UNITED STATES

 

SECURITIES AND EXCHANGE COMMISSION

 

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

(Mark One)

[ X ] Quarterly report pursuant to Section 13 or 15(d) of the

Securities Exchange Act of 1934

 

For quarterly period ended APRIL 30, 2008 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		22-1851059
(State or Other Jurisdiction of	(I.R.S. Employer
Incorporation or Organization)			Identification No.)

 

110 West Front Street, P.O. Box 500, Red Bank, NJ 07701

(Address of Principal Executive Offices)

(Zip Code)

 

732-747-7800

(Registrant's Telephone Number, Including Area Code)

 

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

 

Indicate by check mark whether the registrant: (l) has filed all reports required to be filed by Section l3 or l5(d) of the Securities Exchange Act of l934 during the preceding l2 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

[ X ]

No o

 

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

Large Accelerated Filer [ X ] Accelerated Filer [			]
Non-Accelerated Filer [	]	Smaller Reporting Company [			]

 

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

 

Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. 62,051,052 shares of Class A Common Stock and 14,644,227 shares of Class B Common Stock were outstanding as of June 4, 2008.

 

 

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HOVNANIAN ENTERPRISES, INC.
FORM 10-Q
INDEX
	PAGE NUMBER
PART I. Financial Information
Item l. Financial Statements:
Condensed Consolidated Balance Sheets as of April 30,
2008 (unaudited) and October 31, 2007	3
Condensed Consolidated Statements of Operations for the three
and six months ended April 30, 2008 and 2007 (unaudited)	5
Condensed Consolidated Statement of Stockholders'
Equity for the six months ended April 30, 2008 (unaudited)	6
Condensed Consolidated Statements of Cash Flows for
the six months ended April 30, 2008 and 2007 (unaudited)	7
Notes to Condensed Consolidated Financial
Statements (unaudited)	9
Item 2. Management's Discussion and Analysis
of Financial Condition and Results of Operations	28
Item 3. Quantitative and Qualitative Disclosures
About Market Risk	53
Item 4. Controls and Procedures	54
PART II. Other Information
Item 1. Legal Proceedings	54
Item 1A – Risk Factors	55
Item 2. Unregistered Sales of Equity Securities and
Use of Proceeds	62
Item 4. Submission of Matters to a Vote of Security Holders	62
Item 6. Exhibits	64
Signatures	67

 

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (In Thousands Except Share Amounts)
	April 30, 2008		October 31, 2007
ASSETS
	(unaudited)
Homebuilding:
Cash and cash equivalents	$119,910		$12,275
Restricted cash	4,461		6,594
Inventories - at the lower of cost or fair value:
Sold and unsold homes and lots under development	2,039,797		2,792,436
Land and land options held for future
development or sale	624,614		446,135
Consolidated inventory not owned:
Specific performance options	7,582		12,123
Variable interest entities	102,807		139,914
Other options	116,111		127,726
Total consolidated inventory not owned	226,500		279,763
Total inventories	2,890,911		3,518,334
Investments in and advances to unconsolidated
joint ventures	166,408		176,365
Receivables, deposits, and notes	113,638		109,856
Property, plant, and equipment – net	101,169		106,792
Prepaid expenses and other assets	156,886		174,032
Goodwill	32,658		32,658
Definite life intangibles	2,996		4,224
Total homebuilding	3,589,037		4,141,130
Financial services:
Cash and cash equivalents	3,982		3,958
Restricted cash	6,149		11,572
Mortgage loans held for sale	136,294		182,627
Other assets	3,906		6,851
Total financial services	150,331		205,008
Income taxes receivable – including net deferred
tax benefits	223,223		194,410
Total assets	$3,962,591		$4,540,548

See notes to condensed consolidated financial statements (unaudited).

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (In Thousands Except Share Amounts)
	April 30, 2008		October 31, 2007
LIABILITIES AND STOCKHOLDERS’ EQUITY	(unaudited)
Homebuilding:
Nonrecourse land mortgages	$4,871		$9,430
Accounts payable and other liabilities	413,736		515,422
Customers’ deposits	48,790		65,221
Nonrecourse mortgages secured by operating
properties	22,618		22,985
Liabilities from inventory not owned	164,887		189,935
Total homebuilding	654,902		802,993
Financial services:
Accounts payable and other liabilities	13,349		19,597
Mortgage warehouse line of credit	123,142		171,133
Total financial services	136,491		190,730
Notes payable:
Revolving credit agreement	325,000		206,750
Senior notes	1,510,832		1,510,600
Senior subordinated notes	400,000		400,000
Accrued interest	45,274		43,944
Total notes payable	2,281,106		2,161,294
Total liabilities	3,072,499		3,155,017
Minority interest from inventory not owned	38,552		62,238
Minority interest from consolidated joint ventures	1,380		1,490
Stockholders’ equity:
Preferred stock, $.01 par value-authorized 100,000
shares; issued 5,600 shares at April 30,
2008 and at October 31, 2007 with a
liquidation preference of $140,000	135,299		135,299
Common stock, Class A, $.01 par value-authorized
200,000,000 shares; issued 59,713,441 shares at
April 30, 2008 and 59,263,887 shares at
October 31, 2007 (including 11,694,720
shares at April 30, 2008 and
October 31, 2007 held in Treasury)	597		593
Common stock, Class B, $.01 par value (convertible
to Class A at time of sale) authorized
30,000,000 shares; issued 15,337,350 shares at
April 30, 2008 and 15,338,840 shares at
October 31, 2007 (including 691,748 shares at
April 30, 2008 and October 31, 2007 held in
Treasury)	153		153
Paid in capital – common stock	285,727		276,998
Retained earnings	543,641		1,024,017
Treasury stock - at cost	(115,257)		(115,257)
Total stockholders’ equity	850,160		1,321,803
Total liabilities and stockholders’ equity	$3,962,591		$4,540,548

See notes to condensed consolidated financial statements (unaudited).

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (In Thousands Except Per Share Data) (Unaudited)
	Three Months Ended April 30,			Six Months Ended April 30,
	2008		2007		2008		2007
Revenues:
Homebuilding:
Sale of homes	$755,684		$1,058,014		$1,807,502		$2,193,930
Land sales and other revenues	8,203		34,761		36,113		43,098
Total homebuilding	763,887		1,092,775		1,843,615		2,237,028
Financial services	12,552		17,883		26,525		39,431
Total revenues	776,439		1,110,658		1,870,140		2,276,459
Expenses:
Homebuilding:
Cost of sales, excluding interest	706,845		903,810		1,710,409		1,837,785
Cost of sales interest	34,572		28,756		63,160		55,628
Inventory impairment loss and land option        write-offs	245,860		34,353		336,028		75,827
Total cost of sales	987,277		966,919		2,109,597		1,969,240
Selling, general and administrative	97,646		137,637		197,815		269,779
Total homebuilding	1,084,923		1,104,556		2,307,412		2,239,019
Financial services	8,450		11,628		19,320		24,698
Corporate general and administrative	21,296		19,558		43,112		42,191
Other interest	462		6,666		1,002		7,886
Other operations	1,057		805		1,863		2,258
Intangible amortization	292		6,718		1,227		68,274
Total expenses	1,116,480		1,149,931		2,373,936		2,384,326
Loss from unconsolidated joint
ventures	(3,397)		(2,160)		(8,436)		(195)
Loss before income taxes	(343,438)		(41,433)		(512,232)		(108,062)
State and federal income tax   (benefit) provision:
State	11,942		1,094		14,225		(1,252)
Federal	(14,669)		(14,468)		(54,803)		(24,143)
Total taxes	(2,727)		(13,374)		(40,578)		(25,395)
Net loss	(340,711)		(28,059)		(471,654)		(82,667)
Less:  preferred stock dividends	-		2,669		-		5,338
Net loss available to common
stockholders	$(340,711)		$(30,728)		$(471,654)		$(88,005)
Per share data:
Basic:
Loss per common share	$(5.29)		$(0.49)		$(7.43)		$(1.40)
Weighted average number of common
shares outstanding	64,410		63,004		63,455		62,953
Assuming dilution:
Loss per common share	$(5.29)		$(0.49)		$(7.43)		$(1.40)
Weighted average number of common
shares outstanding	64,410		63,004		63,455		62,953

See notes to condensed consolidated financial statements (unaudited).

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY (In Thousands Except Share Amounts) (Unaudited)
	A Common Stock				B Common Stock				Preferred Stock
	Shares Issued and Outstanding		Amount		Shares Issued and Outstanding		Amount		Shares Issued and Outstanding		Amount		Paid-In Capital		Retained Earnings		Treasury Stock		Total
Balance, October 31, 2007	47,569,167		$593		14,647,092		$153		5,600		$135,299		$276,998		$1,024,017		$(115,257)		$1,321,803
Adoption of FASB interpretation No. 48 (FIN 48)															(8,722)				(8,722)
Stock options amortization  and issuances, net of tax	203,448		2										5,350						5,352
Restricted stock  amortization, issuances and  forfeitures, net of tax	244,616		2										3,379						3,381
Conversion of Class B to  Class A common stock	1,490				(1,490)														-
Net loss															(471,654)				(471,654)
Balance, April 30, 2008	48,018,721		$597		14,645,602		$153		5,600		$135,299		$285,727		$543,641		$(115,257)		$850,160

See notes to condensed consolidated financial statements (unaudited).

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In Thousands - Unaudited)
	Six Months Ended
	April 30,
	2008		2007
Cash flows from operating activities:
Net loss	$(471,654)		$(82,667)
Adjustments to reconcile net loss to net cash
provided by (used in) operating activities:
Depreciation	9,105		8,972
Intangible amortization	1,227		68,274
Compensation from stock options and awards	8,709		12,455
Amortization of bond discounts	232		558
Excess tax payments (benefits) from          share-based payment	2,243		(2,467)
Gain on sale and retirement of property
and assets	(1,758)		(2)
Loss from unconsolidated joint ventures	8,436		195
Distributions from unconsolidated joint ventures	2,857		464
Deferred income taxes	77,373		(17,148)
Impairment and land option deposit write-offs	336,028		75,827
Decrease (increase) in assets:
Mortgage notes receivable	46,387		148,646
Restricted cash, receivables, prepaids and
other assets	23,277		27,745
Inventories	276,016		(214,732)
Decrease in liabilities:
State and Federal income taxes	(114,908)		(16,177)
Customers’ deposits	(21,860)		(52,706)
Interest and other accrued liabilities	(126,530)		(143,377)
Accounts payable	(5,082)		(49,594)
Net cash provided by (used in) operating activities	50,098		(235,734)
Cash flows from investing activities:
Net proceeds from sale of property and assets	2,092		557
Purchase of property, equipment and other fixed
assets and acquisitions	(3,376)		(33,246)
Investments in and advances to unconsolidated
joint ventures	(9,262)		(27,008)
Distributions from unconsolidated joint ventures	8,019		22,878
Net cash used in investing activities	(2,527)		(36,819)
Cash flows from financing activities:
Proceeds from mortgages and notes	141		35,075
Net proceeds related to revolving
credit agreement	118,250		412,300
Net payments related to mortgage
warehouse line of credit	(47,991)		(148,334)
Principal payments on mortgages and notes	(9,112)		(54,960)
Excess tax (payments) benefits from      share-based payment	(2,243)		2,467
Preferred dividends paid	-		(5,338)
Purchase of treasury stock	-		(6,309)
Proceeds from sale of stock and employee stock plan	1,043		2,860
Net cash provided by financing activities	60,088		237,761
Net increase (decrease) in cash	107,659		(34,792)
Cash and cash equivalents balance, beginning
of period	16,233		54,323
Cash and cash equivalents balance, end of period	$123,892		$19,531

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In Thousands - Unaudited) (Continued)

 

	Six Months Ended
	April 30,
	2008		2007
Supplemental disclosures of cash flow:
Cash paid (received) during the period for:
Interest	$69,144		$68,371
Income taxes	$(3,956)		$5,316
Supplemental disclosures of noncash operating
activities:
Consolidated inventory not owned:
Specific performance options	$6,955		$13,631
Variable interest entities	93,722		168,548
Other options	116,110		213,491
Total inventory not owned	$216,787		$395,670

 

See notes to condensed consolidated financial statements (unaudited).

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS - UNAUDITED

 

1. The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. 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 consolidated financial position, results of operations, and changes in cash flows. The preparation of financial statements in conformity with accounting principles generally accepted in the United States 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 financial statements. Results for interim periods are not necessarily indicative of the results which might be expected for a full year. The balance sheet at October 31, 2007 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements.

 

The Company’s reportable segments consist of six Homebuilding segments (Northeast, Mid-Atlantic, Midwest, Southeast, Southwest and West) and the Financial Services segment (see Note 13).

 

Certain prior year amounts have been reclassified to conform to the current year presentation.

 

2. For the three and six months ended April 30, 2008, the Company’s total stock-based compensation expense was $3.8 million ($3.5 million net of tax) and $8.7 million ($8.0 million net of tax), respectively. Included in this total stock-based compensation expense was expense for stock options of $3.5 million ($3.2 million net of tax) and $7.0 million ($6.4 million net of tax) for the three and six months ended April 30, 2008, respectively.

 

3. Interest costs incurred, expensed and capitalized were:

 

	Three Months Ended				Six Months Ended
	April 30,				April 30,
	2008		2007		2008		2007
	(Dollars in Thousands)				(Dollars in Thousands)
Interest capitalized at
beginning of period	$171,430		$120,054		$155,642		$102,849
Plus interest incurred (1)	41,206		53,501		86,122		98,798
Less cost of sales interest
expensed (2)	34,572		28,756		63,160		55,628
Less other interest expensed	462		6,666		1,002		7,886
Interest capitalized at
end of period (3)	$177,602		$138,133		$177,602		$138,133

 

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

(2) Represents interest on borrowings for construction, land and development costs, which are

charged to interest expense when homes are delivered.

(3) We have incurred significant inventory impairments in recent quarters, which are determined based

	on total inventory including capitalized interest. However, the capitalized interest amounts above
	are shown gross before allocating any portion of the impairments to capitalized interest.

 

4. Accumulated depreciation at April 30, 2008 and October 31, 2007 amounted to $65.0 million and $57.4 million, respectively, for our homebuilding assets.

 

5. In accordance with Financial Accounting Standards No. 144 ("SFAS"), "Accounting for the Impairment of or Disposal of Long Lived Assets", we record impairment losses on inventories related to communities under development when events and circumstances indicate that they may be impaired and the undiscounted cash flows

 

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estimated to be generated by those assets are less than their related carrying amounts. As a result of a continued decline in sales pace, sales price and general market conditions, for the three months ended April 30, 2008 and 2007, we recorded inventory impairment of $226.4 million and $29.8 million, respectively, and $300.2 million and $76.3 million for the six months ended April 30, 2008 and 2007, respectively, both of which are presented in the Consolidated Statements of Operations and deducted from inventory.

 

As a result of the declining homebuilding market in some of our segments, we have decided to mothball (stop development) certain communities where we determine the current performance does not justify further investment at this time. When we decide to mothball a community, the inventory is reclassified from Sold and unsold homes and lots under development to Land and land options held for future development or sale. During the second quarter of fiscal 2008, we mothballed 11 communities. As of April 30, 2008, we have mothballed land in 28 communities. The book value associated with these 28 communities at April 30, 2008 was $493.3 million, net of an impairment balance of $131.1 million. We continually review communities to determine if mothballing is appropriate.

 

The following table represents inventory impairments by segment for the three and six months ended April 30, 2008 and 2007:

 

	Three Months Ended					Three Months Ended
(Dollars in millions)	April 30, 2008					April 30, 2007
	Number of Communities	Dollar Amount of Impairment	Pre- Impairment Value(1)		Number of Communities		Dollar Amount of Impairment		Pre- Impairment Value(1)
Northeast	6	$12.3	$86.1		3			$4.4	$26.0
Mid-Atlantic	6	8.3	32.9		-			-	-
Midwest	-	-	-		3			2.9	10.6
Southeast	12	11.4	43.5		2			7.5	66.6
Southwest	14	17.3	40.7		1			.3	.7
West	45	177.1	464.9		5			14.7	45.8
Total	83	$226.4	$668.1		14			$29.8	$149.7

 

	Six Months Ended					Six Months Ended
(Dollars in millions)	April 30, 2008					April 30, 2007
	Number of Communities	Dollar Amount of Impairment	Pre- Impairment Value(1)		Number of Communities		Dollar Amount of Impairment		Pre- Impairment Value(1)
Northeast	6	$14.8	$105.8		4			$5.8		$35.2
Mid-Atlantic	10	11.6	51.6		-			-		-
Midwest	4	5.6	20.2		6			6.1		25.8
Southeast	15	17.8	71.8		2			49.4		135.1
Southwest	16	22.1	57.8		1			.3		.7
West	52	228.3	680.2		5			14.7		45.8
Total	103	$300.2	$987.4		18			$76.3		$242.6

 

(1) Represents carrying value in dollars, net of prior period impairments, if any, at the time of recording

this period’s impairments.

 

The Consolidated Statements of Operations line entitled "Homebuilding—Inventory impairment loss and land option write-offs" also includes write-offs of capitalized approval, engineering and interest costs that we record when we redesign communities and/or abandon certain engineering costs and we do not exercise options in various locations because the communities' pro forma profitability does not produce adequate returns on investment commensurate with the risk.

 

The total aggregate write-offs were $19.5 million and $4.5 million for the three months ended April 30, 2008 and 2007, respectively, and $35.8 million and $7.5 million for the six months ended April 30, 2008 and 2007,

 

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respectively. The write-offs of $7.5 million in the six months ended April 30, 2007 were offset by $8.0 million in recovered deposits that had been written off in the prior year as walk-away costs because, in certain instances where we walked away from option contracts in the fourth quarter of fiscal 2006, we took legal action to recover our deposits. In two of these cases, we were successful and received a portion of our deposit back in the first quarter of fiscal 2007.

 

The following table represents write-offs of such costs and the related number of lots by segment for the three and six months ended April 30, 2008 and 2007:

 

	Three Months Ended								Six Months Ended
(Dollars in millions)	April 30,								April 30,
	2008				2007					2008				2007
	Number of Walk-Away Lots		Dollar Amount of Write-Offs		Number of Walk-Away Lots		Dollar Amount of Write-Offs			Number of Walk-Away Lots		Dollar Amount of Write-Offs		Number of Walk-Away Lots		Dollar Amount of Write-Offs
Northeast	144		$3.0		702		$2.3			453		$4.7		990		$2.8
Mid-Atlantic	1,755		4.4		468		.5			2,528		15.8		468		1.1
Midwest	-		-		146		.7			-		-		146		.8
Southeast	1,405		6.8		925		.3			1,754		7.2		1,650		.4
Southwest	202		1.6		726		.6			430		4.4		809		.6
West	239		3.7		-		.1			239		3.7		-		(6.2)
Total	3,745		$19.5		2,967		$4.5			5,404		$35.8		4,063		$(.5)

 

6. We provide a warranty accrual for repair costs under $5,000 per occurrence to homes, community amenities, and land development infrastructure. We accrue for warranty costs as part of cost of sales at the time each home is closed and title and possession have been transferred to the homebuyer. In addition, we accrue for warranty costs over $5,000 per occurrence as part of our general liability insurance deductible expensed as selling, general and administrative costs. For homes delivered in fiscal 2008, our deductible under our general liability insurance is $20 million per occurrence with an aggregate $20 million for liability claims and an aggregate $21.5 million for construction defect claims. Additions and charges in the warranty reserve and general liability accrual for the three and six months ended April 30, 2008 and 2007 were as follows:

 

		Three Months Ended				Six Months Ended
		April 30,				April 30,
		2008		2007		2008		2007
Balance, beginning of period		$120,855		$91,670		$120,653		$93,516
Additions		20,507		21,597		34,807		35,598
Charges incurred		(17,796)		(22,536)		(31,894)		(38,383)
Balance, end of period		$123,566		$90,731		$123,566		$90,731

 

Warranty accruals are based upon historical experience. We engage a third party actuary that uses our historical warranty data to estimate our unpaid claims, claim adjustment expenses and incurred but not reported claims reserves for the risks that we are assuming under the general liability and workers compensation programs. The estimates include provisions for inflation, claims handling and legal fees.

 

Insurance claims paid by our insurance carriers were $2.1 million and zero for the three months ended April 30, 2008 and 2007, respectively, and $7.0 million and $0.8 million for the six months ended April 30, 2008 and 2007, respectively, for prior year deliveries.

 

7. 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 or results of operations and we are subject to extensive and complex

 

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regulations that affect the development and home building, sales and customer financing processes, including zoning, density, building standards and mortgage financing. These regulations often provide broad discretion to the administering governmental authorities. This can delay or increase the cost of development or homebuilding.

 

We also are subject to a variety of local, state, federal and foreign laws and regulations concerning protection of health and the environment. The particular environmental laws which apply to any given community vary greatly according to the community site, the site's environmental conditions 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 certain environmentally sensitive regions or areas.

 

In March 2005, we received two requests for information pursuant to Section 308 of the Clean Water Act from Region 3 of the Environmental Protection Agency (the "EPA"). These requests sought information concerning storm water discharge practices in connection with completed, ongoing and planned homebuilding projects by subsidiaries in the states and district that comprise EPA Region 3. We also received a notice of violations for one project in Pennsylvania and requests for sampling plan implementation in two projects in Pennsylvania. The amount requested by the EPA to settle the asserted violations at the one project was less than $100,000. We provided the EPA with information in response to its requests. The Department of Justice (‘‘DOJ’’) subsequently also has become involved in the review of our storm water discharge practices and enforcement with respect to them. We have subsequently received a notification with respect to another development from the EPA alleging violations of storm water discharge practices and requesting related information. We cannot predict the outcome of the review of these practices or estimate the costs that may be involved in resolving the matter. To the extent that the EPA or the DOJ asserts violations of regulatory requirements and requests injunctive relief or penalties, we will defend and attempt to resolve such asserted violations.

 

It can be anticipated that increasingly stringent requirements will be imposed on developers and homebuilders in the future. Although we cannot predict the effect of these requirements, 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, 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.

 

On September 26, 2006, a stockholder derivative action was filed in the Superior Court of New Jersey, Monmouth County, against certain of our current and former officers and directors, captioned as Michael Crady v. Ara K. Hovnanian et al., Civil Action No. L-4380-06. An amended complaint was filed on January 11, 2007, and a second amended complaint, adding Judy Wolf as a derivative plaintiff, was served on December 10, 2007. The second amended complaint alleges, among other things, breach of fiduciary duty in connection with certain of our historical stock options grants and exercises by certain current and former officers and directors. The second amended complaint seeks an award of damages, disgorgement and/or rescission of certain stock options or any proceeds therefrom, equitable relief, an accounting of certain stock option grants, certain corporate governance changes and an award of fees and expenses. The parties have reached a settlement in principle with respect to all matters and have petitioned the court to approve the settlement. The terms of the settlement will have no material impact on the Company.

 

The Company, Chief Executive Officer and President Ara K. Hovnanian, Executive Vice President and Chief Financial Officer J. Larry Sorsby and a former Division Vice-President have been named as defendants in a purported class action. The original complaint was filed on September 14, 2007 in the United States District Court for the Central District of California, captioned Herbert Mankofsky v. J. Larry Sorsby, and named only Mr. Sorsby as a defendant. On January 31, 2008, the court appointed Herbert Mankofsky as Lead Plaintiff. On February 19, 2008, the action was transferred to the United States District Court for the District of New Jersey. On March 10, 2008, plaintiff filed an amended complaint, captioned In re Hovnanian Enterprises, Inc. Securities Litigation, alleging among other things, that the defendants made false and misleading statements regarding the Company's business and future prospects with respect to the Company’s acquisition and operation of First Home Builders of Florida in violation of federal securities laws.

 

The Company has been named as a defendant in a purported class action suit filed May 30, 2007 in the United States District Court for the Eastern District of Pennsylvania, Mark W. Mellar et al v. Hovnanian Enterprises, Inc. et al,

 

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asserting that the Company's sales of homes along with the financing of home purchases and the provision of title insurance by affiliated companies violated the Real Estate Settlement Procedures Act. The Company’s Motion to Dismiss the complaint was denied by the Court on March 4, 2008 without prejudice. The case has been placed on the inactive list by the Court pending the outcome of another case with similar allegations against unrelated defendants.

 

A subsidiary of the Company has been named as defendant in a purported class action suit filed May 30, 2007 in the United States District Court for the Middle District of Florida, Randolph Sewell et al v. D'Allesandro & Woodyard et al, alleging violations of the federal securities acts, among other allegations, in connection with the sale of some of the Company's subsidiary's homes in Fort Myers, Florida. The Company's subsidiary has filed a Motion to Dismiss the complaint.

 

On April 4, 2008, K. Hovnanian Enterprises, Inc. (“K. Hovnanian”), a wholly-owned subsidiary of the Company, initiated arbitration proceedings against GMAC Model Home Finance, LLC ("GMAC") to resolve a dispute arising under a Model Purchase, Construction Management and Rental Agreement dated October 4, 2001 (the "Agreement"). The Company is the guarantor of K. Hovnanian's obligations under the Agreement. On March 31, 2008, GMAC advised K. Hovnanian that it was terminating all model home leases and intended to take possession of all model homes at issue based on the claim that K. Hovnanian had defaulted under the Agreement. In its arbitration demand, K. Hovnanian disputes the existence of any default and claims that GMAC has materially breached the Agreement by failing to fund certain construction costs. On April 25, 2008, GMAC asserted counterclaims against K. Hovnanian and the Company alleging that K. Hovnanian defaulted and that all leases were terminated. The parties expect that a final hearing will take place in August 2008.

 

8. As of April 30, 2008 and October 31, 2007, we are obligated under various performance letters of credit amounting to $219.3 million and $306.4 million, respectively.

 

9. On May 16, 2008, we entered into Amendment No. 1 (the “Amendment”) to the Seventh Amended and Restated Credit Agreement (as amended, the “Amended Credit Agreement”). On May 27, 2008, in conjunction with the consummation of the issuance of $600 million of 11 1/2% Senior Secured Notes due 2013 (See Note 10), the Amendment became effective. The Amendment decreases the aggregate amount of commitments under the Seventh Amended and Restated Credit Agreement from $900 million to $300 million. The maturity date of the facility remains May 31, 2011. Until July 31, 2008, the full amount under the Amended Credit Agreement will be available for the issuance of letters of credit and up to $25 million under the Amended Credit Agreement will be available for revolving loans. After July 31, 2008, availability under the Amended Credit Agreement will equal the lesser of $300 million and the amount available pursuant to the borrowing base and the sub-limit for revolving loans will be increased to $100 million. Borrowings under the Amended Credit Agreement will bear interest at a rate equal, at the Company’s option, to (1) one, two, three or six month LIBOR, plus 4.50%, (2) a base rate equal to the greater of PNC Bank, National Association’s prime rate and the federal funds effective rate plus 0.50%, plus 2.75% and (3) an index rate based on daily LIBOR, plus 4.625%. In addition to paying interest on outstanding principal under the revolving facility, the Company will be required to pay an unused fee equal to 0.55% per annum on the daily average unused portion of the revolving facility. The Company will also pay a letter of credit fee of 4.50% per annum on the average outstanding face amount of letters of credit issued under the revolving facility. Notwithstanding the foregoing, the interest rate and fees payable under the revolving facility may not be less than the applicable interest rates and fees that would have been payable pursuant to the revolving facility that was in effect prior to March 7, 2008, the date of the Seventh Amended and Restated Credit Agreement. Borrowings under the Amended Credit Agreement may be used for general corporate purposes and working capital. A portion of the proceeds of the issuance of $600 million of 11 1/2% Senior Secured Notes due 2013 were used to repay the outstanding balance of $325.0 million at May 27, 2008 under the Seventh Amended and Restated Credit Agreement. As of May 27, 2008, the aggregate face amount of outstanding letters of credit was $217.8 million. As of April 30, 2008 and October 31, 2007, there was $325.0 million and $206.8 million drawn under the Seventh Amended and Restated Credit Agreement, excluding letters of credit totaling $219.3 million and $306.4 million, respectively. Under the Amended Credit Agreement borrowing base limits, as of April 30, 2008, we would have had an excess of $99.6 million available, which is limited by the terms of the Amended Credit Agreement, as described above.

 

We and each of our subsidiaries are guarantors under the Amended Credit Agreement, except for K. Hovnanian Enterprises, Inc. (“K. Hovnanian”), the borrower, our financial services subsidiaries, joint ventures and certain of our title insurance subsidiaries. All obligations under the Amended Credit Agreement, and the guarantees

 

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of those obligations, will be secured, subject to permitted liens and other exceptions, by a first-priority lien on substantially all of the assets owned by us, K. Hovnanian and the guarantors.

 

The Amended Credit Agreement has covenants that restrict, among other things, the ability of the Company and certain of its subsidiaries, including K. Hovnanian, to incur additional indebtedness, pay dividends on, and make distributions with respect to, common and preferred stock and repurchase capital stock, make other restricted payments, make investments, dispose of assets, incur liens, consolidate, merge, sell or otherwise transfer all or substantially all of its assets and enter into certain transactions with affiliates. The Amended Credit Agreement also contains a covenant that requires that as of the last day of each fiscal quarter either (1) the ratio of our adjusted operating cash flow to fixed charges exceed 1.50 to 1.00 or (2) our liquidity equals or exceeds $100 million. However, the Amended Credit Agreement does not contain any other financial maintenance covenants. The Amended Credit Agreement contains events of default which would permit the lenders to accelerate the loans if not cured within applicable grace periods, including the failure to make timely payments under the Amended Credit Agreement or other material indebtedness, the failure to satisfy covenants, the failure of the documents granting security for the obligations under the Amended Credit Agreement to be in full force and effect and specified events of bankruptcy and insolvency. As of April 30, 2008, we were in compliance with the covenants under the Seventh Amended and Restated Credit Agreement and are currently in compliance with the covenants under the Amended Credit Agreement.

 

Our wholly-owned mortgage banking subsidiary originates mortgage loans, primarily from the sale of our homes. Such mortgage loans are sold in the secondary mortgage market with servicing released within a short period of time. Our secured master repurchase agreement with a group of banks is a short-term borrowing facility that provides up to $161 million through December 26, 2008. Interest is payable monthly at LIBOR plus 1.10%. The loan is secured by the mortgages held for sale and is repaid when we sell the underlying mortgage loans to permanent investors. We also had a commercial paper facility which provided for up to $200 million through April 25, 2008 with interest payable monthly at LIBOR plus 0.40%. On November 28, 2007 we paid the outstanding balance in full and terminated the commercial paper facility. We believe that we will be able to extend the master repurchase agreement beyond its expiration date, but there can be no assurance of such extension. As of April 30, 2008, the aggregate principal amount of all borrowings under the master repurchase agreement was $123.1 million. The master repurchase agreement requires K. Hovnanian American Mortgage, LLC to satisfy and maintain specified financial ratios and other financial condition tests. As of April 30, 2008, we were in compliance with the covenants of the master repurchase agreement.

 

10. On May 27, 2008, K. Hovnanian issued $600 million ($594.4 million net of discount) of 11 1/2% Senior Secured Notes due 2013. The notes will be secured, subject to permitted liens and other exceptions, by a second-priority lien on substantially all of the assets owned by us, K. Hovnanian and the guarantors to the extent such assets secure obligations under the Amended Credit Agreement. The notes are redeemable in whole or in part at our option at 102% of principal commencing November 1, 2010, 101% of principal commencing May 1, 2011 and 100% of principal commencing May 1, 2012. In addition, we may redeem up to 35% of the aggregate principal amount of the notes before May 1, 2011 with the net cash proceeds from certain equity offerings at 111.50% of principal. A portion of the net proceeds of the issuance were used to repay the outstanding balance under the Seventh Amended and Restated Credit Agreement.

 

At April 30, 2008, we had $1,515.0 million of outstanding senior notes ($1,510.8 million, net of discount), $100 million 8% Senior Notes due 2012, $215 million 6 1/2% Senior Notes due 2014, $150 million 6 3/8% Senior Notes due 2014, $200 million 6 1/4% Senior Notes due 2015, $300 million 6 1/4% Senior Notes due 2016, $300 million 7 1/2% Senior Notes due 2016, and $250 million 8 5/8% Senior Notes due 2017. At April 30, 2008, we had $400.0 million of outstanding senior subordinated notes, comprised of $150 million 8 7/8% Senior Subordinated Notes due 2012, $150 million 7 3/4% Senior Subordinated Notes due 2013, and $100 million 6% Senior Subordinated Notes due 2010.

 

We and each of our subsidiaries are guarantors of the senior secured, senior and senior subordinated notes, except for K. Hovnanian, the issuer of the notes, our financial services subsidiaries, joint ventures and certain of our title insurance subsidiaries. (See Note 18). The indentures governing the senior secured notes, senior notes and senior subordinated notes contain restrictive covenants that limit, among other things, the ability of Hovnanian and certain of its subsidiaries, including K. Hovnanian, the issuer of the senior secured notes, senior notes and senior

 

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subordinated notes, to incur additional indebtedness, pay dividends and make distributions on common and preferred stock, repurchase senior and senior subordinated notes (with respect to the senior secured notes indenture), make other restricted payments, make investments, sell certain assets, incur liens, consolidate, merge, sell or otherwise dispose of all or substantially all of its assets and enter into certain transactions with affiliates. If our consolidated fixed charge coverage ratio, as defined in the indentures governing our senior secured notes, senior notes and senior subordinated notes is less than 2.0 to 1.0, we are restricted from making certain payments, including dividends, and from incurring indebtedness other than certain permitted indebtedness, refinancing indebtedness and non-recourse indebtedness. As a result of this restriction, we are currently restricted from paying dividends on our 7.625% Series A Preferred Stock and will continue to be restricted during the remainder of fiscal 2008. If current market trends continue or worsen, we anticipate that we will continue to be restricted from paying dividends into fiscal 2009. The restriction on making preferred dividend payments under our bond indentures will not affect our compliance with any of the covenants contained in the Amended Credit Agreement and will not permit the lenders under the Amended Credit Agreement to accelerate the loans. The indentures also contain events of default which would permit the holders of the senior secured notes, senior notes and senior subordinated notes to declare those notes to be immediately due and payable if not cured within applicable grace periods, including the failure to make timely payments on the notes or other material indebtedness, the failure to satisfy covenants and specified events of bankruptcy and insolvency and, with respect to the indenture governing the senior secured notes, the failure of the documents granting security for the senior secured notes to be in full force and effect and the failure of the liens on any material portion of the collateral securing the senior secured notes to be valid and perfected. As of April 30, 2008, we were in compliance with the covenants of the indentures governing our outstanding notes. Under the terms of the indentures, we have the right to make certain redemptions and depending on market conditions and covenant restrictions, may do so from time to time. We may also make open market purchases from time to time depending on market conditions and covenant restrictions.

 

11. Per Share Calculations - Basic earnings per common share is computed using the weighted average number of shares outstanding. Diluted earnings per common share is computed using the weighted average number of shares outstanding adjusted for the incremental shares attributed to non-vested stock and outstanding options to purchase common stock. However, for the three and six months ended April 30, 2008 and 2007, there were no incremental shares attributed to non-vested stock and outstanding options to purchase common stock because we had a net loss for the period, and any incremental shares would not be dilutive.

 

12. On July 12, 2005, we issued 5,600 shares of 7.625% Series A Preferred Stock, with a liquidation preference of $25,000. Dividends on the Series A Preferred Stock are not cumulative and are paid 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 beginning on the fifth anniversary of their issuance. The Series A Preferred Stock is traded as depositary shares, with each depositary share representing 1/1000^th of a share of Series A Preferred Stock. The depositary shares are listed on the Nasdaq Global Market under the symbol “HOVNP”. In January and April 2007, we paid $2.7 million of dividends on the Series A Preferred Stock. In January and April 2008, we did not make any dividend payments as a result of covenant restrictions in the indentures governing our Senior and Senior Subordinated Notes. (See Note 10)

 

13. Operating and Reporting Segments - SFAS 131, Disclosures About Segments of an Enterprise and Related Information ("SFAS 131"), defines operating segments as a component of an enterprise for which discrete financial information is available and is reviewed regularly by the chief operating decision-maker, or decision-making group, to evaluate performance and make operating decisions. The Company has identified its chief operating decision-maker as the Chief Executive Officer. Under the definition, we have more than 49 homebuilding operating segments, and therefore, in accordance with paragraph 24 of SFAS 131, it is impractical to provide segment disclosures for this many segments. As such, we have aggregated the homebuilding operating segments into six reportable segments.

 

The Company’s operating segments are aggregated into reportable segments in accordance with SFAS 131, based primarily upon geographic proximity, similar regulatory environments, land acquisition characteristics and similar methods used to construct and sell homes. The Company’s reportable segments consist of:

 

 

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                Homebuilding:

	(1) Northeast (New Jersey, New York, Pennsylvania)
	(2) Mid-Atlantic (Delaware, Maryland, Virginia, West Virginia, Washington D.C.)
	(3) Midwest (Illinois, Kentucky, Michigan, Minnesota, Ohio)
	(4) Southeast (Florida, Georgia, North Carolina, South Carolina)
	(5) Southwest (Arizona, Texas)
	(6) West (California)

 

Financial Services

 

Operations of the Company’s Homebuilding segments primarily include the sale and construction of single-family attached and detached homes, attached townhomes and condominiums, mid-rise and high-rise condominiums, urban infill and active adult homes in planned residential developments. Operations of the Company’s Financial Services segment include mortgage banking and title services to the homebuilding operations’ customers. We do not retain or service mortgages that we originate but rather sell the mortgages and related servicing rights to investors.

 

Evaluation of segment performance is based primarily on operating earnings from continuing operations before provision for income taxes (“(Loss) income before income taxes”). (Loss) income before income taxes for the Homebuilding segments consist of revenues generated from the sales of homes and land, (loss) income from unconsolidated entities and management fees and other income, net, less the cost of homes and land sold, selling, general and administrative expenses and minority interest expense, net. Income 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 certain selling, general and administrative expenses incurred by the Financial Services segment.

 

Operational results of each segment are not necessarily indicative of the results that would have occurred had the segment been an independent, stand-alone entity during the periods presented.

 

 

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Financial information relating to the Company’s operations was as follows:

 

	Three Months Ended April 30,					Six Months Ended April 30,
	2008		2007			2008		2007
(In thousands)
Revenues:
Northeast	$169,856		$188,231			$351,773		$402,325
Mid-Atlantic	135,543		217,903			263,351		441,645
Midwest	55,367		41,941			103,051		80,765
Southeast	110,697		209,803			504,102		429,740
Southwest	148,262		201,390			312,822		378,402
West	143,444		233,391			307,580		503,906
Total homebuilding revenues	763,169		1,092,659			1,842,679		2,236,783
Financial services	12,552		17,883			26,525		39,431
Corporate and unallocated	718		116			936		245
Total revenues	$776,439		$1,110,658			$1,870,140		$2,276,459
(Loss) income before income   taxes:
Northeast	$(24,774)		$(5,070)			$(36,309)		$11,390
Mid-Atlantic	(20,807)		31,433			(43,845)		57,730
Midwest	(8,335)		(11,965)			(22,712)		(22,497)
Southeast	(27,052)		(14,516)			(33,047)		(102,275)
Southwest	(18,905)		9,692			(25,630)		16,361
West	(222,213)		(36,917)			(310,214)		(37,594)
Homebuilding loss         before income taxes	(322,086)		(27,343)			(471,757)		(76,885)
Financial services	4,102		6,255			7,205		14,733
Corporate and unallocated	(25,454)		(20,345)			(47,680)		(45,910)
Loss before income           taxes	$(343,438)		$(41,433)			$(512,232)		$(108,062)
	April 30,		October 31,
	2008		2007
(In thousands)
Assets
Northeast	$1,161,501		$1,240,221
Mid-Atlantic	521,064		606,343
Midwest	111,118		130,360
Southeast	272,462		360,172
Southwest	487,493		553,743
West	782,967		1,083,543
Total homebuilding assets	3,336,605		3,974,382
Financial services	150,331		205,008
Corporate and unallocated	475,655		361,158
Total assets	$3,962,591		$4,540,548

 

14. Variable Interest Entities - In January 2003, the Financial Accounting Standards Board (“FASB”) issued Interpretation No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”). A Variable Interest Entity (“VIE”) is created when (i) the equity investment at risk is not sufficient to permit the entity to finance its activities

 

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without additional subordinated financial support from other parties or (ii) equity holders either (a) lack direct or indirect ability to make decisions about the entity, (b) are not obligated to absorb expected losses of the entity or (c) do not have the right to receive expected residual returns of the entity if they occur. If an entity is deemed to be a VIE pursuant to FIN 46, an enterprise that absorbs a majority of the expected losses of the VIE is considered the primary beneficiary and must consolidate the VIE.

 

Based on the provisions of FIN 46, we have concluded that whenever we option land or lots from an entity and pay a non-refundable deposit, a VIE is created under condition (ii) (b) and (c) of the previous paragraph. We are deemed to have provided subordinated financial support, which refers to variable interests that will absorb some or all of an entity’s expected theoretical losses if they occur. For each VIE created with a significant nonrefundable option fee (we currently define significant as greater than $100,000 because we have determined that in the aggregate the VIEs related to deposits of this size or less are not material), we compute expected losses and residual returns based on the probability of future cash flows as outlined in FIN 46. If we are deemed to be the primary beneficiary of the VIE, we consolidate it on our balance sheet. The fair value of the VIE’s inventory is reported as “Consolidated inventory not owned – variable interest entities”.

 

Typically, the determining factor in whether or not we are the primary beneficiary is the deposit amount as a percentage of the total purchase price, because it determines the amount of the first risk of loss we take on the contract. The higher this percentage deposit, the more likely we are to be the primary beneficiary. Other important criteria that impact the outcome of the analysis, are the probability of getting the property through the approval process for residential homes, because this impacts the ultimate value of the property, as well as who is the responsible party (seller or buyer) for funding the approval process and development work that will take place prior to our decision to exercise the option.

 

Management believes FIN 46 was not clearly thought out for application in the homebuilding industry for land and lot options. Under FIN 46, we can have an option and put down a small deposit as a percentage of the purchase price and still have to consolidate the entity. Our exposure to loss as a result of our involvement with the VIE is only the deposit, not its total assets consolidated on our balance sheet. In certain cases, we will have to place inventory the VIE has optioned to other developers on our balance sheet. In addition, if the VIE has creditors, its debt will be placed on our balance sheet even though the creditors have no recourse against us. Based on these observations, we believe consolidating VIEs based on land and lot option deposits does not reflect the economic realities or risks of owning and developing land.

 

At April 30, 2008, all 16 VIEs we were required to consolidate were the result of our options to purchase land or lots from the selling entities. We paid cash or issued letters of credit deposits to these VIEs totaling $11.8 million. Our option deposits represent our maximum exposure to loss. The fair value of the property owned by these VIEs was $102.8 million. Since we do not own an equity interest in any of the unaffiliated VIEs that we must consolidate pursuant to FIN 46, we generally have little or no control or influence over the operations of these entities or their owners. When our requests for financial information are denied by the land sellers, certain assumptions about the assets and liabilities of such entities are required. In most cases, we determine the fair value of the assets of the consolidated entities based on the remaining contractual purchase price of the land or lots we are purchasing. In these cases, it is assumed that the entities have no debt obligations and the only asset recorded is the land or lots we have the option to buy with a related offset to minority interest for the assumed third party investment in the variable interest equity. At April 30, 2008, the balance reported in minority interest from inventory not owned was $38.6 million. Creditors of these 16 VIEs have no recourse against us.

 

We will continue to control land and lots using options. Not all of our deposits are with VIEs. Including the deposits with the 16 VIEs described above, at April 30, 2008, we have total cash and letters of credit deposits amounting to approximately $119.3 million to purchase land and lots with a total purchase price of $1,595.0 billion. The maximum exposure to loss is limited to the deposits, although some deposits are refundable at our request or refundable if certain conditions are not met.

 

15. Investments in Unconsolidated Homebuilding and Land Development Joint Ventures - We enter into homebuilding and land development joint ventures from time to time as a means of accessing lot positions, expanding our market opportunities, establishing strategic alliances, managing our risk profile, leveraging our capital base, and enhancing returns on capital. Our homebuilding joint ventures are generally entered into with third

 

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party investors to develop land and construct homes that are sold directly to third party homebuyers. Our land development joint ventures include those entered into with developers, other homebuilders, and financial investors to develop finished lots for sale to the joint venture’s members or other third parties. The tables set forth below summarize the combined financial information related to our unconsolidated homebuilding and land development joint ventures that are accounted for under the equity method.

 

			April 30, 2008
	Homebuilding		Land Development		Total
Assets:
Cash and cash equivalents	$30,231		$2,627		$32,858
Inventories	550,433		169,394		719,827
Other assets	34,012		5,666		39,678
Total assets	$614,676		$177,687		$792,363
Liabilities and equity:
Accounts payable and accrued Liabilities	$48,213		$16,442		$64,655
Notes payable	292,923		43,753		336,676
Equity of:
Hovnanian Enterprises, Inc.	68,769		73,931		142,700
Others	204,771		43,561		248,332
Total equity	273,540		117,492		391,032
Total liabilities and equity	$614,676		$177,687		$792,363
Debt to capitalization ratio	52%		27%		46%
			October 31, 2007
	Homebuilding		Land Development		Total
Assets:
Cash and cash equivalents	$43,789		$9,903		$53,692
Inventories	574,195		171,067		745,262
Other assets	36,028		5,510		41,538
Total assets	$654,012		$186,480		$840,492
Liabilities and equity:
Accounts payable and accrued Liabilities	$76,197		$14,309		$90,506
Notes payable	292,633		46,546		339,179
Equity of:
Hovnanian Enterprises, Inc.	75,858		77,129		152,987
Others	209,324		48,496		257,820
Total equity	285,182		125,625		410,807
Total liabilities and equity	$654,012		$186,480		$840,492
Debt to capitalization ratio	51%		27%		45%

 

As of April 30, 2008 and October 31, 2007, we had advances outstanding of approximately $23.7 million and $23.4 million, respectively, to these unconsolidated joint ventures, which were included in the accounts payable and accrued liabilities balances in the table above. On our Hovnanian Enterprises, Inc. Condensed Consolidated Balance Sheets our “Investments in and advances to unconsolidated joint ventures” amounted to $166.4 million and $176.4 million at April 30, 2008 and October 31, 2007, respectively.

 

 

 

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	For the Three Months Ended April 30, 2008
	Homebuilding		Land Development		Total
Revenues	$92,731		$2,940		$95,671
Cost of sales and expenses	(118,493)		(2,721)		(121,214)
Net (loss) income	$(25,762)		$219		$(25,543)
Our share of net loss	$(2,990)		$(231)		$(3,221)
	For the Three Months Ended April 30, 2007
	Homebuilding		Land Development		Total
Revenues	$105,885		$16,799		$122,684
Cost of sales and expenses	(115,005)		(17,127)		(132,132)
Net loss	$(9,120)		$(328)		$(9,448)
Our share of net loss	$(2,132)		$(187)		$(2,319)

 

	For the Six Months Ended April 30, 2008
	Homebuilding		Land Development		Total
Revenues	$139,014		$12,553		$151,567
Cost of sales and expenses	(173,885)		(12,396)		(186,281)
Net (loss) income	$(34,871)		$157		$(34,714)
Our share of net loss	$(7,978)		$(209)		$(8,187)
	For the Six Months Ended April 30, 2007
	Homebuilding		Land Development		Total
Revenues	$221,446		$24,221		$245,667
Cost of sales and expenses	(219,181)		(24,105)		(243,286)
Net income	$2,265		$116		$2,381
Our share of net loss	$(434)		$(15)		$(449)

 

Loss from unconsolidated joint ventures is reflected as a separate line in the accompanying Condensed Consolidated Financial Statements and reflects our proportionate share of the loss of these unconsolidated homebuilding and land development joint ventures. The minor difference between our share of the loss from these unconsolidated joint ventures disclosed here compared to the Condensed Consolidated Statements of Operations is due to the reclass of the intercompany portion of management fee income from certain joint ventures and the deferral of income for lots purchased by us from certain joint ventures. Our ownership interests in the joint ventures vary but are generally less than or equal to 50%. In determining whether or not we must consolidate joint ventures where we are the manager of the joint venture, we consider the guidance in EITF 04-5 in assessing whether the other partners have specific rights to overcome the presumption of control by us as the manager of the joint venture. In most cases, the presumption is overcome because the joint venture agreements require that both partners agree on establishing the operating and capital decisions of the partnership, including budgets, in the ordinary course of business.

 

 

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Typically, our unconsolidated joint ventures obtain separate project specific mortgage financing for each venture. Generally, the amount of such financing is limited to no more than 50% of the joint venture’s total assets, and such financing is obtained on a non-recourse basis. Other than guarantees limited only to completion of development, environmental indemnification and standard indemnification for fraud and misrepresentation including voluntary bankruptcy, we have no other guarantees associated with unconsolidated joint ventures. In some instances, the joint venture entity is considered a variable interest entity (VIE) under FIN 46 due to the returns being capped to the equity holders; however, in these instances, we are not the primary beneficiary, therefore we do not consolidate these entities.

 

16. Recent Accounting Pronouncements - The Company adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes” (FIN 48), effective November 1, 2007. FIN 48 creates a single model to address accounting for uncertainty in tax positions and clarifies accounting for income taxes by prescribing a minimum recognition threshold a tax position is required to meet before being recognized in the financial statements. FIN 48 also provides guidance on de-recognition, measurement, classification, interest and penalties, accounting in interim periods, disclosures, and transactions.

 

The November 1, 2007 adoption of FIN 48 resulted in a $8.7 million increase in income tax liabilities and a corresponding charge to beginning retained earnings. As of the date of adoption, we had $25.3 million of unrecognized tax benefits, including $3.3 million of accrued interest and penalties, all of which, if recognized, would affect the effective tax rate. We recognize interest and penalties related to income taxes in income tax expense. Such amounts totaled $0.4 and $0.1 million of income tax expense for the three and six months ended April 30, 2008.

 

On November 29, 2006, the FASB ratified EITF Issue No. 06-8, "Applicability of the Assessment of a Buyer's Continuing Investment Under FASB Statement No. 66, Accounting for Sales of Real Estate, for Sales of Condominiums." EITF 06-8 states that the adequacy of the buyer's continuing investment under SFAS 66 should be assessed in determining whether to recognize profit under the percentage-of-completion method on the sale of individual units in a condominium project. This consensus could require that additional deposits be collected by developers of condominium projects that wish to recognize profit during the construction period under the percentage-of-completion method. EITF 06-8 is effective for fiscal years beginning after March 15, 2007. Implementation of EITF No. 06-8 did not have a material impact on our consolidated financial position, results of operations or cash flows.

 

In February 2007, the FASB issued SFAS No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities—Including an amendment of FASB Statement No. 115" ("SFAS 159"). The statement permits entities to choose to measure certain financial assets and liabilities at fair value. Unrealized gains and losses on items for which the fair value option has been elected are reported in earnings. SFAS 159 is effective as of the beginning of an entity's fiscal year that begins after November 15, 2007 and interim periods within those fiscal years. We are currently evaluating the impact, if any, that SFAS 159 may have on our consolidated financial position, results of operations or cash flows.

 

In September 2006, the FASB issued SFAS No. 157, "Fair Value Measurements" ("SFAS 157"), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles and expands disclosures about fair value measurements. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007 and interim periods within those fiscal years. Earlier application is encouraged provided that the reporting entity has not yet issued financial statements for the fiscal year including financial statements for an interim period within that fiscal year. We are currently evaluating the impact, if any, that SFAS 157 may have on our consolidated financial position, results of operations or cash flows.

 

In November 2007, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) No. 109, "Written Loan Commitments Recorded at Fair Value Through Earnings." SAB No. 109, which revises and rescinds portions of SAB No. 105, "Application of Accounting Principles to Loan Commitments," and which specifically states that the expected net future cash flows related to the associated servicing of a loan should be included in the measurements of all written loan commitments that are accounted for at fair value through earnings. The provisions of SAB No. 109 are applicable to written loan commitments issued or modified in fiscal quarters beginning after December 15, 2007. The adoption of SAB No. 109 did not have a material impact on our consolidated financial position, results of operations or cash flows.

 

 

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In December 2007, the FASB issued SFAS No. 160, “Non-controlling Interests in Consolidated Financial Statements – an amendment of ARB No. 51” (“SFAS 160”). The statement clarifies the accounting for non-controlling interests and establishes accounting and reporting standards for the non-controlling interest in a subsidiary, including classification as a component of equity. SFAS No. 160 is effective for fiscal years beginning on or after December 15, 2008, and earlier adoption is prohibited. We are currently evaluating the impact, if any, that SFAS 160 may have on our consolidated financial position, results of operations or cash flows.

 

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations” (SFAS 141(R)). The statement replaces SFAS No. 141, “Business Combinations”, and provides revised guidance for recognizing and measuring identifiable assets and goodwill acquired, liabilities assumed, and any non-controlling interest in the acquiree. It also provides disclosure requirements to enable users of the financial statements to evaluate the nature and financial effects of the business combination. SFAS No. 141(R) is effective for fiscal years beginning on or after December 15, 2008, and is to be applied prospectively. We are currently evaluating the impact, if any, that SFAS 141(R) may have on our consolidated financial positions, results of operations or cash flows.

 

In March 2008, the FASB issued SFAS No. 161, “Disclosures About Derivative Instruments and Hedging Activities – an amendment of FASB Statement No. 133” (“SFAS 161”). SFAS 161 expands the disclosure requirements in SFAS 133, “Accounting for Derivative Instruments and Hedging Activities,” regarding an entity’s derivative instruments and hedging activities. SFAS 161 is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008. We are currently evaluating the impact, if any, SFAS 161 may have on our consolidated financial positions, results of operations or cash flows.

 

17. Intangible Assets – The intangible assets recorded on our balance sheet are goodwill, which has an indefinite life, and definite life intangibles, including tradenames, architectural designs, distribution processes, and contractual agreements resulting from our acquisitions. We no longer amortize goodwill, but instead assess it periodically for impairment. We performed such assessments utilizing a fair value approach as of October 31, 2007. We also assess definite life intangibles for impairment whenever events or changes indicate that their carrying amount may not be recoverable. An intangible impairment is recorded when events and circumstances indicate the undiscounted future cash flows generated from the business unit with the intangible asset are less than the net assets of the business unit. The impairment loss is the lesser of the difference between the net assets of the business unit and the discounted future cash flows generated from the applicable business unit, which approximates fair value and the intangible asset balance. The estimates used in the determination of the estimated cash flows and fair value of a business unit are based on factors known to us at the time such estimates are made and our expectations of future operations and economic conditions. Should the estimates or expectations used in determining estimated cash flows or fair value decrease or differ from current estimates in the future, we may be required to recognize additional impairments. However, we only have $3.0 million remaining in intangible assets and $32.7 million remaining in goodwill so any future impairments are limited to these balances. Any intangible impairment charge is included in Intangible amortization on the Condensed Consolidated Statements of Operations. We are amortizing the remaining definite life intangibles over their expected useful lives, ranging from one to four years.

 

18. Hovnanian Enterprises, Inc., the parent company (the "Parent"), is the issuer of publicly traded common stock and preferred stock. One of its wholly owned subsidiaries, K. Hovnanian Enterprises, Inc. (the “Subsidiary Issuer”), acts as a finance entity that as of April 30, 2008 had issued and outstanding $400.0 million of Senior Subordinated Notes, $1,515.0 million face value of Senior Notes, and $325.0 million drawn under the Seventh Amended and Restated Credit Agreement. On May 27, 2008, the Subsidiary Issuer issued $600 million of 11 1/2% Senior Secured Notes due 2013 and the Amendment to the Seventh Amended and Restated Credit Agreement became effective (see Notes 9 and 10). The Senior Secured Notes, Senior Subordinated Notes, Senior Notes, and the current and former revolving Credit Agreement are fully and unconditionally guaranteed by the Parent.

 

In addition to the Parent, each of the wholly owned subsidiaries of the Parent other than the Subsidiary Issuer (collectively, the “Guarantor Subsidiaries”), with the exception of our financial service subsidiaries and joint ventures (collectively, the “Non-guarantor Subsidiaries”), have guaranteed fully and unconditionally, on a joint and

 

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several basis, the obligations of the Subsidiary Issuer to pay principal and interest under the Senior Secured Notes, Senior Notes, Senior Subordinated Notes, and the Amended Credit Agreement.

 

In lieu of providing separate audited financial statements for the Guarantor Subsidiaries we have included the accompanying condensed consolidating financial statements. Management does not believe that separate financial statements of the Guarantor Subsidiaries are material to investors. Therefore, separate financial statements and other disclosures concerning the Guarantor Subsidiaries are not presented.

 

The following condensed consolidating financial statements present the results of operations, financial position, and cash flows of (i) the Parent, (ii) the Subsidiary Issuer, (iii) the Guarantor Subsidiaries, (iv) the Non-guarantor Subsidiaries, and (v) the eliminations to arrive at the information for Hovnanian Enterprises, Inc. on a consolidated basis.

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING BALANCE SHEET – UNAUDITED
APRIL 30, 2008
(Dollars in Thousands)
	Parent		Subsidiary Issuer		Guarantor Subsidiaries		Non- Guarantor Subsidiaries		Eliminations		Consolidated
ASSETS:
Homebuilding	$20		$159,388		$3,261,755		$167,874		$		$3,589,037
Financial services					7,523		142,808				150,331
Income taxes (payable)   receivable	(67,557)		50,833		239,902		45				223,223
Investments in and amounts   due to and from   consolidated subsidiaries	917,697		2,921,283		(3,114,466)		(109,063)		(615,451)		-
Total assets	$850,160		$3,131,504		$394,714		$201,664		$(615,451)		$3,962,591
LIABILITIES AND STOCKHOLDERS’ EQUITY:
Homebuilding	$		$2,122		$652,441		$339		$		$654,902
Financial services					6,976		129,515				136,491
Notes payable			2,280,817		289						2,281,106
Minority interest					38,552		1,380				39,932
Stockholders’ equity	850,160		848,565		(303,544)		70,430		(615,451)		850,160
Total liabilities and   stockholders’ equity	$850,160		$3,131,504		$394,714		$201,664		$(615,451)		$3,962,591
HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING BALANCE SHEET
OCTOBER 31, 2007
(Dollars in Thousands)
	Parent		Subsidiary Issuer		Guarantor Subsidiaries		Non- Guarantor Subsidiaries		Eliminations		Consolidated
ASSETS:
Homebuilding	$105		$62,575		$3,833,782		$244,668		$		$4,141,130
Financial services					448		204,560				205,008
Income taxes (payable)   receivable	(92,282)		42,865		244,798		(971)				194,410
Investments in and amounts   due to and from consolidated   subsidiaries	1,413,980		2,824,461		(2,931,333)		(165,846)		(1,141,262)		-
Total assets	$1,321,803		$2,929,901		$1,147,695		$282,411		$(1,141,262)		$4,540,548
LIABILITIES AND STOCKHOLDERS’ EQUITY:
Homebuilding	$		$72,688		$706,629		$23,676		$		$802,993
Financial services					104		190,626				190,730
Notes payable			2,117,350		43,944						2,161,294
Minority interest					62,238		1,490				63,728
Stockholders’ equity	1,321,803		739,863		334,780		66,619		(1,141,262)		1,321,803
Total liabilities and   stockholders’ equity	$1,321,803		$2,929,901		$1,147,695		$282,411		$(1,141,262)		$4,540,548

 

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS – UNAUDITED
THREE MONTHS ENDED APRIL 30, 2008
(Dollars in Thousands)
	Parent		Subsidiary Issuer		Guarantor Subsidiaries				Non-Guarantor Subsidiaries		Eliminations		Consolidated
Revenues:
Homebuilding	$		$562		$763,322				$3		$		$763,887
Financial services					2,364				10,188				12,552
Intercompany charges			61,943		62,007						(123,950)		-
Equity in pretax loss   of consolidated   subsidiaries	(343,438)										343,438		-
Total revenues	(343,438)		62,505		827,693				10,191		219,488		776,439
Expenses:
Homebuilding			498		1,149,267				13		(41,748)		1,108,030
Financial services					1,739				6,711				8,450
Total expenses			498		1,151,006				6,724		(41,748)		1,116,480
Income from   unconsolidated joint   ventures					(3,397)								(3,397)
Income (loss) before   income taxes	(343,438)		62,007		(326,710)				3,467		261,236		(343,438)
State and federal income   (benefit)/taxes	(2,727)		21,703		6,710				(2,369)		(26,044)		(2,727)
Net income (loss)	$(340,711)		$40,304		$(333,420)				$5,836		$287,280		$(340,711)

 

HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – UNAUDITED
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
THREE MONTHS ENDED APRIL 30, 2007
(Dollars in Thousands)
	Parent		Subsidiary Issuer		Guarantor Subsidiaries		Non-Guarantor Subsidiaries		Eliminations		Consolidated
Revenues:
Homebuilding	$		$89		$1,089,864		$2,822		$		$1,092,775
Financial services					481		17,402				17,883
Intercompany charges			71,670		71,178				(142,848)		-
Equity in pretax income
of consolidated
subsidiaries	(41,433)								41,433		-
Total revenues	(41,433)		71,759		1,161,523		20,224		(101,415)		1,110,658
Expenses:
Homebuilding			581		1,182,399		2,756		(47,433)		1,138,303
Financial services					76		11,552				11,628
Total expenses	-		581		1,182,475		14,308		(47,433)		1,149,931
Income (loss) from
unconsolidated joint
ventures					(2,160)						(2,160)
(Loss) income before   income taxes	(41,433)		71,178		(23,112)		5,916		(53,982)		(41,433)
State and federal income
(benefit)/taxes	(13,374)		26,291		(8,676)		2,406		(20,021)		(13,374)
Net (loss) income	$(28,059)		$44,887		$(14,436)		$3,510		$(33,961)		$(28,059)

 

 

 

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HOVNANIAN ENTERPRISES, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS – UNAUDITED
CONDENSED CONSOLIDATING STATEMENTS OF OPERATIONS
SIX MONTHS ENDED APRIL 30, 2008
(Dollars in Thousands)
	Parent		Subsidiary Issuer		Guarantor Subsidiaries		Non-Guarantor Subsidiaries		Eliminations		Consolidated
Revenues:
Homebuilding	$		$747		$1,842,865		$3		$		$1,843,615
Financial services					4,606		21,919				26,525
Intercompany charges			124,480		124,231				(248,711)		-
Equity in pretax income
of consolidated
subsidiaries	(512,232)								512,232		-
Total revenues	(512,232)		125,227		1,971,702		21,922		263,521		1,870,140
Expenses:
Homebuilding			996		2,439,719		16		(86,115)		2,354,616
Financial services					4,970		14,350				19,320
Total expenses			996		2,444,689		14,366		(86,115)		2,373,936
Income from   unconsolidated joint   ventures					(8,436)						(8,436)
Income (loss) before   income taxes	(512,232)		124,231		(481,423)		7,556		349,636		(512,232)
State and federal income
(benefit)/taxes	(40,578)		43,481		(26,282)		(868)		(16,331)		(40,578)
Net income (loss)	$(471,654)		$80,750		$(455,141)		$8,424		$365,967		$(471,654)