculation

  

Basic and diluted earnings per share for the periods presented below were calculated as follows:

 

  

Three Months Ended

 
  

January 31,

 

(In thousands, except per share data)

 

2023

  

2022

 
         

Numerator:

        

Net income

 $18,716  $24,808 

Less: preferred stock dividends

  (2,669)  (2,669)

Less: undistributed earnings allocated to participating securities

  (1,403)  (2,189)

Numerator for basic earnings per share

 $14,644  $19,950 

Plus: undistributed earnings allocated to participating securities

  1,403   2,189 

Less: undistributed earnings reallocated to participating securities

  (1,403)  (2,189)

Numerator for diluted earnings per share

 $14,644  $19,950 

Denominator:

        

Denominator for basic earnings per share – weighted average shares outstanding

  6,186   6,389 

Effect of dilutive securities:

        

Stock-based payments

  282   112 

Denominator for diluted earnings per share – weighted-average shares outstanding

  6,468   6,501 

Basic earnings per share

 $2.37  $3.12 

Diluted earnings per share

 $2.26  $3.07 

 

In addition, 80 thousand and 24 thousand shares related to out-of-the money stock options, which could potentially dilute basic earnings per share in the future, were not included in the computation of diluted earnings per share for both the three months ended January 31, 2023 and 2022, respectively, because to do so would have been anti-dilutive for each period.   

 

 

14.

Preferred Stock

 

On July 12, 2005, we issued 5,600 shares of 7.625% Series A preferred stock, with a liquidation preference of $25,000 per share. Dividends on Series A preferred stock are not cumulative and are payable at an annual rate of 7.625%. The Series A preferred stock is not convertible into the Company’s common stock and is redeemable in whole or in part at our option at the liquidation preference of the shares. The Series A preferred stock is traded as depositary shares, with each depositary share representing 1/1000th of a share of Series A preferred stock. During both the three months ended January 31, 2023 and 2022 we paid dividends of $2.7 million on the Series A preferred stock.

 

 

15.

Common Stock

 

Each share of Class A common stock entitles its holder to one vote per share, and each share of Class B common stock generally entitles its holder to ten votes per share. The amount of any regular cash dividend payable on a share of Class A common stock will be an amount equal to 110% of the corresponding regular cash dividend payable on a share of Class B common stock. If a shareholder desires to sell shares of Class B common stock, such stock must be converted into shares of Class A common stock at a one-to-one conversion rate.

  

18

 

On August 4, 2008, our Board of Directors (the “Board”) adopted a shareholder rights plan (the “Rights Plan”), which was amended on January 11, 2018 and January 18, 2021, designed to preserve shareholder value and the value of certain tax assets primarily associated with net operating loss (“NOL”) carryforwards and built-in losses under Section 382 of the Internal Revenue Code. Our ability to use NOLs and built-in losses would be limited if there was an “ownership change” under Section 382. This would occur if shareholders owning (or deemed under Section 382 to own) 5% or more of our stock increase their collective ownership of the aggregate amount of our outstanding shares by more than 50 percentage points over a defined period of time. The Rights Plan was adopted to reduce the likelihood of an “ownership change” occurring as defined by Section 382. Under the Rights Plan, one right was distributed for each share of Class A common Stock and Class B common Stock outstanding as of the close of business on August 15, 2008. Effective August 15, 2008, if any person or group acquires 4.9% or more of the outstanding shares of Class A common stock without the approval of the Board, there would be a triggering event causing significant dilution in the voting power of such person or group. However, existing shareholders who owned, at the time of the Rights Plan’s initial adoption on August 4, 2008, 4.9% or more of the outstanding shares of Class A common stock will trigger a dilutive event only if they acquire additional shares. The approval of the Board’s decision to adopt the Rights Plan may be terminated by the Board at any time, prior to the Rights being triggered. The Rights Plan will continue in effect until August 14, 2024, unless it expires earlier in accordance with its terms. The approval of the Board’s decision to initially adopt the Rights Plan and the amendments thereto were approved by shareholders. Our shareholders also approved an amendment to our Certificate of Incorporation to restrict certain transfers of Class A common stock in order to preserve the tax treatment of our NOLs and built-in losses under Section 382 of the Internal Revenue Code. Subject to certain exceptions pertaining to pre-existing 5% shareholders and holders of Class B common stock, the transfer restrictions in our Restated Certificate of Incorporation generally restrict any direct or indirect transfer (such as transfers of our stock that result from the transfer of interests in other entities that own our stock) if the effect would be to (i) increase the direct or indirect ownership of our stock by any person (or public group) from less than 5% to 5% or more of our common stock; (ii) increase the percentage of our common stock owned directly or indirectly by a person (or public group) owning or deemed to own 5% or more of our common stock; or (iii) create a new “public group” (as defined in the applicable U.S. Treasury regulations). Transfers included under the transfer restrictions include sales to persons (or public groups) whose resulting percentage ownership (direct or indirect) of common stock would exceed the 5% thresholds discussed above, or to persons whose direct or indirect ownership of common stock would by attribution cause another person (or public group) to exceed such threshold.

 

                On July 3, 2001, the Board authorized a stock repurchase program to purchase up to 0.2 million shares of Class A common stock. On  September 1, 2022, the Board terminated our prior repurchase program and authorized a new program for the repurchase of up to $50.0 million of our Class A common stock. Under the new repurchase program, repurchases  may be made from time to time in open market transactions, in privately negotiated transactions or otherwise. The timing and the actual dollar amount repurchased will depend on a variety of factors, including legal requirements, price, future tax implications and economic and market conditions. The repurchase program  may be changed, suspended or discontinued at any time and does not have a specified expiration date. 

 

During the three months ended  January 31, 2023, we repurchased 118,478 shares under the new stock repurchase program, with a market value of $4.8 million, or $40.51 per share, which were added to "Treasury stock" on our Condensed Consolidated Balance Sheets as of January 31, 2023. There were no shares repurchased during the three months ended  January 31, 2022. As of January 31, 2023, $33.0 million of our Class A common stock is available to be purchased under the stock repurchase program.

 

16.

Income Taxes

 

The total income tax benefit for the three months ended January 31, 2023 was $0.7 million. The benefit was primarily due to $6.2 million of energy efficient tax credits on homes closed in the prior fiscal year, which was offset by federal and state tax expense as a result of pretax income.

 

The total income tax expense for the three months ended January 31, 2022 was $10.6 million. The expense was primarily due to federal and state tax expense recorded as a result of our pretax income. The federal tax expense is not paid in cash as it is offset by the use of our existing NOL carryforwards.

 

Our federal net operating losses of $909.5 million expire between 2029 and 2038, and $21.1 million have an indefinite carryforward period. Of our $2.3 billion of state NOLs, $411.4 million expire between 2023 through 2027; $1.4 billion expire between 2028 through 2032; $369.7 million expire between 2033 through 2037; $73.7 million expire between 2038 through 2042; and $51.5 million have an indefinite carryforward period.

 

The Company recognizes deferred income taxes for deferred tax benefits arising from NOL carryforwards and temporary differences between book and tax income which will be recognized in future years as an offset against future taxable income. A valuation allowance is provided to offset deferred tax assets ("DTAs") if, based upon the available evidence, it is more likely than not that some or all of the DTAs will not be realized. Future realization of DTAs depends on the existence of sufficient taxable income of the appropriate character. Sources of taxable income include future reversals of existing taxable temporary differences, expected future taxable income, taxable income in prior carryback years if permitted under the tax law and tax planning strategies. Management has determined that it is more likely than not that sufficient taxable income will be generated in the future to realize its DTAs, net of any valuation allowance. The Company’s DTAs as of January 31, 2023 were $347.4 million.

 

As of January 31, 2023, we considered all available positive and negative evidence to determine whether, based on the weight of that evidence, our valuation allowance for our DTAs was appropriate. Overall, the positive evidence, both objective and subjective, outweighed the negative evidence. The significant positive improvement in our operations in the last three years, coupled with our contract backlog of $1.2 billion as of January 31, 2023 provided positive evidence to support the conclusion that a full valuation allowance is not necessary for all of our DTAs. As such, we used our go forward projections to estimate our usage of our existing federal and state DTAs. Based on this analysis, we determined that the current valuation allowance for our DTAs of $95.7 million as of January 31, 2023 is appropriate.

 

 

 

19

 

 

 

17.

Operating and Reporting Segments

 

We currently have homebuilding operations in 14 states that are aggregated into reportable segments based primarily upon geographic proximity.

 

Historically, the Company had seven reportable segments consisting of six homebuilding segments (Northeast, Mid-Atlantic, Midwest, Southeast, Southwest and West) and its financial services segment. During the fourth quarter of fiscal 2022, we reevaluated our reportable segments as a result of changes in the business and our management thereof. In particular, we considered the fact that, since our segments were last established, the Company had exited the Minnesota, North Carolina and Tampa markets and is currently in the process of exiting the Chicago market. Applying the principles set forth under Accounting Standards Codification ("ASC") 280, including that our business trends are reflective of economic conditions in markets with general geographic proximity, we realigned our homebuilding operating segments.

 

HEI’s reportable segments now consist of the following three homebuilding segments and a financial services segment.

 

Homebuilding:

 

 

(1)

Northeast (Delaware, Illinois, Maryland, New Jersey, Ohio, Pennsylvania, Virginia and West Virginia)

 (2)Southeast (Florida, Georgia and South Carolina)
 (3)West (Arizona, California and Texas)

  

All prior period amounts related to the segment change have been retrospectively reclassified throughout to conform to the new presentation.

 

Operations of the homebuilding segments primarily include the sale and construction of single-family attached and detached homes, attached townhomes and condominiums, urban infill and active lifestyle homes in planned residential developments. In addition, from time to time, operations of the homebuilding segments include sales of land. Operations of the financial services segment include mortgage banking and title services provided to the homebuilding operations’ customers. Our financial services subsidiaries do not typically retain or service mortgages that we originate but sell the mortgages and related servicing rights to investors.

 

Evaluation of segment performance is based primarily on income (loss) before income taxes. Income (loss) before income taxes for the homebuilding segments consist of revenues generated from the sales of homes and land, income (loss) from unconsolidated entities, management fees and other income, less the cost of homes and land sold, selling, general and administrative expenses and interest expense. Income (loss) before income taxes for the financial services segment consist of revenues generated from mortgage financing, title insurance and closing services, less the cost of such services and corporate general and administrative expenses.

 

20

 

Financial information relating to our reportable segments was as follows:

 

  

Three Months Ended

 
  

January 31,

 

(In thousands)

 

2023

  

2022

 
         

Revenues:

        

Northeast

 $211,462  $174,945 

Southeast

  73,794   55,582 

West

  215,734   321,470 

Total homebuilding

  500,990   551,997 

Financial services

  12,164   13,309 

Corporate and unallocated

  2,212   7 

Total revenues

 $515,366  $565,313 
         

Income before income taxes:

        

Northeast

 $28,512  $19,838 

Southeast

  11,623   10,162 

West

  9,889   43,935 

Total homebuilding

  50,024   73,935 

Financial services

  3,111   2,909 

Corporate and unallocated (1)

  (35,088)  (41,443)

Income before income taxes

 $18,047  $35,401 

 

(1)

Corporate and unallocated for the three months ended January 31, 2023 included corporate general and administrative expenses of $25.5 million, interest expense of $6.6 million (a component of Other interest in our Condensed Consolidated Statements of Operations), and $3.0 million of other net expenses. Corporate and unallocated for the three months ended  January 31, 2022 included corporate general and administrative costs of $29.4 million, interest expense of $11.5 million and $0.5 million of other net expenses.