Hovnanian Enterprises, Inc.
Q4 2008 Earnings Call Transcript

Published: 18 Dec 2008

[Operator:]

Thank you for joining us today for Hovnanian Enterprises fiscal 2008 year-end earnings conference call. By now you should have already received a copy of the earnings press release. However, if anyone is missing a copy and would like one, please contact Donna Roberts at 732-383-2200. We will send you a copy of the release and ensure you are on the company’s distribution list. There will be a replay of today’s call. This telephone replay will be available after the completion of the call and run for one week. The replay can be accessed by dialing 888-286-8010, pass code 95838352. Again, the replay number is 888-286-8010, pass code 95838352. An archive of the webcast slides will be available for 12 months. This conference is being recorded for rebroadcast and all participants are currently in a listen only mode. Management will make some opening remarks about the fourth quarter results and then open up the line for questions. The company will also be webcasting a slide presentation along with the opening comments from management. The slides are available on the investors page of the company’s website at www.KHov.com. Those listeners who would like to follow along should log on to the website at this time. Before we begin, I would like to remind everyone that the cautionary language about the forward-looking statements contained in the press release also applies to any comments made during this conference call and to the information in the slide presentation. I would now like to turn the call over to Ara Hovnanian, President and Chief Executive Officer of Hovnanian Enterprises. AA Thank you for participating in today’s call to review the results of our fourth quarter and fiscal year ’08. Joining me today are Larry Sorsby, Executive Vice President and CFO, Paul Buchanan, Senior Vice President and Chief Accounting Officer, Brad O’Connor, Vice President and Corporate Controller, David Valiaveedan, Vice President of Finance and Jeff O’Keefe, Director of Investor Relations. As you are well aware, the housing market remains challenging. Some of the obstacles we face today include rising unemployment levels, a steady stream of foreclosure, dwindling consumer confidence and continued disruptions in the credit and financial markets. This presents a very difficult backdrop for just about any industry today and makes for particularly hard times for home builders. If you turn to Slide One, you can see the impact these factors have had on our full year results. We gave all this data and more in our press release which we issued yesterday so as we did in prior quarters I’m not going to review all of the data points but instead I’m going to focus on the key parameters driving our performance and the current market conditions as well as what we’re doing to manage through this current time. Our results are reflective of the challenging market conditions that persist and have, in fact, deteriorated since we reported our third quarter earnings in the beginning of September. Our goal today is to maximize cash flow even at the expense of margins. We are happy in this environment to clear land off of our balance sheet as long as our cash flow is positive. On Slide Two you can see that with that broad operating principal in mind, we generated $175 million of cash flow during the fourth quarter of 2008. Increasing and preserving our cash position is very much a focus with every decision we make today. We ended the year with $838 million in cash as you see in Slide Three. This was slightly above the guidance of about $800 million of cash that we gave on September 3rd. The world has changed a number of times since the beginning of September but we were able to reach our cash generation targets. Looking forward, given the continued deterioration in the housing market, generating cash flow is clearly going to be more challenging. However, we will continue to move forward with projects when cash flow makes sense in order to maximize our liquidity. Of note, we do expect to get our federal tax refund in February of ’09 for about $145 million. On Slide Four we show a breakdown of the 23,000 thousand plus lots that we have owned at the end of the year. Approximately 53% of those lots were 80% or more finished, 18% had between 30% to 80% of the improvement costs already in place, the remaining 29% were less than 30% finished. Given the fact that more than half of the lots that we own are largely finished and our net contracts for ’08 were down 41% year-over-year we did not feel the necessity to spend a significant amount of cash on land development this year. We perform a lot recovery analysis to determine the amount of cash we can generate by building and selling a home on an owned lot. If we are unable to obtain a reasonable recovery of our land costs relative to the perceived long term value, we will mothball the community. We will save that land until such time as the market improves and we can generate higher returns and more meaningful cash flow. So far, we have mothballed land in 54 communities. An additional 22 communities were mothballed during the fourth quarter, most of these were in California. The book value at the year-end of these communities was $550 million net of an impairment balance of $290 million. For our option land, we continue to actively renegotiate, extend and modify land option take downs as well as walk away from others. Our operating teams regularly review each of the option contracts and renegotiate the lot price at the timing of take downs. We use a rigorous analysis and review the most current comparative information on sales and pricing for our market competition to predict potential absorption and pricing going forward. We only move forward in taking down additional option lots when the terms have been successfully renegotiated to where the terms make a compelling economic case. In some conditions this includes assuming that the sales pace and price decline further. Before we take down a single lot it has to be personally approved by me. Slide Five shows the declines we have seen in our owned and option lot position. As of October 31, total lots were down 67% from the peak that we reached in April, 2006. While we are currently focused on reducing our consolidated land supply, we’re cognoscente that at some point the market will hit bottom and banks will let more non-performing real estate assets and will mark the assets down to the levels that will allow them to move it off their books. Our goal is to team up with joint venture partners to take advantage of the land prices that will inevitably become more attractive both directly and through the purchase of loans. We continue to have discussions with potential JV partners to establish ventures that would take advantage of land at the bottom of the market. Some of the names of the private equity and hedge funds that we are talking to today have changed from the ones we were talking to months ago. Given the turmoil in the capital markets, some that were interested this past summer have stepped aside but, new interest have developed from others that have stepped forward. We are not ready to buy land today given the market dynamics but getting the venture structure set up ahead of time when we do see opportunities to buy land, we can move quickly. We’ll keep you updated on the progress in completing this joint venture structure. Besides reducing our land supply, one of the other levers that we continue to pull is managing our SG&A costs. One of the largest components of this is the dollars for salaries and benefits for our associates. If you turn to Slide Six, you see that through the end of November, we’ve reduced our staffing levels by 65% from the peak level of associates in June of 2006. As our community count, net contracts and backlog continue to shrink, we will continue to right size our business based on the current activity that we are generating in each of our markets. While we continue to make good progress in reducing the absolute dollars spent on SG&A, on the right hand of Slide Seven, you’ll see that our total dollars were down 26% year-over-year. The biggest challenge is with respect to the SG&A percentage of total revenues. This percentage has increased again in 2008 to 13.9%. For the fourth quarter, the percentage was even higher at 15.2% but that is slightly lower than the 15.6% or the 15.3% in the second and third quarters of ’08. If you look at the left hand side of the Slide, you’ll see that our average SG&A costs has been about 11% over this period of time so we still have more work to do in order to lower our SG&A costs down to traditional levels. It’s been hard to cut SG&A as fast as our business has slowed down particularly when you look at the absorption levels we are achieving at a community level. We will likely not be able to get back to historical levels of SG&A until the sales pace per community returns to more normalized levels. Slide Eight shows a 14 year history of net contracts per community. In ’08 we hit a new low with 18.3 net contracts per community. The average over this span was about 42 net contracts per community so we’re significantly below normal levels. If you look at a quarterly rate, on Slide Nine, you can see that the fourth quarter was below the pace of the second and third quarter and furthermore, sales in November continued to be weak and remain at even weaker levels. It remains a very difficult environment out there. I’ll turn it over to Larry Sorsby to discuss gross margin and the charges we took in the fourth quarter as well as some other topics in greater detail. LL The slow homes sales pace and lower home pricing trends have dramatically decreased our revenues and adversely impacted our gross margins. Our gross margin has been in the single digits for the past couple of quarters as you can see on Slide 10. During the fourth quarter of 2008, our home building cost of sales was reduced by $41.7 million from the reversal of land impairments taken in prior periods. The fourth quarter gross margin of 4.7% was lower than we anticipated primarily for a few reasons. First, we continued to be more focused on cash flow than on our margins. We’ve been aggressive on lowering home prices in order to spur sales activity. Second, when we walk away from lots in a community or adjust land development budgets where we have already delivered homes and continue to deliver homes, we need to spread the common costs over a fewer number of homes overall and over the homes previously delivered during the year which negative impacts our gross margins. We walked away from 6,233 lots in the fourth quarter of fiscal 2008. The impact was meaningful in the fourth quarter because we needed to make adjustments for increased common costs for all deliveries that took place in every one of those communities for the entire fiscal year. Another of the reasons that our gross margin is low is that we were relatively aggressive on company and land acquisitions late in the housing cycle. So, the land that we own is at a relatively higher basis when compared to today’s home prices. The good news here is that we don’t own as much land as some of our peers do on a comparable basis. If you turn to Slide 11, you can see how our owned land position stacks up to those of our peers. It is sorted according to owned land supply based on trailing 12 month deliveries. This is what I call the race to zero. Even at a 2.2 year supply based on trailing four quarter deliveries, we still own more land than we would like to own right now but compared to our peers we are in relatively good shape. The good news is that each quarter we work through more of our owned land and we will eventually get through all of it and we’ll be able to replenish our land supply with lower cost land at the bottom of the housing cycle which will help our gross margins increase back to normalized levels. Turning to Slide 12, you can see our land supply by our publically reported segments. I’d like to point out that our owned land position in the west which is entirely made up of California for us actually increased by about 1,300 lots this past quarter. However, we did not buy any new lots in California. This increase in lots is a result of us consolidating a previously unconsolidated land development joint venture after our partner was unwilling to pay his share of property taxes and reengineering costs going forward. There was no debt associated with this joint venture and no further financial obligations required for us. Of course, we will have to continue to pay property tax on the land going forward. I want to reiterate that there was no new money put in to this land. We had already invested the money in the lots via our investment in the joint venture so we could have walked away too but we would have gotten zero dollars from the land had we walked away. We believe that we can still sell the land for something with or without a house on it. So, we now own the lots outright and they are included in our consolidated lot count. While I’m on the topic of joint ventures, at October 31, 2008 we had invested $71.1 million in seven land development and 10 home building joint ventures. This is a significant decline in our investments in joint ventures and a $61.5 million of the decline is a result of the consolidation of our land development joint venture in California I just described. This decrease combined with the write offs we’ve taken in our joint ventures has caused the leverage at our joint ventures to increase. Turning to Slide 13, our debt to cap of all of our joint ventures in the aggregate was 57%. We financed our joint ventures solely on a [inaudible] course basis. The facts speak for themselves, we are now three years in to this downturn and we have not had any margin or capital calls on any of the debt associated with our joint ventures. We do not have any debt arrangements or guarantees at any of our joint ventures that require us to provide equity capital beyond our initial commitment to our joint ventures in the future. Unless we determine that it would be in our best economic interest, we don’t anticipate a need for us to voluntarily invest additional cash to support our joint ventures beyond the amount that was budgeted to be invested by the partners. In some of our joint venture agreements we do have completion guarantees. However, in our largest joint venture with Blackstone there is no completion guarantee. Most of our joint ventures that do have completion guarantees are in advanced stages of construction and therefore the risk associated with completion guarantees are [inaudible]. At this point the majority of our joint ventures are in the latter stages of development and thus the amount of budgeted equity investment has largely already been made. In fact, we expect to generate cash from our joint ventures as a number of them are in the wind down stage of delivering homes without significant additional development dollars needed. During the fourth quarter, we wrote down our equity investment in Hovstone, the joint venture we formed in March, 2005 with Blackstone to buy Town & Country Homes to zero. We are in the process of negotiating with the banks to restructure the Hovstone debt to allow us to build through the remaining land supply. We report significant details on the balance sheet and profits of our unconsolidated joint ventures and our 10Qs and in our 10K so you can look there for more details. I’ll now talk about the land related charges that we took during the fourth quarter. We walked away from 6,233 lots in the fourth quarter and took a write off of $47.5 million related to these option lots. On Slide 14 it shows the geographic breakout f these charges which represent the amount invested in these options through option deposits and also any predevelopment dollars we had invested in getting this land through the approval process. Our remaining investment and option deposits has also dropped dramatically from a peak of $466 million at the end of the second quarter fiscal 2006 to $69.9 million at October 31, 2008. $41.2 million of cash deposits and the other at $28.7 million deposits being held with letters of credit. Additionally we have another $91.8 million invested in predevelopment expenses. The next category of pre-tax charges relates to impairments. As shown on the same Slide, we incurred impairment charges of $215.6 million related to land and communities that we own in the fourth quarter. This is significantly higher than the $80.2 million of impairment charges we took in the third quarter of 2008 and is indicative of continued downward pressure on home prices. More than half of the impairments were on land we owned in California, a market that remains particularly difficult today. We test all of our communities at the end of each quarter for impairments whether or not the community is open for sale. If home prices continue to deteriorate, we will see additional impairments in future quarters. Additionally, during the fourth quarter of ’08 we recorded $21.4 million for our portion of impairments, walk-aways and investments in our joint ventures. Looking at all of our communities in the aggregate including mothball communities, we have a book value of $2.2 billion net of $719 million of impairments which were recorded on 181 of our communities. Turning to Slide 15, it shows our investment in inventory broken out in to two distinct categories

[David Goldberg:]

I’m trying to get an idea given where the backlog is now as you guys look forward into fiscal ’09 the ability to generate free cash flow based on where you are on a backlog perspective now, how are you thinking about it? And I guess that includes maybe, are you going to be bringing down a level of unsold inventory further in your plans?

[Ara K. Hovnanian:]

Larry, do you want to address that?

[J. Larry Sorsby:]

As we said in the release, cash flow generation is going to be a little more challenging as conditions have continued to deteriorate out there in terms of pace and sales price. Having said that, our focus remains on cash flow generation even at the expense of margins and yes, as we shrink communities you’ll see our started unsold levels come down. We think they’re at appropriate levels given the community count right now David because you’ve got to have two or three started unsold homes at a community level. Many people wait to buy a home until they’ve actually got theirs sold so they want to get into something relatively quickly. Some of the low-hanging fruit has been taken away and we won’t be able to reduce it nearly as much as we did in 2008 but we will expect to reduce started unsolds somewhat during 2009.

[David Goldberg:]

Ara, you mentioned in your opening comments about maybe some changes in the kind of firms that were interested in looking at joint ventures or partnerships. Can you give us some more color about what kind of firms you’re talking to now, maybe what kind of return requirements they would be looking at relative to the deal that you described a couple calls ago? That seemed like it was going forward and obviously without the land opportunities maybe that stalled it. But how it differs now and maybe what your partners are looking for relative to what they had been looking for in terms of return and in the way they want to participate?

[Ara K. Hovnanian:]

As you can imagine there was a lot of turmoil in September, October and November in the financial markets. Some firms were very affected, some were not so affected, and some had an actual improvement in their position in appetite. I think it just changed the players. It didn’t necessarily change the type of players although maybe to some extent we’re seeing a little more interest in the private equity capital versus the hedge funds. But suffice it to say we feel there are plenty of interested parties out there; enough for us to meet our needs. We haven’t felt a huge pressure as I’ve been saying for the last couple of calls to finalize a transaction, frankly because we just don’t see the land opportunities just yet. We think they will come up in ’09 but it’s not as though we have 20 deals that we’re waiting to find a partner on. We don’t at this moment. However we’ve been around for 50 years; we’ve been through these cycles every time; we know we have to be patient. Overall the return criteria really hasn’t changed that much. Overall they’re looking for a mid-20s kind of IRR and based on our 50-year history we think that’s very achievable particularly in buying property at the bottom of the market place.

[David Goldberg:]

And it’s still going vertical within the JVs?

[Ara K. Hovnanian:]

Yes, that is still the plan.

[Operator:]

Our next question comes from Dan Oppenheim - Credit Suisse.

[Dan Oppenheim:]

I was wondering if you can talk about regionally the way you’re looking at the impairments, the Northeast region being the most significant in terms of your asset base had a fairly low level of impairments after not having any impairments last quarter. I’m just wondering if you can describe how you’re looking at that and how much of the land in the Northeast is raw land versus developed lots?

[J. Larry Sorsby:]

The first comment I’d make is we don’t have a different way of looking at impairments geographically. The calculations are done in an identical manner regardless of whether it’s West Coast, East Coast or Texas. There’s no difference in how the calcs are done.

[Ara K. Hovnanian:]

Basically every time we do the exact same thing; we look at current house prices; we look at current pace; if the community is not open yet, we do it based on the best comparable sites from our competitors; and we run the analysis. The reality is the New Jersey market has not been as nearly affected as many other parts of the country including Florida or California or Phoenix. We’re not in Nevada but certainly that has been a very affected market place. So based on our calculations we just haven’t had to take as many impairments in that market place.

[Operator:]

Our next question comes from Ivy Zelman - Zelman & Associates.

[Ivy Zelman:]

Obviously it’s a challenging market and you’re doing what you can to generate cash flow which is the key to understanding that strategy. At the same time your margins are going down as a result of that strategy. When I’m thinking about it, as you look outward and you have a likelihood with further price deflation as a strategy to generate that cash flow, clearly the risk is that you’re going to have more impairments because you do not as you say forecast future price deflation. At least that’s what you said I think in one of the prior conference calls. I guess I conclude that your current stated book value of $330 million or roughly $4.25 could actually be downward pressure of significance to the point where there’s no equity value left. Looking at it from a long-term perspective as a shareholder or a potential shareholder where you’ve got all this leverage with eroding equity which arguably can go to zero, how should we think about the viability of the future or what value do we place on Hovnanian because the equity value in essence could go to zero?

[Ara K. Hovnanian:]

There is no question from traditional balance sheet metrics we’re highly levered and likely if the market continues to deteriorate that we’ll be more highly levered in the next quarter if the market goes down further and we do more current impairments. On the other hand, the good part of our balance sheet is we have a lot of cash handy and fortunately don’t have a lot of short-term maturities. We do think, and obviously as you know the equity you are quoting doesn’t take into account the FAS 109 adjustments, the good news is over the many years before our maturities come due we think it’s highly likely the market is going to correct and get back to a normal semblance of order and that we will see velocities on a per community basis improve that will have a dramatic affect on margins. Not only the velocity but obviously we think pricing will stabilize and ultimately will continue to go up which will also affect both our margins and our ability to generate cash flow. In the meantime our plan is to do new communities and acquisitions in joint ventures that will preserve our cash yet give us access to some very good returns particularly from a return on investment standpoint. So our strategy is to preserve cash in new properties by using joint ventures, continue to generate cash and the plan is that as we get profitable obviously we’re not going to be paying taxes for a long time. When we get back to making $2 million we’ll keep all of the $2 million and keep adding to our reserves there. We think in short order we’ll be able to restore our balance sheet to normal levels. Without a doubt, for a while however, we’ll just be operating with the excess cash that we have and from the traditional metrics of book value, we’re not going to be in as good of a position.

[Ivy Zelman:]

Looking at your deliveries for 2008 you had approximately 10,600 deliveries roughly and obviously down 22%; your contracts for the year running down 34% or net contracts down 41%. The cash flow you’ve generated this year, the sustainability of cash flow generation and thinking about not only the lack of investment to put in the ground so that can obviously help the cash flow by not having to put new monies in the ground, but there is a working capital need to go vertical and make payroll and continue to pay subcontractors, etc. Can you walk us through sort of a quick back-of-the-envelope 101 model on how you in fact can continue to generate cash flow per unit if closings are going to go down considerably in sort of a similar fashion in 2009 as they did in maybe 2008, because I think clearly you’ve admitted that the SG&A as a percent of sales continues to go higher even though dollars are going potentially down and home price deflation as part of the strategy is going to be apparent? So there’s a lot of concern that cash burn will be maybe greater than you may think so despite having over $800 million right now, you will have working capital needs, you will have a possibility that the decline in the P&L in terms of unit volume, etc. will be more significant than maybe you hope it would be. I just want to see how you guys can walk us through getting more comfortable that there won’t be this cash burn while you’re in this unfortunate tough environment.

[Ara K. Hovnanian:]

Just for a few points, in our most recent quarter we just ended we obviously did have lower delivery rates than earlier quarters or earlier years certainly. We did generate $175 million of positive cash flow and there was not a tax refund in there. We do expect in February a significant tax refund of $145 million in that quarter. From the SG&A standpoint we continue to make very significant reductions there. It is challenging given the low velocity per community but we are taking some very significant steps.

[Ivy Zelman:]

Sorry to interrupt you. Is there a number per community that you can get back to where you can say the bleeding would stop and maybe gross margin deceleration or erosion would stabilize? If you got back to two houses per month per community, would that be a good number? Or is it three? Is there some kind of basis that you start to see [inaudible].

[Ara K. Hovnanian:]

Our historical average has been 42. Right now we’re running under 18. I think if we could get to the 30s I think we could do a huge improvement in SG&A on the community level. We haven’t done a specific analysis. It’s obviously very different in each location and how many models do you have, what’s the price range and is it an advertising rich market or a broker rich market? All of those things make a big difference. The other thing I wanted to add is as we mentioned we do have 53% of our lots largely developed. When you have 23,000 lots that somewhere in excess of 12,000 lots at the slower pace where we’re building today that means we’re not sinking a lot of land development dollars into our balance sheet. While vertical does take some cash flow, that is cash flow that turns relatively quickly compared to land development. You do expend dollars out to build a house but then as you close it 90 or 120 days later that cash flow comes back. Having said all of that, clearly in spite of the fact that we had a very positive cash flow quarter in our most recent quarter of $175 million overall we’d expect ’09 to be a challenging environment. But we’re continuing to be bold in necessary price reductions without regard to margins at the moment to favor cash flow generation. Obviously we’d love to see the margins hold but given a choice of high margins and not having cash flow or getting cash flow, we’re erring on the side of cash flow and moving forward on that basis.

[Operator:]

Our next question comes from Michael Rehaut - JP Morgan Securities, Inc.

[Michael Rehaut:]

Going back to the gross margins for a second, you kind of went through some of the drivers there but I was wondering with the impairments that you’ve taken and the communities where you have taken impairments, what is the margin post-impairment on average?

[J. Larry Sorsby:]

I don’t know if there is an on average there but roughly when you do the calc you get back to kind of half the normalized margin, maybe a little less. A normalized margin for us is around 20% or 21% so 10% or a little less than that is in the ballpark though it varies on a number of factors. It’s not that clean.

[Michael Rehaut:]

When we started this process or cycle a couple of years ago, I think in general the builders were more talking about putting it back to a normalized gross margin or something a little bit less than that. Has there been a shift in your approach from an accounting perspective that has driven that reset margin so to speak.

[J. Larry Sorsby:]

No, we haven’t shifted and you’ve never heard us say and I don’t believe other than maybe one public homebuilder do they get back to something close to normalized margin when they’re impairing based on the public data that we’ve reviewed. But we’ve not shifted our approach through the last three years on how we do impairments.

[Michael Rehaut:]

Then just the difference between those communities where you’ve taken the impairment and you’re getting for argument’s sake a 10% gross margin, the difference between that and the number that you put out in the fourth quarter, if you could just try to give us an order of magnitude of what drove that this quarter in terms of the specs that you’re working through and some of the other maybe timing of certain communities and directionally speaking over the next quarter or two, do you expect it to stay sub-5% or maybe get closer back to where you were in the first half of ’08?

[Brad O’Connor:]

One of the things to keep in mind when you talk about the margins for the quarter and the communities that previously have been impaired, they were impaired and they would have generated those prices the margins that Larry was talking about; 10% or 11% or 12%, whatever it might be; but prices have continued to fall as we’ve talked about throughout this quarter which then until they fall enough in those particular communities to re-impair, those communities have lower margins. That’s why you’re not seeing us trending at double-digit margins. Even though we’ve taken these large impairments, there’ve still be further price declines on those communities. They have not re-impaired yet. The other thing that happened in the fourth quarter is with the walk-aways as Larry described in his script earlier, there are adjustments that are made just in the fourth quarter at the time that we walk away from communities we have fewer homes to write off common costs over and there were some significant adjustments in certain communities where we took walk-aways in this quarter that also caused an adjustment in the fourth quarter. So I wouldn’t expect it to be sub-5% in the first quarter necessarily unless prices continue to decline. But it’s hard to say where they’ll be given the uncertainty in the market.

[Operator:]

Our next question comes from Analyst for Nishu Sood - Deutsche Bank Securities.

[Analyst for Nishu Sood:]

You mentioned in the past that your maintenance covenants are pretty much substantially eliminated, you’ve got significant cash on the balance sheet, your larger debt maturities aren’t till 2013 so it seems like you could probably get by without doing a debt-for-equity exchange or something like that. I just wanted to see what else is going on here in terms of if your leverage ratio worsens significantly, is that going to trip some other covenant?

[J. Larry Sorsby:]

There’s no covenant that gets tripped because your debt-to-equity ratio increases.

[Analyst for Nishu Sood:]

Is it possible for you to give us some color around how much debt you’d be looking to retire or things like that?

[J. Larry Sorsby:]

Eventually all of it.

[Analyst for Nishu Sood:]

With the exchange.

[J. Larry Sorsby:]

I think we’re not going to be able to give you much more color than we put in the release and in the conference call script. We’re exploring various alternatives including additional exchanges going forward and as we actually decide to pursue one strategy to the other and have success, we’ll certainly let you know.

[Operator:]

Our next question comes from Megan Talbott McGrath - Barclays Capital.

[Megan Talbott McGrath:]

I wanted to follow up on your comments around mothballing land and get maybe some practical details of your decision to do that. Could you share with us what the carrying costs are that you continue to have on that mothballed land and therefore the decision to maybe sell that land or keep it on the books? Secondly, I’m just curious if most of that mothballed land is in formerly active communities that are now mothballed or communities that had never gone active?

[Ara K. Hovnanian:]

I’d say most of it is in formerly active communities. We stated it’s about $500 million of book value so you can apply our average cost of capital to figure out what the interest cost and carrying cost is of that.

[J. Larry Sorsby:]

Plus property taxes obviously.

[Megan Talbott McGrath:]

Just a follow-up question on the gross margin. Do you have a number for the impact of that true-up in the quarter from those adjustments for common costs?

[J. Larry Sorsby:]

I do not.

[Operator:]

Our next question comes from [Joel Locker - SBS Securities].

[[Joel Locker:]

On the minimum attainable net covenants, do you guys have any for senior bonds that could force early redemptions?

[J. Larry Sorsby:]

No.

[[Joel Locker:]

So there’s none outstanding at all?

[J. Larry Sorsby:]

Right.

[[Joel Locker:]

On the interest payments, obviously the interest expense was $18.7 million, up $8 million or so from the third quarter. I just wanted to know what a good rate was for modeling going forward.

[J. Larry Sorsby:]

We probably modeled the incurred. I’m not so sure you have a shot at modeling the expense.

[Brad O’Connor:]

Just to explain the expense. Interest expense is in two line items on our income statement. One of them is in cost of sales interest and the other is in that other interest line item. The other interest line item is growing because we cannot capitalize as much of the interest that we’re incurring as our assets. As our inventory goes down you can only capitalize on qualifying assets and inventory is declining. So that’s why we’re expensing directly more of the interest. That’s what’s happening. You could assume that as our inventory continues to go down that other interest line item is going to continue to go up.

[[Joel Locker:]

Is there a certain percent or is there any kind of guideline you could give us to try to model it?

[J. Larry Sorsby:]

Not really on the expense side. Obviously you have a pretty good shot at modeling the incurred side but I can’t give you a percent that’s going to work from a rule of thumb perspective on the expense side for precisely the reasons Brad just enumerated.

[[Joel Locker:]

The accrued interest went up around $29 million year-over-year on the balance sheet. I was just wondering if you could give a little color on that.

[J. Larry Sorsby:]

It’s the timing of the payments for the $600 million notes that were issued in May. The first payments are due in November. We didn’t have that last year so when you compare the two years, that’s the primary difference.

[Operator:]

Our next question comes from [Timothy Jones - Weselin & Associates].

[[Timothy Jones:]

Can you give me the specs that you had last year compared to the 1,275 you had this year?

[J. Larry Sorsby:]

I think in the graph we put it there.

[[Timothy Jones:]

I’m listening on the phone so I didn’t have the graph on.

[J. Larry Sorsby:]

2,390 and then there’s another year’s back further than that if you want too.

[[Timothy Jones:]

I’ve been listening to what you’ve done on the graphs and I commend you. I think that’s very important. The other question is you take out the dollar value of your backlog to the homes under construction; in other words, subtract the backlog from the homes under construction on the balance sheet. I know there are timing differences but the differential stays around $580 million last year and $540 million this year so it’s gone from roughly about 80% to 60%. What I’m wondering is that a function of how the houses are being completed or what’s going on there that your homes in backlog are declining as opposed to your inventory of homes under construction?

[J. Larry Sorsby:]

I haven’t done the analysis that you just went through but a big change is Fort Myers year-over-year. If you’ll recall, we spent a good deal of time talking about this on prior conference calls but we had a proposition in Fort Myers to where we had a lot of homes in backlog that couldn’t close even though technically the customer had title to them until we had no ongoing involvement. I think it was in our January quarter of 2008 we closed 1,300 of those. So that would have been in the fourth quarter of ’07. If you take out those 1,300 and then do the calc that you’re describing, perhaps it’s closer or something. I’ve just not done the calc that you have but that’s what comes to mind. I think it may be Fort Myers. Nothing else has really changed.

[Operator:]

Our next question comes from [Alex Barron - Agency Trading Group].

[[Alex Barron:]

As far as your margins, I realize they’ve been pretty low and as I compare them to other builders, I’m just trying to understand. Is there a difference in impairments or do you think it’s more a function of the business model of taking down more option lots?

[J. Larry Sorsby:]

I think it’s a combination of things. Again I think perhaps we’re a little more focused on cash flow. We’ve been more aggressive on lowering home prices perhaps faster than some of our peers has had an impact. I think it’s also that where we’re more aggressive in buying land at the absolute peak of the market and buying companies at the absolute peak of the market has an impact on that. Obviously this fourth quarter impact to where we walked away from options and had to incur costs over the other homes that were delivered during the entire fiscal year just during our fourth quarter kind of skews the number and because we were heavier users of options I don’t think our peers have that same kind of impact that we would have had in that quarter. There might be one or two of our peers that are more aggressive in their calculations of impairments than we are but we think we’re right in the middle of the pack on how we actually do the impairments. I don’t think that has as much of an impact but it could have some impact. Then I think we have a disproportionate percentage of our assets in some of the markets that have been harmed the most during this cyclical downturn; California, Arizona, Florida have had huge hits. If you look at our percentage of assets in those markets starting out this downturn compared to some of our peers’ percentage of assets, I think that might be a big part of the explanation.

[[Alex Barron:]

I was also wondering if you have the number of what the benefit was to gross margins this quarter from previous impairments?

[J. Larry Sorsby:]

I think I said it. $41.7 million.

[Operator:]

Our next question comes from James Wilson - JMP Securities.

[James Wilson:]

I just have one follow-up question on the margin topic. Larry, was there any material difference or either change or absolute level differentiated by region? I know you obviously just highlighted that you’ve been impacted almost everywhere but anything stand out where the margins are a lot different or the change has been a lot different in the last few months?

[Ara K. Hovnanian:]

In general the margins in Florida and California have been particularly lousy.

[James Wilson:]

I guess if you could sum it up, that’s just gotten that much worse then the last few months? Is that a fair statement?

[Ara K. Hovnanian:]

I think that may be fair.

[James Wilson:]

Since you’re in Texas and other places, any places that have held up better including the Northeast over the last few months?

[Ara K. Hovnanian:]

In general on the margin front Houston has held up better but on the volume front in recent months Houston is definitely feeling the effect of the national slowdown as well. Up until that point that had been our strongest market.

[Operator:]

Our next question comes from [Eva Young] - Private Investor.

[[Eva Young]:]

Did you or are you giving any specific guidance as to where you think cash might be at the end of the coming quarter January 31 and any kind of range where cash might be next October 31?

[J. Larry Sorsby:]

No, we’ve not publicly made a projection on either of those at this point.

[[Eva Young]:]

In general should we expect it to be down? Is that what I should get from the various comments you’ve made?

[J. Larry Sorsby:]

We just haven’t made a public projection about it. I don’t think we’ve said anything that gave you a clear picture whether we expect to be up or expect to be down. I will say on a historical basis that the first quarter is typically a quarter in which we are the weakest in terms of cash flow and if you want to use history to predict the future, that’s a decision you can make in your own modeling. But we’ve given no guidance.

[Ara K. Hovnanian:]

And I think that’s pretty consistent with all the public homebuilders right now. In this environment it’s just too difficult to make longer-term projections.

[[Eva Young]:]

Could you just indicate what community count was at the end of the quarter and any sense you have of what it might look like next year?

[J. Larry Sorsby:]

284 is where it was at the end of October 2008. Again we’ve not made a public projection about community count for the end of ’09 but I think it would be safe for you to assume that the trend of having less communities will continue in ’09.

[Operator:]

Our next question comes from David Goldberg - UBS.

[David Goldberg:]

I believe in the opening statements you were talking about looking at acceptable recoverability of finished lots in terms of cash flow. Is that right?

[Ara K. Hovnanian:]

Yes.

[David Goldberg:]

Can you kind of walk me through some more color? Just get a little more granular on what that means in terms of how much of a finished lot costs you need to recoup in the building process to make it worthwhile for you to continue to build, if I’m understanding it correctly?

[Ara K. Hovnanian:]

It completely depends. If it’s in a low-cost area like Fresno, we may be happy to take $15,000 a lot. If it’s in a prime location in Washington, D.C., we wouldn’t accept something as low as that. It completely depends and it’s situational. It also depends on what our outlook is for land in that market. If we think there’s plenty of excess supply, then we’ll be more aggressive. If we think land is a scarce commodity, then we’ll be a little stingier with our land and the lot recovery analysis.

[David Goldberg:]

I understand that it absolutely varies on a dollar basis based on how high cost of land is. Have you thought about a range in terms of percentages?

[Ara K. Hovnanian:]

No, we don’t. We just look at dollars now.

[Operator:]

This concludes our conference call for today. Thank you for your participation. Have a nice day. All parties may now disconnect.