UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_______________________________________________________________________________________________________________
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended September 30, 2018
Commission file number 1-14122
___________________________________________________________________________________________________________________
D.R. Horton, Inc.
(Exact name of registrant as specified in its charter)
Delaware (State or other jurisdiction of incorporation or organization) | 75-2386963 (I.R.S. Employer Identification No.) | |
1341 Horton Circle, Arlington, Texas (Address of principal executive offices) | 76011 (Zip Code) | |
(817) 390-8200
(Registrant’s telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class | Name of Each Exchange on Which Registered | |
Common Stock, par value $.01 per share | New York Stock Exchange | |
5.750% Senior Notes due 2023 | New York Stock Exchange | |
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes ý No o
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes o No ý
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ý No o
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ý No o
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. ý
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ý | Accelerated filer o | Non-accelerated filer o | Smaller reporting company o | Emerging growth company o | ||||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No ý
As of March 31, 2018, the aggregate market value of the registrant’s common stock held by non-affiliates of the registrant was approximately $15,499,559,000 based on the closing price as reported on the New York Stock Exchange.
As of November 7, 2018, there were 388,133,243 shares of the registrant’s common stock, par value $.01 per share, issued and 376,274,635 shares outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Stockholders are incorporated herein by reference (to the extent indicated) in Part III.
D.R. HORTON, INC. AND SUBSIDIARIES
2018 ANNUAL REPORT ON FORM 10-K
TABLE OF CONTENTS
Page | ||
PART I
ITEM 1. | BUSINESS |
D.R. Horton, Inc. is the largest homebuilding company in the United States as measured by number of homes closed. We construct and sell homes through our operating divisions in 81 markets in 27 states, under the names of D.R. Horton, America’s Builder, Emerald Homes, Express Homes, Freedom Homes and Pacific Ridge Homes. Our common stock is included in the S&P 500 Index and listed on the New York Stock Exchange under the ticker symbol “DHI.” Unless the context otherwise requires, the terms “D.R. Horton,” the “Company,” “we” and “our” used herein refer to D.R. Horton, Inc., a Delaware corporation, and its predecessors and subsidiaries.
Our homebuilding business began in 1978 in Fort Worth, Texas, and our common stock has been publicly traded since 1992. We have expanded and diversified our homebuilding operations geographically over the years by investing available capital into our existing markets, start-up operations in new markets and acquisitions of other homebuilding companies. Our product offerings across our operating markets are broad and diverse. Our homes range in size from 1,000 to more than 4,000 square feet and in price from $100,000 to more than $1,000,000. For the year ended September 30, 2018, we closed 51,857 homes with an average closing price of $298,900.
Our business operations consist of homebuilding, a majority-owned residential lot development company, financial services and other activities. Our homebuilding operations are our core business, generating 97% of our consolidated revenues of $16.1 billion in fiscal 2018 and 98% of our consolidated revenues of $14.1 billion and $12.2 billion in fiscal 2017 and 2016, respectively. Our homebuilding operations generate most of their revenues from the sale of completed homes and to a lesser extent from the sale of land and lots. Approximately 89% of our home sales revenue in fiscal 2018 was generated from the sale of single-family detached homes, with the remainder from the sale of attached homes, such as townhomes, duplexes and triplexes.
During fiscal 2018, we acquired 75% of the outstanding shares of Forestar Group Inc. (Forestar) for $558.3 million in cash (the acquisition). Forestar is a publicly traded residential lot development company listed on the New York Stock Exchange under the ticker symbol “FOR.” The acquisition is a component of our strategy to expand relationships with land developers and increase the optioned portion of our land and lot position to enhance operational efficiency and returns. Further information regarding this acquisition is provided in the Business Acquisitions section included herein.
Our financial services operations provide mortgage financing and title agency services to homebuyers in many of our homebuilding markets. DHI Mortgage, our 100% owned subsidiary, provides mortgage financing services primarily to our homebuyers and generally sells the mortgages it originates and the related servicing rights to third-party purchasers. DHI Mortgage originates loans in accordance with purchaser guidelines and sells substantially all of its mortgage production shortly after origination. Our subsidiary title companies serve as title insurance agents by providing title insurance policies, examination and closing services, primarily to our homebuyers.
In addition to our homebuilding, Forestar and financial services operations, we have subsidiaries that engage in other business activities. These subsidiaries conduct insurance-related operations, construct and own income-producing rental properties, own non-residential real estate including ranch land and improvements and own and operate oil and gas related assets. One of these subsidiaries, DHI Communities, is developing and constructing multi-family rental properties on land parcels we already owned and currently has four projects under active construction and two projects that are substantially complete. At September 30, 2018 and 2017, property and equipment in the consolidated balance sheets included $171.4 million and $93.7 million, respectively, of assets owned by DHI Communities. The combined assets of all of our subsidiaries engaged in other business activities totaled $198.9 million and $143.3 million at September 30, 2018 and 2017, respectively, and the combined pre-tax loss of these subsidiaries was $7.7 million, $11.7 million and $9.0 million in fiscal 2018, 2017 and 2016, respectively. The operating results of these subsidiaries are immaterial for separate reporting and therefore are grouped together and presented as other.
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Available Information
We make available, as soon as reasonably practicable, on our website, www.drhorton.com, all of our reports required to be filed with the Securities and Exchange Commission (SEC). These reports can be found on the “Investor Relations” page of our website under “Financial Information” and include our annual and quarterly reports on Form 10-K and 10-Q (including related filings in XBRL format), current reports on Form 8-K, beneficial ownership reports on Forms 3, 4, and 5, proxy statements and amendments to such reports. Our SEC filings are also available to the public on the SEC’s website at www.sec.gov. In addition to our SEC filings, our corporate governance documents, including our Code of Ethical Conduct for the Chief Executive Officer, Chief Financial Officer and senior financial officers, are available on the “Investor Relations” page of our website under “Corporate Governance.” Our stockholders may also obtain these documents in paper format free of charge upon request made to our Investor Relations department.
Our principal executive offices are located at 1341 Horton Circle, Arlington, Texas 76011, and our telephone number is (817) 390-8200. Information on or linked to our website is not incorporated by reference into this annual report on Form 10-K unless expressly noted.
OPERATING STRUCTURE AND PROCESSES
Following is an overview of our company’s operating structure and the significant processes that support our business controls, strategies and performance.
Homebuilding Markets
Our homebuilding business operates in 27 states and 81 markets, which provides us with geographic diversification in our homebuilding inventory investments and our sources of revenues and earnings. We believe our geographic diversification lowers our operational risks by mitigating the effects of local and regional economic cycles, and it also enhances our earnings potential by providing more diverse opportunities to invest in our business.
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We conduct our homebuilding operations in the geographic regions, states and markets listed below, and we conduct our financial services operations in many of these markets. Our homebuilding operating divisions are aggregated into six reporting segments, also referred to as reporting regions, which comprise the markets below. Our financial statements and the notes thereto contain additional information regarding segment performance.
State | Reporting Region/Market | State | Reporting Region/Market | |||
East Region | South Central Region | |||||
Delaware | Central Delaware | Louisiana | Baton Rouge | |||
Northern Delaware | Lafayette | |||||
Georgia | Savannah | Oklahoma | Oklahoma City | |||
Maryland | Baltimore | Texas | Austin | |||
Suburban Washington, D.C. | Dallas | |||||
New Jersey | Northern New Jersey | Fort Worth | ||||
Southern New Jersey | Houston | |||||
North Carolina | Charlotte | Killeen/Temple/Waco | ||||
Greensboro/Winston-Salem | Midland/Odessa | |||||
Raleigh/Durham | New Braunfels/San Marcos | |||||
Wilmington | San Antonio | |||||
Pennsylvania | Philadelphia | |||||
South Carolina | Charleston | Southwest Region | ||||
Columbia | Arizona | Phoenix | ||||
Greenville/Spartanburg | Tucson | |||||
Hilton Head | New Mexico | Albuquerque | ||||
Myrtle Beach | ||||||
Virginia | Northern Virginia | West Region | ||||
Southern Virginia | California | Bakersfield | ||||
Bay Area | ||||||
Midwest Region | Fresno | |||||
Colorado | Denver | Los Angeles County | ||||
Fort Collins | Orange County | |||||
Illinois | Chicago | Riverside County | ||||
Indiana | Indianapolis | Sacramento | ||||
Minnesota | Minneapolis/St. Paul | San Bernardino County | ||||
San Diego County | ||||||
Southeast Region | Ventura County | |||||
Alabama | Birmingham | Hawaii | Hawaii | |||
Huntsville | Kauai | |||||
Mobile/Baldwin County | Maui | |||||
Montgomery | Oahu | |||||
Tuscaloosa | Nevada | Las Vegas | ||||
Florida | Fort Myers/Naples | Reno | ||||
Jacksonville | Oregon | Portland/Salem | ||||
Lakeland | Utah | Salt Lake City | ||||
Melbourne/Vero Beach | Washington | Seattle/Tacoma/Everett | ||||
Miami/Fort Lauderdale | Spokane | |||||
Ocala | Vancouver | |||||
Orlando | ||||||
Pensacola/Panama City | ||||||
Port St. Lucie | ||||||
Tampa/Sarasota | ||||||
Volusia County | ||||||
West Palm Beach | ||||||
Georgia | Atlanta | |||||
Augusta | ||||||
Mississippi | Gulf Coast | |||||
Tennessee | Knoxville | |||||
Nashville | ||||||
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When evaluating new or existing homebuilding markets for purposes of capital allocation, we consider local, market-specific factors, including among others:
• | Economic conditions; |
• | Employment levels and job growth; |
• | Income level of potential homebuyers; |
• | Local housing affordability and typical mortgage products utilized; |
• | Market for homes at our targeted price points; |
• | Availability of land and lots in desirable locations on acceptable terms; |
• | Land entitlement and development processes; |
• | Availability of qualified subcontractors; |
• | New and secondary home sales activity; |
• | Competition; and |
• | Prevailing housing products, features, cost and pricing. |
Economies of Scale
We are the largest homebuilding company in the United States in fiscal 2018 as measured by number of homes closed, and we are also one of the largest builders in many of the markets in which we operate. We believe that our national, regional and local scale of operations provides us with benefits that may not be available to the same degree to some other smaller homebuilders, such as:
• | Greater access to and lower cost of capital, due to our balance sheet strength and our lending and capital markets relationships; |
• | Volume discounts and rebates from national, regional and local materials suppliers and lower labor rates from certain subcontractors; and |
• | Enhanced leverage of our general and administrative activities, which allows us flexibility to adjust to changes in market conditions and compete effectively across our markets. |
Decentralized Homebuilding Operations
We view homebuilding as a local business; therefore, most of our direct homebuilding activities are decentralized to provide flexibility to our local managers on operational decisions. We believe that our local management teams, who are familiar with local conditions, have the best information to make many decisions regarding their operations. At September 30, 2018, we had 46 separate homebuilding operating divisions, many of which operate in more than one market area. Generally, each operating division consists of a division president; a controller; land entitlement, acquisition and development personnel; a sales manager and sales and marketing personnel; a construction manager and construction superintendents; customer service personnel; a purchasing manager and office staff. Our division presidents receive performance-based compensation if they achieve targeted financial and operating metrics related to their operating divisions. Following is a summary of our homebuilding activities that are decentralized in our local operating divisions, and the control and oversight functions that are centralized in our regional and corporate offices.
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Operating Division Responsibilities
Each operating division is responsible for:
• | Site selection, which involves |
— A feasibility study;
— Soil and environmental reviews;
— Review of existing zoning and other governmental requirements;
— Review of the need for and extent of offsite work required to obtain project entitlements; and
— Financial analysis of the potential project;
• | Negotiating lot option, land acquisition and related contracts; |
• | Obtaining all necessary land development and home construction approvals; |
• | Selecting land development subcontractors and ensuring their work meets our contracted scopes; |
• | Selecting building and architectural plans; |
• | Selecting construction subcontractors and ensuring their work meets our contracted scopes; |
• | Planning and managing home construction schedules; |
• | Determining the pricing for each house plan and options in a given community; |
• | Developing and implementing local marketing and sales plans; |
• | Coordinating all interactions with customers and real estate brokers during the sales, construction and home closing processes; and |
• | Ensuring the quality and timeliness of post-closing service and warranty repairs provided to customers. |
Centralized Controls
We centralize many important risk elements of our homebuilding business through our regional and corporate offices. We have five separate homebuilding regional offices. Generally, each regional office consists of a region president, a chief financial officer, legal counsel and other operational and office support staff. Each of our region presidents and their management teams are responsible for oversight of the operations of a number of homebuilding operating divisions, including:
• | Review and approval of division business plans and budgets; |
• | Review and approval of all land and lot acquisition contracts; |
• | Review of all business and financial analysis for potential land and lot inventory investments; |
• | Oversight of land and home inventory levels; |
• | Monitoring division financial and operating performance; and |
• | Review of major personnel decisions and division incentive compensation plans. |
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Our corporate executives and corporate office departments are responsible for establishing our operational policies and internal control standards and for monitoring compliance with established policies and controls throughout our operations. The corporate office also has primary responsibility for direct management of certain key risk elements and initiatives through the following centralized functions:
• | Financing; |
• | Cash management; |
• | Allocation of capital; |
• | Issuance and monitoring of inventory investment guidelines; |
• | Approval and funding of land and lot acquisitions; |
• | Monitoring and analysis of profitability, returns, costs and inventory levels; |
• | Risk and litigation management; |
• | Environmental assessments of land and lot acquisitions; |
• | Technology systems to support management of operations, marketing and information; |
• | Accounting and management reporting; |
• | Income taxes; |
• | Internal audit; |
• | Public reporting and investor and media relations; |
• | Administration of payroll and employee benefits; |
• | Negotiation of national purchasing contracts; |
• | Administration, reporting and monitoring of customer satisfaction surveys and resolutions of issues; and |
• | Approval of major personnel decisions and management incentive compensation plans. |
Land/Lot Acquisition and Inventory Management
We acquire land for use in our homebuilding and Forestar operations after we have completed due diligence and generally after we have obtained the rights (known as entitlements) to begin development or construction work resulting in an acceptable number of residential lots. Before we acquire lots or tracts of land, we complete a feasibility study, which includes soil tests, independent environmental studies, other engineering work and financial analysis. We also evaluate the status of necessary zoning and other governmental entitlements required to develop and use the property for home construction. Although we purchase and develop land primarily to support our homebuilding activities, we may sell land and lots to other developers and homebuilders where we have excess land and lot positions or for other strategic reasons.
We also enter into land/lot option contracts, in which we obtain the right, but generally not the obligation, to buy land or lots at predetermined prices on a defined schedule commensurate with anticipated home closings or planned development. Our option contracts generally are non-recourse, which limits our financial exposure to our earnest money deposited into escrow under the terms of the contract and any pre-acquisition due diligence costs we incur. This enables us to control land and lot positions with limited capital investment, which substantially reduces the risks associated with land ownership and development.
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We directly acquire almost all of our land and lot positions. We are a party to a small number of joint ventures. Joint ventures are consolidated if we have a controlling interest, or accounted for under the equity method of accounting if we have a significant influence, but not control.
We attempt to mitigate our exposure to real estate inventory risks by:
• | Managing our supply of land/lots controlled (owned and optioned) in each market based on anticipated future home closing levels; |
• | Monitoring local market and demographic trends, housing preferences and related economic developments, including the identification of desirable housing submarkets based on the quality of local schools, new job opportunities, local growth initiatives and personal income trends; |
• | Utilizing land/lot option contracts, where possible; |
• | Seeking to acquire developed lots which are substantially ready for home construction, where possible; |
• | Controlling our levels of investment in land acquisition, land development and housing inventory to match the expected housing demand in each of our operating markets; and |
• | Monitoring and managing the number of speculative homes (homes under construction without an executed sales contract) built in each subdivision. |
Land Development and Home Construction
Substantially all of our land development and home construction work is performed by subcontractors. Subcontractors typically are selected after a competitive bidding process and are retained for a specific subdivision or series of house plans pursuant to a contract that obligates the subcontractor to complete the scope of work at an agreed-upon price. We employ land development managers and construction superintendents to monitor land development and home construction activities, participate in major design and building decisions, coordinate the activities of subcontractors and suppliers, review the work of subcontractors for quality and cost controls and monitor compliance with zoning and building codes. In addition, our construction superintendents interact with our homebuyers during the construction process and instruct buyers on post-closing home maintenance.
Our home designs are selected or prepared in each of our markets to appeal to the preferences of local homebuyers in each community. Our local management teams regularly adjust our product offerings to address our customers’ expectations for affordability, home size and features. In many communities, we offer optional interior and exterior features to homebuyers for an additional charge. Construction time for our homes depends on the availability of labor, materials and supplies, the weather, the size of the home and other factors. We complete the construction of most homes within two to six months.
We typically do not maintain significant inventories of land development or construction materials, except for work in progress materials for active development projects and homes under construction. Generally, the construction materials used in our operations are readily available from numerous sources. We have contracts exceeding one year with certain suppliers of building materials that are cancelable at our option.
We are subject to governmental regulations that affect our land development and construction operations. At times, we have experienced delays in receiving the proper approvals from municipalities or other government agencies that have delayed our anticipated development and construction activities in certain communities.
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Cost Controls
We control construction costs by designing our homes efficiently and by obtaining competitive bids for construction materials and labor. We also competitively bid and negotiate pricing from our subcontractors and suppliers based on the volume of services and products we purchase on a local, regional and national basis. We monitor our land development expenditures and construction costs versus budgets for each house and community, and we review our inventory levels, margins, expenses, profitability and returns for each operating market compared to both its business plan and our performance expectations.
We control overhead costs by centralizing certain accounting and administrative functions and by monitoring staffing and compensation levels. We review other general and administrative costs to identify efficiencies and savings opportunities in our operating divisions and our regional and corporate offices. We also direct many of our promotional activities toward local real estate brokers and digital marketing initiatives, which we believe are efficient uses of our marketing expenditures.
Marketing and Sales
We use the D.R. Horton, Emerald Homes, Express Homes and Freedom Homes brand names to market and sell our homes. Our D.R. Horton branded communities are the core of our business and account for the majority of our home closings, focusing primarily on the first time and first time move-up homebuyer. Our Emerald branded communities appeal to buyers in search of higher-end move-up and luxury homes. Our Express branded communities primarily accommodate a segment of entry-level buyers who are focused on affordability. We introduced our Freedom Homes brand in 2016 to offer homes at affordable price points to active adult buyers seeking a low-maintenance lifestyle. The percentage of home closings and home sales revenue contributed by each brand during fiscal 2018 was as follows:
Percentage of Home Closings | Percentage of Home Sales Revenue | ||||||
D.R. Horton | 58 | % | 62 | % | |||
Emerald | 3 | % | 6 | % | |||
Express | 37 | % | 30 | % | |||
Freedom | 2 | % | 2 | % | |||
Total | 100 | % | 100 | % | |||
We also use the Pacific Ridge Homes brand in our Seattle market following our acquisition of their homebuilding operations in fiscal 2015, and their product offerings are similar to, and included with, our D.R. Horton branded communities shown above.
We market and sell our homes primarily through commissioned employees, and the majority of our home closings also involve an independent real estate broker. We typically conduct home sales from sales offices located in furnished model homes in each subdivision, and we generally do not offer our model homes for sale until the completion of a subdivision. Our sales personnel assist prospective homebuyers by providing floor plans and price information, demonstrating the features and layouts of our homes and assisting with the selection of options, when available. We train and inform our sales personnel as to the availability of financing, construction schedules and marketing and advertising plans. As market conditions warrant, we may provide potential homebuyers with incentives, such as discounts or free upgrades, to be competitive in a particular market or to attain our targeted sales pace.
We market our homes and communities to prospective homebuyers and real estate brokers digitally, through email, search engine marketing, social media and our company website and other real estate websites, in addition to print media and advertisement. We also use billboards, radio, television, magazine and newspaper advertising locally as necessary. We attempt to position our subdivisions in locations that are desirable to potential homebuyers and convenient to or visible from local traffic patterns, which helps to reduce advertising costs. Model homes play an important role in our marketing efforts, and we expend significant effort and resources to create an attractive atmosphere in our model homes.
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We also build speculative homes in most of our communities, which allow us to compete effectively with existing homes available in the market and improve our profits and returns. These homes enhance our marketing and sales efforts to prospective homebuyers who are renters or who are relocating to these markets and require a home within a short time frame, as well as to independent brokers who represent these homebuyers. We determine our speculative homes strategy in each market based on local market factors, such as new job growth, the number of job relocations, housing demand and supply, seasonality, current sales contract cancellation trends and our past experience in the market. We maintain a level of speculative home inventory in each community based on our current and planned sales pace, and we monitor and adjust speculative home inventory on an ongoing basis as conditions warrant.
Sales Contracts and Backlog
Our sales contracts require an earnest money deposit which varies in amount across our markets and communities. Additionally, customers are generally required to pay additional deposits when they select options or upgrade features for their homes. Our sales contracts include a financing contingency which permits customers to cancel and receive a refund of their deposit if they cannot obtain mortgage financing at prevailing or specified interest rates within a specified period. Our contracts may include other contingencies, such as the sale of an existing home. We either retain or refund customer deposits on cancelled sales contracts, depending upon the applicable provisions of the contract or other circumstances.
Sales order backlog represents homes under contract but not yet closed at the end of the period. At September 30, 2018, the value of our backlog of sales orders was $4.0 billion (13,371 homes), an increase of 8% from $3.7 billion (12,329 homes) at September 30, 2017. The average sales price of homes in backlog was $301,300 at September 30, 2018, down slightly from the $302,200 average at September 30, 2017. Many of the contracts in our sales order backlog are subject to contingencies, such as those described above, which can result in cancellations. As a percentage of gross sales orders, cancellations of sales contracts were 22% in both fiscal 2018 and 2017.
The length of time between the signing of a sales contract for a home and delivery of the home to the buyer (closing) is generally from two to six months; therefore, substantially all of the homes in our sales backlog at September 30, 2018 are scheduled to close in fiscal year 2019.
Customer Service and Quality Control
Our operating divisions are responsible for pre-closing quality control inspections and responding to customers’ post-closing needs. We believe that a prompt and courteous response to homebuyers’ needs during and after construction reduces post-closing repair costs, enhances our reputation for quality and service and ultimately leads to repeat and referral business from the real estate community and homebuyers. We typically provide our homebuyers with a ten-year limited warranty for major defects in structural elements such as framing components and foundation systems, a two-year limited warranty on major mechanical systems, and a one-year limited warranty on other construction components. The subcontractors who perform the actual construction also provide us with warranties on workmanship and are generally prepared to respond to us and the homeowner promptly upon request. In addition, some of our suppliers provide manufacturer’s warranties on specified products installed in the home.
Forestar Residential Lot Development Operations
During fiscal 2018, we acquired 75% of the outstanding shares of Forestar. Forestar is a residential lot development company with operations in 24 markets and 14 states as of September 30, 2018. The acquisition is a component of our homebuilding strategy to expand relationships with land developers and increase the optioned portion of our land and lot position to enhance operational efficiency and returns. Both our homebuilding divisions and Forestar are identifying land development opportunities to expand Forestar’s platform, and our homebuilding operations are acquiring finished lots from Forestar in accordance with the master supply agreement between the two companies. As the controlling shareholder of Forestar, we strongly influence the strategic direction and operations of Forestar.
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Customer Mortgage Financing
We provide mortgage financing services principally to purchasers of our homes in the majority of our homebuilding markets through DHI Mortgage, our 100% owned subsidiary. DHI Mortgage assists in the sales transaction by coordinating the mortgage application, mortgage commitment and home closing processes to facilitate a timely and efficient home buying experience for our buyers. During the year ended September 30, 2018, DHI Mortgage provided mortgage financing services for approximately 56% of our total homes closed, and approximately 97% of DHI Mortgage’s loan volume related to homes closed by our homebuilding operations. Most of our homebuilding divisions also work with a number of additional mortgage lenders that offer a range of mortgage financing programs to our homebuyers.
To limit the risks associated with our mortgage operations, DHI Mortgage originates loan products that we believe can be sold to third-party purchasers of mortgage loans, the majority of which are eligible for sale to the Federal National Mortgage Association (Fannie Mae), the Federal Home Loan Mortgage Corporation (Freddie Mac) or the Government National Mortgage Association (Ginnie Mae). DHI Mortgage sells substantially all of the loans and their servicing rights to third-party purchasers shortly after origination with limited recourse provisions. DHI Mortgage centralizes most of its control and oversight functions, including those related to loan underwriting, quality control, regulatory compliance, secondary marketing of loans, hedging activities, accounting and financial reporting.
Title Services
Through our subsidiary title companies, we serve as a title insurance agent in selected markets by providing title insurance policies, examination and closing services primarily to our homebuilding customers. We currently assume little or no underwriting risk associated with these title policies.
Multi-Family Rental Properties
Through DHI Communities, a 100% owned subsidiary, we are developing and constructing multi-family rental properties on land parcels we already owned. We currently have four projects under active construction and two projects that are substantially complete.
Employees
At September 30, 2018, we employed 8,437 persons, of whom 1,781 were sales and marketing personnel, 2,409 were involved in construction, 2,328 were office personnel and 1,919 worked in mortgage and title operations. We focus significant attention toward attracting and retaining talented and experienced individuals to manage and support our operations, and we believe that we have good relations with our employees.
Business Acquisitions
We routinely evaluate opportunities to profitably expand our operations, including potential acquisitions of other homebuilding or related businesses. Acquisitions of homebuilding and related businesses usually provide us with immediate land and home inventories and control of additional land and lot positions through option contracts. Also, employees of acquired businesses generally have specialized knowledge of local market conditions, including existing relationships with municipalities, land owners, developers, subcontractors and suppliers. These inventory positions and local market knowledge and relationships could take us several years to develop through our own efforts. We seek to limit the risks associated with acquiring other companies by conducting extensive operational, financial and legal due diligence on each acquisition and by performing financial analysis to determine that each acquisition will have a positive impact on our earnings within an acceptable period of time.
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On October 5, 2017, we acquired 75% of the outstanding shares of Forestar for $558.3 million in cash, pursuant to the terms of the June 2017 merger agreement approved by a vote of Forestar’s shareholders. Forestar is a publicly traded residential lot development company with operations in 24 markets and 14 states as of September 30, 2018. The transaction costs incurred by us related to this acquisition totaled $7.2 million, of which $5.3 million was incurred during fiscal 2018 and expensed to selling, general and administrative expense.
In September 2016, we acquired the homebuilding operations of Wilson Parker Homes, which operated in Atlanta and Augusta, Georgia; Raleigh, North Carolina; Columbia, South Carolina and Phoenix, Arizona.
Competition
The homebuilding industry is highly competitive. We compete with numerous other national, regional and local homebuilders for homebuyers, desirable land, raw materials, skilled labor, employees, management talent and financing. We also compete with resales of existing and foreclosed homes and with the rental housing market. Our homes compete on the basis of quality, price, location, design and mortgage financing terms.
The competitors to our financial services businesses include other mortgage lenders and title companies, including national, regional and local mortgage bankers and other financial institutions. Some of these competitors are subject to fewer governmental regulations and may have greater access to capital, and some of them may operate with different lending criteria and may offer a broader array of financing and other products and services to consumers than we do. We strive to provide flexible, fairly priced financing alternatives subject to applicable regulations.
Governmental Regulations and Environmental Matters
The homebuilding industry is subject to extensive and complex regulations. We and the subcontractors we use must comply with many federal, state and local laws and regulations. These include zoning, density and development requirements and building, environmental, advertising, labor and real estate sales rules and regulations. These regulations and requirements affect substantially all aspects of our land development and home design, construction and sales processes in varying degrees across our markets. Our homes are inspected by local authorities where required, and homes eligible for insurance or guarantees provided by the Federal Housing Administration (FHA) and the Department of Veteran Affairs (VA) are subject to inspection by them. These regulations often provide broad discretion to the administering governmental authorities. In addition, our new housing developments may be subject to various assessments for schools, parks, streets, utilities and other public improvements.
Our homebuilding and land development operations are also subject to an extensive array of local, state and federal statutes, ordinances, rules and regulations concerning protection of health, safety and the environment. The particular compliance requirements for each site vary greatly according to location, environmental condition and the present and former uses of the site and adjoining properties.
Our mortgage company must comply with extensive state and federal laws and regulations, which are administered by numerous agencies, including but not limited to the Consumer Financial Protection Bureau (CFPB), Federal Housing Finance Agency, U.S. Department of Housing and Urban Development, FHA, VA, United States Department of Agriculture (USDA), Fannie Mae, Freddie Mac and Ginnie Mae. These laws and regulations include many compliance requirements, including but not limited to licensing, consumer disclosures, fair lending and real estate settlement procedures. As a result, our operations are subject to regular, extensive examinations by the applicable agencies.
Seasonality
Although significant changes in market conditions have impacted our seasonal patterns in the past and could do so again in the future, we generally close more homes and generate greater revenues and operating income in the third and fourth quarters of our fiscal year. The seasonal nature of our business can also cause significant variations in our working capital requirements in both our homebuilding and financial services operations. As a result of seasonal activity, our quarterly results of operations and financial position at the end of a particular fiscal quarter are not necessarily representative of the balance of our fiscal year.
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ITEM 1A. | RISK FACTORS |
Discussion of our business and operations included in this annual report on Form 10-K should be read together with the risk factors set forth below. They describe various risks and uncertainties we are or may become subject to, many of which are difficult to predict or beyond our control. These risks and uncertainties, together with other factors described elsewhere in this report, have the potential to affect our business, financial condition, results of operations, cash flows, strategies or prospects in a material and adverse manner.
The homebuilding industry is cyclical and affected by changes in economic, real estate or other conditions that could adversely affect our business or financial results.
The homebuilding industry is cyclical and is significantly affected by changes in general and local economic and real estate conditions, such as:
• | employment levels; |
• | consumer confidence and spending; |
• | housing demand; |
• | availability of financing for homebuyers; |
• | interest rates; |
• | availability and prices of new homes for sale and alternatives to new homes, including foreclosed homes, homes held for sale by investors and speculators, other existing homes and rental properties; and |
• | demographic trends. |
Adverse changes in these general and local economic conditions or deterioration in the broader economy would cause a negative impact on our business and financial results and increase the risk for asset impairments and writeoffs. Changes in these economic conditions may affect some of our regions or markets more than others. If adverse conditions affect our larger markets, they could have a proportionately greater impact on us than on some other homebuilding companies.
In the past, the federal government’s fiscal policies and economic stimulus actions have created uncertainty in the financial markets and caused volatility in interest rates, which impacted business and consumer behavior. Recently, the Federal Reserve has increased short-term interest rates and has indicated that future interest rate increases are likely, which has caused long-term interest rates on home mortgage loans to rise. Monetary policy actions affecting interest rates or fiscal policy actions and new legislation related to taxation, spending levels or borrowing limits, along with the related political debates, conflicts and compromises associated with such actions, may negatively impact the financial markets and consumer confidence. Such events could hurt the U.S. economy and the housing market and in turn, could adversely affect the operating results of our businesses.
Weather conditions and natural disasters, such as hurricanes, tornadoes, earthquakes, volcanic activity, droughts and floods, heavy or prolonged precipitation or wildfires, can harm our homebuilding business. These can delay our development work, home construction and home closings, adversely affect the cost or availability of materials or labor or damage homes under construction. The climates and geology of many of the states in which we operate, including California, Florida, Texas and other coastal areas, where we have some of our larger operations and which have experienced recent natural disasters, present increased risks of adverse weather or natural disasters.
Deployments of U.S. military personnel to foreign regions, terrorist attacks, other acts of violence or threats to national security and any corresponding response by the United States or others, related domestic or international instability or civil unrest may cause an economic slowdown in the markets where we operate, which could adversely affect our homebuilding business.
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Public health issues such as a major epidemic or pandemic could adversely affect our business. The U.S. and other countries have experienced, and may experience in the future, outbreaks of contagious diseases that affect public perception of health risk. In the event of a widespread, prolonged, actual or perceived outbreak of a contagious disease, our operations could be negatively impacted by a reduction in customer traffic or other factors which could reduce demand for new homes.
If we experience any of the foregoing, potential customers may be less willing or able to buy our homes. In the future, our pricing and product strategies may also be limited by market conditions. We may be unable to change the mix of our home offerings, reduce the costs of the homes we build, offer more affordable homes or satisfactorily address changing market conditions in other ways without adversely affecting our profits and returns. In addition, cancellations of home sales contracts in backlog may increase if homebuyers do not honor their contracts due to any of the factors discussed above.
Our financial services business is closely related to our homebuilding business, as it originates mortgage loans principally to purchasers of the homes we build. A decrease in the demand for our homes because of the foregoing matters will also adversely affect the financial results of this segment of our business. An increase in the default rate on the mortgages we originate may adversely affect our ability to sell the mortgages or the pricing we receive upon the sale of mortgages or may increase our recourse obligations for previous originations. We may be responsible for losses associated with mortgage loans originated and sold to third-party purchasers in the event of errors or omissions relating to certain representations and warranties that the loans sold meet certain requirements, including representations as to underwriting standards, the type of collateral, the existence of primary mortgage insurance, and the validity of certain borrower representations in the connection with the loan. We establish reserves related to mortgages we have sold; however, actual future obligations related to these mortgages could differ significantly from our current estimated amounts.
Constriction of the credit and public capital markets could limit our ability to access capital and increase our costs of capital.
During past economic and housing downturns, the credit markets constricted and reduced some sources of liquidity that were previously available to us. Consequently, we relied principally on our cash on hand to meet our working capital needs and repay outstanding indebtedness during those times. There likely will be periods in the future when financial market upheaval will increase our cost of capital or limit our ability to access the public debt markets or obtain bank financing.
Our homebuilding operations utilize a $1.325 billion senior unsecured revolving credit facility with an uncommitted accordion feature that could increase the size of the facility to $1.9 billion, subject to certain conditions and availability of additional bank commitments. The facility also provides for the issuance of letters of credit with a sublimit equal to approximately 50% of the revolving credit commitment. The maturity date of the facility is September 25, 2023. Forestar and its subsidiaries are not guarantors under the facility or our senior notes.
Forestar has a $380 million senior unsecured revolving credit facility with an uncommitted accordion feature that could increase the size of the facility to $570 million, subject to certain conditions and availability of additional bank commitments. The facility also provides for the issuance of letters of credit with a sublimit equal to the greater of $100 million and 50% of the revolving credit commitment. The maturity date of the facility is August 16, 2021. The facility is guaranteed by Forestar’s wholly-owned subsidiaries that are not immaterial subsidiaries or have not been designated as unrestricted subsidiaries. The facility is not guaranteed by us or our other subsidiaries.
Our mortgage subsidiary utilizes a $600 million mortgage repurchase facility to finance the majority of the loans it originates. The capacity of the facility increases, without requiring additional commitments, to $725 million for approximately 30 days at each quarter end and to $800 million for approximately 45 days at fiscal year end. The capacity can also be increased to $1.0 billion subject to the availability of additional commitments. The mortgage repurchase facility must be renewed annually and currently expires on February 22, 2019. We expect to renew and extend the term of the mortgage repurchase facility with similar terms prior to its maturity. Adverse changes in market conditions could make the renewal of these facilities more difficult or could result in an increase in the cost of these facilities or a decrease in the committed amounts. Such changes affecting our mortgage repurchase facility may also make it more difficult or costly to sell the mortgages that we originate.
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We regularly assess our projected capital requirements to fund growth in our business, repay debt obligations, and support other general corporate and operational needs, and we regularly evaluate our opportunities to raise additional capital. We have an automatically effective universal shelf registration statement filed with the SEC in August 2018, registering debt and equity securities that we may issue from time to time in amounts to be determined. Also, Forestar has an effective shelf registration statement filed with the SEC in September 2018, registering $500 million of equity securities. As market conditions permit, we may issue new debt or equity securities through the public capital markets or obtain additional bank financing to fund our projected capital requirements or provide additional liquidity. We believe that our existing cash resources, our revolving credit facilities, our mortgage repurchase facility and our ability to access the capital markets will provide sufficient liquidity to fund our near-term working capital needs and debt obligations, including the maturity of $500 million principal amount of senior notes in fiscal 2019. Adverse changes in economic, homebuilding or capital market conditions could negatively affect our business, liquidity and financial results, restrict our ability to obtain additional capital or increase our costs of capital.
Reductions in the availability of mortgage financing provided by government agencies, changes in government financing programs, a decrease in our ability to sell mortgage loans on attractive terms or an increase in mortgage interest rates could decrease our buyers’ ability to obtain financing and adversely affect our business or financial results.
The mortgage loans originated by our financial services operations are primarily eligible for sale to Fannie Mae, Freddie Mac and Ginnie Mae and are sold to third-party purchasers. The secondary market for mortgage loans continues to primarily desire securities backed by Fannie Mae, Freddie Mac or Ginnie Mae, and we believe the liquidity these agencies provide to the mortgage industry is important to the housing market. Any significant change regarding the long-term structure and viability of Fannie Mae and Freddie Mac could result in adjustments to the size of their loan portfolios and to guidelines for their loan products. Additionally, a reduction in the availability of financing provided by these institutions could adversely affect interest rates, mortgage availability and sales of new homes and mortgage loans. During fiscal 2018, approximately 92% of the mortgage loans sold by DHI Mortgage were sold to four major financial entities, the largest percentage of which purchased 36% of the total loans sold. On an ongoing basis, we seek to establish loan purchase arrangements with additional financial entities. If we are unable to sell mortgage loans to purchasers on attractive terms, our ability to originate and sell mortgage loans at competitive prices could be limited, which would negatively affect our profitability.
The FHA insures mortgage loans that generally have lower credit requirements and is an important source for financing the sale of our homes. Changes, restrictions or significant premium increases in FHA programs in the future may negatively affect the availability or affordability of FHA financing, which could adversely affect our ability to sell homes.
Some of our customers may qualify for 100% financing through programs offered by the VA, USDA and certain other housing finance agencies. These programs are subject to changes in regulations, lending standards and government funding levels. There can be no assurances that these programs or other programs will continue to be available in our homebuilding markets or that they will be as attractive to our customers as the programs currently offered, which could negatively affect our sales.
Mortgage rates are currently low as compared to most historical periods; however, mortgage rates have increased recently and may increase further as the Federal Reserve Board has raised its benchmark rate several times over the past year and has indicated further interest rate increases are likely. When interest rates increase, the cost of owning a home increases, which will likely reduce the number of potential homebuyers who can obtain mortgage financing, and could result in a decline in the demand for our homes.
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The risks associated with our land and lot inventory could adversely affect our business or financial results.
Inventory risks are substantial for our homebuilding and Forestar businesses. There are risks inherent in controlling, owning and developing land. If housing demand declines, we may not be able to build and sell homes profitably in some of our communities, and we may not be able to fully recover the costs of some of the land and lots we own. Also, the values of our owned undeveloped land, lots and housing inventories may fluctuate significantly due to changes in market conditions. As a result, our deposits for lots controlled under option or similar contracts may be put at risk, we may have to sell homes or land for a lower profit margin or record inventory impairment charges on our land and lots. A significant deterioration in economic or homebuilding industry conditions may result in substantial inventory impairment charges.
We cannot make any assurances that our growth strategies, acquisitions or investments will be successful or will not expose us to additional risks or other negative consequences.
In recent years, we have primarily grown our business by increasing our investments in land, lot and home inventories in our existing homebuilding markets. We have also expanded through investments in new product offerings and in new geographic markets. Investments in land, lots and home inventories can expose us to risks of economic loss and inventory impairments if housing conditions weaken or if we are unsuccessful in implementing our growth strategies.
On October 5, 2017, we acquired 75% of the outstanding shares of Forestar for $558.3 million, pursuant to the terms of a merger agreement entered into in June 2017 and approved by a vote of Forestar’s shareholders. Forestar is a publicly traded residential lot development company with operations in 24 markets and 14 states as of September 30, 2018. Our alignment with Forestar advances our strategy of increasing our access to optioned land and lot positions to enhance operational efficiency and returns. Both our homebuilding divisions and Forestar are identifying land development opportunities to expand Forestar’s platform, and our homebuilding operations are acquiring finished lots from Forestar in accordance with the master supply agreement between the two companies. As the controlling shareholder of Forestar, we strongly influence the strategic direction and operations of Forestar.
In addition to the investment and merger with Forestar, we have acquired the homebuilding operations of several homebuilding companies in recent years, and we may make strategic acquisitions of or investments in other companies, operations or assets in the future. Such acquisitions and investments may have risks similar to those related to land, lots and home inventories, but they may also expose us to additional risks or other negative consequences. These transactions may not advance our business strategy, provide a satisfactory return on our investment or provide other benefits we anticipate. Also, the integration of these transactions may not be successful and may require significant time and resources, which may divert management’s attention from other operations. Acquisitions and investments could also expose us to material liabilities not discovered in the due diligence process and may lead to litigation. If these transactions under-perform our expectations or are unsuccessful, we may incur significant expenses or write-offs of inventory, other assets or intangible assets such as goodwill. Acquisitions and investments can result in dilution to existing stockholders if we issue our common stock as consideration, and can increase our debt levels or reduce our liquidity if we purchase them with cash. The magnitude, timing and nature of any future acquisitions or investments will depend on a number of factors, including our ability to identify suitable additional markets or acquisition candidates, the negotiation of acceptable terms, our financial position and general economic and business conditions. We also may seek to divest an investment or a business and may have difficulty selling such investment or business on acceptable terms in a timely manner.
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Our business and financial results could be adversely affected by significant inflation, higher interest rates or deflation.
Inflation can adversely affect us by increasing costs of land, materials and labor. In addition, significant inflation is often accompanied by higher interest rates, which have a negative impact on housing affordability. In a highly inflationary environment, depending on industry and other economic conditions, we may be precluded from raising home prices enough to keep up with the rate of inflation, which could reduce our profit margins. Moreover, in a highly inflationary environment, our cost of capital, labor and materials can increase and the purchasing power of our cash resources can decline, which could have an adverse impact on our business or financial results.
Alternatively, a significant period of deflation could cause a decrease in overall spending and borrowing levels. This could lead to deterioration in economic conditions, including an increase in the rate of unemployment. Deflation could also cause the value of our inventories to decline or reduce the value of existing homes below the related mortgage loan balance, which could potentially increase the supply of existing homes. If oil prices decline significantly, economic conditions in markets that have significant exposure to the energy sector may weaken. These, or other factors that increase the risk of significant deflation, could have a negative impact on our business or financial results.
Homebuilding is subject to home warranty and construction defect claims in the ordinary course of business that can be significant.
We are subject to home warranty and construction defect claims arising in the ordinary course of our homebuilding business. We rely on subcontractors to perform the actual construction of our homes, and in many cases, to select and obtain construction materials. Despite our detailed specifications and monitoring of the construction process, our subcontractors occasionally do not meet adequate quality standards in the construction of our homes. When we find these issues, we repair them in accordance with our warranty obligations. We spend significant resources to repair items in homes we have sold to fulfill the warranties we issued to our homebuyers. Additionally, we are subject to construction defect claims which can be costly to defend and resolve in the legal system. Warranty and construction defect matters can also result in negative publicity in the media and on the internet, which can damage our reputation and adversely affect our ability to sell homes.
Based on the large number of homes we have sold over the years, our potential liabilities related to warranty and construction defect claims are significant. As a consequence, we maintain product liability insurance, and we seek to obtain indemnities and certificates of insurance from subcontractors covering claims related to their workmanship and materials. We establish warranty and other reserves for the homes we sell based on historical experience in our markets and our judgment of the qualitative risks associated with the types of homes built. Because of the uncertainties inherent to these matters, we cannot provide assurance that our insurance coverage, our subcontractor arrangements and our reserves will be adequate to address all of our future warranty and construction defect claims. Contractual indemnities can be difficult to enforce, we may be responsible for applicable self-insured retentions and some types of claims may not be covered by insurance or may exceed applicable coverage limits. Additionally, the coverage offered by and the availability of product liability insurance for construction defects is limited and costly. We have responded to increases in insurance costs and coverage limitations by increasing our self-insured retentions and claim reserves. There can be no assurance that coverage will not be further restricted or become more costly. If costs to resolve our future warranty and construction defect claims exceed our estimates, our financial results and liquidity could be adversely affected.
A health and safety incident relating to our operations could be costly in terms of potential liability and reputational damage.
Building sites are inherently dangerous, and operating in the homebuilding industry poses certain inherent health and safety risks. Due to health and safety regulatory requirements and the number of homes we construct, health and safety performance is critical to the success of our business. Any failure in health and safety performance may result in penalties for non-compliance with relevant regulatory requirements, and a failure that results in a major or significant health and safety incident is likely to be costly and could expose us to liability that could be costly. Such an incident could generate significant negative publicity and have a corresponding impact on our reputation, our relationships with relevant regulatory agencies or governmental authorities, and our ability to attract customers and employees, which in turn could have a material adverse effect on our financial results and liquidity.
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Damage to our corporate reputation or brands from negative publicity could adversely affect our business, financial results and/or stock price.
Adverse publicity related to our company, industry, personnel, operations or business performance may cause damage to our corporate reputation or brands and may generate negative sentiment, potentially affecting the performance of our business or our stock price, regardless of its accuracy or inaccuracy. Negative publicity can be disseminated rapidly through digital platforms, including social media, websites, blogs and newsletters. Customers and other interested parties value readily available information and often act on such information without further investigation and without regard to its accuracy. The harm may be immediate without affording us an opportunity for redress or correction, and our success in preserving our brand image depends on our ability to recognize, respond to and effectively manage negative publicity in a rapidly changing environment. Adverse publicity or unfavorable commentary from any source could damage our reputation, reduce the demand for our homes or negatively impact the morale and performance of our employees, which could adversely affect our business.
Supply shortages and other risks related to acquiring land, building materials and skilled labor could increase our costs and delay deliveries.
The homebuilding industry has from time to time experienced significant difficulties that can affect the cost or timing of construction, including:
• | difficulty in acquiring land suitable for residential building at affordable prices in locations where our potential customers want to live; |
• | shortages of qualified subcontractors; |
• | reliance on local subcontractors, manufacturers, distributors and land developers who may be inadequately capitalized; |
• | shortages of materials; and |
• | volatile increases in the cost of materials, particularly increases in the price of lumber, drywall and cement, which are significant components of home construction costs. |
These factors may cause construction delays or cause us to incur more costs building our homes. If the level of new home demand increases significantly in future periods, the risk of shortages in residential lots, labor and materials available to the homebuilding industry will likely increase.
We are required to obtain performance bonds, the unavailability of which could adversely affect our results of operations and cash flows.
We often are required to provide surety bonds to secure our performance or obligations under construction contracts, development agreements and other arrangements. At September 30, 2018, we had $1.5 billion of outstanding surety bonds. Our ability to obtain surety bonds primarily depends upon our credit rating, financial condition, past performance and other factors, including the capacity of the surety market and the underwriting practices of surety bond issuers. The ability to obtain surety bonds also can be impacted by the willingness of insurance companies to issue performance bonds for construction and development activities. If we are unable to obtain surety bonds when required, our results of operations and cash flows could be adversely affected.
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Increases in the costs of owning a home could prevent potential customers from buying our homes and adversely affect our business or financial results.
Prior to the enactment of the Tax Cuts and Jobs Act (Tax Act), which was enacted into law on December 22, 2017, significant expenses of owning a home, including mortgage loan interest and state and local taxes, generally were deductible expenses for an individual’s federal income taxes, subject to various limitations. The Tax Act establishes new limits on the federal tax deductions individual taxpayers may take on mortgage loan interest payments and on state and local taxes, including property taxes. These changes could reduce the actual or perceived affordability of homeownership, which could adversely affect demand for and sales prices of new homes, especially in areas with relatively high housing prices or high state and local income taxes and real estate taxes. Any further change in income tax laws by the federal or state government to eliminate or substantially reduce income tax benefits associated with homeownership could adversely affect demand for and sales prices of new homes.
In addition, increases in property tax rates by local governmental authorities, as experienced in some areas in response to reduced federal and state funding, could adversely affect the amount of financing our potential customers could obtain or their desire to purchase new homes.
Governmental regulations and environmental matters could increase the cost and limit the availability of our land development and homebuilding projects and adversely affect our business or financial results.
We are subject to extensive and complex regulations that affect land development and home construction, including zoning, density restrictions, building design and building standards. These regulations often provide broad discretion to the administering governmental authorities as to the conditions we must meet prior to development or construction being approved, if approved at all. We are subject to determinations by these authorities as to the adequacy of water or sewage facilities, roads or other local services. New housing developments may also be subject to various assessments for schools, parks, streets and other public improvements. In addition, in many markets government authorities have implemented no growth or growth control initiatives. Any of these may limit, delay or increase the costs of development or home construction.
We are also subject to a significant number and variety of local, state and federal laws and regulations concerning protection of health, safety, labor standards and the environment. The impact of environmental laws varies depending upon the prior uses of the building site or adjoining properties and may be greater in areas with less supply where undeveloped land or desirable alternatives are less available. These matters may result in delays, may cause us to incur substantial compliance, remediation, mitigation and other costs, and can prohibit or severely restrict development and homebuilding activity in environmentally sensitive regions or areas. Government agencies also routinely initiate audits, reviews or investigations of our business practices to ensure compliance with these laws and regulations, which can cause us to incur costs or create other disruptions in our business that can be significant. For example, we have received Notices of Violation from the United States Environmental Protection Agency related to stormwater compliance at certain of our sites in our Southeast region. This matter could potentially result in requirements for us to perform additional compliance procedures and to pay monetary sanctions.
The subcontractors we rely on to perform the actual construction of our homes are also subject to a significant number of local, state and federal laws and regulations, including laws involving matters that are not within our control. If the subcontractors who construct our homes fail to comply with all applicable laws, we can suffer reputational damage, and may be exposed to possible liability.
We are also subject to an extensive number of laws and regulations because our common stock and debt securities and those of our Forestar subsidiary are publicly traded in the capital markets. These regulations govern our communications with our shareholders and the capital markets, our financial statement disclosures and our legal processes, and they also impact the work required to be performed by our independent registered public accounting firm and our legal counsel. Changes in these laws and regulations, including the subsequent implementation of rules by the administering government authorities, may require us to incur additional compliance costs, and such costs may be significant.
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Governmental regulation of our financial services operations could adversely affect our business or financial results.
Our financial services operations are subject to extensive state and federal laws and regulations, which are administered by numerous agencies, including but not limited to the CFPB, Federal Housing Finance Agency, U.S. Department of Housing and Urban Development, FHA, VA, USDA, Fannie Mae, Freddie Mac and Ginnie Mae. These laws and regulations include many compliance requirements, including but not limited to licensing, consumer disclosures, fair lending and real estate settlement procedures. As a result, our operations are subject to regular, extensive examinations by the applicable agencies.
In fiscal 2013, our mortgage subsidiary was subpoenaed by the United States Department of Justice (DOJ) regarding the adequacy of certain underwriting and quality control processes related to FHA loans originated and sold in prior years. We have provided information related to these loans and our processes to the DOJ, and communications are ongoing. The DOJ has to date not asserted any formal claim amount, penalty or fine.
Due to the significant increases in regulations in recent years, operating costs have increased for our mortgage operations. The possibility of additional future regulations, changing rule interpretations and examinations by regulatory agencies may result in more stringent compliance standards and could adversely affect the results of our operations.
We have significant amounts of consolidated debt and may incur additional debt; our debt obligations and our ability to comply with related covenants, restrictions or limitations could adversely affect our financial condition.
As of September 30, 2018, our consolidated debt was $3.2 billion, and we had $1.1 billion principal amount of our debt maturing before the end of fiscal 2019, including $500 million principal amount of senior notes and $637.7 million outstanding under the mortgage repurchase facility. The indenture governing our senior notes does not restrict the incurrence of future unsecured debt by us or our homebuilding subsidiaries or the incurrence of secured or unsecured debt by our financial services subsidiaries, and the agreement governing our homebuilding revolving credit facility allows us to incur a substantial amount of future unsecured debt. Also, the indenture governing our senior notes and the agreement governing our homebuilding revolving credit facility impose restrictions on our ability and on that of the guarantors under our senior notes and our homebuilding revolving credit facility to incur debt secured by certain assets, but still permit us and our homebuilding subsidiaries to incur significant amounts of additional secured debt. Forestar’s revolving credit facility does not restrict the incurrence of future unsecured debt by Forestar or its subsidiaries or the incurrence of secured debt by Forestar’s subsidiaries that are not guarantors of Forestar’s revolving credit facility.
Possible consequences. The amount and the maturities of our debt could have important consequences. For example, they could:
• | require us to dedicate a substantial portion of our cash flow from operations to payment of our debt and reduce our ability to use our cash flow for other operating or investing purposes; |
• | limit our flexibility to adjust to changes in our business or economic conditions; and |
• | limit our ability to obtain future financing for working capital, capital expenditures, acquisitions, debt service requirements or other requirements. |
In addition, our debt obligations and the restrictions imposed by the instruments governing those obligations expose us to additional risks, including:
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Dependence on future performance. Our ability to meet our debt service and other obligations and the financial covenants under our revolving credit and mortgage repurchase facilities will depend, in part, upon our future financial performance. Our future results are subject to the risks and uncertainties described in this report. Our revenues and earnings vary with the level of general economic activity in the markets we serve. Our businesses are also affected by financial, political, business and other factors, many of which are beyond our control. The factors that affect our ability to generate cash can also affect our ability to raise additional funds for these purposes through the sale of debt or equity, the refinancing of debt or the sale of assets. Changes in prevailing interest rates may affect the cost of our debt service obligations, because borrowings under our revolving credit facilities and mortgage repurchase facility bear interest at floating rates.
Homebuilding revolving credit facility. Our homebuilding revolving credit facility contains financial covenants requiring the maintenance of a maximum allowable ratio of debt to tangible net worth and a borrowing base restriction if our ratio of debt to tangible net worth exceeds a certain level. A failure to comply with these financial covenants could allow the lending banks to terminate the availability of funds under this revolving credit facility or cause any outstanding borrowings to become due and payable prior to maturity.
Forestar’s revolving credit facility. Forestar’s revolving credit facility contains financial covenants requiring the maintenance by Forestar of a minimum level of tangible net worth, a minimum level of liquidity, a maximum allowable leverage ratio and a borrowing base restriction based on the book value of Forestar’s real estate assets and unrestricted cash. A failure to comply with these financial covenants could allow the lending banks to terminate the availability of funds under this revolving credit facility or cause any outstanding borrowings to become due and payable prior to maturity.
Mortgage repurchase facility and other restrictions. The mortgage repurchase facility for our mortgage subsidiary requires the maintenance of a minimum level of tangible net worth, a maximum allowable ratio of debt to tangible net worth and a minimum level of liquidity by our mortgage subsidiary. A failure to comply with these requirements could allow the lending banks to terminate the availability of funds to our mortgage subsidiary or cause any outstanding borrowings to become due and payable prior to maturity. Any difficulty experienced in complying with these covenants could make the renewal of the facility more difficult or costly.
In addition, although our financial services business is conducted through subsidiaries that are not restricted by the indenture governing our senior notes or the agreements governing our revolving credit facilities, the ability of our financial services subsidiaries to distribute funds to our homebuilding operations would be restricted in the event such distribution would cause an event of default under the mortgage repurchase facility or if an event of default had occurred under this facility. Moreover, our right to receive assets from these subsidiaries upon their liquidation or recapitalization is subject to the prior claims of the creditors of these subsidiaries. Any claims we may have to funds from our financial services subsidiaries would be subordinate to subsidiary indebtedness to the extent of any security for such indebtedness and to any indebtedness otherwise recognized as senior to our claims.
Changes in debt ratings. Our senior unsecured debt is currently rated investment grade by all three major rating agencies; however, there can be no assurance that we will be able to maintain this rating. Any lowering of our debt ratings could make accessing the public capital markets or obtaining additional credit from banks more difficult and/or more expensive.
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Change of control purchase options and change of control default. Upon the occurrence of both a change of control and a ratings downgrade event, each as defined in the indenture governing our homebuilding senior notes, we will be required to offer to repurchase such notes at 101% of their principal amount, together with all accrued and unpaid interest, if any. Moreover, a change of control (as defined in our homebuilding revolving credit facility) would constitute an event of default under our homebuilding revolving credit facility, which could result in the acceleration of the repayment of any borrowings outstanding under the facility, a requirement to cash collateralize all letters of credit outstanding thereunder and the termination of the commitments thereunder. If repayment of more than $50 million outstanding under our homebuilding revolving credit facility were accelerated and such acceleration were not rescinded or such indebtedness were not satisfied, in either case within 30 days, an event of default would result under the indenture governing our homebuilding senior notes, entitling the trustee for the notes or holders of at least 25 percent in principal amount of the relevant series of notes then outstanding to declare all such notes to be due and payable immediately. If purchase offers were required under the indenture for our homebuilding senior notes, repayment of the borrowings under our homebuilding revolving credit facility were required, or if the senior notes were accelerated, we can give no assurance that we would have sufficient funds to pay the required amounts.
Change of control default under Forestar’s revolving credit facility. A change of control (as defined in Forestar’s revolving credit facility) with respect to Forestar would constitute an event of default under Forestar’s revolving credit facility, which could result in the acceleration of the repayment of any borrowings outstanding under the facility, a requirement to cash collateralize all letters of credit outstanding thereunder and the termination of the commitments thereunder. If repayment of the borrowings under Forestar’s revolving credit facility were required, we can give no assurance that Forestar would have sufficient funds to pay the required amounts.
Homebuilding and financial services are competitive industries, and competitive conditions could adversely affect our business or financial results.
The homebuilding industry is highly competitive. Homebuilders compete not only for homebuyers, but also for desirable properties, financing, raw materials and skilled labor. We compete with local, regional and national homebuilders, and also with existing home sales, foreclosures and rental properties. The competitive conditions in the homebuilding industry can negatively affect our sales volumes, selling prices and incentive levels, reduce our profit margins, and cause the value of our inventory or other assets to be impaired. Competition can also affect our ability to acquire suitable land, raw materials and skilled labor at acceptable prices or terms, or cause delays in land development or in the construction of our homes.
The competitors to our financial services businesses include other title companies and mortgage lenders, including national, regional and local mortgage banks and other financial institutions. Some of these competitors are subject to fewer governmental regulations and have greater access to capital than we do, and some of them may operate with different lending criteria than we do. These competitors may offer a broader or more attractive array of financing and other products and services to potential customers than we do.
Our businesses compete with other companies across all industries to attract and retain highly skilled and experienced employees, managers and executives. Competition for the services of these individuals increases as business conditions improve in the homebuilding and financial services industries and in the general economy. If we are unable to attract and retain key employees, managers or executives, our business could be adversely affected.
Our business could be adversely affected by the loss of key personnel.
We rely on our key personnel to effectively operate and manage our businesses. Specifically, our success depends heavily on the performance of our homebuilding division and region presidents and their management teams, our Forestar management team, our financial services management team, our corporate office management teams and our executive officers. These key personnel have significant experience and skills in the homebuilding, land development and financial services industries, as well as leadership and management abilities that are important to our success. We seek to retain our key personnel and to have succession plans in place to address the potential loss of key personnel. However, if our retention and succession planning efforts are unsuccessful or if we fail to attract suitable replacements, the loss of key personnel could adversely affect our business.
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Information technology failures and data security breaches could harm our business.
We use information technology and other computer resources to carry out important operational and marketing activities and to maintain our business records. These information technology systems are dependent upon global communications providers, web browsers, third-party software and data storage providers and other aspects of the Internet infrastructure that have experienced security breaches, cyber-attacks, significant systems failures and service outages in the past. A material breach in the security of our information technology systems or other data security controls could include the theft or release of customer, employee or company data. A data security breach, a significant and extended disruption in the functioning of our information technology systems or a breach of any of our data security controls could disrupt our business operations, damage our reputation and cause us to lose customers, adversely impact our sales and revenue and require us to incur significant expense to address and remediate or otherwise resolve these kinds of issues. The release of confidential information as a result of a security breach could also lead to litigation or other proceedings against us by affected individuals or business partners, or by regulators, and the outcome of such proceedings, which could include penalties or fines, could have a significant negative impact on our business. We may also be required to incur significant costs to protect against damages caused by information technology failures or security breaches in the future. We provide employee awareness training of cybersecurity threats and routinely utilize information technology security experts to assist us in our evaluations of the effectiveness of the security of our information technology systems, and we regularly enhance our security measures to protect our systems and data. We use various encryption, tokenization and authentication technologies to mitigate cybersecurity risks and have increased our monitoring capabilities to enhance early detection and rapid response to potential cyber threats. However, because the techniques used to obtain unauthorized access, disable or degrade systems change frequently and often are not recognized until launched against a target, we may be unable to anticipate these techniques or to implement adequate preventative measures. Consequently, we cannot provide assurances that a security breach, cyber-attack, data theft or other significant systems or security failures will not occur in the future, and such occurrences could have a material and adverse effect on our consolidated results of operations or financial position.
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ITEM 1B. | UNRESOLVED STAFF COMMENTS |
None.
ITEM 2. | PROPERTIES |
Our homebuilding and Forestar operations own inventories of land, lots and homes, and DHI Communities owns multi-family rental properties under construction as part of the ordinary course of our business. We also own office buildings totaling approximately 1.0 million square feet, and we lease approximately 515,000 square feet of office space under leases expiring through June 2024. These properties are located in our various operating markets to house our homebuilding, Forestar and financial services operating divisions and our regional and corporate offices.
We own ranch land and improvements totaling approximately 93,600 acres, which we use to conduct ranching and agricultural activities and to host company meetings and events.
ITEM 3. | LEGAL PROCEEDINGS |
We are involved in lawsuits and other contingencies in the ordinary course of business. While the outcome of such contingencies cannot be predicted with certainty, we believe that the liabilities arising from these matters will not have a material adverse effect on our consolidated financial position, results of operations or cash flows. However, to the extent the liability arising from the ultimate resolution of any matter exceeds our estimates reflected in the recorded reserves relating to such matter, we could incur additional charges that could be significant.
In fiscal 2013, our mortgage subsidiary was subpoenaed by the United States Department of Justice (DOJ) regarding the adequacy of certain underwriting and quality control processes related to Federal Housing Administration loans originated and sold in prior years. We have provided information related to these loans and our processes to the DOJ, and communications are ongoing. The DOJ has to date not asserted any formal claim amount, penalty or fine.
In May and July of 2014, we received Notices of Violation from the United States Environmental Protection Agency related to stormwater compliance at certain of our sites in our Southeast region. This matter could potentially result in monetary sanctions to the Company; however, we do not believe it is reasonably possible that this matter would result in a loss that would have a material effect on our consolidated financial position, results of operations or cash flows.
In October 2018, we reached an agreement in principle with the United States Environmental Protection Agency to settle an alleged violation of the wetlands provisions of the Clean Water Act at one of our development sites in our Southeast region. Upon finalizing the agreement, we expect we will be required to pay a penalty of $267,000.
ITEM 4. | MINE SAFETY DISCLOSURES |
Not applicable.
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PART II
ITEM 5. | MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES |
Our common stock is listed on the New York Stock Exchange (NYSE) under the symbol “DHI.” As of November 7, 2018, the closing price of our common stock on the NYSE was $37.59, and there were approximately 358 holders of record.
In November 2018, our Board of Directors approved a cash dividend of $0.15 per common share, payable on December 10, 2018, to stockholders of record on November 26, 2018. The declaration of future cash dividends is at the discretion of our Board of Directors and will depend upon, among other things, our future earnings, cash flows, capital requirements, financial condition and general business conditions.
We may repurchase shares of our common stock from time to time pursuant to our common stock repurchase authorization. The following table sets forth information concerning our common stock repurchases during the three months ended September 30, 2018. All share repurchases were made in accordance with the safe harbor provisions of Rule 10b-18 under the Securities Exchange Act of 1934, as amended.
Total Number of Shares Purchased (1) | Average Price Paid per Share | Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs | Approximate Dollar Value of Shares that may yet be Purchased Under the Plans or Programs (1) (In millions) | ||||||||||
July 1, 2018 - July 31, 2018 | 640,000 | $ | 43.94 | 640,000 | $ | — | |||||||
August 1, 2018 - August 31, 2018 | 560,000 | 43.78 | 560,000 | 375.5 | |||||||||
September 1, 2018 - September 30, 2018 | — | — | — | 375.5 | |||||||||
Total | 1,200,000 | $ | 43.87 | 1,200,000 | $ | 375.5 | |||||||
______________
(1) | Shares purchased in July 2018 for $28.1 million were part of a $200 million common stock repurchase authorization that expired July 31, 2018. The dollar value of shares that could be purchased following these transactions was $97.0 million up to expiration of this authorization. Effective August 1, 2018, our Board of Directors authorized the repurchase of up to $400 million of our common stock effective through September 30, 2019. During August 2018, we purchased 560,000 shares of our common stock for $24.5 million, resulting in a remaining authorization of $375.5 million at September 30, 2018. |
During fiscal years 2018, 2017 and 2016, we did not sell any equity securities that were not registered under the Securities Act of 1933, as amended.
The information required by this item with respect to equity compensation plans is set forth under Item 12 of this annual report on Form 10-K and is incorporated herein by reference.
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Stock Performance Graph
The following graph illustrates the cumulative total stockholder return on D.R. Horton common stock for the last five fiscal years through September 30, 2018, compared to the S&P 500 Index and the S&P 1500 Homebuilding Index. The comparison assumes a hypothetical investment in D.R. Horton common stock and in each of the foregoing indices of $100 at September 30, 2013 and assumes that all dividends were reinvested. Shareholder returns over the indicated period are based on historical data and should not be considered indicative of future shareholder returns. The graph and related disclosure in no way reflect our forecast of future financial performance.
Comparison of Five-Year Cumulative Total Return
Among D.R. Horton, Inc., S&P 500 Index and S&P 1500 Homebuilding Index
Year Ended September 30, | |||||||||||||||||||||||
2013 | 2014 | 2015 | 2016 | 2017 | 2018 | ||||||||||||||||||
D.R. Horton, Inc. | $ | 100.00 | $ | 106.24 | $ | 153.42 | $ | 159.48 | $ | 213.53 | $ | 228.09 | |||||||||||
S&P 500 Index | 100.00 | 119.73 | 119.00 | 137.36 | 162.92 | 192.10 | |||||||||||||||||
S&P 1500 Homebuilding Index | 100.00 | 102.99 | 125.11 | 124.37 | 172.15 | 162.82 | |||||||||||||||||
This performance graph shall not be deemed to be incorporated by reference into our SEC filings and should not constitute soliciting material or otherwise be considered filed under the Securities Act of 1933, as amended, or the Securities Exchange Act of 1934, as amended.
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ITEM 6. | SELECTED FINANCIAL DATA |
The following selected financial data are derived from our consolidated financial statements and should be read in conjunction with Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” Item 1A, “Risk Factors,” Item 8, “Financial Statements and Supplementary Data,” and all other financial data contained in this annual report on Form 10-K. As described in Note A to the financial statements, we have changed the presentation of our consolidated balance sheets and statements of operations to present our homebuilding, Forestar, financial services and other operations on a combined basis. The financial data in the tables below, including prior year amounts, reflect this presentation. These historical results are not necessarily indicative of the results to be expected in the future.
Year Ended September 30, | |||||||||||||||||||
2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
(In millions, except per share data) | |||||||||||||||||||
Consolidated Operating Data: | |||||||||||||||||||
Revenues | $ | 16,068.0 | $ | 14,091.0 | $ | 12,157.4 | $ | 10,824.0 | $ | 8,024.9 | |||||||||
Cost of sales | 12,398.1 | 11,042.8 | 9,502.6 | 8,535.7 | 6,268.6 | ||||||||||||||
Selling, general and administrative expense | 1,676.8 | 1,471.6 | 1,320.3 | 1,186.0 | 965.4 | ||||||||||||||
Income before income taxes | 2,060.0 | 1,602.1 | 1,353.5 | 1,123.4 | 814.2 | ||||||||||||||
Income tax expense | 597.7 | 563.7 | 467.2 | 372.7 | 280.7 | ||||||||||||||
Net income | 1,462.3 | 1,038.4 | 886.3 | 750.7 | 533.5 | ||||||||||||||
Net income attributable to noncontrolling interests | 2.0 | — | — | — | — | ||||||||||||||
Net income attributable to D.R. Horton, Inc. | 1,460.3 | 1,038.4 | 886.3 | 750.7 | 533.5 | ||||||||||||||
Net income per common share attributable to D.R. Horton, Inc.: | |||||||||||||||||||
Basic | 3.88 | 2.77 | 2.39 | 2.05 | 1.57 | ||||||||||||||
Diluted | 3.81 | 2.74 | 2.36 | 2.03 | 1.50 | ||||||||||||||
Cash dividends declared per common share | 0.50 | 0.40 | 0.32 | 0.25 | 0.1375 | ||||||||||||||
September 30, | |||||||||||||||||||
2018 | 2017 | 2016 | 2015 | 2014 | |||||||||||||||
(In millions) | |||||||||||||||||||
Consolidated Balance Sheet Data: | |||||||||||||||||||
Cash and cash equivalents | $ | 1,473.1 | $ | 1,007.8 | $ | 1,303.2 | $ | 1,383.8 | $ | 661.8 | |||||||||
Inventories | 10,395.0 | 9,237.1 | 8,340.9 | 7,807.0 | 7,700.5 | ||||||||||||||
Total assets | 14,114.6 | 12,184.6 | 11,558.9 | 11,151.0 | 10,185.4 | ||||||||||||||
Notes payable | 3,203.5 | 2,871.6 | 3,271.3 | 3,811.5 | 3,665.7 | ||||||||||||||
Stockholders’ equity | 8,984.4 | 7,747.1 | 6,792.5 | 5,894.3 | 5,115.8 | ||||||||||||||
Total equity | 9,158.9 | 7,747.6 | 6,793.0 | 5,895.4 | 5,119.7 | ||||||||||||||
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ITEM 7. | MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS |
Results of Operations — Fiscal Year 2018 Overview
During fiscal 2018, demand for new homes across most of our markets was strong, particularly at affordable price points, and the supply of new homes for sale remained limited. The level of strength in new home demand and home prices varied across our markets based on the relative strength of each market’s economy, as measured by job growth, household incomes, household formations and consumer confidence and the relative affordability of new home prices as compared to household incomes in each market.
Sales prices for both new and resale homes have increased across most of our markets over the past several years, which has generally reduced housing affordability. During fiscal 2018, interest rates on mortgage loans increased, which further impacted affordability. These conditions have resulted in some recent moderation of demand for new homes, particularly at higher price points. However, we continue to see solid economic fundamentals and a limited supply of homes at affordable prices across most of our markets.
Our position as the most geographically diverse and largest volume homebuilder in the United States provides a strong platform for us to compete for new home sales. In recent years, we have expanded our product offerings to include a broad range of homes for entry-level, move-up and luxury buyers across most of our markets. Our affordable entry-level homes have experienced very strong demand from homebuyers, as the entry-level segment of the new home market remains under-served, with low inventory levels relative to demand. More recently, we have also been introducing homes at affordable price points in communities designed for active adult buyers seeking a low-maintenance lifestyle.
We believe our business is well positioned with a broad geographic footprint, diverse product offerings, a balanced supply of finished lots, land and homes, a strong balance sheet and liquidity and experienced personnel across our operating markets. We remain focused on growing our revenues and profitability, generating positive annual cash flows from operations and managing our product offerings, pricing, sales pace, and inventory levels to optimize the return on our inventory investments.
In fiscal 2018, our number of homes closed and home sales revenues increased 13% and 14%, respectively, compared to the prior year. Our pre-tax income was $2.1 billion in fiscal 2018 compared to $1.6 billion in fiscal 2017 and $1.4 billion in fiscal 2016. Our pre-tax operating margin increased to 12.8% in fiscal 2018 compared to 11.4% in fiscal 2017 and 11.1% in fiscal 2016. The increase in 2018 compared to 2017 was primarily the result of an increase in our home sales gross margin. During fiscal 2018, we reduced sales incentives or raised prices in communities where we were achieving our targeted sales pace, while striving to ensure our product offerings remained affordable. As land and construction costs have generally increased, we have leveraged our scale and relationships to control these increases. Cash provided by our homebuilding operations was $1.0 billion in fiscal 2018 compared to $303.7 million in fiscal 2017 and $580.5 million in fiscal 2016. In fiscal 2018, our homebuilding return on inventory (ROI) improved to 20.2% compared to 16.6% in fiscal 2017 and 15.4% in fiscal 2016. Homebuilding ROI is calculated as homebuilding pre-tax income for the year divided by average inventory. Average inventory in the ROI calculation is the sum of ending inventory balances for the trailing five quarters divided by five.
Within our homebuilding land and lot portfolio, our lots controlled under option purchase contracts represent 57% of the lots owned and controlled at September 30, 2018 compared to 50% at September 30, 2017. The Forestar acquisition is advancing our homebuilding strategy of increasing our access to optioned land and lot positions.
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We believe that housing demand in our individual operating markets is tied closely to each market’s economy. Therefore, we expect that housing market conditions will continue to vary across our markets. If the U.S. economy remains strong, we expect to see continued strength in housing demand, concentrated in markets where job growth is occurring and new home prices remain affordable relative to household incomes. The pace and sustainability of new home demand and our future results could be negatively affected by weakening economic conditions, decreases in the level of employment and housing demand, decreased home affordability, further increases in mortgage interest rates or tightening of mortgage lending standards.
Strategy
Our operating strategy focuses on leveraging our financial and competitive position to increase the returns on our inventory investments and generate strong profitability and cash flows, while managing risk and maintaining financial flexibility to make opportunistic strategic investments. This strategy includes the following initiatives:
• | Maintaining a strong cash balance and overall liquidity position and controlling our level of debt. |
• | Allocating and actively managing our inventory investments across our operating markets to diversify our geographic risk. |
• | Offering new home communities that appeal to a broad range of entry-level, move-up, active adult and luxury homebuyers based on consumer demand in each market. |
• | Modifying product offerings, sales pace, home prices and sales incentives as necessary in each of our markets to meet consumer demand and maintain affordability. |
• | Delivering high quality homes to our customers and a positive experience both during and after the sale. |
• | Managing our inventory of homes under construction relative to demand in each of our markets, including starting construction on unsold homes to capture new home demand and actively controlling the number of unsold, completed homes in inventory. |
• | Investing in land and land development in desirable markets, while controlling the level of land and lots we own in each of our markets relative to the local new home demand. |
• | Increasing the amount of land and finished lots controlled through option purchase contracts by expanding relationships with land developers across the country and growing our majority-owned Forestar lot development operations. |
• | Pursuing acquisitions of companies to enhance and improve the returns of our homebuilding and other operations. |
• | Controlling the cost of goods purchased from both vendors and subcontractors. |
• | Improving the efficiency of our land development, construction, sales and other key operational activities. |
• | Controlling our selling, general and administrative (SG&A) expense infrastructure to match production levels. |
We believe our operating strategy, which has produced positive results in recent years, will allow us to maintain and improve our financial and competitive position and balance sheet strength. However, we cannot provide any assurances that the initiatives listed above will continue to be successful, and we may need to adjust components of our strategy to meet future market conditions.
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Key Results
Key financial results as of and for our fiscal year ended September 30, 2018 (or from the acquisition date of October 5, 2017 through September 30, 2018 for Forestar’s results), as compared to fiscal 2017, were as follows:
Homebuilding:
• | Homebuilding revenues increased 14% to $15.6 billion. |
• | Homes closed increased 13% to 51,857 homes, and the average closing price of those homes was $298,900. |
• | Net sales orders increased 13% to 52,740 homes, and the value of net sales orders increased 13% to $15.8 billion. |
• | Sales order backlog increased 8% to 13,371 homes, and the value of sales order backlog increased 8% to $4.0 billion. |
• | Home sales gross margin increased 130 basis points to 21.3%. |
• | Homebuilding SG&A expenses as a percentage of homebuilding revenues decreased by 30 basis points to 8.6%. |
• | Homebuilding pre-tax income increased 31% to $2.0 billion compared to $1.5 billion. |
• | Homebuilding pre-tax income as a percentage of homebuilding revenues improved to 12.5% compared to 10.8%. |
• | Homebuilding return on inventory improved 360 basis points to 20.2%. |
• | Net cash provided by homebuilding operations increased to $1.0 billion compared to $303.7 million. |
• | Homebuilding cash and cash equivalents totaled $1.1 billion compared to $973.0 million. |
• | Homebuilding inventories totaled $9.9 billion compared to $9.2 billion. |
• | Homes in inventory totaled 29,700 compared to 26,200. |
• | Owned lots totaled 124,300 compared to 125,000, and lots controlled through option purchase contracts totaled 164,200 compared to 124,000. |
• | Homebuilding debt was $2.4 billion compared to $2.5 billion. |
• | Homebuilding debt to total capital improved to 21.4% from 24.0%. |
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Forestar:
• | Forestar’s revenues were $109.2 million, which included $39.1 million of revenues from land and lot sales to our homebuilding segment. |
• | Forestar’s pre-tax income was $48.7 million, which included gross profit of $9.0 million from land and lot sales to our homebuilding segment. |
• | Owned and controlled lots totaled 20,100. Of these lots, 13,600 were under contract to sell to or subject to a right of first offer with D.R. Horton. |
• | Forestar’s cash and cash equivalents totaled $318.8 million. |
• | Forestar’s inventories totaled $498.0 million. |
Financial Services:
• | Financial services revenues increased 7% to $375.3 million. |
• | Financial services pre-tax income was $117.8 million compared to $124.5 million. |
• | Financial services pre-tax income as a percentage of financial services revenues was 31.4% compared to 35.6%. |
Consolidated Results:
• | Consolidated pre-tax income increased 29% to $2.1 billion compared to $1.6 billion. |
• | Consolidated pre-tax income as a percentage of consolidated revenues was 12.8% compared to 11.4%. |
• | Income tax expense was $597.7 million, which included a charge of $108.7 million as a result of the Tax Cuts and Jobs Act, compared to $563.7 million. |
• | Net income attributable to D.R. Horton increased 41% to $1.5 billion compared to $1.0 billion. |
• | Diluted earnings per common share attributable to D.R. Horton increased 39% to $3.81 compared to $2.74. |
• | Net cash provided by operations was $545.2 million compared to $440.2 million. |
• | Stockholders’ equity was $9.0 billion compared to $7.7 billion. |
• | Book value per common share increased 16% to $23.88 compared to $20.66. |
• | Debt to total capital improved to 26.3% from 27.0%. |
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Results of Operations — Homebuilding
Our operating segments are our 46 homebuilding divisions, our majority-owned Forestar lot development operations, our financial services operations and our other business activities. The homebuilding operating segments are aggregated into six reporting segments. These reporting segments, which we also refer to as reporting regions, have homebuilding operations located in the following states:
East: | Delaware, Georgia (Savannah only), Maryland, New Jersey, North Carolina, Pennsylvania, South Carolina and Virginia | ||
Midwest: | Colorado, Illinois, Indiana and Minnesota | ||
Southeast: | Alabama, Florida, Georgia, Mississippi and Tennessee | ||
South Central: | Louisiana, Oklahoma and Texas | ||
Southwest: | Arizona and New Mexico | ||
West: | California, Hawaii, Nevada, Oregon, Utah and Washington | ||
The following tables and related discussion set forth key operating and financial data for our homebuilding operations by reporting segment as of and for the fiscal years ended September 30, 2018, 2017 and 2016.
Net Sales Orders (1) | Net Homes Sold | |||||||||||||||||
Fiscal Year Ended September 30, | % Change | |||||||||||||||||
2018 | 2017 | 2016 | 2018 vs 2017 | 2017 vs 2016 | ||||||||||||||
East | 6,994 | 6,039 | 4,944 | 16 | % | 22 | % | |||||||||||
Midwest | 2,209 | 1,841 | 1,766 | 20 | % | 4 | % | |||||||||||
Southeast | 17,380 | 15,575 | 13,616 | 12 | % | 14 | % | |||||||||||
South Central | 15,317 | 13,374 | 12,433 | 15 | % | 8 | % | |||||||||||
Southwest | 3,179 | 2,693 | 1,761 | 18 | % | 53 | % | |||||||||||
West | 7,661 | 7,083 | 6,294 | 8 | % | 13 | % | |||||||||||
52,740 | 46,605 | 40,814 | 13 | % | 14 | % | ||||||||||||
Value (In millions) | ||||||||||||||||||
East | $ | 1,988.8 | $ | 1,708.9 | $ | 1,388.5 | 16 | % | 23 | % | ||||||||
Midwest | 864.3 | 722.6 | 669.2 | 20 | % | 8 | % | |||||||||||
Southeast | 4,640.7 | 4,068.9 | 3,547.3 | 14 | % | 15 | % | |||||||||||
South Central | 3,849.8 | 3,339.1 | 3,045.4 | 15 | % | 10 | % | |||||||||||
Southwest | 784.4 | 620.5 | 409.0 | 26 | % | 52 | % | |||||||||||
West | 3,632.7 | 3,481.2 | 2,940.8 | 4 | % | 18 | % | |||||||||||
$ | 15,760.7 | $ | 13,941.2 | $ | 12,000.2 | 13 | % | 16 | % | |||||||||
Average Selling Price | ||||||||||||||||||
East | $ | 284,400 | $ | 283,000 | $ | 280,800 | — | % | 1 | % | ||||||||
Midwest | 391,300 | 392,500 | 378,900 | — | % | 4 | % | |||||||||||
Southeast | 267,000 | 261,200 | 260,500 | 2 | % | — | % | |||||||||||
South Central | 251,300 | 249,700 | 244,900 | 1 | % | 2 | % | |||||||||||
Southwest | 246,700 | 230,400 | 232,300 | 7 | % | (1 | )% | |||||||||||
West | 474,200 | 491,500 | 467,200 | (4 | )% | 5 | % | |||||||||||
$ | 298,800 | $ | 299,100 | $ | 294,000 | — | % | 2 | % | |||||||||
_____________
(1) | Net sales orders represent the number and dollar value of new sales contracts executed with customers (gross sales orders), net of cancelled sales orders. |
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Sales Order Cancellations | |||||||||||||||||||||||||||
Fiscal Year Ended September 30, | |||||||||||||||||||||||||||
Cancelled Sales Orders | Value (In millions) | Cancellation Rate (1) | |||||||||||||||||||||||||
2018 | 2017 | 2016 | 2018 | 2017 | 2016 | 2018 | 2017 | 2016 | |||||||||||||||||||
East | 2,031 | 1,818 | 1,582 | $ | 570.0 | $ | 500.3 | $ | 425.4 | 23 | % | 23 | % | 24 | % | ||||||||||||
Midwest | 299 | 260 | 241 | 115.1 | 103.6 | 91.6 | 12 | % | 12 | % | 12 | % | |||||||||||||||
Southeast | 5,655 | 4,898 | 4,413 | 1,502.5 | 1,252.5 | 1,105.9 | 25 | % | 24 | % | 24 | % | |||||||||||||||
South Central | 4,408 | 3,989 | 3,795 | 1,091.9 | 1,000.8 | 942.5 | 22 | % | 23 | % | 23 | % | |||||||||||||||
Southwest | 1,031 | 864 | 745 | 251.8 | 196.9 | 160.4 | 24 | % | 24 | % | 30 | % | |||||||||||||||
West | 1,378 | 1,221 | 1,119 | 661.3 | 616.9 | 544.7 | 15 | % | 15 | % | 15 | % | |||||||||||||||
14,802 | 13,050 | 11,895 | $ | 4,192.6 | $ | 3,671.0 | $ | 3,270.5 | 22 | % | 22 | % | 23 | % | |||||||||||||
_____________
(1) | Cancellation rate represents the number of cancelled sales orders divided by gross sales orders. |
Net Sales Orders
2018 versus 2017
The value of net sales orders increased 13% to $15.8 billion (52,740 homes) in 2018 from $13.9 billion (46,605 homes) in 2017, with increases in all of our regions. The increases in the value of sales orders were due to increased volume. The average selling price of homes sold during fiscal 2018 was $298,800, essentially unchanged from the prior year.
The number of net sales orders increased 13% during 2018 compared to 2017. The increase in net sales orders reflects the strength in demand in most of our markets, particularly at affordable price points. Our Chicago and Phoenix markets contributed the most to higher sales volumes in our Midwest and Southwest regions, respectively. Our sales order cancellation rate (cancelled sales orders divided by gross sales orders for the period) was 22% in both years.
We believe our business is well positioned to continue to generate increased sales volume; however, our future sales volumes will depend on new home demand in each of our operating markets and our ability to successfully implement our operating strategies.
2017 versus 2016
The value of net sales orders increased 16% to $13.9 billion (46,605 homes) in 2017 from $12.0 billion (40,814 homes) in 2016, with increases in all of our regions. The increase in the value of sales orders was due to increased volume and to a lesser extent, increased selling prices in some regions.
The number of net sales orders increased 14%, and the average price of net sales orders increased 2% to $299,100 during 2017 compared to 2016. Our Phoenix and Carolina markets contributed the most to higher sales volumes in our Southwest and East regions, respectively. Our sales order cancellation rate was 22% in 2017 compared to 23% in 2016.
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Sales Order Backlog | Homes in Backlog | |||||||||||||||||
As of September 30, | % Change | |||||||||||||||||
2018 | 2017 | 2016 | 2018 vs 2017 | 2017 vs 2016 | ||||||||||||||
East | 1,841 | 1,544 | 1,301 | 19 | % | 19 | % | |||||||||||
Midwest | 442 | 419 | 470 | 5 | % | (11 | )% | |||||||||||
Southeast | 4,221 | 4,057 | 4,053 | 4 | % | — | % | |||||||||||
South Central | 4,492 | 3,956 | 3,840 | 14 | % | 3 | % | |||||||||||
Southwest | 928 | 843 | 655 | 10 | % | 29 | % | |||||||||||
West | 1,447 | 1,510 | 1,156 | (4 | )% | 31 | % | |||||||||||
13,371 | 12,329 | 11,475 | 8 | % | 7 | % | ||||||||||||
Value (In millions) | ||||||||||||||||||
East | $ | 548.6 | $ | 452.8 | $ | 383.0 | 21 | % | 18 | % | ||||||||
Midwest | 179.2 | 172.5 | 184.0 | 4 | % | (6 | )% | |||||||||||
Southeast | 1,172.3 | 1,104.9 | 1,121.7 | 6 | % | (1 | )% | |||||||||||
South Central | 1,151.8 | 1,018.1 | 1,018.1 | 13 | % | — | % | |||||||||||
Southwest | 251.7 | 192.7 | 150.7 | 31 | % | 28 | % | |||||||||||
West | 725.3 | 785.0 | 580.5 | (8 | )% | 35 | % | |||||||||||
$ | 4,028.9 | $ | 3,726.0 | $ | 3,438.0 | 8 | % | 8 | % | |||||||||
Average Selling Price | ||||||||||||||||||
East | $ | 298,000 | $ | 293,300 | $ | 294,400 | 2 | % | — | % | ||||||||
Midwest | 405,400 | 411,700 | 391,500 | (2 | )% | 5 | % | |||||||||||
Southeast | 277,700 | 272,300 | 276,800 | 2 | % | (2 | )% | |||||||||||
South Central | 256,400 | 257,400 | 265,100 | — | % | (3 | )% | |||||||||||
Southwest | 271,200 | 228,600 | 230,100 | 19 | % | (1 | )% | |||||||||||
West | 501,200 | 519,900 | 502,200 | (4 | )% | 4 | % | |||||||||||
$ | 301,300 | $ | 302,200 | $ | 299,600 | — | % | 1 | % | |||||||||
Sales Order Backlog
Sales order backlog represents homes under contract but not yet closed at the end of the period. Many of the contracts in our sales order backlog are subject to contingencies, including mortgage loan approval and buyers selling their existing homes, which can result in cancellations. A portion of the contracts in backlog will not result in closings due to cancellations. Our acquisition of the assets of Permian Homes contributed 159 homes valued at $44.2 million to the sales order backlog of our South Central region during fiscal 2018.
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Home Closings and Revenue | Homes Closed | |||||||||||||||||
Fiscal Year Ended September 30, | % Change | |||||||||||||||||
2018 | 2017 | 2016 | 2018 vs 2017 | 2017 vs 2016 | ||||||||||||||
East | 6,697 | 5,796 | 5,126 | 16 | % | 13 | % | |||||||||||
Midwest | 2,186 | 1,892 | 1,708 | 16 | % | 11 | % | |||||||||||
Southeast | 17,216 | 15,571 | 13,303 | 11 | % | 17 | % | |||||||||||
South Central | 14,940 | 13,258 | 12,249 | 13 | % | 8 | % | |||||||||||
Southwest | 3,094 | 2,505 | 1,703 | 24 | % | 47 | % | |||||||||||
West | 7,724 | 6,729 | 6,220 | 15 | % | 8 | % | |||||||||||
51,857 | 45,751 | 40,309 | 13 | % | 14 | % | ||||||||||||
Home Sales Revenue (In millions) | ||||||||||||||||||
East | $ | 1,893.0 | $ | 1,639.1 | $ | 1,431.0 | 15 | % | 15 | % | ||||||||
Midwest | 857.5 | 734.1 | 651.7 | 17 | % | 13 | % | |||||||||||
Southeast | 4,573.3 | 4,085.7 | 3,459.3 | 12 | % | 18 | % | |||||||||||
South Central | 3,760.4 | 3,339.1 | 2,978.5 | 13 | % | 12 | % | |||||||||||
Southwest | 725.4 | 578.5 | 388.1 | 25 | % | 49 | % | |||||||||||
West | 3,692.4 | 3,276.7 | 2,874.5 | 13 | % | 14 | % | |||||||||||
$ | 15,502.0 | $ | 13,653.2 | $ | 11,783.1 | 14 | % | 16 | % | |||||||||
Average Selling Price | ||||||||||||||||||
East | $ | 282,700 | $ | 282,800 | $ | 279,200 | — | % | 1 | % | ||||||||
Midwest | 392,300 | 388,000 | 381,600 | 1 | % | 2 | % | |||||||||||
Southeast | 265,600 | 262,400 | 260,000 | 1 | % | 1 | % | |||||||||||
South Central | 251,700 | 251,900 | 243,200 | — | % | 4 | % | |||||||||||
Southwest | 234,500 | 230,900 | 227,900 | 2 | % | 1 | % | |||||||||||
West | 478,000 | 487,000 | 462,100 | (2 | )% | 5 | % | |||||||||||
$ | 298,900 | $ | 298,400 | $ | 292,300 | — | % | 2 | % | |||||||||
2018 versus 2017
Revenues from home sales increased 14% to $15.5 billion (51,857 homes closed) in 2018 from $13.7 billion (45,751 homes closed) in 2017. The increase in home sales revenues reflects the strength in demand in most of our markets, particularly at affordable price points.
The number of homes closed in fiscal 2018 increased 13% from 2017 due to increases in all of our regions. Our Phoenix, Carolina and Minneapolis markets contributed the most to higher closing volumes in our Southwest, East and Midwest regions, respectively. The average selling price of homes closed during fiscal 2018 was $298,900, essentially unchanged from the prior year.
2017 versus 2016
Revenues from home sales increased 16% to $13.7 billion (45,751 homes closed) in 2017 from $11.8 billion (40,309 homes closed) in 2016.
The number of homes closed in fiscal 2017 increased 14% from 2016 due to increases in all of our regions. Our Phoenix, Florida and Carolina markets contributed the most to higher closing volumes in our Southwest, Southeast and East regions, respectively. The average selling price of homes closed during fiscal 2017 was $298,400, up 2% from the prior year.
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Homebuilding Operating Margin Analysis
Percentages of Related Revenues | |||||||||
Fiscal Year Ended September 30, | |||||||||
2018 | 2017 | 2016 | |||||||
Gross profit — home sales | 21.3 | % | 20.0 | % | 20.2 | % | |||
Gross profit — land/lot sales and other | 18.6 | % | 15.3 | % | 13.3 | % | |||
Inventory and land option charges | (0.3 | )% | (0.3 | )% | (0.3 | )% | |||
Gross profit — total homebuilding | 21.0 | % | 19.6 | % | 19.9 | % | |||
Selling, general and administrative expense | 8.6 | % | 8.9 | % | 9.3 | % | |||
Goodwill impairment | — | % | — | % | 0.1 | % | |||
Gain on sale of assets | (0.1 | )% | — | % | — | % | |||
Other (income) expense | — | % | (0.1 | )% | (0.1 | )% | |||
Homebuilding pre-tax income | 12.5 | % | 10.8 | % | 10.7 | % | |||
Home Sales Gross Profit
2018 versus 2017
Gross profit from home sales increased 21% to $3.3 billion in 2018 from $2.7 billion in 2017 and increased 130 basis points to 21.3% as a percentage of home sales revenues. The percentage increase resulted from improvements of 60 basis points due to the average selling price of our homes closed increasing by more than the average cost, 40 basis points from a decrease in warranty and construction defect expenses and 30 basis points from a decrease in the amortization of capitalized interest.
We remain focused on managing the pricing, incentives and sales pace in each of our communities to optimize the returns on our inventory investments and adjust to local market conditions and new home demand. These actions could cause our gross profit margins to fluctuate in future periods.
2017 versus 2016
Gross profit from home sales increased 15% to $2.7 billion in 2017 from $2.4 billion in 2016 and decreased 20 basis points to 20.0% as a percentage of home sales revenues. The percentage decrease resulted from a decrease of 50 basis points due to an increase in warranty and construction defect expenses, partially offset by an improvement of 30 basis points due to a decrease in the amortization of capitalized interest.
Land Sales and Other Revenues
Land sales and other revenues from our homebuilding operations were $121.8 million, $88.3 million and $78.7 million in fiscal 2018, 2017 and 2016, respectively. Land sales and other revenues during fiscal 2018 included $39.5 million from the sale of a parcel of land in Phoenix. We continually evaluate our land and lot supply, and fluctuations in revenues and profitability from land sales occur based on how we manage our inventory levels in various markets. We generally purchase land and lots with the intent to build and sell homes on them. However, some of the land that we purchase includes commercially zoned parcels that we may sell to commercial developers. We may also sell residential lots or land parcels to manage our supply or for other strategic reasons. As of September 30, 2018, our homebuilding operations had $40.2 million of land held for sale that we expect to sell in the next twelve months.
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Inventory and Land Option Charges
At the end of each quarter during fiscal 2018, we reviewed the performance and outlook for all of our communities and land inventories for indicators of potential impairment and performed detailed impairment evaluations and analyses when necessary. As of September 30, 2018, we performed detailed impairment evaluations of communities and land inventories with a combined carrying value of $60.5 million and recorded impairment charges of $2.6 million during the fourth quarter to reduce the carrying value of impaired communities and land to fair value. Total homebuildingu impairment charges during fiscal 2018, 2017 and 2016 were $10.9 million, $23.2 million and $20.3 million, respectively.
As we manage our inventory investments across our operating markets to optimize returns and cash flows, we may modify our pricing and incentives, construction and development plans or land sale strategies in individual active communities and land held for development, which could result in the affected communities being evaluated for potential impairment. Also, if housing or economic conditions weaken in specific markets in which we operate, or if conditions weaken in the broader economy or homebuilding industry, we may be required to evaluate additional communities for potential impairment. These evaluations could result in additional impairment charges.
During fiscal 2018, 2017 and 2016, earnest money and pre-acquisition cost write-offs related to land option contracts that we have terminated or expect to terminate were $13.4 million, $17.0 million and $11.1 million, respectively. Total homebuilding inventory and land option charges of $48.8 million for fiscal 2018 also include a charge of $24.5 million in the second quarter related to the settlement of an outstanding dispute associated with a land transaction.
Selling, General and Administrative (SG&A) Expense
SG&A expense from homebuilding activities was $1.3 billion, $1.2 billion and $1.1 billion in fiscal 2018, 2017 and 2016, respectively, an increase of 10% in 2018 and 11% in 2017 from the respective prior years. As a percentage of homebuilding revenues, SG&A expense decreased 30 basis points to 8.6% in 2018 and decreased 40 basis points to 8.9% in 2017 from the respective prior years.
Employee compensation and related costs were $964.2 million, $860.2 million and $748.7 million in fiscal 2018, 2017 and 2016, respectively, representing 72%, 70% and 68% of SG&A costs in those years. These costs increased 12% in 2018 and 15% in 2017 due to increases in the number of employees and the amount of incentive compensation as compared to the respective prior years. Our homebuilding operations employed 6,419, 5,876 and 5,356 employees at September 30, 2018, 2017 and 2016, respectively.
We attempt to control our SG&A costs while ensuring that our infrastructure adequately supports our operations; however, we cannot make assurances that we will be able to maintain or improve upon the current SG&A expense as a percentage of revenues.
Interest Incurred
We capitalize interest costs incurred to inventory during active development and construction (active inventory). Capitalized interest is charged to cost of sales as the related inventory is delivered to the buyer. Interest incurred by our homebuilding operations decreased 9% to $109.9 million in fiscal 2018 and decreased 16% to $120.8 million in fiscal 2017 compared to the respective prior years. These decreases were due to decreases in our average homebuilding debt of 4% and 12% in fiscal 2018 and 2017, respectively, and lower average interest rates on our outstanding homebuilding debt during the periods. Interest charged to cost of sales was 1.1%, 1.4% and 1.8% of total cost of sales (excluding inventory and land option charges) in fiscal 2018, 2017 and 2016, respectively.
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Other Income
Other income, net of other expenses, included in our homebuilding operations was $7.2 million, $11.0 million and $8.2 million in fiscal 2018, 2017 and 2016, respectively. Other income consists of interest income, rental income and various other types of ancillary income, gains, expenses and losses not directly associated with sales of homes, land and lots. The activities that result in this ancillary income or expense are not significant, either individually or in the aggregate.
Goodwill Impairment
We perform our annual goodwill impairment evaluation in the fourth quarter of each fiscal year. As a result of the 2018 and 2017 evaluations, no impairment charges were recorded. As a result of the 2016 evaluation, a $7.2 million impairment charge was recorded to reduce the goodwill in the Huntsville operating segment in our Southeast reporting region. This operating segment had experienced lower levels of profitability than anticipated primarily due to difficult market conditions.
Business Acquisitions
On October 5, 2017, we acquired 75% of the outstanding shares of Forestar for $558.3 million in cash, pursuant to the terms of the June 2017 merger agreement. Forestar is a publicly traded residential lot development company listed on the New York Stock Exchange under the ticker symbol “FOR,” with operations in 24 markets and 14 states as of September 30, 2018. The transaction costs incurred by us related to this acquisition totaled $7.2 million, of which $5.3 million was incurred during fiscal 2018 and expensed to homebuilding selling, general and administrative expense.
Our alignment with Forestar advances our strategy of increasing our access to optioned land and lot positions to enhance operational efficiency and returns. At September 30, 2018, Forestar owned approximately 18,200 lots and controlled an additional 1,900 lots through option contracts. Of Forestar’s total 20,100 lots owned and controlled, 13,600 lots were under contract or subject to a right of first offer with our homebuilding segment. Both our homebuilding divisions and Forestar are identifying land development opportunities to expand Forestar’s platform, and our homebuilding operations are acquiring finished lots from Forestar in accordance with the master supply agreement between the two companies. As the controlling shareholder of Forestar, we strongly influence the strategic direction, growth plans and operational execution necessary to increase the future value potential of Forestar.
In September 2016, we acquired the homebuilding operations of Wilson Parker Homes for $91.9 million. Wilson Parker Homes operated in Atlanta and Augusta, Georgia; Raleigh, North Carolina; Columbia, South Carolina and Phoenix, Arizona. The assets acquired included approximately 380 homes in inventory, 490 lots and control of approximately 1,850 additional lots through option contracts. We also acquired a sales order backlog of 308 homes valued at $74.1 million.
In June 2018, we acquired the assets of Permian Homes, which included a $44.2 million sales order backlog of 159 homes. Permian Homes operates in Midland and Odessa, Texas. This asset purchase was not material to our results of operations or our financial condition.
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Homebuilding Results by Reporting Region
Fiscal Year Ended September 30, | |||||||||||||||||||||||||||||||||
Homebuilding Revenues | Homebuilding Pre-tax Income (1) | Pre-tax Income as a Percentage of Homebuilding Revenues | |||||||||||||||||||||||||||||||
2018 | 2017 | 2016 | 2018 | 2017 | 2016 | 2018 | 2017 | 2016 | |||||||||||||||||||||||||
East | $ | 1,893.4 | $ | 1,640.1 | $ | 1,446.5 | $ | 217.3 | $ | 153.9 | $ | 138.7 | 11.5 | % | 9.4 | % | 9.6 | % | |||||||||||||||
Midwest | 858.9 | 736.5 | 651.7 | 77.5 | 49.1 | 44.3 | 9.0 | % | 6.7 | % | 6.8 | % | |||||||||||||||||||||
Southeast | 4,578.6 | 4,087.6 | 3,463.5 | 536.0 | 450.3 | 388.4 | 11.7 | % | 11.0 | % | 11.2 | % | |||||||||||||||||||||
South Central | 3,769.9 | 3,383.1 | 2,995.1 | 506.1 | 439.1 | 374.8 | 13.4 | % | 13.0 | % | 12.5 | % | |||||||||||||||||||||
Southwest | 768.7 | 597.5 | 388.1 | 97.4 | 39.6 | 7.3 | 12.7 | % | 6.6 | % | 1.9 | % | |||||||||||||||||||||
West | 3,754.3 | 3,296.7 | 2,916.9 | 522.9 | 357.3 | 310.9 | 13.9 | % | 10.8 | % | 10.7 | % | |||||||||||||||||||||
$ | 15,623.8 | $ | 13,741.5 | $ | 11,861.8 | $ | 1,957.2 | $ | 1,489.3 | $ | 1,264.4 | 12.5 | % | 10.8 | % | 10.7 | % | ||||||||||||||||
_____________
(1) | Expenses maintained at the corporate level consist primarily of interest and property taxes, which are capitalized and amortized to cost of sales or expensed directly, and the expenses related to operating our corporate office. The amortization of capitalized interest and property taxes is allocated to each segment based on the segment’s cost of sales, while expenses associated with the corporate office are allocated to each segment based on the segment’s inventory balances. |
2018 versus 2017
East Region — Homebuilding revenues increased 15% in fiscal 2018 compared to fiscal 2017, primarily due to an increase in the number of homes closed in our Carolina markets. The region generated pre-tax income of $217.3 million in 2018, compared to $153.9 million in 2017. Gross profit from home sales as a percentage of home sales revenue (home sales gross profit percentage) increased by 130 basis points in 2018 compared to 2017, due to a decrease in the average cost of homes closed. Pre-tax income was reduced by inventory and land option charges of $2.3 million and $13.6 million in 2018 and 2017, respectively, primarily in our North Carolina markets in 2018 and in our suburban Washington, D.C. market in 2017. As a percentage of homebuilding revenues, SG&A expenses decreased by 10 basis points in 2018 compared to 2017.
Midwest Region — Homebuilding revenues increased 17% in fiscal 2018 compared to fiscal 2017, primarily due to increases in the number of homes closed and the average selling price in our Denver market as well as an increase in the number of homes closed in our Minneapolis/St. Paul market. The region generated pre-tax income of $77.5 million in 2018, compared to $49.1 million in 2017. Home sales gross profit percentage increased by 250 basis points in 2018 compared to 2017, largely due to lower warranty and construction defect costs. Pre-tax income was reduced by inventory and land option charges of $5.1 million and $1.8 million in 2018 and 2017, respectively, primarily in our Minnesota market in 2018 and in our Denver market in 2017. As a percentage of homebuilding revenues, SG&A expenses decreased by 30 basis points in 2018 compared to 2017, primarily due to the increase in homebuilding revenues.
Southeast Region — Homebuilding revenues increased 12% in fiscal 2018 compared to fiscal 2017, primarily due to an increase in the number of homes closed in our Florida markets. The region generated pre-tax income of $536.0 million in 2018, compared to $450.3 million in 2017. The region’s fiscal 2018 results include a $24.5 million inventory and land option charge related to the settlement of an outstanding dispute associated with a land transaction and a $13.4 million gain on the sale of multi-family rental units in one community. Home sales gross profit percentage increased by 50 basis points in 2018 compared to 2017, due to the average selling price of homes closed increasing by more than the average cost. As a percentage of homebuilding revenues, SG&A expenses decreased by 30 basis points in 2018 compared to 2017, primarily due to the increase in homebuilding revenues.
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South Central Region — Homebuilding revenues increased 11% in fiscal 2018 compared to fiscal 2017, primarily due to an increase in the number of homes closed in our Dallas, Fort Worth and Louisiana markets. The region generated pre-tax income of $506.1 million in 2018, compared to $439.1 million in 2017. Home sales gross profit percentage increased by 40 basis points in 2018 compared to 2017, due to the average cost of homes closed decreasing by more than the average selling price. As a percentage of homebuilding revenues, SG&A expenses decreased by 10 basis points in 2018 compared to 2017.
Southwest Region — Homebuilding revenues increased 29% in fiscal 2018 compared to fiscal 2017, primarily due to an increase in the number of homes closed in our Phoenix market. The region generated pre-tax income of $97.4 million in 2018, compared to $39.6 million in 2017. Home sales gross profit percentage increased by 430 basis points in 2018 compared to 2017, primarily due to an increase in the average selling price of homes closed and a decrease in the average cost of those homes, as well as a $15.8 million decrease in warranty and construction defect costs related to a community in our Albuquerque market. The region’s fiscal 2018 results include $13.1 million of profit generated from a land sale in our Phoenix market. As a percentage of homebuilding revenues, SG&A expenses decreased by 60 basis points in 2018 compared to 2017, primarily due to the increase in homebuilding revenues.
West Region — Homebuilding revenues increased 14% in fiscal 2018 compared to fiscal 2017, primarily due to an increase in the number of homes closed in our Northern California, Salt Lake City, Seattle and Hawaii markets. The region generated pre-tax income of $522.9 million in 2018, compared to $357.3 million in 2017. Home sales gross profit percentage increased by 280 basis points in 2018 compared to 2017, primarily due to the average cost of homes closed decreasing by more than the average selling price. As a percentage of homebuilding revenues, SG&A expenses decreased by 40 basis points in 2018 compared to 2017, primarily due to the increase in homebuilding revenues.
2017 versus 2016
East Region — Homebuilding revenues increased 13% in fiscal 2017 compared to fiscal 2016, primarily due to an increase in the number of homes closed in our North and South Carolina markets. The region generated pre-tax income of $153.9 million in 2017, compared to $138.7 million in 2016. Pre-tax income was reduced by inventory impairment charges of $10.5 million and $12.3 million in 2017 and 2016, respectively, primarily in our suburban Washington, D.C. markets during 2017 and in our New Jersey market during 2016. Gross profit from home sales as a percentage of home sales revenue (home sales gross profit percentage) decreased by 30 basis points in 2017 compared to 2016. As a percentage of homebuilding revenues, SG&A expenses increased by 20 basis points in 2017 compared to 2016.
Midwest Region — Homebuilding revenues increased 13% in fiscal 2017 compared to fiscal 2016, primarily due to an increase in the number of homes closed in our Minneapolis and Denver markets. The region generated pre-tax income of $49.1 million in 2017, compared to $44.3 million in 2016. Home sales gross profit percentage decreased by 80 basis points in 2017 compared to 2016, largely due to higher warranty and construction defect costs in our Denver market. As a percentage of homebuilding revenues, SG&A expenses decreased by 70 basis points in 2017 compared to 2016.
Southeast Region — Homebuilding revenues increased 18% in fiscal 2017 compared to fiscal 2016, primarily due to an increase in the number of homes closed in our Florida markets. The region generated pre-tax income of $450.3 million in 2017, compared to $388.4 million in 2016. Home sales gross profit percentage decreased by 60 basis points in 2017 compared to 2016, due to the average cost of homes closed increasing by more than the average selling price. As a percentage of homebuilding revenues, SG&A expenses decreased by 30 basis points in 2017 compared to 2016.
39
South Central Region — Homebuilding revenues increased 13% in fiscal 2017 compared to fiscal 2016, primarily due to an increase in the number of homes closed in our Dallas market. The region generated pre-tax income of $439.1 million in 2017, compared to $374.8 million in 2016. Home sales gross profit percentage decreased by 20 basis points in 2017 compared to 2016. As a percentage of homebuilding revenues, SG&A expenses decreased by 70 basis points in 2017 compared to 2016.
Southwest Region — Homebuilding revenues increased 54% in fiscal 2017 compared to fiscal 2016, primarily due to an increase in the number of homes closed in our Phoenix market, as well as an increase in the average selling price of those homes. The region generated pre-tax income of $39.6 million in 2017, compared to $7.3 million in 2016. Pre-tax income in 2016 was reduced by inventory impairment charges of $6.0 million in our Phoenix market. Home sales gross profit percentage increased by 210 basis points in 2017 compared to 2016, primarily due to the average selling price of homes closed increasing while the average cost decreased. The increase was also due to lower fiscal 2017 warranty and construction defect costs in our Phoenix market. As a percentage of homebuilding revenues, SG&A expenses decreased by 170 basis points in 2017 compared to 2016, primarily due to the significant increase in homebuilding revenues.
West Region — Homebuilding revenues increased 13% in fiscal 2017 compared to fiscal 2016, primarily due to an increase in the number of homes closed in our Las Vegas and northern California markets, as well as increases in the average selling price of homes closed in our Seattle, Portland and Sacramento markets. The region generated pre-tax income of $357.3 million in 2017, compared to $310.9 million in 2016. Home sales gross profit percentage increased by 20 basis points in 2017 compared to 2016. As a percentage of homebuilding revenues, SG&A expenses decreased by 20 basis points in 2017 compared to 2016.
40
Homebuilding Inventories, Land and Lot Position and Homes in Inventory
We routinely enter into land/lot option contracts to purchase land or developed residential lots at predetermined prices on a defined schedule commensurate with planned development or anticipated new home demand. We also purchase undeveloped land that generally is vested with the rights to begin development or construction work, and we plan and coordinate the development of our land into residential lots for use in our homebuilding business. We manage our inventory of owned land and lots and homes under construction relative to demand in each of our markets, including starting construction on unsold homes to capture new home demand and actively controlling the number of unsold, completed homes in inventory.
Our homebuilding segment’s inventories at September 30, 2018 and 2017 are summarized as follows:
September 30, 2018 | |||||||||||||||||||
Construction in Progress and Finished Homes | Residential Land/Lots Developed and Under Development | Land Held for Development | Land Held for Sale | Total Inventory | |||||||||||||||
(In millions) | |||||||||||||||||||
East | $ | 648.6 | $ | 529.5 | $ | 10.1 | $ | 3.8 | $ | 1,192.0 | |||||||||
Midwest | 369.9 | 208.0 | 1.8 | 3.4 | 583.1 | ||||||||||||||
Southeast | 1,388.4 | 1,248.5 | 31.5 | 0.3 | 2,668.7 | ||||||||||||||
South Central | 1,222.5 | 1,216.3 | 0.3 | 0.3 | 2,439.4 | ||||||||||||||
Southwest | 194.8 | 303.2 | 1.7 | — | 499.7 | ||||||||||||||
West | 1,146.5 | 1,076.1 | 14.4 | 31.5 | 2,268.5 | ||||||||||||||
Corporate and unallocated (1) | 113.7 | 107.7 | 1.4 | 0.9 | 223.7 | ||||||||||||||
$ | 5,084.4 | $ | 4,689.3 | $ | 61.2 | $ | 40.2 | $ | 9,875.1 | ||||||||||
September 30, 2017 | |||||||||||||||||||
Construction in Progress and Finished Homes | Residential Land/Lots Developed and Under Development | Land Held for Development | Land Held for Sale | Total Inventory | |||||||||||||||
(In millions) | |||||||||||||||||||
East | $ | 569.3 | $ | 478.1 | $ | 21.0 | $ | 0.5 | $ | 1,068.9 | |||||||||
Midwest | 335.8 | 155.0 | 1.8 | — | 492.6 | ||||||||||||||
Southeast | 1,265.6 | 1,085.0 | 35.9 | 5.8 | 2,392.3 | ||||||||||||||
South Central | 1,050.8 | 1,132.6 | 14.1 | 1.9 | 2,199.4 | ||||||||||||||
Southwest | 203.9 | 299.5 | 2.7 | — | 506.1 | ||||||||||||||
West | 1,070.0 | 1,257.3 | 23.2 | 2.0 | 2,352.5 | ||||||||||||||
Corporate and unallocated (1) | 110.6 | 112.2 | 2.3 | 0.2 | 225.3 | ||||||||||||||
$ | 4,606.0 | $ | 4,519.7 | $ | 101.0 | $ | 10.4 | $ | 9,237.1 | ||||||||||
_____________
(1) | Corporate and unallocated inventory consists primarily of capitalized interest and property taxes. |
41
Our homebuilding segment’s land and lot position and homes in inventory at September 30, 2018 and 2017 are summarized as follows:
September 30, 2018 | ||||||||||
Land/Lots Owned (1) | Lots Controlled Under Land and Lot Option Purchase Contracts (2)(3) | Total Land/Lots Owned and Controlled | Homes in Inventory (4) | |||||||
East | 11,900 | 19,400 | 31,300 | 4,000 | ||||||
Midwest | 3,800 | 9,300 | 13,100 | 1,800 | ||||||
Southeast | 37,100 | 70,400 | 107,500 | 9,500 | ||||||
South Central | 42,900 | 45,700 | 88,600 | 8,800 | ||||||
Southwest | 7,600 | 5,000 | 12,600 | 1,500 | ||||||
West | 21,000 | 14,400 | 35,400 | 4,100 | ||||||
124,300 | 164,200 | 288,500 | 29,700 | |||||||
43 | % | 57 | % | 100 | % | |||||
September 30, 2017 | ||||||||||
Land/Lots Owned (1) | Lots Controlled Under Land and Lot Option Purchase Contracts (2)(3) | Total Land/Lots Owned and Controlled | Homes in Inventory (4) | |||||||
East | 13,200 | 17,800 | 31,000 | 3,500 | ||||||
Midwest | 2,600 | 4,400 | 7,000 | 1,500 | ||||||
Southeast | 35,800 | 47,500 | 83,300 | 8,500 | ||||||
South Central | 42,800 | 38,700 | 81,500 | 7,300 | ||||||
Southwest | 8,700 | 2,400 | 11,100 | 1,700 | ||||||
West | 21,900 | 13,200 | 35,100 | 3,700 | ||||||
125,000 | 124,000 | 249,000 | 26,200 | |||||||
50 | % | 50 | % | 100 | % | |||||
_____________
(1) | Land/lots owned include approximately 35,100 and 33,200 owned lots that are fully developed and ready for home construction at September 30, 2018 and 2017, respectively. Land/lots owned also include land held for development representing 1,700 and 4,800 lots at September 30, 2018 and 2017, respectively. |
(2) | The total remaining purchase price of lots controlled through land and lot option purchase contracts at September 30, 2018 and 2017 was $6.5 billion and $4.6 billion, respectively, secured by earnest money deposits of $401.1 million and $227.6 million, respectively. The total remaining purchase price of lots controlled at September 30, 2018 included $522.2 million related to lot option contracts with Forestar, secured by $48.0 million of earnest money. |
(3) | Lots controlled at September 30, 2018 include approximately 13,600 lots owned or controlled by Forestar, 5,500 of which our homebuilding divisions have under contract to purchase and 8,100 of which our homebuilding divisions have a right of first offer to purchase. Of these, approximately 5,100 lots were in our Southeast region, 3,700 lots were in our South Central region, 2,600 lots were in our West region, 1,400 lots were in our East region, 400 lots were in our Midwest region and 400 lots were in our Southwest region. |
(4) | Homes in inventory include approximately 1,800 and 1,600 model homes at September 30, 2018 and 2017, respectively. Approximately 16,400 and 13,800 of our homes in inventory were unsold at September 30, 2018 and 2017, respectively. At September 30, 2018, approximately 4,000 of our unsold homes were completed, of which approximately 400 homes had been completed for more than six months. At September 30, 2017, approximately 4,100 of our unsold homes were completed, of which approximately 500 homes had been completed for more than six months. |
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Results of Operations — Forestar
On October 5, 2017, we acquired 75% of the outstanding shares of Forestar. Forestar’s segment results are presented on their historical cost basis, consistent with the manner in which management evaluates segment performance. (See Note B for additional Forestar segment information and purchase accounting adjustments.)
Results of operations for the Forestar segment from the date of acquisition through September 30, 2018 (referred to as fiscal 2018 in the discussion below) were as follows:
For the Period from October 5, 2017 to September 30, 2018 | ||||
(In millions) | ||||
Residential land and lot sales | $ | 100.1 | ||
Commercial lot sales | 9.1 | |||
Total revenues | $ | 109.2 | ||
Cost of sales | 69.0 | |||
Selling, general and administrative expense | 32.8 | |||
Equity in earnings of unconsolidated entities | (12.4 | ) | ||
Gain on sale of assets | (27.7 | ) | ||
Interest expense | 5.8 | |||
Other (income) expense | (7.0 | ) | ||
Income before income taxes | $ | 48.7 | ||
Residential land and lot sales primarily consist of the sale of single-family lots to local, regional and national homebuilders. During fiscal 2018, Forestar sold 1,279 single-family lots from its owned projects and consolidated ventures at an average sales price of $77,800. During fiscal 2018, Forestar sold 642 lots to D.R. Horton for $37.1 million and sold 79 residential tract acres to D.R. Horton for $2.0 million.
Selling, general and administrative (SG&A) expense for fiscal 2018 includes $6.3 million of severance and change of control charges for Forestar’s executive officers that were triggered shortly after the acquisition date. The severance and change of control amount of $2.6 million was payable to Forestar’s former Chief Executive Officer upon his resignation from Forestar on December 28, 2017. The remaining severance and change of control amounts are payable upon termination or resignation of each of the executives. SG&A expense also includes charges of $0.9 million related to the shared services agreement between Forestar and D.R. Horton whereby D.R. Horton provides Forestar with certain administrative, compliance, operational and procurement services.
Equity in earnings of unconsolidated entities for fiscal 2018 primarily relates to the sale of a multi-family joint venture project in Nashville, Tennessee.
On February 8, 2018, Forestar sold a portion of its assets for $232 million. This strategic asset sale included projects owned both directly and indirectly through ventures and consisted of approximately 750 developed and under development lots, over 4,000 future undeveloped lots, 730 unentitled acres, an interest in one multi-family operating property and a multi-family development site. The total net proceeds after certain purchase price adjustments, closing costs and other costs associated with selling these projects was $217.5 million, and a gain on the sale of these assets of $0.7 million is included in our consolidated statement of operations for fiscal 2018.
Gain on sale of assets during fiscal 2018 also included gains of $14.6 million related to the sale of Forestar’s interest in a multi-family venture and $9.1 million related to the sale of water rights in East Texas.
At September 30, 2018, Forestar owned directly or controlled through land and lot option purchase contracts approximately 20,100 residential lots, of which approximately 1,600 are fully developed. Approximately 13,600 of these lots are under contract to sell to D.R. Horton or subject to a right of first offer under the master supply agreement with D.R. Horton. Approximately 300 of these lots are under contract to sell to other builders.
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Results of Operations — Financial Services
The following tables and related discussion set forth key operating and financial data for our financial services operations, comprising DHI Mortgage and our subsidiary title companies, for the fiscal years ended September 30, 2018, 2017 and 2016.
Fiscal Year Ended September 30, | 2018 vs 2017 | 2017 vs 2016 | |||||||||||||
2018 | 2017 | 2016 | |||||||||||||
Number of first-lien loans originated or brokered by DHI Mortgage for D.R. Horton homebuyers | 29,133 | 25,488 | 21,970 | 14 | % | 16 | % | ||||||||
Number of homes closed by D.R. Horton | 51,857 | 45,751 | 40,309 | 13 | % | 14 | % | ||||||||
Percentage of D.R. Horton homes financed by DHI Mortgage | 56 | % | 56 | % | 55 | % | |||||||||
Number of total loans originated or brokered by DHI Mortgage for D.R. Horton homebuyers | 29,234 | 25,677 | 22,127 | 14 | % | 16 | % | ||||||||
Total number of loans originated or brokered by DHI Mortgage | 30,107 | 27,002 | 23,920 | 11 | % | 13 | % | ||||||||
Captive business percentage | 97 | % | 95 | % | 93 | % | |||||||||
Loans sold by DHI Mortgage to third parties | 29,120 | 27,251 | 23,926 | 7 | % | 14 | % | ||||||||
Fiscal Year Ended September 30, | 2018 vs 2017 | 2017 vs 2016 | ||||||||||||||||
2018 | 2017 | 2016 | ||||||||||||||||
(In millions) | ||||||||||||||||||
Loan origination fees | $ | 15.0 | $ | 17.7 | $ | 20.1 | (15 | )% | (12 | )% | ||||||||
Sale of servicing rights and gains from sale of mortgage loans | 265.1 | 251.1 | 207.5 | 6 | % | 21 | % | |||||||||||
Other revenues | 18.7 | 16.5 | 14.6 | 13 | % | 13 | % | |||||||||||
Total mortgage operations revenues | 298.8 | 285.3 | 242.2 | 5 | % | 18 | % | |||||||||||
Title policy premiums | 76.5 | 64.2 | 53.4 | 19 | % | 20 | % | |||||||||||
Total revenues | 375.3 | 349.5 | 295.6 | 7 | % | 18 | % | |||||||||||
General and administrative expense (1) | 272.6 | 239.3 | 211.2 | 14 | % | 13 | % | |||||||||||
Other (income) expense (1) | (15.1 | ) | (14.3 | ) | (13.7 | ) | 6 | % | 4 | % | ||||||||
Financial services pre-tax income | $ | 117.8 | $ | 124.5 | $ | 98.1 | (5 | )% | 27 | % | ||||||||
Financial Services Operating Margin Analysis
Percentages of Financial Services Revenues | |||||||||
Fiscal Year Ended September 30, | |||||||||
2018 | 2017 | 2016 | |||||||
General and administrative expense (1) | 72.6 | % | 68.5 | % | 71.4 | % | |||
Other (income) expense (1) | (4.0 | )% | (4.1 | )% | (4.6 | )% | |||
Financial services pre-tax income | 31.4 | % | 35.6 | % | 33.2 | % | |||
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(1) | General and administrative expense of $11.9 million and $8.8 million, other income of $0.2 million and other expense of $0.2 million related to our other business activities were excluded from the fiscal 2017 and 2016 amounts, respectively, to conform to the current year presentation. |
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Mortgage Loan Activity
The volume of loans originated by our mortgage operations is directly related to the number of homes closed by our homebuilding operations. In fiscal 2018 and 2017, the volume of first-lien loans originated or brokered by DHI Mortgage for our homebuyers increased 14% and 16% from the respective prior years, primarily as a result of increases in the number of homes closed by our homebuilding operations of 13% and 14%, respectively. The percentage of homes closed for which DHI Mortgage handled the homebuyers’ financing was 56% in fiscal 2018 and 2017 and 55% in fiscal 2016.
Homes closed by our homebuilding operations constituted 97%, 95% and 93% of DHI Mortgage loan originations in fiscal 2018, 2017 and 2016, respectively. These percentages reflect DHI Mortgage’s consistent focus on the captive business provided by our homebuilding operations.
The number of loans sold increased 7% in fiscal 2018 and 14% in fiscal 2017 compared to the respective prior years. Virtually all of the mortgage loans held for sale on September 30, 2018 were eligible for sale to Fannie Mae, Freddie Mac or Ginnie Mae. Approximately 92% of the mortgage loans sold by DHI Mortgage during fiscal 2018 were sold to four major financial entities, the largest percentage of which purchased 36% of the total loans sold.
Financial Services Revenues and Expenses
Revenues from our financial services operations increased 7% to $375.3 million in fiscal 2018 from $349.5 million in fiscal 2017, while the number of loan originations increased 11% over that same period. Revenues from our financial services operations increased 18% to $349.5 million in fiscal 2017 from $295.6 million in fiscal 2016, while the number of loan originations increased 13%. In fiscal 2018, revenues increased at a lower rate than origination volume primarily due to lower pricing and resulting net gains on loan origination sales due to competitive pressures in the mortgage market. In fiscal 2017, revenues increased at a higher rate than origination volume primarily due to improved loan sale execution in the secondary market and increased revenue from title operations.
Our mortgage operations revenues were reduced by $1.3 million, $2.9 million and $8.5 million in fiscal 2018, 2017 and 2016, respectively, to increase our loss reserves for estimated future recourse obligations and other mortgage loans, and to adjust certain mortgage loans held for sale to fair value. Our loss reserves for loan recourse obligations are estimated based upon analysis of the volume of mortgages originated, loan repurchase requests received, actual repurchases and losses through the disposition of such loans or requests and discussions with our mortgage purchasers. Actual losses on mortgage loans may differ from our estimates, which may result in future changes to our loss reserves.
General and administrative (G&A) expense related to financial services operations was $272.6 million, $239.3 million and $211.2 million in fiscal 2018, 2017 and 2016, respectively, increasing 14% in 2018 and 13% in 2017 from the respective prior years. These increases were primarily due to increases in employee related costs due to increased volume. Our financial services operations employed 1,919, 1,798 and 1,575 employees at September 30, 2018, 2017 and 2016, respectively.
As a percentage of financial services revenues, G&A expense was 72.6%, 68.5% and 71.4% in fiscal 2018, 2017 and 2016, respectively. The increase in the current year was primarily due to lower pricing and resulting net gains on loan origination sales resulting in reduced revenue relative to origination volume. Fluctuations in financial services G&A expense as a percentage of revenues can be expected to occur, as some components of revenue may fluctuate differently than loan volumes, and some expenses are not directly related to mortgage loan volume or to changes in the amount of revenue earned.
Other income, net of other expense, included in our financial services operations consists primarily of the interest income of our mortgage subsidiary.
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Results of Operations — Consolidated
Income before Income Taxes
Pre-tax income was $2.1 billion, $1.6 billion and $1.4 billion in fiscal 2018, 2017 and 2016, respectively. The increase in our pre-tax income over the three-year period is primarily due to higher revenues from increased home closings and an increase in home sales gross profit.
Income Taxes
Our income tax expense was $597.7 million, $563.7 million and $467.2 million in fiscal 2018, 2017 and 2016, respectively, and our effective tax rate was 29.0%, 35.2% and 34.5% in those years. The effective tax rate for fiscal 2018 reflects the impact of the Tax Cuts and Jobs Act (Tax Act), which was enacted into law on December 22, 2017, an excess tax benefit related to stock-based compensation, the release of a valuation allowance against deferred tax assets related to Forestar, and the enactment of the Bipartisan Budget Act of 2018, which retroactively extended the expiration date of the federal energy efficient home credit from December 31, 2016 until December 31, 2017. The effective tax rates for all years include an expense for state income taxes, reduced by tax benefits for the domestic production activities deduction.
The Tax Act reduced the corporate tax rate from 35% to 21% for all corporations effective January 1, 2018. For fiscal year companies, the change in law requires the application of a blended tax rate in the year of change, which for us was 24.5% for the fiscal year ended September 30, 2018. Thereafter, the applicable statutory tax rate is 21%. ASC 740 requires all companies to reflect the effects of the new law in the period in which the law was enacted. Accordingly, we reduced the statutory tax rate that applied to our year-to-date earnings from 35% to 24.5%. In addition, we remeasured our deferred tax assets and liabilities for the tax law change, which resulted in additional income tax expense of $108.7 million recognized during the three months ended December 31, 2017. No other tax law changes as a result of the Tax Act had a significant impact on our financial statements. Our deferred tax assets, net of deferred tax liabilities, were $211.7 million at September 30, 2018 compared to $376.2 million at September 30, 2017.
On October 5, 2017, we acquired 75% of the outstanding shares of Forestar. We recorded goodwill of $29.2 million, which is not deductible for income tax purposes. At the acquisition date, we recorded a valuation allowance of $20.1 million against Forestar’s $20.4 million of deferred tax assets due to Forestar’s cumulative losses in recent years. During the fourth quarter of fiscal 2018, Forestar emerged from the cumulative loss position. We evaluated all positive and negative evidence and determined the emergence from the cumulative loss position and other positive evidence outweighed the negative evidence, and reduced the valuation allowance which resulted in a corresponding reduction in income tax expense. As of September 30, 2018, we have retained a valuation allowance of $3.5 million related to Forestar’s state deferred tax assets for net operating loss (NOL) carryforwards that are more likely than not to expire before being realized.
In addition to the $3.5 million valuation allowance related to Forestar’s state deferred tax assets, we have a valuation allowance of $14.2 million related to D.R. Horton’s state deferred tax assets for net operating loss (NOL) carryforwards because it is more likely than not that a portion of the state NOL carryforwards will expire before being realized. In total, our valuation allowance was $17.7 million at September 30, 2018 and $11.2 million at September 30, 2017. We will continue to evaluate both the positive and negative evidence in determining the need for a valuation allowance with respect to our remaining state NOL carryforwards. Any reversal of the valuation allowance in future periods will impact our effective tax rate.
D.R. Horton has $19.3 million of tax benefits for state NOL carryforwards that expire at various times depending on the tax jurisdiction. Of the total amount, $5.4 million of the tax benefits expire over the next ten years and the remaining $13.9 million expires from fiscal years 2029 to 2038.
Forestar has $14.8 million of tax benefits for federal NOL carryforwards, after consideration of intra-entity profit eliminations, which have no expiration date. Additionally, Forestar has $4.0 million of tax benefits for state NOL carryforwards that expire at various times depending on the tax jurisdiction.
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The accounting for deferred taxes is based upon estimates of future results. Differences between the anticipated and actual outcomes of these future results could have a material impact on our consolidated results of operations or financial position. Also, changes in existing federal and state tax laws and tax rates could affect future tax results and the valuation of our deferred tax assets.
D.R. Horton is subject to federal income tax and to income tax in multiple states. The statute of limitations for D.R. Horton’s major tax jurisdictions remains open for examination for fiscal years 2015 through 2018. D.R. Horton is currently being audited by various states; however, to date, we are not aware of any significant findings identified by the taxing authorities.
Forestar is subject to federal income tax and to income tax in multiple states. All federal statutes of limitations for tax years prior to 2016 are effectively closed. The statute of limitations in major state jurisdictions for tax years prior to 2014 is closed. Forestar is currently under audit by the IRS for the 2016 tax year. At this time, Forestar is not aware of any significant findings identified by the IRS. Forestar is not currently being audited by any state jurisdictions.
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Capital Resources and Liquidity
We have historically funded our operations with cash flows from operating activities, borrowings under bank credit facilities and the issuance of new debt securities. Our current levels of cash, borrowing capacity and balance sheet leverage provide us with the operational flexibility to adjust to changes in market conditions and allow us to increase our investments in homes, finished lots, land and land development to expand our operations and grow our profitability.
At September 30, 2018, our ratio of debt to total capital (notes payable divided by stockholders’ equity plus notes payable) was 26.3% compared to 27.0% at September 30, 2017. Our ratio of homebuilding debt to total capital (homebuilding notes payable divided by stockholders’ equity plus homebuilding notes payable) was 21.4% compared to 24.0% at September 30, 2017. Over the long term, we intend to maintain our ratio of homebuilding debt to total capital below 35%, and we expect it to remain significantly lower than 35% throughout fiscal 2019. We believe that the ratio of homebuilding debt to total capital is useful in understanding the leverage employed in our homebuilding operations and comparing our capital structure with other homebuilders. We exclude the debt of Forestar and our financial services business because they are separately capitalized and not guaranteed by our parent company or any of our homebuilding entities.
We regularly assess our projected capital requirements to fund growth in our business, repay debt obligations, and support other general corporate and operational needs, and we regularly evaluate our opportunities to raise additional capital. We have an automatically effective universal shelf registration statement filed with the SEC in August 2018, registering debt and equity securities that we may issue from time to time in amounts to be determined. Also, Forestar has an effective shelf registration statement filed with the SEC in September 2018, registering $500 million of equity securities. As market conditions permit, we may issue new debt or equity securities through the capital markets or obtain additional bank financing to fund our projected capital requirements or provide additional liquidity. We believe that our existing cash resources, revolving credit facilities, mortgage repurchase facility and ability to access the capital markets will provide sufficient liquidity to fund our near-term working capital needs and debt obligations, including the maturity of $500 million principal amount of senior notes in fiscal 2019.
Capital Resources - Homebuilding
Cash and Cash Equivalents — At September 30, 2018, cash and cash equivalents of our homebuilding segment totaled $1.1 billion.
Bank Credit Facility — We have a senior unsecured homebuilding revolving credit facility which was amended in September 2018 to increase its capacity from $1.275 billion to $1.325 billion and to extend its maturity date to September 25, 2023. The facility has an uncommitted accordion feature that could increase the size of the facility to $1.9 billion, subject to certain conditions and availability of additional bank commitments. The facility also provides for the issuance of letters of credit with a sublimit equal to approximately 50% of the revolving credit commitment. Letters of credit issued under the facility reduce the available borrowing capacity. The interest rate on borrowings under the revolving credit facility may be based on either the Prime Rate or London Interbank Offered Rate (LIBOR) plus an applicable margin, as defined in the credit agreement governing the facility. Borrowings and repayments under the facility totaled $1.8 billion each during fiscal 2018. At September 30, 2018, there were no borrowings outstanding and $107.2 million of letters of credit issued under the revolving credit facility, resulting in available capacity of approximately $1.2 billion.
Our homebuilding revolving credit facility imposes restrictions on our operations and activities, including requiring the maintenance of a maximum allowable ratio of debt to tangible net worth and a borrowing base restriction if our ratio of debt to tangible net worth exceeds a certain level. These covenants are measured as defined in the credit agreement governing the facility and are reported to the lenders quarterly. A failure to comply with these financial covenants could allow the lending banks to terminate the availability of funds under the revolving credit facility or cause any outstanding borrowings to become due and payable prior to maturity. The credit agreement governing the facility imposes restrictions on the creation of secured debt and liens. At September 30, 2018, we were in compliance with all of the covenants, limitations and restrictions of our homebuilding revolving credit facility.
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Public Unsecured Debt — We have $2.45 billion principal amount of homebuilding senior notes outstanding as of September 30, 2018 that mature from fiscal 2019 through fiscal 2023. $500 million principal amount of our senior notes mature in March 2019. In December 2017, we issued $400 million principal amount of 2.55% senior notes due December 1, 2020, with interest payable semi-annually. The annual effective interest rate of these notes after giving effect to the amortization of financing costs is 2.8%. In December 2017, we redeemed $400 million principal amount of our 3.625% senior notes due February 2018. The senior notes were redeemed at a price equal to 100% of the principal amount of the notes, together with accrued and unpaid interest. The indenture governing our senior notes imposes restrictions on the creation of secured debt and liens. At September 30, 2018, we were in compliance with all of the limitations and restrictions associated with our public debt obligations.
Repurchases of Common Stock — During fiscal 2018, we repurchased 2.8 million shares of our common stock for $127.5 million.
Debt and Equity Repurchase Authorizations — Effective August 1, 2018, our Board of Directors authorized the repurchase of up to $500 million of debt securities and $400 million of our common stock effective through September 30, 2019. The full amount of the debt authorization was remaining at September 30, 2018. During August 2018, we repurchased 560,000 shares of our common stock for $24.5 million, resulting in a remaining equity authorization of $375.5 million at September 30, 2018.
Capital Resources - Forestar
At September 30, 2018, Forestar had cash and cash equivalents of $318.8 million. In August 2018, Forestar entered into a $380 million senior unsecured bank credit facility. Forestar’s cash position and borrowing capacity under its bank credit facility is expected to be sufficient to fund its growth objectives and working capital needs in the short-term. In September 2018, Forestar filed an effective shelf registration statement with the SEC, registering $500 million of equity securities. The liquidity of Forestar and its ability to achieve longer term growth objectives will depend on its ability to generate cash from operations and to obtain financing in sufficient capacities. As market conditions permit, Forestar may issue new debt or equity securities through the capital markets or obtain additional bank financing to provide capital for future growth and additional liquidity. Forestar plans to access the capital markets in fiscal 2019 to support its long-term growth.
Bank Credit Facility — In August 2018, Forestar entered into a $380 million senior unsecured revolving credit facility with an uncommitted accordion feature that could increase the size of the facility to $570 million, subject to certain conditions and availability of additional bank commitments. The facility also provides for the issuance of letters of credit with a sublimit equal to the greater of $100 million and 50% of the revolving credit commitment. Borrowings under the revolving credit facility are subject to a borrowing base based on Forestar’s book value of its real estate assets and unrestricted cash. The maturity date of the facility is August 16, 2021. The maturity date of the revolving credit facility may be extended by up to one year on up to three occasions, subject to the approval of lenders holding a majority of the commitments. At September 30, 2018, there were no borrowings outstanding and $4.5 million of letters of credit issued under the revolving credit facility, resulting in available capacity of $375.5 million.
The revolving credit facility includes customary affirmative and negative covenants, events of default and financial covenants. The financial covenants require Forestar to maintain a minimum level of tangible net worth, a minimum level of liquidity and a maximum allowable leverage ratio. These covenants are measured as defined in the credit agreement governing the facility and are reported to the lenders quarterly. A failure to comply with these financial covenants could allow the lending banks to terminate the availability of funds under the revolving credit facility or cause any outstanding borrowings to become due and payable prior to maturity. At September 30, 2018, Forestar was in compliance with all of the covenants, limitations and restrictions of its revolving credit facility.
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Letter of Credit Facility — In August 2018, in connection with entering into the revolving credit facility agreement, Forestar amended its letter of credit facility agreement. Under the amendment, outstanding letters of credit issued by one bank were transferred into Forestar’s new revolving credit facility. The amendment reduced the capacity of the letter of credit facility from $30.0 million to $15.4 million and provided for a corresponding release of cash collateral in the amount of $13.8 million. The amendment also extended the maturity date of the facility to October 5, 2019. At September 30, 2018, letters of credit outstanding under the letter of credit facility totaled $15.4 million, secured by $16.2 million in cash, which is included in restricted cash in the consolidated balance sheet.
Public Unsecured Debt — On October 5, 2017, Forestar had $120 million principal amount outstanding of 3.75% convertible senior notes due 2020. The completion of the acquisition resulted in a fundamental change in the notes as described in the related note indentures and therefore, Forestar offered to purchase all or any part of every holder’s convertible senior notes for a price in cash equal to 100% of the aggregate principal amount of the notes, plus accrued and unpaid interest, if any, to the date of repurchase. As a result, Forestar purchased $1.1 million of the aggregate principal amount of the notes. Also, prior to the acquisition, upon conversion of the notes each holder was entitled to receive 40.8351 shares of former Forestar common stock per $1,000 principal amount of notes surrendered for conversion. In connection with the acquisition, the conversion ratio was adjusted in accordance with the indenture governing the convertible notes such that each holder is now entitled to receive $579.77062 in cash and 8.17192 shares of new Forestar common stock per $1,000 principal amount of notes surrendered for conversion.
Forestar’s revolving credit facility and its convertible senior notes are not guaranteed by D.R. Horton, Inc. or any of the subsidiaries that guarantee our homebuilding debt.
Capital Resources - Financial Services
Cash and Cash Equivalents — At September 30, 2018, cash and cash equivalents of our financial services operations totaled $33.7 million.
Mortgage Repurchase Facility — Our mortgage subsidiary, DHI Mortgage, has a mortgage repurchase facility that is accounted for as a secured financing. The mortgage repurchase facility provides financing and liquidity to DHI Mortgage by facilitating purchase transactions in which DHI Mortgage transfers eligible loans to the counterparties against the transfer of funds by the counterparties, thereby becoming purchased loans. DHI Mortgage then has the right and obligation to repurchase the purchased loans upon their sale to third-party purchasers in the secondary market or within specified time frames from 45 to 60 days in accordance with the terms of the mortgage repurchase facility. The total capacity of the facility is $600 million; however, the capacity increases, without requiring additional commitments, to $725 million for approximately 30 days at each quarter end and to $800 million for approximately 45 days at fiscal year end. The capacity of the facility can also be increased to $1.0 billion subject to the availability of additional commitments. The maturity date of the facility is February 22, 2019.
As of September 30, 2018, $758.6 million of mortgage loans held for sale with a collateral value of $735.6 million were pledged under the mortgage repurchase facility. As a result of advance paydowns totaling $97.9 million, DHI Mortgage had an obligation of $637.7 million outstanding under the mortgage repurchase facility at September 30, 2018 at a 4.1% annual interest rate.
The mortgage repurchase facility is not guaranteed by D.R. Horton, Inc. or any of the subsidiaries that guarantee our homebuilding debt. The facility contains financial covenants as to the mortgage subsidiary’s minimum required tangible net worth, its maximum allowable ratio of debt to tangible net worth and its minimum required liquidity. These covenants are measured and reported to the lenders monthly. At September 30, 2018, DHI Mortgage was in compliance with all of the conditions and covenants of the mortgage repurchase facility.
In the past, DHI Mortgage has been able to renew or extend its mortgage credit facility at a sufficient capacity and on satisfactory terms prior to its maturity, and obtain temporary additional commitments through amendments to the credit agreement during periods of higher than normal volumes of mortgages held for sale. The liquidity of our financial services business depends upon its continued ability to renew and extend the mortgage repurchase facility or to obtain other additional financing in sufficient capacities.
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Operating Cash Flow Activities
In fiscal 2018, net cash provided by operating activities was $545.2 million compared to $440.2 million and $623.9 million in fiscal 2017 and 2016, respectively. Cash provided by operating activities in the current year was primarily due to $1.0 billion of cash provided by our homebuilding segment, partially offset by $330.2 million and $116.6 million of cash used in our Forestar and financial services segments, respectively.
We used $482.8 million of cash to increase our construction in progress and finished home inventory compared to $584.4 million and $496.2 million in fiscal 2017 and 2016, respectively. In each year, the expenditures were made to support the current year increase in sales and closing volumes, as well as the expected increase in the subsequent year. During fiscal 2018, cash used to increase residential land and lots was $573.8 million compared to $362.3 million and $10.3 million in fiscal 2017 and 2016, respectively. The increase in fiscal 2018 was primarily due to cash used to fund land acquisition and development in our Forestar segment. The most significant source of cash provided by operating activities in all years was net income.
Investing Cash Flow Activities
In fiscal 2018, net cash provided by investing activities was $2.6 million compared to net cash used in investing activities of $171.0 million and $112.6 million in fiscal 2017 and 2016, respectively. In fiscal 2018, we paid $558.3 million to purchase 75% of the outstanding shares of Forestar, which had $401.9 million of cash on the acquisition date. In fiscal 2016, we paid $82.2 million to purchase the homebuilding operations of Wilson Parker Homes and paid an additional $4.1 million in fiscal 2017 and $2.8 million in fiscal 2018 to complete the purchase. We used $68.1 million, $102.7 million and $78.1 million in fiscal 2018, 2017 and 2016, respectively, to purchase and construct property and equipment, including model home furniture, office buildings and office and technology equipment to support our operations. Also, we used $70.2 million, $54.6 million and $8.0 million in fiscal 2018, 2017 and 2016, respectively, for the development and construction of multi-family rental properties.
Investing cash flows in fiscal 2018 included proceeds from the sale of assets of $292.9 million, of which $258.3 million related to Forestar, primarily from the strategic sale of assets. Additionally, proceeds of $24.8 million resulted from the sale of multi-family rental units constructed by our homebuilding operations in one community in our Southeast region.
Financing Cash Flow Activities
We expect the short-term financing needs of our operations will be funded with existing cash, cash generated from operations and borrowings under our credit facilities. Long-term financing needs for the growth of our homebuilding and Forestar operations may be funded with the issuance of senior unsecured debt securities or equity securities through the public capital markets.
In fiscal 2018, net cash used in financing activities was $82.5 million, consisting primarily of note repayments that were largely offset by note proceeds, payments of cash dividends and repurchases of common stock. Note repayments of $2.2 billion included the repayments of amounts drawn on our homebuilding revolving credit facility of $1.8 billion and our early redemption of the $400 million principal amount of our 3.625% senior notes due February 2018. Proceeds from notes payable of $2.2 billion included draws of $1.8 billion on our homebuilding revolving credit facility and our issuance of $400 million principal amount of 2.55% senior notes due December 1, 2020. Our financial services segment received proceeds of $217.7 million from net advances under its mortgage repurchase facility. During fiscal 2018, we used cash of $188.4 million to pay dividends to our common stockholders and $127.5 million to repurchase 2.8 million shares of our common stock.
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In fiscal 2017, net cash used in financing activities was $564.6 million, consisting primarily of note repayments, payments of cash dividends and repurchases of common stock, partially offset by note proceeds. Note repayments of $1.2 billion included the repayment of $350 million principal amount of our 4.75% senior notes at maturity and repayments of amounts drawn on our homebuilding revolving credit facility of $835 million. Proceeds from notes payable of $835 million represent draws on our homebuilding revolving credit facility. During fiscal 2017, we used cash of $149.6 million to pay dividends to our common stockholders and $60.6 million to repurchase 1.9 million shares of our common stock. In fiscal 2016, net cash used in financing activities was $591.9 million, consisting primarily of note repayments and payments of cash dividends. Note repayments of $544.8 million included the repayment of $170.2 million principal amount of our 5.625% senior notes and $372.7 million principal amount of our 6.5% senior notes at maturity.
Our Board of Directors approved and paid quarterly cash dividends of $0.125 per common share, $0.10 per common share and $0.08 per common share in fiscal 2018, 2017 and 2016 respectively. In November 2018, our Board of Directors approved a cash dividend of $0.15 per common share, payable on December 10, 2018, to stockholders of record on November 26, 2018. The declaration of future cash dividends is at the discretion of our Board of Directors and will depend upon, among other things, our future earnings, cash flows, capital requirements, financial condition and general business conditions.
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Contractual Cash Obligations, Commercial Commitments and Off-Balance Sheet Arrangements
Our primary contractual cash obligations are payments under our debt agreements and lease payments under operating leases. We expect to fund our contractual obligations in the ordinary course of business through a combination of our existing cash resources, cash flows generated from profits, our credit facilities or other bank financing, and the issuance of new debt or equity securities through the public capital markets as market conditions may permit.
Our future cash requirements for contractual obligations as of September 30, 2018 are presented below.
Payments Due by Period | |||||||||||||||||||
Total | Less Than 1 Year | 1 - 3 Years | > 3 - 5 Years | More Than 5 Years | |||||||||||||||
(In millions) | |||||||||||||||||||
Notes Payable — Principal (1) | $ | 3,211.1 | $ | 1,142.2 | $ | 1,018.9 | $ | 1,050.0 | $ | — | |||||||||
Notes Payable — Interest (1) | 315.0 | 121.4 | 116.2 | 77.4 | — | ||||||||||||||
Operating Leases | 42.3 | 16.8 | 18.8 | 5.9 | 0.8 | ||||||||||||||
Purchase Obligations (2) | 47.4 | 22.2 | 25.2 | — | — | ||||||||||||||
$ | 3,615.8 | $ | 1,302.6 | $ | 1,179.1 | $ | 1,133.3 | $ | 0.8 | ||||||||||
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(1) | Notes payable represents principal and interest payments due on our senior notes, our secured notes, our mortgage subsidiary’s repurchase facility and our homebuilding and Forestar revolving credit facilities. Because the balances of our revolving credit facilities were zero at September 30, 2018, we did not assume any principal or interest payments related to these facilities in future periods. The interest obligation associated with our mortgage repurchase facility is based on its annual effective rate of 4.1% and principal balance outstanding at September 30, 2018. |
(2) | Purchase obligations relate to our land and lot option purchase contracts which enable us to control significant lot positions with limited capital investment. Among our land and lot option purchase contracts at September 30, 2018, there were a limited number of contracts, representing $47.4 million of remaining purchase price, subject to specific performance provisions which may require us to purchase the land or lots upon the land sellers meeting their contractual obligations. |
At September 30, 2018, we had outstanding letters of credit of $128.5 million and surety bonds of $1.5 billion, issued by third parties to secure performance under various contracts. We expect that our performance obligations secured by these letters of credit and bonds will generally be completed in the ordinary course of business and in accordance with the applicable contractual terms. When we complete our performance obligations, the related letters of credit and bonds are generally released shortly thereafter, leaving us with no continuing obligations. We have no material third-party guarantees.
Our mortgage subsidiary enters into various commitments related to the lending activities of our mortgage operations. Further discussion of these commitments is provided in Item 7A “Quantitative and Qualitative Disclosures About Market Risk” under Part II of this annual report on Form 10-K.
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Seasonality
Although significant changes in market conditions have impacted our seasonal patterns in the past and could do so again in the future, we generally close more homes and generate greater revenues and operating income in the third and fourth quarters of our fiscal year. The seasonal nature of our business can also cause significant variations in our working capital requirements in both our homebuilding and financial services operations. As a result of seasonal activity, our quarterly results of operations and financial position at the end of a particular fiscal quarter are not necessarily representative of the balance of our fiscal year.
Inflation
We may be adversely affected during periods of high inflation, primarily because of higher financing, land, labor and material construction costs. We attempt to offset cost increases in one component with savings in another, and we increase our sales prices and reduce customer sales incentives when housing market conditions permit. However, during periods when housing market conditions are challenging, we may not be able to offset cost increases with higher selling prices. In addition, higher mortgage interest rates reduce the affordability of our homes to prospective homebuyers.
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Forward-Looking Statements
Some of the statements contained in this report, as well as in other materials we have filed or will file with the Securities and Exchange Commission, statements made by us in periodic press releases and oral statements we make to analysts, stockholders and the press in the course of presentations about us, may be construed as “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, Section 21E of the Securities Exchange Act of 1934 and the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on management’s beliefs as well as assumptions made by, and information currently available to, management. These forward-looking statements typically include the words “anticipate,” “believe,” “consider,” “estimate,” “expect,” “forecast,” “goal,” “intend,” “objective,” “plan,” “predict,” “projection,” “seek,” “strategy,” “target,” “will” or other words of similar meaning. Any or all of the forward-looking statements included in this report and in any other of our reports or public statements may not approximate actual experience, and the expectations derived from them may not be realized, due to risks, uncertainties and other factors. As a result, actual results may differ materially from the expectations or results we discuss in the forward-looking statements. These risks, uncertainties and other factors include, but are not limited to:
• | the cyclical nature of the homebuilding industry and changes in economic, real estate and other conditions; |
• | constriction of the credit and public capital markets, which could limit our ability to access capital and increase our costs of capital; |
• | reductions in the availability of mortgage financing provided by government agencies, changes in government financing programs, a decrease in our ability to sell mortgage loans on attractive terms or an increase in mortgage interest rates; |
• | the risks associated with our land and lot inventory; |
• | our ability to effect our growth strategies, acquisitions or investments successfully; |
• | the impact of an inflationary, deflationary or higher interest rate environment; |
• | home warranty and construction defect claims; |
• | the effects of health and safety incidents; |
• | the effects of negative publicity; |
• | supply shortages and other risks of acquiring land, building materials and skilled labor; |
• | reductions in the availability of performance bonds; |
• | increases in the costs of owning a home; |
• | the effects of governmental regulations and environmental matters on our homebuilding and land development operations; |
• | the effects of governmental regulations on our financial services operations; |
• | our significant debt and our ability to comply with related debt covenants, restrictions and limitations; |
• | competitive conditions within the homebuilding and financial services industries; |
• | the effects of the loss of key personnel; and |
• | information technology failures and data security breaches. |
We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. However, any further disclosures made on related subjects in subsequent reports on Forms 10-K, 10-Q and 8-K should be consulted. Additional information about issues that could lead to material changes in performance and risk factors that have the potential to affect us is contained in Item 1A, “Risk Factors” under Part I of this annual report on Form 10-K.
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Critical Accounting Policies
General — A comprehensive enumeration of the significant accounting policies of D.R. Horton, Inc. and subsidiaries is presented in Note A to the accompanying financial statements as of September 30, 2018 and 2017, and for the years ended September 30, 2018, 2017 and 2016. Each of our accounting policies has been chosen based upon current authoritative literature that collectively comprises U.S. Generally Accepted Accounting Principles (GAAP). In instances where alternative methods of accounting are permissible under GAAP, we have chosen the method that most appropriately reflects the nature of our business, the results of our operations and our financial condition, and have consistently applied those methods over each of the periods presented in the financial statements. The Audit Committee of our Board of Directors has reviewed and approved the accounting policies selected.
Revenue Recognition — We generally recognize homebuilding revenue and related profit at the time of the closing of a sale, when title to and possession of the property are transferred to the buyer. In situations where the buyer’s financing is originated by DHI Mortgage, our 100% owned mortgage subsidiary, and the buyer has not made an adequate initial or continuing investment, the profit is deferred until the sale of the related mortgage loan to a third-party purchaser has been completed. Any profit on land sales is deferred until the full accrual method criteria are met. When appropriate, revenue and profit on long-term construction projects are recognized under the percentage-of-completion method.
We include proceeds from home closings held for our benefit at title companies in homebuilding cash. When we execute sales contracts with our homebuyers, or when we require advance payment from homebuyers for custom changes, upgrades or options related to their homes, we record the cash deposits received as liabilities until the homes are closed or the contracts are cancelled. We either retain or refund to the homebuyer deposits on cancelled sales contracts, depending upon the applicable provisions of the contract or other circumstances.
We recognize financial services revenues associated with our title operations as closing services are rendered and title insurance policies are issued, both of which generally occur simultaneously as each home is closed. We transfer substantially all underwriting risk associated with title insurance policies to third-party insurers. We typically elect the fair value option for our mortgage loan originations. Mortgage loans held for sale are initially recorded at fair value based on either sale commitments or current market quotes and are adjusted for subsequent changes in fair value until the loans are sold. Net origination costs and fees associated with mortgage loans are recognized at the time of origination. The expected net future cash flows related to the associated servicing of a loan are included in the measurement of all written loan commitments that are accounted for at fair value through earnings at the time of commitment. We sell substantially all of the mortgages we originate and the related servicing rights to third-party purchasers. Interest income is earned from the date a mortgage loan is originated until the loan is sold.
Some mortgage loans are sold with limited recourse provisions, which can result in repurchases of loans previously sold to investors or payments to reimburse investors for loan losses. Based on historical experience, discussions with our mortgage purchasers, analysis of the mortgages we originated and current housing and credit market conditions, we estimate and record a loss reserve for mortgage loans held in portfolio and mortgage loans held for sale, as well as known and projected mortgage loan repurchase requests.
Inventories and Cost of Sales — Inventory includes the costs of direct land acquisition, land development and home construction, capitalized interest, real estate taxes and direct overhead costs incurred during development and home construction. Costs that we incur after development projects or homes are substantially complete, such as utilities, maintenance, and cleaning, are charged to SG&A expense as incurred. All indirect overhead costs, such as compensation of sales personnel, division and region management, and the costs of advertising and builder’s risk insurance are charged to SG&A expense as incurred.
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Land and development costs are typically allocated to individual residential lots on a pro-rata basis, and the costs of residential lots are transferred to construction in progress when home construction begins. Home construction costs are specifically identified and recorded to individual homes. Cost of sales for homes closed includes the specific construction costs of each home and all applicable land acquisition, land development and related costs (both incurred and estimated to be incurred) allocated to each residential lot based upon the total number of homes expected to be closed in each community. Any changes to the estimated total development costs subsequent to the initial home closings in a community are generally allocated on a pro-rata basis to the remaining homes in the community associated with the relevant development activity.
When a home is closed, we generally have not paid all incurred costs necessary to complete the home. We record a liability and a charge to cost of sales for the amount estimated to ultimately be paid related to completed homes that have been closed. We compare our home construction budgets to actual recorded costs to determine the additional costs remaining to be paid on each closed home. We monitor the accrual by comparing actual costs incurred on closed homes in subsequent months to the amounts previously accrued. Although actual costs to be paid in the future on previously closed homes could differ from our current accruals, such differences have not been significant.
Each quarter, we review our communities and land inventories for indicators of potential impairment. We generally review our inventory for impairment indicators at the community level, and the inventory within each community is categorized as land held for development, residential land and lots developed and under development, land held for sale and construction in progress and finished homes, based on the stage of production or plans for future development or sale. A particular community often includes inventory in more than one category. In certain situations, inventory may be analyzed separately for impairment purposes based on its product type or future plans. In reviewing each of our communities, we determine if impairment indicators exist on inventory held and used by analyzing a variety of factors including, but not limited to, the following:
• | gross margins on homes closed in recent months; |
• | projected gross margins on homes sold but not closed; |
• | projected gross margins based on community budgets; |
• | trends in gross margins, average selling prices or cost of sales; |
• | sales absorption rates; and |
• | performance of other communities in nearby locations. |
If indicators of impairment are present for a community, we perform an impairment evaluation of the community, which includes an analysis to determine if the undiscounted cash flows estimated to be generated by those assets are less than their carrying amounts. If so, impairment charges are recorded to cost of sales if the fair value of such assets is less than their carrying amounts. These estimates of cash flows are significantly impacted by community specific factors including estimates of the amounts and timing of future revenues and estimates of the amount of land development, materials and labor costs which, in turn, may be impacted by the following local market conditions:
• | supply and availability of new and existing homes; |
• | location and desirability of our communities; |
• | variety of product types offered in the area; |
• | pricing and use of incentives by us and our competitors; |
• | alternative uses for our land or communities such as the sale of land, finished lots or home sites to third parties; |
• | amount of land and lots we own or control in a particular market or sub-market; and |
• | local economic and demographic trends. |
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For those assets deemed to be impaired, the impairment to be recognized is measured as the amount by which the carrying amount of the assets exceeds the fair value of the assets. Our determination of fair value is primarily based on discounting the estimated cash flows at a rate commensurate with the inherent risks associated with the assets and related estimated cash flow streams. When an impairment charge for a community is determined, the charge is then allocated to each lot in the community in the same manner as land and development costs are allocated to each lot. Impairment charges are also recorded on finished homes in substantially completed communities when events or circumstances indicate that the carrying values are greater than the fair values less estimated costs to sell these homes.
For the inventory impairment analyses performed during fiscal 2018, we assumed that for the majority of communities, sales prices in future periods will be equal to or lower than current sales order prices in each community, or in comparable communities, in order to generate an acceptable absorption rate. The remaining lives of the communities evaluated were estimated to be in a range from one month to three years, and we utilized a range of discount rates for communities from 10% to 18%.
We rarely purchase land for resale. However, when we own land or communities under development that do not fit into our development and construction plans, and we determine that we will sell the asset, the project is accounted for as land held for sale if certain criteria are met. We record land held for sale at the lesser of its carrying value or fair value less estimated costs to sell. In performing the impairment evaluation for land held for sale, we consider several factors including, but not limited to, recent offers received to purchase the property, prices for land in recent comparable sales transactions and market analysis studies, which include the estimated price a willing buyer would pay for the land. If the estimated fair value less costs to sell an asset is less than the current carrying value, the asset is written down to its estimated fair value less costs to sell.
The key assumptions relating to inventory valuations are impacted by local market and economic conditions, and are inherently uncertain. Although our quarterly assessments reflect management’s best estimates, due to uncertainties in the estimation process, actual results could differ from such estimates.
Business Acquisitions — We account for acquisitions of businesses by allocating the purchase price of the business to the various assets acquired and liabilities assumed at their respective fair values. Any excess of the purchase price over the estimated fair values of the identifiable net assets acquired is recorded as goodwill. Significant judgment is often required in estimating the fair value of assets acquired, particularly intangible assets. These estimates and assumptions are based on historical experience, information obtained from the management of the acquired companies and our estimates of significant assumptions that a market participant would use when determining fair value. While we believe the estimates and assumptions are reasonable, they are inherently uncertain. Unanticipated market or macroeconomic events and circumstances may occur, which could affect the accuracy or validity of the estimates and assumptions.
Goodwill — We record goodwill associated with our acquisitions of businesses when the purchase price of the business exceeds the fair value of the net tangible and identifiable intangible assets acquired. We evaluate our goodwill balances for potential impairment on at least an annual basis by comparing the carrying value of each of our operating segments with goodwill to their estimated fair values. The estimated fair value is determined by discounting the future cash flows of the operating segment to their present value. If the carrying value of the operating segment exceeds its fair value, we determine if an impairment exists based on the implied fair value of the operating segment’s goodwill. As a result of the goodwill evaluations performed in fiscal 2018 and 2017, no impairment charges were recorded. As a result of the goodwill evaluation performed in fiscal 2016, an impairment charge of $7.2 million was recorded to write off the remaining goodwill associated with the Huntsville operating segment in the Southeast reporting region. This operating segment experienced lower levels of profitability than anticipated primarily due to difficult market conditions. Our total goodwill balance was $109.2 million and $80.0 million at September 30, 2018 and 2017, respectively.
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Warranty Claims — We typically provide our homebuyers with a ten-year limited warranty for major defects in structural elements such as framing components and foundation systems, a two-year limited warranty on major mechanical systems and a one-year limited warranty on other construction components. Since we subcontract our construction work to subcontractors who typically provide us with an indemnity and a certificate of insurance prior to receiving payments for their work, claims relating to workmanship and materials are generally the primary responsibility of the subcontractors. Warranty liabilities have been established by charging cost of sales for each home delivered. The amounts charged are based on management’s estimate of expected warranty-related costs under all unexpired warranty obligation periods. Our warranty liability is based upon historical warranty cost experience in each market in which we operate and is adjusted to reflect qualitative risks associated with the types of homes we build and the geographic areas in which we build them. Actual future warranty costs could differ from our currently estimated amounts. A 10% change in the historical warranty rates used to estimate our warranty accrual would not result in a material change in our accrual.
Legal Claims and Insurance — We are named as a defendant in various claims, complaints and other legal actions in the ordinary course of business. At any point in time, we are managing several hundred individual claims related to construction defect matters, personal injury claims, employment matters, land development issues, contract disputes and other matters. We have established reserves for these contingencies based on the estimated costs of pending claims and the estimated costs of anticipated future claims related to previously closed homes. Approximately 99% and 98% of these reserves related to construction defect matters at September 30, 2018 and 2017, respectively.
Our reserves for construction defect claims include the estimated costs of both known claims and anticipated future claims. At September 30, 2018 and 2017, we had reserves for approximately 155 and 140 pending construction defect claims, respectively, and no individual existing claim was material to our financial statements. During fiscal 2018, we established reserves for approximately 95 new construction defect claims and resolved 80 construction defect claims for a total cost of $40.0 million. We have closed a significant number of homes during recent years, and we may be subject to future construction defect claims on these homes. Although regulations vary from state to state, construction defect issues can generally be reported for up to ten years after the home has closed in many states in which we operate. Historical data and trends regarding the frequency of claims incurred and the costs to resolve claims relative to the types of products and markets where we operate are used to estimate the construction defect liabilities for both existing and anticipated future claims. These estimates are subject to ongoing revision as the circumstances of individual pending claims and historical data and trends change. Adjustments to estimated reserves are recorded in the accounting period in which the change in estimate occurs.
Historical trends in construction defect claims have been inconsistent, and we believe they may continue to fluctuate. Housing market conditions have been volatile across most of our markets over the past ten years, and we believe such conditions can affect the frequency and cost of construction defect claims. If the ultimate resolution of construction defect claims resulting from our home closings in prior years varies from current expectations, it could significantly change our estimates regarding the frequency and timing of claims incurred and the costs to resolve existing and anticipated future claims, which would impact the construction defect reserves in the future. If the frequency of claims incurred or costs of existing and future legal claims significantly exceed our current estimates, they will have a significant negative impact on our future earnings and liquidity.
We estimate and record receivables under the applicable insurance policies related to our estimated contingencies for known claims and anticipated future construction defect claims on previously closed homes and other legal claims and lawsuits incurred in the ordinary course of business when recovery is probable. Additionally, we may have the ability to recover a portion of our losses from our subcontractors and their insurance carriers when we have been named as an additional insured on their insurance policies.
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The estimation of losses related to these reserves and the related estimates of recoveries from insurance policies are subject to a high degree of variability due to uncertainties such as trends in construction defect claims relative to our markets and the types of products built, claim frequency, claim settlement costs and patterns, insurance industry practices and legal interpretations, among others. Due to the high degree of judgment required in establishing reserves for these contingencies, actual future costs and recoveries from insurance could differ significantly from current estimated amounts. A 10% increase in the claim frequency and the average cost per claim used to estimate the reserves would result in an increase of approximately $67.2 million in our reserves and a $30.4 million increase in our receivable, resulting in additional expense of $36.8 million. A 10% decrease in the claim frequency and the average cost per claim would result in a decrease of approximately $60.4 million in our reserves and a $22.7 million decrease in our receivable, resulting in a reduction in expense of $37.7 million.
Income Taxes — We calculate our income tax expense using the asset and liability method, under which deferred tax assets and liabilities are recognized based on the future tax consequences attributable to temporary differences between the financial statement amounts of assets and liabilities and their respective tax bases and attributable to net operating losses and tax credit carryforwards. When assessing the realizability of deferred tax assets, we consider whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The realization of deferred tax assets is dependent upon the generation of sufficient taxable income in future periods and in the jurisdictions in which those temporary differences become deductible. We record a valuation allowance when we determine it is more likely than not that a portion of our deferred tax assets will not be realized. The accounting for deferred taxes is based upon estimates of future results. Differences between the anticipated and actual outcomes of these future results could have a material impact on our consolidated results of operations or financial position. Also, changes in existing federal and state tax laws and tax rates could affect future tax results and the valuation of our deferred tax assets.
Interest and penalties related to unrecognized tax benefits are recognized in the financial statements as a component of income tax expense. Significant judgment is required to evaluate uncertain tax positions. We evaluate our uncertain tax positions on a quarterly basis. Our evaluations are based upon a number of factors, including changes in facts or circumstances, changes in tax law, correspondence with tax authorities during the course of audits and effective settlement of audit issues. Changes in the recognition or measurement of uncertain tax positions could result in increases or decreases in our income tax expense in the period in which we make the change.
Stock-Based Compensation — Our stockholders formally authorize shares of our common stock to be available for future grants of stock-based compensation awards. From time to time, the Compensation Committee of our Board of Directors authorizes the grant of stock-based compensation to our employees and directors from these available shares. At September 30, 2018, our outstanding stock-based compensation awards include stock options and restricted stock units. Grants of restricted stock units may vest immediately or over a certain number of years as determined by the Compensation Committee of our Board of Directors. Restricted stock units outstanding at September 30, 2018 have a remaining vesting period of 1 to 5 years. Stock options are granted at exercise prices which equal the market value of our common stock at the date of the grant. The stock options outstanding at September 30, 2018 vest during fiscal 2019 and expire 10 years after the dates on which they were granted.
The compensation expense for stock-based awards is based on the fair value of the award and is recognized on a straight-line basis over the remaining vesting period. The fair values of restricted stock units are based on our stock price at the date of grant. The fair values of stock options granted are calculated on the date of grant using a Black-Scholes option pricing model. Determining the fair value of stock options requires judgment in developing assumptions and involves a number of estimates. These estimates include, but are not limited to, the expected stock price volatility over the term of the awards, the expected dividend yield and expected stock option exercise behavior. In addition, we also use judgment in estimating the number of stock options that are expected to be forfeited.
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Fair Value Measurements — The Financial Accounting Standards Board’s (FASB) authoritative guidance for fair value measurements establishes a three-level hierarchy based upon the inputs to the valuation model of an asset or liability. The fair value hierarchy and its application to our assets and liabilities, is as follows:
• | Level 1 — Valuation is based on quoted prices in active markets for identical assets and liabilities. |
• | Level 2 — Valuation is determined from quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar instruments in markets that are not active, or by model-based techniques in which all significant inputs are observable in the market. |
• | Level 3 — Valuation is typically derived from model-based techniques in which at least one significant input is unobservable and based on our own estimates about the assumptions that market participants would use to value the asset or liability. |
When available, we use quoted market prices in active markets to determine fair value. We consider the principal market and nonperformance risk associated with our counterparties when determining the fair value measurements, if applicable. Fair value measurements are used for our mortgage loans held for sale, debt securities collateralized by residential real estate, interest rate lock commitments (IRLCs) and other derivative instruments on a recurring basis and are used for inventories, other mortgage loans and real estate owned on a nonrecurring basis, when events and circumstances indicate that the carrying value may not be recoverable.
Recent Accounting Pronouncements
In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers,” which is a comprehensive new revenue recognition model that will replace most existing revenue recognition guidance. The core principle of this guidance is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. The guidance is effective for us beginning October 1, 2018 and allows for full retrospective or modified retrospective methods of adoption. We plan to adopt this standard using the modified retrospective method. Upon adoption of the standard, we expect to record an adjustment to increase retained earnings and recognize a contract asset for expected future insurance brokerage commission renewals. We have not yet determined the amount of this adjustment and are continuing to evaluate other effects of the standard, but we do not expect the adoption of this standard to have a material impact on our consolidated financial position, results of operations or cash flows.
In January 2016, the FASB issued ASU 2016-01, “Financial Instruments - Recognition and Measurement of Financial Assets and Financial Liabilities,” which addresses certain aspects of recognition, measurement, presentation and disclosure of financial instruments. The guidance is effective for us beginning October 1, 2018 and is not expected to have a material impact on our consolidated financial position, results of operations or cash flows.
In February 2016, the FASB issued ASU 2016-02, “Leases,” which requires that lease assets and liabilities be recognized on the balance sheet and that key information about leasing arrangements be disclosed. The guidance is effective for us beginning October 1, 2019, although early adoption is permitted. We are currently evaluating the impact of this guidance on our consolidated financial position, results of operations and cash flows.
In June 2016, the FASB issued ASU 2016-13, “Financial Instruments - Credit Losses,” which replaces the current incurred loss impairment methodology with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information in determining credit loss estimates. The guidance is effective for us beginning October 1, 2020 and is not expected to have a material impact on our consolidated financial position, results of operations or cash flows.
In August 2016, the FASB issued ASU 2016-15, “Statement of Cash Flows - Classification of Certain Cash Receipts and Cash Payments,” which amends and clarifies the current guidance to reduce diversity in practice of the classification of certain cash receipts and payments in the statement of cash flows. The guidance is effective for us beginning October 1, 2018 and is not expected to have a material impact on our consolidated statements of cash flows.
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In October 2016, the FASB issued ASU 2016-16, “Income Taxes - Intra-Entity Transfers of Assets Other Than Inventory,” which requires companies to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. The guidance is effective for us beginning October 1, 2018 and is not expected to have a material impact on our consolidated financial position or cash flows.
In November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows - Restricted Cash,” which requires amounts generally described as restricted cash and restricted cash equivalents be included with cash and cash equivalents when reconciling the total beginning and ending amounts for the periods shown on the statement of cash flows. The guidance is effective for us beginning October 1, 2018 and is not expected to have a material impact on our consolidated financial position or cash flows.
In January 2017, the FASB issued ASU 2017-04, “Intangibles - Goodwill and Other,” which simplifies the measurement of goodwill impairment by removing the second step of the goodwill impairment test and requires the determination of the fair value of individual assets and liabilities of a reporting unit. Under the new guidance, goodwill impairment is measured as the amount by which a reporting unit’s carrying amount exceeds its fair value with the loss recognized limited to the total amount of goodwill allocated to the reporting unit. The guidance is effective for us beginning October 1, 2020 and is not expected to have a material impact on our consolidated financial position, results of operations or cash flows.
In February 2017, the FASB issued ASU 2017-05, “Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets,” which updates the definition of an in substance nonfinancial asset and clarifies the derecognition guidance for nonfinancial assets to conform to the new revenue recognition standard (ASU 2014-09). The guidance is effective for us beginning October 1, 2018, concurrent with the adoption of ASU 2014-09, as required, and is not expected to have a material impact on our consolidated financial position, results of operations or cash flows.
In May 2017, the FASB issued ASU 2017-09, “Compensation - Stock Compensation: Scope of Modification Accounting,” which clarifies which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting. Under the new guidance, modification accounting is required if the fair value, vesting conditions or classification (equity or liability) of the new award are different from the original award immediately before the original award is modified. The guidance is effective for us beginning October 1, 2018 and is not expected to have a material impact on our consolidated financial position, results of operations or cash flows.
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ITEM 7A. | QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK |
We are subject to interest rate risk on our long-term debt. We monitor our exposure to changes in interest rates and utilize both fixed and variable rate debt. For fixed rate debt, changes in interest rates generally affect the fair value of the debt instrument, but not our earnings or cash flows. Conversely, for variable rate debt, changes in interest rates generally do not impact the fair value of the debt instrument, but may affect our future earnings and cash flows. Except in very limited circumstances, we do not have an obligation to prepay fixed-rate debt prior to maturity and, as a result, interest rate risk and changes in fair value would not have a significant impact on our cash flows related to our fixed-rate debt until such time as we are required to refinance, repurchase or repay such debt.
We are exposed to interest rate risk associated with our mortgage loan origination services. We manage interest rate risk through the use of forward sales of mortgage-backed securities (MBS), which are referred to as “hedging instruments” in the following discussion. We do not enter into or hold derivatives for trading or speculative purposes.
Interest rate lock commitments (IRLCs) are extended to borrowers who have applied for loan funding and who meet defined credit and underwriting criteria. Typically, the IRLCs have a duration of less than six months. Some IRLCs are committed immediately to a specific purchaser through the use of best-efforts whole loan delivery commitments, while other IRLCs are funded prior to being committed to third-party purchasers. The hedging instruments related to IRLCs are classified and accounted for as derivative instruments in an economic hedge, with gains and losses recognized in revenues in the consolidated statements of operations. Hedging instruments related to funded, uncommitted loans are accounted for at fair value, with changes recognized in revenues in the consolidated statements of operations, along with changes in the fair value of the funded, uncommitted loans. The fair value change related to the hedging instruments generally offsets the fair value change in the uncommitted loans. The net fair value change, which for the years ended September 30, 2018 and 2017 was not significant, is recognized in current earnings. At September 30, 2018, hedging instruments used to mitigate interest rate risk related to uncommitted mortgage loans held for sale and uncommitted IRLCs totaled a notional amount of $1.0 billion. Uncommitted IRLCs totaled a notional amount of approximately $459.7 million and uncommitted mortgage loans held for sale totaled a notional amount of approximately $575.9 million at September 30, 2018.
The following table sets forth principal cash flows by scheduled maturity, effective weighted average interest rates and estimated fair value of our debt obligations as of September 30, 2018. Because the mortgage repurchase facility is effectively secured by certain mortgage loans held for sale that are typically sold within 60 days, its outstanding balance is included in the most current period presented. The interest rate for our variable rate debt represents the weighted average interest rate in effect at September 30, 2018.
Fiscal Year Ending September 30, | Fair Value at September 30, 2018 | |||||||||||||||||||||||||||||||
2019 | 2020 | 2021 | 2022 | 2023 | Thereafter | Total | ||||||||||||||||||||||||||
($ in millions) | ||||||||||||||||||||||||||||||||
Debt: | ||||||||||||||||||||||||||||||||
Fixed rate | $ | 504.5 | $ | 618.9 | $ | 400.0 | $ | 350.0 | $ | 700.0 | $ | — | $ | 2,573.4 | $ | 2,607.1 | ||||||||||||||||
Average interest rate | 3.9 | % | 4.0 | % | 2.8 | % | 4.5 | % | 5.5 | % | — | % | 4.3 | % | ||||||||||||||||||
Variable rate | $ | 637.7 | $ | — | $ | — | $ | — | $ | — | $ | — | $ | 637.7 | $ | 637.7 | ||||||||||||||||
Average interest rate | 4.1 | % | — | % | — | % | — | % | — | % | — | % | 4.1 | % | ||||||||||||||||||
63
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors and Stockholders of D.R. Horton, Inc.
Opinions on the Financial Statements and Internal Control over Financial Reporting
We have audited the accompanying consolidated balance sheets of D.R. Horton, Inc. and its subsidiaries as of September 30, 2018 and 2017 and the related consolidated statements of operations and comprehensive income, total equity, and cash flows for each of the three years in the period ended September 30, 2018, including the related notes (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of September 30, 2018, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of September 30, 2018 and 2017, and the results of their operations and their cash flows for each of the three years in the period ended September 30, 2018 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of September 30, 2018, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.
Basis for Opinions
The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in Management's Report on Internal Control over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) ("PCAOB") and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.
We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.
Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.
64
Definition and Limitations of Internal Control over Financial Reporting
A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
/s/ PricewaterhouseCoopers LLP
Fort Worth, TX
November 16, 2018
We have served as the Company’s auditor since 2008.
65
ITEM 8. | FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA |
D.R. HORTON, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
ASSETS | |||||||
Cash and cash equivalents | $ | 1,473.1 | $ | 1,007.8 | |||
Restricted cash | 32.9 | 16.5 | |||||
Inventories: | |||||||
Construction in progress and finished homes | 5,086.3 | 4,606.0 | |||||
Residential land and lots — developed and under development | 5,172.4 | 4,519.7 | |||||
Land held for development | 96.1 | 101.0 | |||||
Land held for sale | 40.2 | 10.4 | |||||
10,395.0 | 9,237.1 | ||||||
Investment in unconsolidated entities | 11.0 | — | |||||
Mortgage loans held for sale | 796.4 | 587.3 | |||||
Deferred income taxes, net of valuation allowance of $17.7 million and $11.2 million at September 30, 2018 and 2017, respectively | 194.0 | 365.0 | |||||
Property and equipment, net | 401.1 | 325.0 | |||||
Other assets | 701.9 | 565.9 | |||||
Goodwill | 109.2 | 80.0 | |||||
Total assets | $ | 14,114.6 | $ | 12,184.6 | |||
LIABILITIES | |||||||
Accounts payable | $ | 624.7 | $ | 580.4 | |||
Accrued expenses and other liabilities | 1,127.5 | 985.0 | |||||
Notes payable | 3,203.5 | 2,871.6 | |||||
Total liabilities | 4,955.7 | 4,437.0 | |||||
Commitments and contingencies (Note K) | |||||||
EQUITY | |||||||
Preferred stock, $.10 par value, 30,000,000 shares authorized, no shares issued | — | — | |||||
Common stock, $.01 par value, 1,000,000,000 shares authorized, 388,120,243 shares issued and 376,261,635 shares outstanding at September 30, 2018 and 384,036,150 shares issued and 374,986,079 shares outstanding at September 30, 2017 | 3.9 | 3.8 | |||||
Additional paid-in capital | 3,085.0 | 2,992.2 | |||||
Retained earnings | 6,217.9 | 4,946.0 | |||||
Treasury stock, 11,858,608 shares and 9,050,071 shares at September 30, 2018 and 2017, respectively, at cost | (322.4 | ) | (194.9 | ) | |||
Stockholders’ equity | 8,984.4 | 7,747.1 | |||||
Noncontrolling interests | 174.5 | 0.5 | |||||
Total equity | 9,158.9 | 7,747.6 | |||||
Total liabilities and equity | $ | 14,114.6 | $ | 12,184.6 | |||
See accompanying notes to consolidated financial statements.
66
D.R. HORTON, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME
Year Ended September 30, | |||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions, except per share data) | |||||||||||
Revenues | $ | 16,068.0 | $ | 14,091.0 | $ | 12,157.4 | |||||
Cost of sales | 12,398.1 | 11,042.8 | 9,502.6 | ||||||||
Selling, general and administrative expense | 1,676.8 | 1,471.6 | 1,320.3 | ||||||||
Goodwill impairment | — | — | 7.2 | ||||||||
Equity in earnings of unconsolidated entities | (2.8 | ) | — | — | |||||||
Gain on sale of assets | (18.8 | ) | — | (4.5 | ) | ||||||
Other (income) expense | (45.3 | ) | (25.5 | ) | (21.7 | ) | |||||
Income before income taxes | 2,060.0 | 1,602.1 | 1,353.5 | ||||||||
Income tax expense | 597.7 | 563.7 | 467.2 | ||||||||
Net income | 1,462.3 | 1,038.4 | 886.3 | ||||||||
Net income attributable to noncontrolling interests | 2.0 | — | — | ||||||||
Net income attributable to D.R. Horton, Inc. | $ | 1,460.3 | $ | 1,038.4 | $ | 886.3 | |||||
Other comprehensive income, net of income tax: | |||||||||||
Debt securities collateralized by residential real estate: | |||||||||||
Net change in unrealized gain | — | — | 1.2 | ||||||||
Reclassification adjustment for net gain realized in net income | — | — | (2.6 | ) | |||||||
Comprehensive income | 1,462.3 | 1,038.4 | 884.9 | ||||||||
Comprehensive income attributable to noncontrolling interests | 2.0 | — | — | ||||||||
Comprehensive income attributable to D.R. Horton, Inc. | $ | 1,460.3 | $ | 1,038.4 | $ | 884.9 | |||||
Basic net income per common share attributable to D.R. Horton, Inc. | $ | 3.88 | $ | 2.77 | $ | 2.39 | |||||
Weighted average number of common shares | 376.6 | 374.3 | 371.0 | ||||||||
Diluted net income per common share attributable to D.R. Horton, Inc. | $ | 3.81 | $ | 2.74 | $ | 2.36 | |||||
Adjusted weighted average number of common shares | 383.4 | 378.9 | 375.1 | ||||||||
See accompanying notes to consolidated financial statements.
67
D.R. HORTON, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF TOTAL EQUITY
Common Stock | Additional Paid-in Capital | Retained Earnings | Treasury Stock | Accumulated Other Comprehensive Income | Non-controlling Interests | Total Equity | |||||||||||||||||||||
(In millions, except common stock share data) | |||||||||||||||||||||||||||
Balances at September 30, 2015 (368,647,371 shares) | $ | 3.8 | $ | 2,733.8 | $ | 3,289.6 | $ | (134.3 | ) | $ | 1.4 | $ | 1.1 | $ | 5,895.4 | ||||||||||||
Net income | — | — | 886.3 | — | — | — | 886.3 | ||||||||||||||||||||
Issuances under employee benefit plans (89,652 shares) | — | 2.2 | — | — | — | — | 2.2 | ||||||||||||||||||||
Exercise of stock options (3,504,989 shares) | — | 70.1 | — | — | — | — | 70.1 | ||||||||||||||||||||
Tax benefit from employee stock awards | — | 2.7 | — | — | — | — | 2.7 | ||||||||||||||||||||
Stock issued under employee incentive plans (681,175 shares) | — | 13.9 | — | — | — | — | 13.9 | ||||||||||||||||||||
Cash paid for shares withheld for taxes | — | (5.9 | ) | — | — | — | — | (5.9 | ) | ||||||||||||||||||
Stock-based compensation expense | — | 49.0 | — | — | — | — | 49.0 | ||||||||||||||||||||
Cash dividends declared | — | — | (118.7 | ) | — | — | — | (118.7 | ) | ||||||||||||||||||
Other comprehensive income, net of tax | — | — | — | — | (1.4 | ) | — | (1.4 | ) | ||||||||||||||||||
Noncontrolling interests | — | — | — | — | — | (0.6 | ) | (0.6 | ) | ||||||||||||||||||
Balances at September 30, 2016 (372,923,187 shares) | $ | 3.8 | $ | 2,865.8 | $ | 4,057.2 | $ | (134.3 | ) | $ | — | $ | 0.5 | $ | 6,793.0 | ||||||||||||
Net income | — | — | 1,038.4 | — | — | — | 1,038.4 | ||||||||||||||||||||
Issuances under employee benefit plans (111,527 shares) | — | 2.8 | — | — | — | — | 2.8 | ||||||||||||||||||||
Exercise of stock options (2,770,569 shares) | — | 43.8 | — | — | — | — | 43.8 | ||||||||||||||||||||
Tax benefit from employee stock awards | — | 13.7 | — | — | — | — | 13.7 | ||||||||||||||||||||
Stock issued under employee incentive plans (1,030,796 shares) | — | 12.0 | — | — | — | — | 12.0 | ||||||||||||||||||||
Cash paid for shares withheld for taxes | — | (5.1 | ) | — | — | — | — | (5.1 | ) | ||||||||||||||||||
Stock-based compensation expense | — | 59.2 | — | — | — | — | 59.2 | ||||||||||||||||||||
Cash dividends declared | — | — | (149.6 | ) | — | — | — | (149.6 | ) | ||||||||||||||||||
Repurchases of common stock (1,850,000 shares) | — | — | — | (60.6 | ) | — | — | (60.6 | ) | ||||||||||||||||||
Balances at September 30, 2017 (374,986,079 shares) | $ | 3.8 | $ | 2,992.2 | $ | 4,946.0 | $ | (194.9 | ) | $ | — | $ | 0.5 | $ | 7,747.6 | ||||||||||||
Noncontrolling interests acquired | — | — | — | — | — | 175.2 | 175.2 | ||||||||||||||||||||
Net income | — | — | 1,460.3 | — | — | 2.0 | 1,462.3 | ||||||||||||||||||||
Issuances under employee benefit plans (114,340 shares) | — | 4.0 | — | — | — | — | 4.0 | ||||||||||||||||||||
Exercise of stock options (2,547,139 shares) | 0.1 | 43.3 | — | — | — | — | 43.4 | ||||||||||||||||||||
Stock issued under employee incentive plans (1,422,614 shares) | — | — | — | — | — | — | — | ||||||||||||||||||||
Cash paid for shares withheld for taxes | — | (10.3 | ) | — | — | — | — | (10.3 | ) | ||||||||||||||||||
Stock-based compensation expense | — | 55.8 | — | — | — | — | 55.8 | ||||||||||||||||||||
Cash dividends declared | — | — | (188.4 | ) | — | — | — | (188.4 | ) | ||||||||||||||||||
Repurchases of common stock (2,808,537 shares) | — | — | — | (127.5 | ) | — | — | (127.5 | ) | ||||||||||||||||||
Distributions to noncontrolling interests | — | — | — | — | — | (3.2 | ) | (3.2 | ) | ||||||||||||||||||
Balances at September 30, 2018 (376,261,635 shares) | $ | 3.9 | $ | 3,085.0 | $ | 6,217.9 | $ | (322.4 | ) | $ | — | $ | 174.5 | $ | 9,158.9 | ||||||||||||
See accompanying notes to consolidated financial statements.
68
D.R. HORTON, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended September 30, | |||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions) | |||||||||||
OPERATING ACTIVITIES | |||||||||||
Net income | $ | 1,462.3 | $ | 1,038.4 | $ | 886.3 | |||||
Adjustments to reconcile net income to net cash provided by operating activities: | |||||||||||
Depreciation and amortization | 62.4 | 54.7 | 61.0 | ||||||||
Amortization of discounts and fees | 9.9 | 5.0 | 5.4 | ||||||||
Stock-based compensation expense | 55.8 | 59.2 | 49.0 | ||||||||
Equity in earnings of unconsolidated entities | (2.8 | ) | — | — | |||||||
Distributions of earnings of unconsolidated entities | 2.0 | — | — | ||||||||
Excess income tax benefit from employee stock awards | — | (14.3 | ) | (10.0 | ) | ||||||
Deferred income taxes | 170.9 | 110.8 | 75.3 | ||||||||
Inventory and land option charges | 50.4 | 40.2 | 31.4 | ||||||||
Gain on sale of assets | (18.8 | ) | — | (4.5 | ) | ||||||
Goodwill impairment | — | — | 7.2 | ||||||||
Changes in operating assets and liabilities: | |||||||||||
Increase in construction in progress and finished homes | (482.8 | ) | (584.4 | ) | (496.2 | ) | |||||
Increase in residential land and lots — developed, under development, held for development and held for sale | (573.8 | ) | (362.3 | ) | (10.3 | ) | |||||
Increase in other assets | (110.6 | ) | (63.7 | ) | (16.3 | ) | |||||
(Increase) decrease in mortgage loans held for sale | (208.8 | ) | 67.6 | (12.4 | ) | ||||||
Increase in accounts payable, accrued expenses and other liabilities | 129.1 | 89.0 | 58.0 | ||||||||
Net cash provided by operating activities | 545.2 | 440.2 | 623.9 | ||||||||
INVESTING ACTIVITIES | |||||||||||
Expenditures for property and equipment | (68.1 | ) | (102.7 | ) | (78.1 | ) | |||||
Proceeds from sale of assets | 292.9 | — | — | ||||||||
Expenditures related to multi-family rental properties | (70.2 | ) | (54.6 | ) | (8.0 | ) | |||||
(Increase) decrease in restricted cash | (16.4 | ) | (7.0 | ) | 0.2 | ||||||
Return of investment in unconsolidated entities | 17.5 | — | — | ||||||||
Net principal (increase) decrease of other mortgage loans and real estate owned | (1.2 | ) | 6.2 | 19.7 | |||||||
Proceeds from (purchases of) debt securities collateralized by residential real estate | 7.3 | (8.8 | ) | 35.8 | |||||||
Payments related to business acquisitions, net of cash acquired | (159.2 | ) | (4.1 | ) | (82.2 | ) | |||||
Net cash provided by (used in) investing activities | 2.6 | (171.0 | ) | (112.6 | ) | ||||||
FINANCING ACTIVITIES | |||||||||||
Proceeds from notes payable | 2,163.5 | 835.0 | — | ||||||||
Repayment of notes payable | (2,181.7 | ) | (1,192.3 | ) | (544.8 | ) | |||||
Advances (payments) on mortgage repurchase facility, net | 217.7 | (53.0 | ) | (4.9 | ) | ||||||
Proceeds from stock associated with certain employee benefit plans | 47.4 | 46.7 | 72.4 | ||||||||
Excess income tax benefit from employee stock awards | — | 14.3 | 10.0 | ||||||||
Cash paid for shares withheld for taxes | (10.3 | ) | (5.1 | ) | (5.9 | ) | |||||
Cash dividends paid | (188.4 | ) | (149.6 | ) | (118.7 | ) | |||||
Repurchases of common stock | (127.5 | ) | (60.6 | ) | — | ||||||
Distributions to noncontrolling interests, net | (3.2 | ) | — | — | |||||||
Net cash used in financing activities | (82.5 | ) | (564.6 | ) | (591.9 | ) | |||||
INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS | 465.3 | (295.4 | ) | (80.6 | ) | ||||||
Cash and cash equivalents at beginning of year | 1,007.8 | 1,303.2 | 1,383.8 | ||||||||
Cash and cash equivalents at end of year | $ | 1,473.1 | $ | 1,007.8 | $ | 1,303.2 | |||||
69
D.R. HORTON, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)
Supplemental cash flow information: | |||||||||||
Income taxes paid, net | $ | 387.2 | $ | 446.4 | $ | 389.9 | |||||
Supplemental disclosures of non-cash activities: | |||||||||||
Notes payable issued for inventory | $ | — | $ | 4.5 | $ | 4.2 | |||||
Stock issued under employee incentive plans | $ | 64.0 | $ | 31.9 | $ | 20.1 | |||||
Accrued expenditures for property and equipment | $ | 10.7 | $ | 16.3 | $ | 4.3 | |||||
Accrual for holdback payment related to acquisition | $ | — | $ | — | $ | 9.7 | |||||
See accompanying notes to consolidated financial statements.
70
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements have been prepared in accordance with U.S. Generally Accepted Accounting Principles (GAAP) and include the accounts of D.R. Horton, Inc. and all of its 100% owned, majority-owned and controlled subsidiaries, which are collectively referred to as the Company, unless the context otherwise requires. Noncontrolling interests represent the proportionate equity interests in consolidated entities that are not 100% owned by the Company. The Company owns a 75% controlling interest in Forestar Group Inc. (Forestar) and therefore is required to consolidate 100% of Forestar within its consolidated financial statements, and the 25% interest the Company does not own is accounted for as noncontrolling interests. The Company’s investment in unconsolidated entities in which significant influence, but not control, is held is accounted for by the equity method of accounting. All intercompany accounts, transactions and balances have been eliminated in consolidation.
Change in Presentation and Reclassifications
Certain reclassifications have been made to conform to the current year’s presentation. The Company has changed the presentation of the consolidated balance sheets and statements of operations to present its homebuilding, Forestar, financial services and other operations on a combined basis. Prior year amounts have also been combined to reflect this presentation. Of the $56.7 million previously presented as accounts payable and other liabilities in financial services and other operations at September 30, 2017, $4.8 million is classified as accounts payable and $51.9 million is classified as accrued expenses and other liabilities under the new presentation. See Note B for detailed financial information for the Company’s reporting segments.
As a result of the adoption of ASU 2016-09 on October 1, 2017, $5.1 million and $5.9 million of cash paid for shares withheld for taxes on stock-based awards was reclassified from operating cash flows to financing cash flows in the consolidated statements of cash flows for fiscal 2017 and 2016, respectively. These amounts were also reclassified from stock issued under employee incentive plans on the consolidated statements of total equity for fiscal 2017 and 2016. These reclassifications had no effect on the Company’s consolidated financial position or results of operations.
Use of Estimates
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions. These estimates and assumptions 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 materially from those estimates.
Revenue Recognition
Homebuilding revenue and related profit are generally recognized at the time of the closing of a sale, when title to and possession of the property are transferred to the buyer. In situations where the buyer’s financing is originated by DHI Mortgage, the Company’s 100% owned mortgage subsidiary, and the buyer has not made an adequate initial or continuing investment, the profit is deferred until the sale of the related mortgage loan to a third-party purchaser has been completed. At both September 30, 2018 and 2017, the deferred profit on these home sales was $3.6 million. Any profit on land sales is deferred until the full accrual method criteria are met. When appropriate, revenue and profit on long-term construction projects are recognized under the percentage-of-completion method.
71
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Financial services revenues associated with the Company’s title operations are recognized as closing services are rendered and title insurance policies are issued, both of which generally occur simultaneously as each home is closed. The Company transfers substantially all underwriting risk associated with title insurance policies to third-party insurers. The Company typically elects the fair value option for its mortgage loan originations. Mortgage loans held for sale are initially recorded at fair value based on either sale commitments or current market quotes and are adjusted for subsequent changes in fair value until the loans are sold. Net origination costs and fees associated with mortgage loans are recognized at the time of origination. The expected net future cash flows related to the associated servicing of a loan are included in the measurement of all written loan commitments that are accounted for at fair value through earnings at the time of commitment. The Company sells substantially all of the mortgages it originates and the related servicing rights to third-party purchasers. Interest income is earned from the date a mortgage loan is originated until the loan is sold.
Cash and Cash Equivalents
The Company considers all highly liquid investments with an initial maturity of three months or less when purchased to be cash equivalents. Proceeds from home closings held for the Company’s benefit at title companies are included in homebuilding cash and cash equivalents in the consolidated balance sheets.
Cash balances of the Company’s captive insurance subsidiary, which are expected to be used to fund the subsidiary’s operations and pay future anticipated legal claims, were $44.2 million and $36.7 million at September 30, 2018 and 2017, respectively, and are included in cash and cash equivalents in the consolidated balance sheets.
Restricted Cash
The Company has cash that is restricted as to its use. Restricted cash related to homebuilding and land development operations includes cash used as collateral for outstanding letters of credit issued under secured letter of credit agreements and customer deposits that are temporarily restricted in accordance with regulatory requirements. Restricted cash related to financial services is mortgagor related funds held for taxes and insurance on an interim basis until the sale of the loans.
Inventories and Cost of Sales
Inventory includes the costs of direct land acquisition, land development and home construction, capitalized interest, real estate taxes and direct overhead costs incurred during development and home construction. Costs incurred after development projects or homes are substantially complete, such as utilities, maintenance, and cleaning, are charged to selling, general and administrative (SG&A) expense as incurred. All indirect overhead costs, such as compensation of sales personnel, division and region management, and the costs of advertising and builder’s risk insurance are charged to SG&A expense as incurred.
Land and development costs are typically allocated to individual residential lots on a pro-rata basis, and the costs of residential lots are transferred to construction in progress when home construction begins. Home construction costs are specifically identified and recorded to individual homes. Cost of sales for homes closed includes the specific construction costs of each home and all applicable land acquisition, land development and related costs (both incurred and estimated to be incurred) allocated to each residential lot based upon the total number of homes expected to be closed in each community. Any changes to the estimated total development costs subsequent to the initial home closings in a community are generally allocated on a pro-rata basis to the remaining homes in the community associated with the relevant development activity.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
When a home is closed, the Company generally has not paid all incurred costs necessary to complete the home. A liability and a corresponding charge to cost of sales are recorded for the amount estimated to ultimately be paid related to completed homes that have been closed. Home construction budgets are compared to actual recorded costs to determine the additional costs remaining to be paid on each closed home.
The Company rarely purchases land for resale. However, when the Company owns land or communities under development that do not fit into its development and construction plans, and the Company determines that it will sell the asset, the project is accounted for as land held for sale if certain criteria are met. The Company records land held for sale at the lesser of its carrying value or fair value less estimated costs to sell.
Each quarter, the Company reviews its communities and land inventories for indicators of potential impairment. If indicators of impairment are present for a community, the Company performs an impairment evaluation of the community, which includes an analysis to determine if the undiscounted cash flows estimated to be generated by those assets are less than their carrying amounts. If so, impairment charges are recorded to cost of sales if the fair value of such assets is less than their carrying amounts. Impairment charges are also recorded on finished homes in substantially completed communities when events or circumstances indicate that the carrying values are greater than the fair values less estimated costs to sell these homes. The key assumptions relating to inventory valuations are impacted by local market and economic conditions and are inherently uncertain. Due to uncertainties in the estimation process, actual results could differ from such estimates. See Note C.
Capitalized Interest
The Company capitalizes interest costs incurred to inventory during active development and construction (active inventory). Capitalized interest is charged to cost of sales as the related inventory is delivered to the buyer. During periods in which the Company’s active inventory is lower than its debt level, a portion of the interest incurred is reflected as interest expense in the period incurred. During fiscal 2018 and 2017, the Company’s active inventory exceeded its debt level, and all interest incurred was capitalized to inventory. See Note E.
Land Option Deposits and Pre-Acquisition Costs
The Company enters into land and lot option purchase contracts to acquire land or lots for the construction of homes. Under these contracts, the Company will fund a stated deposit in consideration for the right, but not the obligation, to purchase land or lots at a future point in time with predetermined terms. Under the terms of many of the option purchase contracts, the option deposits are not refundable in the event the Company elects to terminate the contract. Option deposits and capitalized pre-acquisition costs are expensed to inventory and land option charges when the Company believes it is probable that it will not acquire the property under option and will not be able to recover these costs through other means. See Notes C and K.
Variable Interests
Option purchase contracts can result in the creation of a variable interest in the entity holding the land parcel under option. There were no variable interest entities reported in the consolidated balance sheets at September 30, 2018 and 2017 because, with regard to each entity, the Company determined it did not control the activities that most significantly impact the variable interest entity’s economic performance, and it did not have an obligation to absorb losses of or the right to receive benefits from the entity. The maximum exposure to losses related to the Company’s variable interest entities is limited to the amounts of the Company’s related option deposits. At September 30, 2018 and 2017, the option deposits related to these contracts totaled $326.0 million and $222.9 million, respectively, and are included in other assets in the consolidated balance sheets.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Property and Equipment
Property and equipment are stated at cost less accumulated depreciation. Repairs and maintenance costs are expensed as incurred. Depreciation generally is recorded using the straight-line method over the estimated useful life of the asset. The depreciable life of model home furniture is 2 years, depreciable lives of office furniture and equipment typically range from 2 to 5 years, and depreciable lives of buildings and improvements typically range from 5 to 30 years.
The Company’s property and equipment balances and the related accumulated depreciation at September 30, 2018 and 2017 were as follows:
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
Buildings and improvements (1) | $ | 292.3 | $ | 219.0 | |||
Multi-family rental properties under construction | 54.1 | 59.2 | |||||
Model home furniture | 127.8 | 120.4 | |||||
Office furniture and equipment | 107.8 | 99.7 | |||||
Land (1) | 63.8 | 52.9 | |||||
Total property and equipment | 645.8 | 551.2 | |||||
Accumulated depreciation | (244.7 | ) | (226.2 | ) | |||
Property and equipment, net | $ | 401.1 | $ | 325.0 | |||
_____________
(1) | At September 30, 2018 and 2017, buildings and improvements included $87.3 million and $15.3 million, respectively, related to completed multi-family rental properties and land included $36.7 million and $25.2 million, respectively, related to the Company’s multi-family rental operations. |
Depreciation expense was $58.2 million, $49.4 million and $50.8 million in fiscal 2018, 2017 and 2016, respectively.
Business Acquisitions
The Company accounts for acquisitions of businesses by allocating the purchase price of the business to the various assets acquired and liabilities assumed at their respective fair values. Any excess of the purchase price over the estimated fair values of the identifiable net assets acquired is recorded as goodwill. Significant judgment is often required in estimating the fair value of assets acquired, particularly intangible assets. These estimates and assumptions are based on historical experience, information obtained from the management of the acquired companies and the Company’s estimates of significant assumptions that a market participant would use when determining fair value. While the Company believes the estimates and assumptions are reasonable, they are inherently uncertain. Unanticipated market or macroeconomic events and circumstances may occur, which could affect the accuracy or validity of the estimates and assumptions.
On October 5, 2017, the Company acquired 75% of the outstanding shares of Forestar for $558.3 million in cash, pursuant to the terms of the merger agreement entered into in June 2017 (the acquisition). Forestar is a publicly traded residential lot development company listed on the New York Stock Exchange under the ticker symbol “FOR,” with operations in 24 markets and 14 states as of September 30, 2018.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The Company’s alignment with Forestar advances its strategy of increasing its access to optioned land and lot positions to enhance operational efficiency and returns. The Company’s homebuilding divisions and Forestar are identifying land development opportunities to expand Forestar’s platform, and the Company’s homebuilding operations are acquiring finished lots from Forestar in accordance with the master supply agreement between the two companies. As the controlling shareholder of Forestar, the Company strongly influences the strategic direction and operations of Forestar.
The Company hired a valuation firm to assist in the allocation of the purchase price to Forestar’s assets and liabilities. The fair values of inventories and the investment in unconsolidated entities were determined by discounting the expected future cash flows using discount rates of approximately 16% to 22% or based on contract prices from third parties. The fair values of inventories and the investment in unconsolidated entities utilized significant inputs not observable in the market, and thus represent Level 3 measurements within the fair value hierarchy. The fair value of noncontrolling interests was based on valuing the Forestar shares that were not purchased by the Company at the weighted average stock price of Forestar on the acquisition date, which is a Level 1 measurement. The fair value of notes payable was based on quoted market prices, which is a Level 2 measurement. The fair values of other assets and liabilities primarily approximate carrying value due to their short-term nature.
The purchase price was allocated based on the estimated fair value of 100% of Forestar’s assets and liabilities, as follows (in millions):
Cash | $ | 401.9 | |
Inventories | 334.6 | ||
Investment in unconsolidated entities | 98.5 | ||
Other assets | 51.6 | ||
Goodwill | 29.2 | ||
Total assets | 915.8 | ||
Accounts payable | 2.8 | ||
Accrued expenses and other liabilities | 49.4 | ||
Notes payable | 130.1 | ||
Total liabilities | 182.3 | ||
Less: Noncontrolling interests | 175.2 | ||
Net assets acquired | $ | 558.3 | |
As a result of the acquisition, the Company recorded $29.2 million of goodwill, none of which is tax deductible. The goodwill relates to expected synergies from the relationship with Forestar under the master supply agreement that will increase the Company’s access to optioned land and lot positions. The transaction costs incurred by the Company related to this acquisition totaled $7.2 million, of which $5.3 million was incurred during fiscal 2018 and expensed to selling, general and administrative expense.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The following unaudited pro forma data presents consolidated pro forma information as if the acquisition had been completed on October 1, 2016. The unaudited pro forma results include adjustments for interest expense and other acquisition related costs and their related income tax effects. This pro forma data should not be considered indicative of the results that would have actually occurred if the acquisition had been consummated on October 1, 2016 or of future results.
Year Ended September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
Revenues | $ | 16,068.0 | $ | 14,239.0 | |||
Net income attributable to D.R. Horton, Inc. | $ | 1,463.6 | $ | 1,124.1 | |||
Diluted net income per common share attributable to D.R. Horton, Inc. | $ | 3.82 | $ | 2.97 | |||
In September 2016, the Company acquired the homebuilding operations of Wilson Parker Homes for $91.9 million. Wilson Parker Homes operated in Atlanta and Augusta, Georgia; Raleigh, North Carolina; Columbia, South Carolina and Phoenix, Arizona. The assets acquired included approximately 380 homes in inventory, 490 lots and control of approximately 1,850 additional lots through option contracts. The Company also acquired a sales order backlog of 308 homes. No goodwill was recorded as a result of this acquisition. All of the assets acquired in this transaction were recorded at their estimated fair values by the Company. The acquisition was not material to the Company’s results of operations or its financial condition.
Subsequent to year end, the Company acquired the homebuilding operations of Westport Homes for approximately $190 million in cash. See Note O.
Goodwill
The Company records goodwill associated with its acquisitions of businesses when the purchase price of the business exceeds the fair value of the net tangible and identifiable intangible assets acquired. Goodwill balances are evaluated for potential impairment on at least an annual basis by comparing the carrying value of each of the operating segments with goodwill to their estimated fair values. The estimated fair value is determined by discounting the future cash flows of the operating segment to their present value. If the carrying value of the operating segment exceeds its fair value, the Company determines if an impairment exists based on the implied fair value of the operating segment’s goodwill. As a result of the goodwill evaluations performed in fiscal 2018 and 2017, no impairment charges were recorded. As a result of the goodwill evaluation performed in fiscal 2016, an impairment charge of $7.2 million was recorded to write off the remaining goodwill in the Huntsville operating segment in the Southeast reporting region. This operating segment experienced lower levels of profitability than anticipated primarily due to difficult market conditions. The Company’s goodwill balances by reporting segment were as follows:
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
East | $ | 21.8 | $ | 21.8 | |||
Midwest | — | — | |||||
Southeast | 40.1 | 40.1 | |||||
South Central | 15.9 | 15.9 | |||||
Southwest | — | — | |||||
West | 2.2 | 2.2 | |||||
Forestar | 29.2 | — | |||||
Total goodwill | $ | 109.2 | $ | 80.0 | |||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Warranty Claims
The Company typically provides its homebuyers with a ten-year limited warranty for major defects in structural elements such as framing components and foundation systems, a two-year limited warranty on major mechanical systems and a one-year limited warranty on other construction components. Since the Company subcontracts its construction work to subcontractors who typically provide it with an indemnity and a certificate of insurance prior to receiving payments for their work, claims relating to workmanship and materials are generally the primary responsibility of the subcontractors. Warranty liabilities have been established by charging cost of sales for each home delivered. The amounts charged are based on management’s estimate of expected warranty-related costs under all unexpired warranty obligation periods. The Company’s warranty liability is based upon historical warranty cost experience in each market in which it operates and is adjusted to reflect qualitative risks associated with the types of homes built and the geographic areas in which they are built. See Note K.
Legal Claims and Insurance
The Company records expenses and liabilities for legal claims related to construction defect matters, personal injury claims, employment matters, land development issues, contract disputes and other matters. The amounts recorded for these contingencies are based on the estimated costs of pending claims and the estimated costs of anticipated future claims related to previously closed homes. The Company estimates and records receivables under its applicable insurance policies for these legal claims when recovery is probable. Additionally, the Company may have the ability to recover a portion of its losses from its subcontractors and their insurance carriers when the Company has been named as an additional insured on their insurance policies. See Note K.
Advertising Costs
The Company expenses advertising costs as incurred. Advertising expense was approximately $44.1 million, $45.4 million and $41.2 million in fiscal 2018, 2017 and 2016, respectively.
Income Taxes
The Company’s income tax expense is calculated using the asset and liability method, under which deferred tax assets and liabilities are recognized based on the future tax consequences attributable to temporary differences between the financial statement amounts of assets and liabilities and their respective tax bases and attributable to net operating losses and tax credit carryforwards. When assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of its deferred tax assets will not be realized. The realization of deferred tax assets is dependent upon the generation of sufficient taxable income in future periods and in the jurisdictions in which those temporary differences become deductible. The Company records a valuation allowance when it determines it is more likely than not that a portion of the deferred tax assets will not be realized. The accounting for deferred taxes is based upon estimates of future results. Differences between the anticipated and actual outcomes of these future results could have a material impact on the Company’s consolidated results of operations or financial position. Also, changes in existing federal and state tax laws and tax rates could affect future tax results and the valuation of the Company’s deferred tax assets and liabilities. See Note G.
Interest and penalties related to unrecognized tax benefits are recognized in the financial statements as a component of income tax expense. Significant judgment is required to evaluate uncertain tax positions. The Company evaluates its uncertain tax positions on a quarterly basis. The evaluations are based upon a number of factors, including changes in facts or circumstances, changes in tax law, correspondence with tax authorities during the course of audits and effective settlement of audit issues. Changes in the recognition or measurement of uncertain tax positions could result in increases or decreases in the Company’s income tax expense in the period in which the change is made.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Earnings Per Share
Basic earnings per share is based on the weighted average number of shares of common stock outstanding during each year. Diluted earnings per share is based on the weighted average number of shares of common stock and dilutive securities outstanding during each year. See Note H.
Stock-Based Compensation
The Company’s stockholders formally authorize shares of its common stock to be available for future grants of stock-based compensation awards. From time to time, the Compensation Committee of the Company’s Board of Directors authorizes the grant of stock-based compensation to its employees and directors from these available shares. At September 30, 2018, the outstanding stock-based compensation awards include stock options and restricted stock units. Grants of restricted stock units may vest immediately or over a certain number of years as determined by the Compensation Committee of the Board of Directors. Restricted stock units outstanding at September 30, 2018 have a remaining vesting period of 1 to 5 years. Stock options are granted at exercise prices which equal the market value of the Company’s common stock at the date of the grant. The stock options outstanding at September 30, 2018 vest during the next year and expire 10 years after the dates on which they were granted.
The compensation expense for stock-based awards is based on the fair value of the award and is recognized on a straight-line basis over the remaining vesting period. The fair values of restricted stock units are based on the Company’s stock price at the date of grant. The fair values of stock options granted are calculated on the date of grant using a Black-Scholes option pricing model. Determining the fair value of stock options requires judgment in developing assumptions and involves a number of estimates. These estimates include, but are not limited to, the expected stock price volatility over the term of the awards, the expected dividend yield and expected stock option exercise behavior. In addition, judgment is used in estimating the number of stock options that are expected to be forfeited. See Note J.
Fair Value Measurements
The Financial Accounting Standards Board’s (FASB) authoritative guidance for fair value measurements establishes a three-level hierarchy based upon the inputs to the valuation model of an asset or liability. When available, the Company uses quoted market prices in active markets to determine fair value. The Company considers the principal market and nonperformance risk associated with the Company’s counterparties when determining the fair value measurements, if applicable. Fair value measurements are used for the Company’s mortgage loans held for sale, debt securities collateralized by residential real estate, interest rate lock commitments and other derivative instruments on a recurring basis and are used for inventories, other mortgage loans and real estate owned on a nonrecurring basis, when events and circumstances indicate that the carrying value may not be recoverable. See Note M.
Recent Accounting Pronouncements
In May 2014, the FASB issued ASU 2014-09, “Revenue from Contracts with Customers,” which is a comprehensive new revenue recognition model that will replace most existing revenue recognition guidance. The core principle of this guidance is that an entity should recognize revenue for the transfer of goods or services equal to the amount that it expects to be entitled to receive for those goods or services. The guidance is effective for the Company beginning October 1, 2018 and allows for full retrospective or modified retrospective methods of adoption. The Company plans to adopt this standard using the modified retrospective method. Upon adoption of the standard, the Company expects to record an adjustment to increase retained earnings and recognize a contract asset for expected future insurance brokerage commission renewals. The Company has not yet determined the amount of this adjustment and is continuing to evaluate other effects of the standard, but does not expect the adoption of this standard to have a material impact on its consolidated financial position, results of operations or cash flows.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
In January 2016, the FASB issued ASU 2016-01, “Financial Instruments - Recognition and Measurement of Financial Assets and Financial Liabilities,” which addresses certain aspects of recognition, measurement, presentation and disclosure of financial instruments. The guidance is effective for the Company beginning October 1, 2018 and is not expected to have a material impact on its consolidated financial position, results of operations or cash flows.
In February 2016, the FASB issued ASU 2016-02, “Leases,” which requires that lease assets and liabilities be recognized on the balance sheet and that key information about leasing arrangements be disclosed. The guidance is effective for the Company beginning October 1, 2019, although early adoption is permitted. The Company is currently evaluating the impact of this guidance on its consolidated financial position, results of operations and cash flows.
In June 2016, the FASB issued ASU 2016-13, “Financial Instruments - Credit Losses,” which replaces the current incurred loss impairment methodology with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information in determining credit loss estimates. The guidance is effective for the Company beginning October 1, 2020 and is not expected to have a material impact on its consolidated financial position, results of operations or cash flows.
In August 2016, the FASB issued ASU 2016-15, “Statement of Cash Flows - Classification of Certain Cash Receipts and Cash Payments,” which amends and clarifies the current guidance to reduce diversity in practice of the classification of certain cash receipts and payments in the statement of cash flows. The guidance is effective for the Company beginning October 1, 2018 and is not expected to have a material impact on its consolidated statements of cash flows.
In October 2016, the FASB issued ASU 2016-16, “Income Taxes - Intra-Entity Transfers of Assets Other Than Inventory,” which requires companies to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs. The guidance is effective for the Company beginning October 1, 2018 and is not expected to have a material impact on its consolidated financial position or cash flows.
In November 2016, the FASB issued ASU 2016-18, “Statement of Cash Flows - Restricted Cash,” which requires amounts generally described as restricted cash and restricted cash equivalents be included with cash and cash equivalents when reconciling the total beginning and ending amounts for the periods shown on the statement of cash flows. The guidance is effective for the Company beginning October 1, 2018 and is not expected to have a material impact on its consolidated financial position or cash flows.
In January 2017, the FASB issued ASU 2017-04, “Intangibles - Goodwill and Other,” which simplifies the measurement of goodwill impairment by removing the second step of the goodwill impairment test and requires the determination of the fair value of individual assets and liabilities of a reporting unit. Under the new guidance, goodwill impairment is measured as the amount by which a reporting unit’s carrying amount exceeds its fair value with the loss recognized limited to the total amount of goodwill allocated to the reporting unit. The guidance is effective for the Company beginning October 1, 2020 and is not expected to have a material impact on its consolidated financial position, results of operations or cash flows.
In February 2017, the FASB issued ASU 2017-05, “Other Income - Gains and Losses from the Derecognition of Nonfinancial Assets,” which updates the definition of an in substance nonfinancial asset and clarifies the derecognition guidance for nonfinancial assets to conform to the new revenue recognition standard (ASU 2014-09). The guidance is effective for the Company beginning October 1, 2018, concurrent with the adoption of ASU 2014-09, as required, and is not expected to have a material impact on its consolidated financial position, results of operations or cash flows.
In May 2017, the FASB issued ASU 2017-09, “Compensation - Stock Compensation: Scope of Modification Accounting,” which clarifies which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting. Under the new guidance, modification accounting is required if the fair value, vesting conditions or classification (equity or liability) of the new award are different from the original award immediately before the original award is modified. The guidance is effective for the Company beginning October 1, 2018 and is not expected to have a material impact on its consolidated financial position, results of operations or cash flows.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE B – SEGMENT INFORMATION
The Company’s operating segments are its 46 homebuilding divisions, its majority-owned Forestar residential lot development operations, its financial services operations and its other business activities. The Company’s reporting segments are its homebuilding reporting segments, its Forestar land development segment and its financial services segment. The homebuilding operating segments are aggregated into the following six reporting segments: East, Midwest, Southeast, South Central, Southwest and West. These reporting segments have homebuilding operations located in the following states:
East: | Delaware, Georgia (Savannah only), Maryland, New Jersey, North Carolina, Pennsylvania, South Carolina and Virginia | ||
Midwest: | Colorado, Illinois, Indiana and Minnesota | ||
Southeast: | Alabama, Florida, Georgia, Mississippi and Tennessee | ||
South Central: | Louisiana, Oklahoma and Texas | ||
Southwest: | Arizona and New Mexico | ||
West: | California, Hawaii, Nevada, Oregon, Utah and Washington | ||
Homebuilding is the Company’s core business, generating 97% of consolidated revenues in fiscal 2018 and 98% of consolidated revenues in fiscal 2017 and 2016. The Company’s homebuilding segments are primarily engaged in the acquisition and development of land and the construction and sale of residential homes, with operations in 81 markets in 27 states across the United States. The homebuilding segments generate most of their revenues from the sale of completed homes and to a lesser extent from the sale of land and lots.
The Forestar segment is a residential lot development company with operations in 24 markets and 14 states. The Company’s homebuilding divisions and Forestar are identifying land development opportunities to expand Forestar’s platform, and the homebuilding divisions are acquiring finished lots from Forestar in accordance with the master supply agreement between the two companies. Forestar’s segment results are presented on their historical cost basis, consistent with the manner in which management evaluates segment performance.
The Company’s financial services segment provides mortgage financing and title agency services to homebuyers in many of the Company’s homebuilding markets. The segment generates the substantial majority of its revenues from originating and selling mortgages and collecting fees for title insurance agency and closing services. The Company sells substantially all of the mortgages it originates and the related servicing rights to third-party purchasers.
In addition to its homebuilding, Forestar and financial services operations, the Company has subsidiaries that engage in other business activities. These subsidiaries conduct insurance-related operations, construct and own income-producing rental properties, own non-residential real estate including ranch land and improvements and own and operate oil and gas related assets. One of these subsidiaries, DHI Communities, is developing and constructing multi-family rental properties on land parcels the Company already owned and currently has four projects under active construction and two projects that are substantially complete. At September 30, 2018 and 2017, property and equipment in the consolidated balance sheets included $171.4 million and $93.7 million, respectively, of assets owned by DHI Communities. The operating results of these subsidiaries are immaterial for separate reporting and therefore are grouped together and presented as other.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The accounting policies of the reporting segments are described throughout Note A. Financial information relating to the Company’s reporting segments is as follows:
September 30, 2018 | ||||||||||||||||||||||||||||
Homebuilding | Forestar (1) | Financial Services | Other (2) | Eliminations (3) | Other Adjustments (4) | Consolidated | ||||||||||||||||||||||
(In millions) | ||||||||||||||||||||||||||||
Assets | ||||||||||||||||||||||||||||
Cash and cash equivalents | $ | 1,111.8 | $ | 318.8 | $ | 33.7 | $ | 8.8 | $ | — | $ | — | $ | 1,473.1 | ||||||||||||||
Restricted cash | 8.6 | 16.2 | 8.1 | — | — | — | 32.9 | |||||||||||||||||||||
Inventories: | ||||||||||||||||||||||||||||
Construction in progress and finished homes | 5,084.4 | — | — | — | 1.9 | — | 5,086.3 | |||||||||||||||||||||
Residential land and lots — developed and under development | 4,689.3 | 463.1 | — | — | (7.2 | ) | 27.2 | 5,172.4 | ||||||||||||||||||||
Land held for development | 61.2 | 34.9 | — | — | — | — | 96.1 | |||||||||||||||||||||
Land held for sale | 40.2 | — | — | — | — | — | 40.2 | |||||||||||||||||||||
9,875.1 | 498.0 | — | — | (5.3 | ) | 27.2 | 10,395.0 | |||||||||||||||||||||
Investment in unconsolidated entities | — | 11.7 | — | — | — | (0.7 | ) | 11.0 | ||||||||||||||||||||
Mortgage loans held for sale | — | — | 796.4 | — | — | — | 796.4 | |||||||||||||||||||||
Deferred income taxes, net | 176.5 | 26.9 | — | — | 1.1 | (10.5 | ) | 194.0 | ||||||||||||||||||||
Property and equipment, net | 207.1 | 1.8 | 3.0 | 189.2 | — | — | 401.1 | |||||||||||||||||||||
Other assets | 673.7 | 19.7 | 43.6 | 0.9 | (48.6 | ) | 12.6 | 701.9 | ||||||||||||||||||||
Goodwill | 80.0 | — | — | — | — | 29.2 | 109.2 | |||||||||||||||||||||
$ | 12,132.8 | $ | 893.1 | $ | 884.8 | $ | 198.9 | $ | (52.8 | ) | $ | 57.8 | $ | 14,114.6 | ||||||||||||||
Liabilities | ||||||||||||||||||||||||||||
Accounts payable | $ | 612.4 | $ | 11.2 | $ | 0.2 | $ | 4.2 | $ | (3.3 | ) | $ | — | $ | 624.7 | |||||||||||||
Accrued expenses and other liabilities | 1,041.3 | 95.7 | 41.9 | 9.9 | (46.1 | ) | (15.2 | ) | 1,127.5 | |||||||||||||||||||
Notes payable | 2,445.9 | 111.7 | 637.7 | — | — | 8.2 | 3,203.5 | |||||||||||||||||||||
$ | 4,099.6 | $ | 218.6 | $ | 679.8 | $ | 14.1 | $ | (49.4 | ) | $ | (7.0 | ) | $ | 4,955.7 | |||||||||||||
_____________
(1) | Amounts are presented on Forestar’s historical cost basis, consistent with the manner in which management evaluates segment performance. All purchase accounting adjustments are included in the Other Adjustments column. |
(2) | Amounts represent the aggregate balances of certain subsidiaries that are immaterial for separate reporting. |
(3) | Amounts represent the elimination of intercompany transactions and the reclassification of $5.8 million of Forestar interest expense to inventory. |
(4) | Amounts represent purchase accounting adjustments related to the Forestar acquisition. |
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
September 30, 2017 | ||||||||||||||||
Homebuilding | Financial Services | Other (1) | Consolidated | |||||||||||||
(In millions) | ||||||||||||||||
Assets | ||||||||||||||||
Cash and cash equivalents | $ | 973.0 | $ | 24.1 | $ | 10.7 | $ | 1,007.8 | ||||||||
Restricted cash | 9.3 | 7.2 | — | 16.5 | ||||||||||||
Inventories: | ||||||||||||||||
Construction in progress and finished homes | 4,606.0 | — | — | 4,606.0 | ||||||||||||
Residential land and lots — developed and under development | 4,519.7 | — | — | 4,519.7 | ||||||||||||
Land held for development | 101.0 | — | — | 101.0 | ||||||||||||
Land held for sale | 10.4 | — | — | 10.4 | ||||||||||||
9,237.1 | — | — | 9,237.1 | |||||||||||||
Mortgage loans held for sale | — | 587.3 | — | 587.3 | ||||||||||||
Deferred income taxes, net | 365.0 | — | — | 365.0 | ||||||||||||
Property and equipment, net | 194.4 | 3.0 | 127.6 | 325.0 | ||||||||||||
Other assets | 518.7 | 42.2 | 5.0 | 565.9 | ||||||||||||
Goodwill | 80.0 | — | — | 80.0 | ||||||||||||
$ | 11,377.5 | $ | 663.8 | $ | 143.3 | $ | 12,184.6 | |||||||||
Liabilities | ||||||||||||||||
Accounts payable | $ | 575.6 | $ | 1.5 | $ | 3.3 | $ | 580.4 | ||||||||
Accrued expenses and other liabilities | 933.1 | 35.6 | 16.3 | 985.0 | ||||||||||||
Notes payable | 2,451.6 | 420.0 | — | 2,871.6 | ||||||||||||
$ | 3,960.3 | $ | 457.1 | $ | 19.6 | $ | 4,437.0 | |||||||||
_____________
(1) | Amounts represent the aggregate balances of certain subsidiaries that are immaterial for separate reporting. |
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Year Ended September 30, 2018 | ||||||||||||||||||||||||||||
Homebuilding | Forestar (1) | Financial Services | Other (2) | Eliminations (3) | Other Adjustments (4) | Consolidated | ||||||||||||||||||||||
(In millions) | ||||||||||||||||||||||||||||
Revenues: | ||||||||||||||||||||||||||||
Home sales | $ | 15,502.0 | $ | — | $ | — | $ | — | $ | — | $ | — | $ | 15,502.0 | ||||||||||||||
Land/lot sales and other | 121.8 | 109.2 | — | — | (39.1 | ) | (1.2 | ) | 190.7 | |||||||||||||||||||
Financial services | — | — | 375.3 | — | — | — | 375.3 | |||||||||||||||||||||
15,623.8 | 109.2 | 375.3 | — | (39.1 | ) | (1.2 | ) | 16,068.0 | ||||||||||||||||||||
Cost of sales: | ||||||||||||||||||||||||||||
Home sales (5) | 12,195.5 | — | — | — | (1.2 | ) | — | 12,194.3 | ||||||||||||||||||||
Land/lot sales and other | 99.1 | 68.0 | — | — | (30.1 | ) | 16.4 | 153.4 | ||||||||||||||||||||
Inventory and land option charges | 48.8 | 1.0 | — | — | — | 0.6 | 50.4 | |||||||||||||||||||||
12,343.4 | 69.0 | — | — | (31.3 | ) | 17.0 | 12,398.1 | |||||||||||||||||||||
Selling, general and administrative expense | 1,346.2 | 32.8 | 272.6 | 24.7 | — | 0.5 | 1,676.8 | |||||||||||||||||||||
Equity in earnings of unconsolidated entities | — | (12.4 | ) | — | — | 2.5 | 7.1 | (2.8 | ) | |||||||||||||||||||
Gain on sale of assets | (15.8 | ) | (27.7 | ) | — | — | — | 24.7 | (18.8 | ) | ||||||||||||||||||
Interest expense | — | 5.8 | — | — | (5.8 | ) | — | — | ||||||||||||||||||||
Other (income) expense | (7.2 | ) | (7.0 | ) | (15.1 | ) | (17.0 | ) | — | 1.0 | (45.3 | ) | ||||||||||||||||
Income (loss) before income taxes | $ | 1,957.2 | $ | 48.7 | $ | 117.8 | $ | (7.7 | ) | $ | (4.5 | ) | $ | (51.5 | ) | $ | 2,060.0 | |||||||||||
Summary Cash Flow Information: | ||||||||||||||||||||||||||||
Depreciation and amortization | $ | 53.4 | $ | 0.3 | $ | 1.4 | $ | 6.8 | $ | — | $ | 0.5 | $ | 62.4 | ||||||||||||||
Cash provided by (used in) operating activities (6) | $ | 1,001.7 | $ | (320.3 | ) | $ | (116.6 | ) | $ | 0.8 | $ | (10.5 | ) | $ | (9.9 | ) | $ | 545.2 | ||||||||||
_____________
(1) | Results are presented from the date of acquisition and on Forestar’s historical cost basis, consistent with the manner in which management evaluates segment performance. All purchase accounting adjustments are included in the Other Adjustments column. |
(2) | Amounts represent the aggregate results of certain subsidiaries that are immaterial for separate reporting. |
(3) | Amounts represent the elimination of intercompany transactions and the reclassification of Forestar interest expense to inventory. |
(4) | Amounts represent purchase accounting adjustments related to the Forestar acquisition. |
(5) | Amount in the Eliminations column represents the profit on lots sold from Forestar to the homebuilding segment. Intercompany profit is eliminated in the consolidated financial statements when Forestar sells lots to the homebuilding segment and is not recognized in the consolidated financial statements until the homebuilding segment closes homes on the lots to homebuyers. |
(6) | Amount in the Eliminations column represents cash flow related to land sales from the Homebuilding segment to the Other segment. |
83
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Year Ended September 30, 2017 | ||||||||||||||||
Homebuilding | Financial Services | Other (1) | Consolidated | |||||||||||||
(In millions) | ||||||||||||||||
Revenues: | ||||||||||||||||
Home sales | $ | 13,653.2 | $ | — | $ | — | $ | 13,653.2 | ||||||||
Land/lot sales and other | 88.3 | — | — | 88.3 | ||||||||||||
Financial services | — | 349.5 | — | 349.5 | ||||||||||||
13,741.5 | 349.5 | — | 14,091.0 | |||||||||||||
Cost of sales: | ||||||||||||||||
Home sales | 10,927.8 | — | — | 10,927.8 | ||||||||||||
Land/lot sales and other | 74.8 | — | — | 74.8 | ||||||||||||
Inventory and land option charges | 40.2 | — | — | 40.2 | ||||||||||||
11,042.8 | — | — | 11,042.8 | |||||||||||||
Selling, general and administrative expense | 1,220.4 | 239.3 | 11.9 | 1,471.6 | ||||||||||||
Other (income) expense | (11.0 | ) | (14.3 | ) | (0.2 | ) | (25.5 | ) | ||||||||
Income (loss) before income taxes | $ | 1,489.3 | $ | 124.5 | $ | (11.7 | ) | $ | 1,602.1 | |||||||
Summary Cash Flow Information: | ||||||||||||||||
Depreciation and amortization | $ | 49.5 | $ | 1.5 | $ | 3.7 | $ | 54.7 | ||||||||
Cash provided by (used in) operating activities | $ | 303.7 | $ | 139.1 | $ | (2.6 | ) | $ | 440.2 | |||||||
_____________
(1) | Amounts represent the aggregate results of certain subsidiaries that are immaterial for separate reporting. |
84
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Year Ended September 30, 2016 | ||||||||||||||||
Homebuilding | Financial Services | Other (1) | Consolidated | |||||||||||||
(In millions) | ||||||||||||||||
Revenues: | ||||||||||||||||
Home sales | $ | 11,783.1 | $ | — | $ | — | $ | 11,783.1 | ||||||||
Land/lot sales and other | 78.7 | — | — | 78.7 | ||||||||||||
Financial services | — | 295.6 | — | 295.6 | ||||||||||||
11,861.8 | 295.6 | — | 12,157.4 | |||||||||||||
Cost of sales: | ||||||||||||||||
Home sales | 9,403.0 | — | — | 9,403.0 | ||||||||||||
Land/lot sales and other | 68.2 | — | — | 68.2 | ||||||||||||
Inventory and land option charges | 31.4 | — | — | 31.4 | ||||||||||||
9,502.6 | — | — | 9,502.6 | |||||||||||||
Selling, general and administrative expense | 1,100.3 | 211.2 | 8.8 | 1,320.3 | ||||||||||||
Goodwill impairment | 7.2 | — | — | 7.2 | ||||||||||||
Gain on sale of assets | (4.5 | ) | — | — | (4.5 | ) | ||||||||||
Other (income) expense | (8.2 | ) | (13.7 | ) | 0.2 | (21.7 | ) | |||||||||
Income (loss) before income taxes | $ | 1,264.4 | $ | 98.1 | $ | (9.0 | ) | $ | 1,353.5 | |||||||
Summary Cash Flow Information: | ||||||||||||||||
Depreciation and amortization | $ | 58.2 | $ | 1.2 | $ | 1.6 | $ | 61.0 | ||||||||
Cash provided by (used in) operating activities | $ | 580.5 | $ | 44.7 | $ | (1.3 | ) | $ | 623.9 | |||||||
_____________
(1) | Amounts represent the aggregate results of certain subsidiaries that are immaterial for separate reporting. |
85
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Homebuilding Inventories by Reporting Segment (1) | September 30, | ||||||
2018 | 2017 | ||||||
(In millions) | |||||||
East | $ | 1,192.0 | $ | 1,068.9 | |||
Midwest | 583.1 | 492.6 | |||||
Southeast | 2,668.7 | 2,392.3 | |||||
South Central | 2,439.4 | 2,199.4 | |||||
Southwest | 499.7 | 506.1 | |||||
West | 2,268.5 | 2,352.5 | |||||
Corporate and unallocated (2) | 223.7 | 225.3 | |||||
$ | 9,875.1 | $ | 9,237.1 | ||||
_________________________
(1) | Homebuilding inventories are the only assets included in the measure of homebuilding segment assets used by the Company’s chief operating decision makers. |
(2) | Corporate and unallocated consists primarily of capitalized interest and property taxes. |
Homebuilding Results by Reporting Segment | Year Ended September 30, | ||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions) | |||||||||||
Revenues | |||||||||||
East | $ | 1,893.4 | $ | 1,640.1 | $ | 1,446.5 | |||||
Midwest | 858.9 | 736.5 | 651.7 | ||||||||
Southeast | 4,578.6 | 4,087.6 | 3,463.5 | ||||||||
South Central | 3,769.9 | 3,383.1 | 2,995.1 | ||||||||
Southwest | 768.7 | 597.5 | 388.1 | ||||||||
West | 3,754.3 | 3,296.7 | 2,916.9 | ||||||||
$ | 15,623.8 | $ | 13,741.5 | $ | 11,861.8 | ||||||
Inventory and Land Option Charges | |||||||||||
East | $ | 2.3 | $ | 13.6 | $ | 13.4 | |||||
Midwest | 5.1 | 1.8 | 1.1 | ||||||||
Southeast | 28.8 | 8.7 | 4.5 | ||||||||
South Central | 4.6 | 4.1 | 3.1 | ||||||||
Southwest | 0.9 | 1.6 | 6.2 | ||||||||
West | 7.1 | 10.4 | 3.1 | ||||||||
$ | 48.8 | $ | 40.2 | $ | 31.4 | ||||||
Income Before Income Taxes (1) | |||||||||||
East | $ | 217.3 | $ | 153.9 | $ | 138.7 | |||||
Midwest | 77.5 | 49.1 | 44.3 | ||||||||
Southeast | 536.0 | 450.3 | 388.4 | ||||||||
South Central | 506.1 | 439.1 | 374.8 | ||||||||
Southwest | 97.4 | 39.6 | 7.3 | ||||||||
West | 522.9 | 357.3 | 310.9 | ||||||||
$ | 1,957.2 | $ | 1,489.3 | $ | 1,264.4 | ||||||
_________________________
(1) | Expenses maintained at the corporate level consist primarily of interest and property taxes, which are capitalized and amortized to cost of sales or expensed directly, and the expenses related to operating the Company’s corporate office. The amortization of capitalized interest and property taxes is allocated to each homebuilding segment based on the segment’s cost of sales, while expenses associated with the corporate office are allocated to each homebuilding segment based on the segment’s inventory balances. |
86
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE C – INVENTORIES
At the end of each quarter during fiscal 2018, the Company reviewed the performance and outlook for all of its communities and land inventories for indicators of potential impairment and performed detailed impairment evaluations and analyses when necessary. As of September 30, 2018, the Company performed detailed impairment evaluations of communities and land inventories with a combined carrying value of $60.5 million and recorded impairment charges of $3.5 million during the fourth quarter to reduce the carrying value of impaired communities and land to fair value. Total impairment charges during fiscal 2018, 2017 and 2016 were $11.8 million, $23.2 million and $20.3 million, respectively. Inventory impairments and the land option charges discussed below are included in cost of sales in the consolidated statements of operations.
During fiscal 2018, 2017 and 2016, earnest money and pre-acquisition cost write-offs related to land option contracts that the Company has terminated or expects to terminate were $14.1 million, $17.0 million and $11.1 million, respectively. Total inventory and land option charges of $50.4 million for fiscal 2018 also include a charge of $24.5 million related to the settlement of an outstanding dispute associated with a land transaction.
On February 8, 2018, Forestar sold a portion of its assets for $232 million. This strategic asset sale included projects owned both directly and indirectly through ventures. The total net proceeds after certain purchase price adjustments, closing costs and other costs associated with selling these projects was $217.5 million, and a gain on the sale of these assets of $0.7 million is included in the Company’s consolidated statement of operations for the year ended September 30, 2018.
87
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE D – NOTES PAYABLE
The Company’s notes payable at their principal amounts, net of unamortized discounts and debt issuance costs, consist of the following:
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
Homebuilding: | |||||||
Unsecured: | |||||||
Revolving credit facility, maturing 2023 | $ | — | $ | — | |||
3.625% senior notes due 2018 | — | 399.7 | |||||
3.75% senior notes due 2019 | 499.6 | 498.8 | |||||
4.0% senior notes due 2020 | 498.8 | 497.9 | |||||
2.55% senior notes due 2020 | 397.9 | — | |||||
4.375% senior notes due 2022 | 348.4 | 348.1 | |||||
4.75% senior notes due 2023 | 298.7 | 298.4 | |||||
5.75% senior notes due 2023 | 398.0 | 397.6 | |||||
Other secured notes | 4.5 | 11.1 | |||||
2,445.9 | 2,451.6 | ||||||
Forestar: | |||||||
Unsecured: | |||||||
Revolving credit facility, maturing 2021 | — | ||||||
3.75% convertible senior notes due 2020 | 119.9 | ||||||
119.9 | |||||||
Financial Services: | |||||||
Mortgage repurchase facility, maturing 2019 | 637.7 | 420.0 | |||||
$ | 3,203.5 | $ | 2,871.6 | ||||
Debt issuance costs that were deducted from the carrying amounts of the homebuilding senior notes totaled $8.5 million and $9.5 million at September 30, 2018 and 2017, respectively. These costs are capitalized into inventory as they are amortized. Forestar’s 3.75% convertible senior notes due 2020 include an unamortized fair value adjustment of $8.2 million at September 30, 2018.
As of September 30, 2018, maturities of consolidated notes payable, assuming the mortgage repurchase facility is not extended or renewed, are $1.1 billion in fiscal 2019, $618.9 million in fiscal 2020, $400.0 million in fiscal 2021, $350.0 million in fiscal 2022 and $700.0 million in fiscal 2023.
Homebuilding:
The Company has a senior unsecured homebuilding revolving credit facility which was amended in September 2018 to increase its capacity from $1.275 billion to $1.325 billion and to extend its maturity date to September 25, 2023. The facility has an uncommitted accordion feature that could increase the size of the facility to $1.9 billion, subject to certain conditions and availability of additional bank commitments. The facility also provides for the issuance of letters of credit with a sublimit equal to approximately 50% of the revolving credit commitment. Letters of credit issued under the facility reduce the available borrowing capacity. The interest rate on borrowings under the revolving credit facility may be based on either the Prime Rate or London Interbank Offered Rate (LIBOR) plus an applicable margin, as defined in the credit agreement governing the facility. Borrowings and repayments under the facility totaled $1.8 billion each during fiscal 2018. At September 30, 2018, there were no borrowings outstanding and $107.2 million of letters of credit issued under the revolving credit facility.
88
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The Company’s homebuilding revolving credit facility imposes restrictions on its operations and activities, including requiring the maintenance of a maximum allowable ratio of debt to tangible net worth and a borrowing base restriction if the Company’s ratio of debt to tangible net worth exceeds a certain level. These covenants are measured as defined in the credit agreement governing the facility and are reported to the lenders quarterly. A failure to comply with these financial covenants could allow the lending banks to terminate the availability of funds under the revolving credit facility or cause any outstanding borrowings to become due and payable prior to maturity. The credit agreement governing the facility and the indenture governing the senior notes also impose restrictions on the creation of secured debt and liens. At September 30, 2018, the Company was in compliance with all of the covenants, limitations and restrictions of its homebuilding revolving credit facility and public debt obligations.
The Company has an automatically effective universal shelf registration statement filed with the Securities and Exchange Commission (SEC) in August 2018, registering debt and equity securities that the Company may issue from time to time in amounts to be determined.
In December 2017, the Company issued $400 million principal amount of 2.55% senior notes due December 1, 2020, with interest payable semi-annually. The notes represent unsecured obligations of the Company. In December 2017, the Company redeemed $400 million principal amount of its 3.625% senior notes due February 2018. The senior notes were redeemed at a price equal to 100% of the principal amount of the notes, together with accrued and unpaid interest.
The key terms of the Company’s homebuilding senior notes outstanding as of September 30, 2018 are summarized below.
Notes Payable | Principal Amount | Date Issued | Date Due | Redeemable Prior to Maturity (1) | Effective Interest Rate (2) | |||||
(In millions) | ||||||||||
3.75% senior notes | $500.0 | February 2014 | March 1, 2019 | Yes | 3.9% | |||||
4.0% senior notes | $500.0 | February 2015 | February 15, 2020 | Yes | 4.2% | |||||
2.55% senior notes | $400.0 | December 2017 | December 1, 2020 | Yes | 2.8% | |||||
4.375% senior notes | $350.0 | September 2012 | September 15, 2022 | Yes | 4.5% | |||||
4.75% senior notes | $300.0 | February 2013 | February 15, 2023 | Yes | 4.9% | |||||
5.75% senior notes | $400.0 | August 2013 | August 15, 2023 | Yes | 5.9% | |||||
_____________
(1) | The Company may redeem the notes in whole at any time or in part from time to time, at a redemption price equal to the greater of 100% of their principal amount or the present value of the remaining scheduled payments on the redemption date, plus accrued and unpaid interest. |
(2) | Interest is payable semi-annually on each of the series of senior notes. The annual effective interest rate is calculated after giving effect to the amortization of debt issuance costs. |
All series of homebuilding senior notes and borrowings under the revolving credit facility are senior obligations and rank pari passu in right of payment to all existing and future unsecured indebtedness and senior to all existing and future indebtedness expressly subordinated to them. The homebuilding senior notes and borrowings under the revolving credit facility are guaranteed by entities that hold approximately 85% of the Company’s assets. Upon the occurrence of both a change of control of the Company and a ratings downgrade event, as defined in the indenture governing its senior notes, the Company would be required in certain circumstances to offer to repurchase these notes at 101% of their principal amount, along with accrued and unpaid interest. Also, a change of control as defined in the revolving credit facility would constitute an event of default under the revolving credit facility, which could result in the acceleration of any borrowings outstanding under the facility and the termination of the commitments thereunder.
89
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Effective August 1, 2018, the Board of Directors authorized the repurchase of up to $500 million of the Company’s debt securities effective through September 30, 2019. All of the $500 million authorization was remaining at September 30, 2018.
Forestar:
In August 2018, Forestar entered into a $380 million senior unsecured revolving credit facility with an uncommitted accordion feature that could increase the size of the facility to $570 million, subject to certain conditions and availability of additional bank commitments. The facility also provides for the issuance of letters of credit with a sublimit equal to the greater of $100 million and 50% of the revolving credit commitment. Borrowings under the revolving credit facility are subject to a borrowing base based on Forestar’s book value of its real estate assets and unrestricted cash. The maturity date of the facility is August 16, 2021. The maturity date of the revolving credit facility may be extended by up to one year on up to three occasions, subject to the approval of lenders holding a majority of the commitments. At September 30, 2018, there were no borrowings outstanding and $4.5 million of letters of credit issued under the revolving credit facility.
The revolving credit facility includes customary affirmative and negative covenants, events of default and financial covenants. The financial covenants require Forestar to maintain a minimum level of tangible net worth, a minimum level of liquidity and a maximum allowable leverage ratio. These covenants are measured as defined in the credit agreement governing the facility and are reported to the lenders quarterly. A failure to comply with these financial covenants could allow the lending banks to terminate the availability of funds under the revolving credit facility or cause any outstanding borrowings to become due and payable prior to maturity. At September 30, 2018, Forestar was in compliance with all of the covenants, limitations and restrictions of its revolving credit facility.
In August 2018, in connection with entering into the revolving credit facility agreement, Forestar amended its letter of credit facility agreement. Under the amendment, outstanding letters of credit issued by one bank were transferred into Forestar’s new revolving credit facility. The amendment reduced the capacity of the letter of credit facility from $30.0 million to $15.4 million and provided for a corresponding release of cash collateral in the amount of $13.8 million. The amendment also extended the maturity date of the facility to October 5, 2019. At September 30, 2018, letters of credit outstanding under the letter of credit facility totaled $15.4 million, secured by $16.2 million in cash, which is included in restricted cash in the consolidated balance sheet.
On October 5, 2017, Forestar had $120 million principal amount outstanding of 3.75% convertible senior notes due 2020. The completion of the acquisition resulted in a fundamental change in the notes as described in the related note indentures and therefore, Forestar offered to purchase all or any part of every holder’s convertible senior notes for a price in cash equal to 100% of the aggregate principal amount of the notes, plus accrued and unpaid interest, if any, to the date of repurchase. As a result, Forestar purchased $1.1 million of the aggregate principal amount of the notes. Also, prior to the acquisition, upon conversion of the notes each holder was entitled to receive 40.8351 shares of former Forestar common stock per $1,000 principal amount of notes surrendered for conversion. In connection with the acquisition, the conversion ratio was adjusted in accordance with the indenture governing the convertible notes such that each holder is now entitled to receive $579.77062 in cash and 8.17192 shares of new Forestar common stock per $1,000 principal amount of notes surrendered for conversion.
Forestar’s revolving credit facility and its convertible senior notes are not guaranteed by D.R. Horton, Inc. or any of the subsidiaries that guarantee the Company’s homebuilding debt.
90
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Financial Services:
The Company’s mortgage subsidiary, DHI Mortgage, has a mortgage repurchase facility that is accounted for as a secured financing. The mortgage repurchase facility provides financing and liquidity to DHI Mortgage by facilitating purchase transactions in which DHI Mortgage transfers eligible loans to the counterparties against the transfer of funds by the counterparties, thereby becoming purchased loans. DHI Mortgage then has the right and obligation to repurchase the purchased loans upon their sale to third-party purchasers in the secondary market or within specified time frames from 45 to 60 days in accordance with the terms of the mortgage repurchase facility. The total capacity of the facility is $600 million; however, the capacity increases, without requiring additional commitments, to $725 million for approximately 30 days at each quarter end and to $800 million for approximately 45 days at fiscal year end. The capacity can also be increased to $1.0 billion subject to the availability of additional commitments. The maturity date of the facility is February 22, 2019.
As of September 30, 2018, $758.6 million of mortgage loans held for sale with a collateral value of $735.6 million were pledged under the mortgage repurchase facility. As a result of advance paydowns totaling $97.9 million, DHI Mortgage had an obligation of $637.7 million outstanding under the mortgage repurchase facility at September 30, 2018 at a 4.1% annual interest rate.
The mortgage repurchase facility is not guaranteed by D.R. Horton, Inc. or any of the subsidiaries that guarantee the Company’s homebuilding debt. The facility contains financial covenants as to the mortgage subsidiary’s minimum required tangible net worth, its maximum allowable ratio of debt to tangible net worth and its minimum required liquidity. These covenants are measured and reported to the lenders monthly. At September 30, 2018, DHI Mortgage was in compliance with all of the conditions and covenants of the mortgage repurchase facility.
In the past, DHI Mortgage has been able to renew or extend its mortgage credit facility at a sufficient capacity and on satisfactory terms prior to its maturity and obtain temporary additional commitments through amendments to the credit agreement during periods of higher than normal volumes of mortgages held for sale. The liquidity of the Company’s financial services business depends upon its continued ability to renew and extend the mortgage repurchase facility or to obtain other additional financing in sufficient capacities.
NOTE E – CAPITALIZED INTEREST
The following table summarizes the Company’s interest costs incurred, capitalized and expensed during the years ended September 30, 2018, 2017 and 2016.
Year Ended September 30, | |||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions) | |||||||||||
Capitalized interest, beginning of year | $ | 167.9 | $ | 191.2 | $ | 208.0 | |||||
Interest incurred (1) | 125.4 | 129.3 | 152.3 | ||||||||
Interest charged to cost of sales | (130.6 | ) | (152.6 | ) | (169.1 | ) | |||||
Capitalized interest, end of year | $ | 162.7 | $ | 167.9 | $ | 191.2 | |||||
_____________
(1) | Interest incurred included interest on the Company's mortgage repurchase facility of $12.1 million, $8.5 million and $8.4 million in fiscal 2018, 2017 and 2016, respectively. Also included in the fiscal 2018 amount is interest incurred by Forestar of $3.4 million, net of purchase accounting adjustments, from the acquisition date through September 30, 2018. |
91
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE F – MORTGAGE LOANS
Mortgage Loans Held for Sale
Mortgage loans held for sale consist primarily of single-family residential loans collateralized by the underlying property. At September 30, 2018, mortgage loans held for sale had an aggregate carrying value of $796.4 million and an aggregate outstanding principal balance of $776.1 million. At September 30, 2017, mortgage loans held for sale had an aggregate carrying value of $587.3 million and an aggregate outstanding principal balance of $570.8 million. During the years ended September 30, 2018, 2017 and 2016, mortgage loans originated totaled $7.6 billion, $6.8 billion and $5.9 billion, respectively, and mortgage loans sold totaled $7.4 billion, $6.8 billion and $5.9 billion, respectively. The Company had gains on sales of loans and servicing rights of $265.1 million, $251.1 million and $207.5 million during the years ended September 30, 2018, 2017 and 2016, respectively. Net gains on sales of loans and servicing rights are included in revenues in the consolidated statements of operations. Approximately 92% of the mortgage loans sold by DHI Mortgage during fiscal 2018 were sold to four major financial entities, the largest percentage of which purchased 36% of the total loans sold.
To manage the interest rate risk inherent in its mortgage operations, the Company hedges its risk using derivative instruments, generally forward sales of mortgage-backed securities (MBS), which are referred to as “hedging instruments” in the following discussion. The Company does not enter into or hold derivatives for trading or speculative purposes.
Newly originated loans that have been closed but not committed to third-party purchasers are hedged to mitigate the risk of changes in their fair value. Hedged loans are committed to third-party purchasers typically within three days after origination. The notional amounts of the hedging instruments used to hedge mortgage loans held for sale vary in relationship to the underlying loan amounts, depending on the movements in the value of each hedging instrument relative to the value of the underlying mortgage loans. The fair value change related to the hedging instruments generally offsets the fair value change in the mortgage loans held for sale. The net fair value change, which for the years ended September 30, 2018, 2017 and 2016 was not significant, is recognized in revenues in the consolidated statements of operations. At September 30, 2018 and 2017, the Company’s mortgage loans held for sale that were not committed to third-party purchasers totaled $575.9 million and $330.7 million, respectively, and the notional amounts of the hedging instruments related to those loans totaled $575.8 million and $330.7 million, respectively.
Other Mortgage Loans and Loss Reserves
Mortgage loans are sold with limited recourse provisions derived from industry-standard representations and warranties in the relevant agreements. These representations and warranties primarily involve the absence of misrepresentations by the borrower or other parties, the appropriate underwriting of the loan and in some cases, a required minimum number of payments to be made by the borrower. The Company generally does not retain any other continuing interest related to mortgage loans sold in the secondary market. The majority of other mortgage loans consists of loans repurchased due to these limited recourse obligations. Typically, these loans are impaired, and some become real estate owned through the foreclosure process. At September 30, 2018 and 2017, the Company’s total other mortgage loans and real estate owned, before loss reserves, totaled $9.1 million and $8.3 million, respectively.
The Company has recorded reserves for estimated losses on other mortgage loans, real estate owned and future loan repurchase obligations due to the limited recourse provisions, all of which are recorded as reductions of revenue. The loss reserve for loan repurchase and settlement obligations is estimated based on analysis of the volume of mortgages originated, loan repurchase requests received, actual repurchases and losses through the disposition of such loans or requests and discussions with mortgage purchasers. The reserve balances at September 30, 2018 and 2017 totaled $8.4 million and $8.7 million, respectively.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Other mortgage loans and real estate owned net of the related loss reserves are included in other assets, while loan repurchase obligations are included in accrued expenses and other liabilities in the Company’s consolidated balance sheets.
Loan Commitments and Related Derivatives
The Company is party to interest rate lock commitments (IRLCs), which are extended to borrowers who have applied for loan funding and meet defined credit and underwriting criteria. At September 30, 2018 and 2017, the notional amount of IRLCs, which are accounted for as derivative instruments recorded at fair value, totaled $485.3 million and $446.2 million, respectively.
The Company manages interest rate risk related to its IRLCs through the use of best-efforts whole loan delivery commitments and hedging instruments. These instruments are considered derivatives in an economic hedge and are accounted for at fair value with gains and losses recognized in revenues in the consolidated statements of operations. At September 30, 2018 and 2017, the notional amount of best-efforts whole loan delivery commitments totaled $25.6 million and $26.9 million, respectively, and the notional amount of hedging instruments related to IRLCs not yet committed to purchasers totaled $430.2 million and $389.3 million, respectively.
NOTE G – INCOME TAXES
Income Tax Expense
The components of the Company’s income tax expense are as follows:
Year Ended September 30, | |||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions) | |||||||||||
Current tax expense: | |||||||||||
Federal | $ | 373.2 | $ | 425.6 | $ | 376.0 | |||||
State | 53.6 | 27.3 | 15.9 | ||||||||
426.8 | 452.9 | 391.9 | |||||||||
Deferred tax expense: | |||||||||||
Federal | 158.7 | 87.9 | 47.6 | ||||||||
State | 12.2 | 22.9 | 27.7 | ||||||||
170.9 | 110.8 | 75.3 | |||||||||
Total income tax expense | $ | 597.7 | $ | 563.7 | $ | 467.2 | |||||
The Company’s effective tax rate was 29.0%, 35.2% and 34.5% in fiscal 2018, 2017 and 2016, respectively. The effective tax rate for fiscal 2018 reflects the impact of the Tax Cuts and Jobs Act (Tax Act), which was enacted into law on December 22, 2017, an excess tax benefit related to stock-based compensation, the release of a valuation allowance against deferred tax assets related to Forestar, and the enactment of the Bipartisan Budget Act of 2018, which retroactively extended the expiration date of the federal energy efficient home credit from December 31, 2016 until December 31, 2017. The effective tax rates for all years include an expense for state income taxes, reduced by tax benefits for the domestic production activities deduction.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The Tax Act reduced the corporate tax rate from 35% to 21% for all corporations effective January 1, 2018. For fiscal year companies, the change in law requires the application of a blended tax rate in the year of change, which for the Company was 24.5% for the fiscal year ended September 30, 2018. Thereafter, the applicable statutory tax rate is 21%. ASC 740 requires all companies to reflect the effects of the new law in the period in which the law was enacted. Accordingly, the Company reduced the statutory tax rate that applied to its year-to-date earnings from 35% to 24.5%. In addition, the Company remeasured its deferred tax assets and liabilities for the tax law change, which resulted in additional income tax expense of $108.7 million recognized during the three months ended December 31, 2017. No other tax law changes as a result of the Tax Act had a significant impact on the Company’s financial statements.
On October 5, 2017, the Company acquired 75% of the outstanding shares of Forestar. The Company recorded goodwill of $29.2 million, which is not deductible for income tax purposes. At the acquisition date, a valuation allowance of $20.1 million was recorded against Forestar’s $20.4 million of deferred tax assets due to Forestar’s cumulative losses in recent years. During the fourth quarter of fiscal 2018, Forestar emerged from the cumulative loss position. The Company evaluated all positive and negative evidence and determined the emergence from the cumulative loss position and other positive evidence outweighed the negative evidence, and reduced the valuation allowance which resulted in a corresponding reduction in income tax expense. As of September 30, 2018, the Company has retained a valuation allowance of $3.5 million related to Forestar’s state deferred tax assets for net operating loss (NOL) carryforwards that are more likely than not to expire before being realized.
Reconciliation of Expected Income Tax Expense
Differences between income tax expense and tax computed by applying the federal statutory rate of 24.5% in fiscal 2018 and 35% in fiscal 2017 and 2016 to income before income taxes during each year is due to the following:
Year Ended September 30, | |||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions) | |||||||||||
Income taxes at federal statutory rate | $ | 505.0 | $ | 560.7 | $ | 473.7 | |||||
Increase (decrease) in tax resulting from: | |||||||||||
State income taxes, net of federal benefit | 59.4 | 42.3 | 38.6 | ||||||||
Domestic production activities deduction | (36.7 | ) | (39.8 | ) | (36.3 | ) | |||||
Valuation allowance | (7.3 | ) | 0.8 | 0.2 | |||||||
Tax credits | (19.0 | ) | (3.5 | ) | (15.9 | ) | |||||
Excess tax benefit from equity compensation | (21.2 | ) | — | — | |||||||
Tax law change from enactment of Tax Act | 108.7 | — | — | ||||||||
Other | 8.8 | 3.2 | 6.9 | ||||||||
Total income tax expense | $ | 597.7 | $ | 563.7 | $ | 467.2 | |||||
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Deferred Income Taxes
Deferred tax assets and liabilities reflect the tax consequences of temporary differences between the financial statement bases of assets and liabilities and their tax bases, tax losses and credit carryforwards. Components of deferred income taxes, including Forestar’s deferred tax assets and liabilities as of September 30, 2018, are summarized as follows:
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
Deferred tax assets: | |||||||
Inventory costs | $ | 40.9 | $ | 42.6 | |||
Inventory impairments | 31.8 | 83.9 | |||||
Warranty and construction defect costs | 121.8 | 163.7 | |||||
Net operating loss carryforwards | 38.1 | 26.2 | |||||
Tax credit carryforwards | 4.3 | 2.5 | |||||
Incentive compensation plans | 55.2 | 92.6 | |||||
Deferred income | 1.3 | 1.7 | |||||
Other | 5.8 | 13.9 | |||||
Total deferred tax assets | 299.2 | 427.1 | |||||
Valuation allowance | (17.7 | ) | (11.2 | ) | |||
Total deferred tax assets, net of valuation allowance | 281.5 | 415.9 | |||||
Deferred tax liabilities: | |||||||
Deferral of profit on home sales | 64.9 | 41.6 | |||||
Other | 22.6 | 9.3 | |||||
Total deferred tax liabilities | $ | 87.5 | $ | 50.9 | |||
Deferred income taxes, net | $ | 194.0 | $ | 365.0 | |||
D.R. Horton has $19.3 million of tax benefits for state NOL carryforwards that expire at various times depending on the tax jurisdiction. Of the total amount, $5.4 million of the tax benefits expire over the next ten years and the remaining $13.9 million expires from fiscal years 2029 to 2038.
Forestar has $14.8 million of tax benefits for federal NOL carryforwards, after consideration of intra-entity profit eliminations, which have no expiration date. Additionally, Forestar has $4.0 million of tax benefits for state NOL carryforwards that expire at various times depending on the tax jurisdiction.
The accounting for deferred taxes is based upon estimates of future results. Differences between the anticipated and actual outcomes of these future results could have a material impact on the Company’s consolidated results of operations or financial position. Also, changes in existing federal and state tax laws and tax rates could affect future tax results and the valuation of the Company’s deferred tax assets.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Valuation Allowance
In addition to the $3.5 million valuation allowance related to Forestar’s state deferred tax assets, the Company has a valuation allowance of $14.2 million related to D.R. Horton’s state deferred tax assets for NOL carryforwards because it is more likely than not that a portion of the state NOL carryforwards will expire before being realized. In total, the Company’s valuation allowance was $17.7 million at September 30, 2018 and $11.2 million at September 30, 2017. The Company will continue to evaluate both the positive and negative evidence in determining the need for a valuation allowance with respect to the remaining state NOL carryforwards. Any reversal of the valuation allowance in future periods will impact the Company’s effective tax rate.
Regulations and Legislation
D.R. Horton is subject to federal income tax and to income tax in multiple states. The statute of limitations for D.R. Horton’s major tax jurisdictions remains open for examination for fiscal years 2015 through 2018. D.R. Horton is currently being audited by various states; however, to date, management is not aware of any significant findings identified by the taxing authorities.
Forestar is subject to federal income tax and to income tax in multiple states. All federal statutes of limitations for tax years prior to 2016 are effectively closed. The statute of limitations in major state jurisdictions for tax years prior to 2014 is closed. Forestar is currently under audit by the IRS for the 2016 tax year. At this time, Forestar is not aware of any significant findings identified by the IRS. Forestar is not currently being audited by any state jurisdictions.
NOTE H – EARNINGS PER SHARE
The following table sets forth the numerators and denominators used in the computation of basic and diluted earnings per share.
Year Ended September 30, | |||||||||||
2018 | 2017 | 2016 | |||||||||
(In millions) | |||||||||||
Numerator: | |||||||||||
Net income attributable to D.R. Horton, Inc. | $ | 1,460.3 | $ | 1,038.4 | $ | 886.3 | |||||
Denominator: | |||||||||||
Denominator for basic earnings per share — weighted average common shares | 376.6 | 374.3 | 371.0 | ||||||||
Effect of dilutive securities: | |||||||||||
Employee stock awards | 6.8 | 4.6 | 4.1 | ||||||||
Denominator for diluted earnings per share — adjusted weighted average common shares | 383.4 | 378.9 | 375.1 | ||||||||
Basic net income per common share attributable to D.R. Horton, Inc. | $ | 3.88 | $ | 2.77 | $ | 2.39 | |||||
Diluted net income per common share attributable to D.R. Horton, Inc. | $ | 3.81 | $ | 2.74 | $ | 2.36 | |||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE I – STOCKHOLDERS’ EQUITY
The Company has an automatically effective universal shelf registration statement, filed with the SEC in August 2018, registering debt and equity securities that it may issue from time to time in amounts to be determined. Also, Forestar has an effective shelf registration statement filed with the SEC in September 2018, registering $500 million of equity securities.
At September 30, 2018, the Company had 388,120,243 shares of common stock issued and 376,261,635 shares outstanding. No shares of preferred stock were issued or outstanding.
During fiscal 2018, the Company repurchased 2.8 million shares of its common stock for $127.5 million. Effective August 1, 2018, the Board of Directors authorized the repurchase of up to $400 million of the Company’s common stock effective through September 30, 2019, which replaced the previous authorization. During August 2018, the Company repurchased 560,000 shares of its common stock for $24.5 million, resulting in a remaining authorization of $375.5 million at September 30, 2018.
The Board of Directors approved and paid quarterly cash dividends of $0.125 per common share and $0.10 per common share in fiscal 2018 and 2017, respectively. In November 2018, the Board of Directors approved a cash dividend of $0.15 per common share, payable on December 10, 2018, to stockholders of record on November 26, 2018.
NOTE J – EMPLOYEE BENEFIT PLANS
Deferred Compensation Plans
The Company has a 401(k) plan for all employees who have been with the Company for a period of six months or more. The Company matches portions of employees’ voluntary contributions. Additional employer contributions in the form of profit sharing may also be made at the Company’s discretion. The Company recorded $18.4 million, $16.0 million and $13.3 million of expense for matching contributions in fiscal 2018, 2017 and 2016, respectively.
The Company’s Supplemental Executive Retirement Plan (SERP) is a non-qualified deferred compensation program that provides benefits payable to certain management employees upon retirement, death or termination of employment. Under the SERP, the Company accrues an unfunded benefit based on a percentage of the eligible employees’ salaries, as well as an interest factor based upon a predetermined formula. The Company’s liabilities related to the SERP were $35.4 million and $31.6 million at September 30, 2018 and 2017, respectively. The Company recorded $5.4 million, $4.9 million and $4.6 million of expense for this plan in fiscal 2018, 2017 and 2016, respectively.
The Company has a deferred compensation plan available to a select group of employees which allows participating employees to contribute compensation into the plan on a before tax basis and defer income taxation on the contributions until the funds are withdrawn from the plan. The participating employees designate investments for their contributions; however, the Company is not required to invest the contributions in the designated investments. The Company’s net liabilities related to the deferred compensation plan were $69.3 million and $58.2 million at September 30, 2018 and 2017, respectively. The Company records as expense the amount that the employee contributions would have earned had the funds been invested in the designated investments. Related to this plan, the Company recorded expense of $5.8 million, $6.3 million and $4.0 million in fiscal 2018, 2017 and 2016, respectively.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Employee Stock Purchase Plan
The Company’s Employee Stock Purchase Plan provides eligible employees the opportunity to purchase common stock of the Company at a discounted price of 85% of the fair market value of the stock on the designated dates of purchase. The price to eligible employees may be further discounted depending on the average fair market value of the stock during the period and certain other criteria. Under the terms of the plan, the total fair market value of common stock that an eligible employee may purchase each year is limited to the lesser of 15% of the employee’s annual compensation or $25,000. Under the plan, employees purchased 114,340 shares for $4.0 million in fiscal 2018, 111,527 shares for $2.8 million in fiscal 2017 and 89,652 shares for $2.2 million in fiscal 2016. At September 30, 2018, the Company had 3.1 million shares of common stock reserved for issuance pursuant to the Employee Stock Purchase Plan.
Incentive Bonus Plan
The Company’s Incentive Bonus Plan provides for the Compensation Committee to award short-term performance bonuses to senior management based upon the level of achievement of certain criteria. For fiscal 2018, 2017 and 2016, the Compensation Committee approved awards whereby certain executive officers could earn performance bonuses based upon percentages of the Company’s pre-tax income. Compensation expense related to these plans was $23.7 million, $16.8 million and $14.2 million in fiscal 2018, 2017 and 2016, respectively.
Stock-Based Compensation
The Company’s Stock Incentive Plan provides for the granting of stock options and restricted stock units to executive officers, other key employees and non-management directors. Restricted stock unit awards may be based on performance (performance-based) or on service over a requisite time period (time-based). At September 30, 2018, the Company had 29.1 million shares of common stock reserved for issuance and 18.5 million shares available for future grants under the Stock Incentive Plan.
Stock Options
Stock options are granted at exercise prices which equal the market value of the Company’s common stock at the date of the grant. The options outstanding at September 30, 2018 vest during the next year and expire 10 years after the dates on which they were granted.
The Company did not grant stock options during fiscal 2018, 2017 or 2016; however, the following table provides additional information related to stock option activity during those years.
Year Ended September 30, | ||||||||||||||||||||
2018 | 2017 | 2016 | ||||||||||||||||||
Stock Options | Weighted Average Exercise Price | Stock Options | Weighted Average Exercise Price | Stock Options | Weighted Average Exercise Price | |||||||||||||||
Outstanding at beginning of year | 8,431,348 | $ | 16.92 | 11,395,917 | $ | 16.69 | 15,337,656 | $ | 17.50 | |||||||||||
Exercised | (2,547,139 | ) | 16.10 | (2,770,569 | ) | 15.83 | (3,504,989 | ) | 20.02 | |||||||||||
Cancelled or expired | (27,250 | ) | 22.08 | (194,000 | ) | 18.83 | (436,750 | ) | 18.45 | |||||||||||
Outstanding at end of year | 5,856,959 | $ | 17.25 | 8,431,348 | $ | 16.92 | 11,395,917 | $ | 16.69 | |||||||||||
Exercisable at end of year | 4,955,392 | $ | 17.07 | 5,772,214 | $ | 16.01 | 6,645,967 | $ | 14.99 | |||||||||||
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The aggregate intrinsic value of options exercised during fiscal 2018, 2017 and 2016 was $76.8 million, $49.5 million and $39.2 million, respectively. The intrinsic value of a stock option is the amount by which the market value of the underlying stock exceeds the option exercise price.
The aggregate intrinsic value of options outstanding and exercisable at September 30, 2018 was $146.0 million and $124.4 million, respectively. Exercise prices for options outstanding at September 30, 2018 ranged from $9.03 to $23.86. The weighted average remaining contractual lives of options outstanding and exercisable at September 30, 2018 is 3.5 years.
For fiscal 2018, 2017 and 2016, compensation expense related to stock options was $6.9 million, $15.1 million and $20.5 million, respectively. At September 30, 2018, there was approximately $1.0 million of unrecognized compensation expense related to unvested stock option awards to be recognized in fiscal 2019.
Performance-Based Restricted Stock Unit (RSU) Equity Awards
During fiscal 2018, 2017 and 2016, performance-based RSU equity awards that vest at the end of three-year performance periods were granted to the Company’s Chairman, its Chief Executive Officer and its Chief Operating Officer. The number of units that ultimately vest depends on the Company’s relative position as compared to its peers in achieving certain performance criteria and can range from 0% to 200% of the number of units granted. The performance criteria are total shareholder return, return on investment, SG&A expense containment and gross profit. The performance-based RSUs have no dividend or voting rights during the performance period. Each of these performance-based RSUs represents the contingent right to receive one share of the Company’s common stock if the vesting conditions are satisfied. Compensation expense related to these grants is based on the Company’s performance against the peer group, the elapsed portion of the performance period and the grant date fair value of the award.
The following table provides additional information related to the performance-based RSUs outstanding at September 30, 2018.
Grant Date | Vesting Date | Target Number of Performance Units | Grant Date Fair Value per Unit | Compensation Expense Year Ended September 30, | ||||||||||||||||
2018 | 2017 | 2016 | ||||||||||||||||||
(In millions) | ||||||||||||||||||||
November 2015 | September 2018 | 330,000 | $ | 30.81 | $ | (0.6 | ) | $ | 6.8 | $ | 4.0 | |||||||||
November 2016 | September 2019 | 330,000 | 29.20 | 3.9 | 5.1 | — | ||||||||||||||
November 2017 | September 2020 | 330,000 | 45.79 | 4.8 | — | — | ||||||||||||||
$ | 8.1 | $ | 11.9 | $ | 4.0 | |||||||||||||||
In November 2018, the Compensation Committee approved the payout of the performance-based RSUs that vested in September 2018 in the form of 350,625 shares of common stock to satisfy the awards.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Time-Based Restricted Stock Unit (RSU) Equity Awards
Time-based RSUs represent the contingent right to receive one share of the Company’s common stock if the vesting conditions are satisfied. The time-based RSUs have no dividend or voting rights during the vesting period.
During fiscal 2018, 2017 and 2016, time-based RSUs were granted to the Company’s executive officers, other key employees and non-management directors (collectively, approximately 920, 600 and 570 recipients, respectively). These awards vest annually in equal installments over periods of three to five years. RSUs generally result in less dilution to shareholders than stock options, which have been granted to key employees in the past.
The following table provides additional information related to time-based RSU activity during fiscal 2018, 2017 and 2016.
Year Ended September 30, | ||||||||||||||||||||
2018 | 2017 | 2016 | ||||||||||||||||||
Number of Restricted Stock Units | Weighted Average Grant Date Fair Value | Number of Restricted Stock Units | Weighted Average Grant Date Fair Value | Number of Restricted Stock Units | Weighted Average Grant Date Fair Value | |||||||||||||||
Outstanding at beginning of year | 4,365,782 | $ | 26.09 | 3,478,233 | $ | 24.12 | 1,978,262 | $ | 25.60 | |||||||||||
Granted | 1,747,870 | 41.82 | 1,868,660 | 28.64 | 2,117,330 | 23.14 | ||||||||||||||
Vested | (1,149,055 | ) | 25.80 | (792,941 | ) | 24.48 | (423,427 | ) | 25.57 | |||||||||||
Cancelled | (166,675 | ) | 29.56 | (188,170 | ) | 25.21 | (193,932 | ) | 25.05 | |||||||||||
Outstanding at end of year | 4,797,922 | $ | 31.77 | 4,365,782 | $ | 26.09 | 3,478,233 | $ | 24.12 | |||||||||||
The total fair value of shares vested on the vesting date during fiscal 2018, 2017 and 2016 was $51.0 million, $25.0 million and $12.0 million, respectively. For fiscal 2018, 2017 and 2016, compensation expense related to time-based RSUs was $39.3 million, $28.8 million and $18.7 million respectively. At September 30, 2018, there was $101.1 million of unrecognized compensation expense related to unvested time-based RSU awards. This expense is expected to be recognized over a weighted average period of 3.5 years.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE K – COMMITMENTS AND CONTINGENCIES
Warranty Claims
The Company provides its homebuyers with warranties for defects in structural elements, mechanical systems and other construction components of the home. Warranty liabilities are established by charging cost of sales for each home delivered based on management’s estimate of expected warranty-related costs and by accruing for existing warranty claims. The Company’s warranty liability is based upon historical warranty cost experience in each market in which it operates and is adjusted to reflect qualitative risks associated with the types of homes built and the geographic areas in which they are built. The estimation of these costs is subject to a high degree of variability due to uncertainties related to these factors. Due to the high degree of judgment required in establishing the liability for warranty claims, actual future costs could differ significantly from current estimated amounts, and it is not possible for the Company to make a reasonable estimate of the possible loss or range of loss in excess of its warranty liability.
Changes in the Company’s warranty liability during fiscal 2018 and 2017 were as follows:
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
Warranty liability, beginning of year | $ | 143.7 | $ | 104.4 | |||
Warranties issued | 81.6 | 69.7 | |||||
Changes in liability for pre-existing warranties | 49.3 | 30.0 | |||||
Settlements made | (72.6 | ) | (60.4 | ) | |||
Warranty liability, end of year | $ | 202.0 | $ | 143.7 | |||
The change in liabilities for pre-existing warranties was $49.3 million and $30.0 million in fiscal 2018 and 2017, respectively. These amounts reflect the Company’s ongoing efforts to improve its customer service and relations, which in many cases results in the performance of warranty service after the original warranty period has expired. The Company has increased the amount of its warranties issued as a percentage of home cost of sales to reflect this increase in warranty costs.
Legal Claims and Insurance
The Company is named as a defendant in various claims, complaints and other legal actions in the ordinary course of business. At any point in time, the Company is managing several hundred individual claims related to construction defect matters, personal injury claims, employment matters, land development issues, contract disputes and other matters. The Company has established reserves for these contingencies based on the estimated costs of pending claims and the estimated costs of anticipated future claims related to previously closed homes. The estimated liabilities for these contingencies were $408.1 million and $420.6 million at September 30, 2018 and 2017, respectively, and are included in accrued expenses and other liabilities in the consolidated balance sheets. Approximately 99% and 98% of these reserves related to construction defect matters at September 30, 2018 and 2017, respectively. Expenses related to the Company’s legal contingencies were $41.0 million, $87.8 million and $49.6 million in fiscal 2018, 2017 and 2016, respectively.
The Company’s reserves for construction defect claims include the estimated costs of both known claims and anticipated future claims. As of September 30, 2018, no individual existing claim was material to the Company’s financial statements. The Company has closed a significant number of homes during recent years and may be subject to future construction defect claims on these homes. Although regulations vary from state to state, construction defect issues can generally be reported for up to ten years after the home has closed in many states in which the Company operates. Historical data and trends regarding the frequency of claims incurred and the costs to resolve claims relative to the types of products and markets where the Company operates are used to estimate the construction defect liabilities for both existing and anticipated future claims. These estimates are subject to ongoing revision as the circumstances of individual pending claims and historical data and trends change. Adjustments to estimated reserves are recorded in the accounting period in which the change in estimate occurs.
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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Historical trends in construction defect claims have been inconsistent, and the Company believes they may continue to fluctuate. Housing market conditions have been volatile across most of the Company’s markets over the past ten years, and the Company believes such conditions can affect the frequency and cost of construction defect claims. If the ultimate resolution of construction defect claims resulting from the Company’s home closings in prior years varies from current expectations, it could significantly change the Company’s estimates regarding the frequency and timing of claims incurred and the costs to resolve existing and anticipated future claims, which would impact the construction defect reserves in the future. If the frequency of claims incurred or costs of existing and future legal claims significantly exceed the Company’s current estimates, they will have a significant negative impact on its future earnings and liquidity.
The Company’s reserves for legal claims decreased from $420.6 million at September 30, 2017 to $408.1 million at September 30, 2018. The increase in reserves during fiscal 2018 was less than the prior year was due to a decrease in known and expected future claims. Changes in the Company’s legal claims reserves during fiscal 2018 and 2017 were as follows:
September 30, | |||||||
2018 | 2017 | ||||||
(In millions) | |||||||
Reserves for legal claims, beginning of year | $ | 420.6 | $ | 423.5 | |||
Increase in reserves | 46.4 | 91.0 | |||||
Payments | (58.9 | ) | (93.9 | ) | |||
Reserves for legal claims, end of year | $ | 408.1 | $ | 420.6 | |||
In the majority of states in which it operates, the Company has, and requires the majority of the subcontractors it uses to have, general liability insurance which includes construction defect coverage. The Company’s general liability insurance policies protect it against a portion of its risk of loss from construction defect and other claims and lawsuits, subject to self-insured retentions and other coverage limits. For policy years ended June 30, 2006 through 2019, the Company is self-insured for the first $10.0 million to $17.5 million of aggregate completed operations indemnity claims incurred, depending on the policy year. After the aggregate self-insurance limits have been satisfied, the Company’s excess loss insurance coverage begins. However, the Company must still pay $0.25 million of any indemnity claim and a portion of the legal fees incurred for each claim occurrence.
In some states where the Company believes it is too difficult or expensive for its subcontractors to obtain general liability insurance, the Company has waived its normal subcontractor general liability insurance requirements to obtain lower costs from subcontractors. In these states, the Company purchases insurance policies from either third-party carriers or its 100% owned captive insurance subsidiary and names certain subcontractors as additional insureds. The policies issued by the captive insurance subsidiary represent self-insurance of these risks by the Company. The Company is self-insured under its captive policies for up to $25.0 million in aggregate completed operations indemnity claims per policy year and for the first $0.25 million for each claim occurrence. For all policy years after April 2007, the captive insurance subsidiary has $15.0 million of excess loss insurance coverage with a third-party insurer. For policy years 2017, 2018 and 2019, after consideration of the aforementioned $15.0 million of risk transfer, the Company is self-insured under these captive policies for up to $10.0 million in aggregate completed operations indemnity claims, plus defense costs, per policy year and for up to $0.25 million for each claim occurrence.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The Company is self-insured for the deductible amounts under its workers’ compensation insurance policies. The deductibles vary by policy year, but in no years exceed $0.5 million per occurrence. The deductible for the 2017, 2018 and 2019 policy years is $0.5 million per occurrence.
The Company estimates and records receivables under its applicable insurance policies related to its estimated contingencies for known claims and anticipated future construction defect claims on previously closed homes and other legal claims and lawsuits incurred in the ordinary course of business when recovery is probable. Additionally, the Company may have the ability to recover a portion of its losses from its subcontractors and their insurance carriers when the Company has been named as an additional insured on their insurance policies. The Company’s receivables related to its estimates of insurance recoveries from estimated losses for pending legal claims and anticipated future claims related to previously closed homes totaled $54.6 million and $74.4 million at September 30, 2018 and 2017, respectively, and are included in other assets in the consolidated balance sheets.
The estimation of losses related to these reserves and the related estimates of recoveries from insurance policies are subject to a high degree of variability due to uncertainties such as trends in construction defect claims relative to the Company’s markets and the types of products built, claim frequency, claim settlement costs and patterns, insurance industry practices and legal interpretations, among others. Due to the high degree of judgment required in establishing reserves for these contingencies, actual future costs and recoveries from insurance could differ significantly from current estimated amounts, and it is not possible for the Company to make a reasonable estimate of the possible loss or range of loss in excess of its reserves.
Land and Lot Option Purchase Contracts
The Company enters into land and lot option purchase contracts to acquire land or lots for the construction of homes. At September 30, 2018, the Company’s homebuilding segment had total option deposits of $401.1 million, consisting of cash deposits of $397.4 million and promissory notes and letters of credit of $3.7 million, to purchase land and lots with a total remaining purchase price of approximately $6.5 billion. The majority of land and lots under contract are currently expected to be purchased within three years. Of these amounts, $48.0 million of the option deposits related to contracts with Forestar to purchase land and lots with a remaining purchase price of $522.2 million. A limited number of the homebuilding land and lot option purchase contracts at September 30, 2018, representing $82.1 million of remaining purchase price, were subject to specific performance provisions which may require the Company to purchase the land or lots upon the land sellers meeting their contractual obligations. Of the $82.1 million remaining purchase price subject to specific performance provisions, $34.7 million related to a contract between the homebuilding segment and Forestar.
During fiscal 2018, Forestar reimbursed the Company’s homebuilding segment $21.2 million for previously paid earnest money and $15.2 million for pre-acquisition and other due diligence costs related to land purchase contracts whereby the homebuilding segment assigned its rights under contract to Forestar.
At September 30, 2018, Forestar had total option deposits of $4.2 million to purchase land and lots from third parties with a total remaining purchase price of approximately $32.7 million.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
Other Commitments
At September 30, 2018, the Company had outstanding surety bonds of $1.5 billion and letters of credit of $128.5 million to secure performance under various contracts. Of the total letters of credit, $107.2 million were issued under the homebuilding revolving credit facility and $4.5 million were issued under Forestar’s revolving credit facility. The remaining $16.8 million of letters of credit were issued under secured letter of credit agreements, of which $1.4 million related to homebuilding operations and $15.4 million related to Forestar. These agreements require the deposit of cash as collateral with the issuing banks which is included as restricted cash in the consolidated balance sheet.
The Company leases office space and equipment under non-cancelable operating leases. At September 30, 2018, the future minimum annual lease payments under these agreements are as follows (in millions):
2019 | $ | 16.8 | |
2020 | 12.0 | ||
2021 | 6.8 | ||
2022 | 3.8 | ||
2023 | 2.1 | ||
Thereafter | 0.8 | ||
$ | 42.3 | ||
Rent expense was $27.8 million, $26.3 million and $24.7 million for fiscal 2018, 2017 and 2016, respectively.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE L – OTHER ASSETS, ACCRUED EXPENSES AND OTHER LIABILITIES
The Company’s other assets at September 30, 2018 and 2017 were as follows:
September 30, | |||||||
2018 | 2017 (1) | ||||||
(In millions) | |||||||
Earnest money and refundable deposits | $ | 445.2 | $ | 312.2 | |||
Insurance receivables | 54.6 | 74.4 | |||||
Other receivables | 81.7 | 60.0 | |||||
Prepaid assets | 36.9 | 30.8 | |||||
Rental properties | 39.2 | 52.0 | |||||
Other | 44.3 | 36.5 | |||||
$ | 701.9 | $ | 565.9 | ||||
The Company’s accrued expenses and other liabilities at September 30, 2018 and 2017 were as follows:
September 30, | |||||||
2018 | 2017 (1) | ||||||
(In millions) | |||||||
Reserves for legal claims | $ | 408.1 | $ | 420.6 | |||
Employee compensation and related liabilities | 252.5 | 208.9 | |||||
Warranty liability | 202.0 | 143.7 | |||||
Accrued interest | 14.8 | 12.7 | |||||
Federal and state income tax liabilities | 35.2 | 20.3 | |||||
Inventory related accruals | 45.5 | 24.8 | |||||
Customer deposits | 58.1 | 51.8 | |||||
Accrued property taxes | 38.0 | 33.9 | |||||
Other | 73.3 | 68.3 | |||||
$ | 1,127.5 | $ | 985.0 | ||||
________________
(1) | To conform to the current year presentation, prior period amounts have been reclassified to reflect the Company’s consolidated balances, rather than the balances of its homebuilding segment that were previously presented. |
105
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE M – FAIR VALUE MEASUREMENTS
Fair value measurements are used for the Company’s mortgage loans held for sale, debt securities collateralized by residential real estate, IRLCs and other derivative instruments on a recurring basis and are used for inventories, other mortgage loans, rental properties and real estate owned on a nonrecurring basis, when events and circumstances indicate that the carrying value may not be recoverable. The fair value hierarchy and its application to the Company’s assets and liabilities is as follows:
• | Level 1 – Valuation is based on quoted prices in active markets for identical assets and liabilities. The Company does not currently have any assets or liabilities measured at fair value using Level 1 inputs. |
• | Level 2 – Valuation is determined from quoted prices for similar assets or liabilities in active markets, quoted prices for identical or similar instruments in markets that are not active, or by model-based techniques in which all significant inputs are observable in the market. The Company’s assets and liabilities measured at fair value using Level 2 inputs on a recurring basis are as follows: |
• | Mortgage loans held for sale - The fair value of these loans is generally calculated by reference to quoted prices in secondary markets for commitments to sell mortgage loans with similar characteristics. Closed mortgage loans are typically sold shortly after origination, which limits exposure to nonperformance by loan buyer counterparties to a short time period. In addition, the Company actively monitors the financial strength of its counterparties. |
• | IRLCs - The fair value of IRLCs is calculated by reference to quoted prices in secondary markets for commitments to sell mortgage loans with similar characteristics. These valuations do not contain adjustments for expirations as any expired commitments are excluded from the fair value measurement. The Company generally only issues IRLCs for products that meet specific purchaser guidelines. Should any purchaser become insolvent, the Company would not be required to close the transaction based on the terms of the commitment. Since not all IRLCs will become closed loans, the Company adjusts its fair value measurements for the estimated amount of IRLCs that will not close. |
• | Loan sale commitments and hedging instruments - The fair values of best-efforts and mandatory loan sale commitments and derivative instruments such as forward sales of MBS that are utilized as hedging instruments are calculated by reference to quoted prices for similar assets. The Company mitigates exposure to nonperformance risk associated with derivative instruments by limiting the number of counterparties and actively monitoring their financial strength and creditworthiness while requiring them to be well-known institutions with credit ratings equal to or better than AA- or equivalent. Further, the Company’s derivative contracts typically have short-term durations with maturities from one to four months. Accordingly, the Company’s risk of nonperformance relative to its derivative positions is not significant. |
The Company’s assets measured at fair value using Level 2 inputs on a nonrecurring basis are a limited number of mortgage loans held for sale with some degree of impairment affecting their marketability and are reported at the lower of carrying value or fair value. When available, fair value is determined by reference to quoted prices in the secondary markets for such assets.
After consideration of nonperformance risk, no additional adjustments were made to the fair value measurements of mortgage loans held for sale, IRLCs or hedging instruments.
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
• | Level 3 – Valuation is typically derived from model-based techniques in which at least one significant input is unobservable and based on the Company’s own estimates about the assumptions that market participants would use to value the asset or liability. |
The Company’s assets measured at fair value using Level 3 inputs on a recurring basis are its debt securities collateralized by residential real estate and a limited number of mortgage loans held for sale with some degree of impairment affecting their marketability and for which reference to quoted prices in the secondary markets is not available.
The Company’s assets measured at fair value using Level 3 inputs that are typically reported at the lower of carrying value or fair value on a nonrecurring basis are as follows:
• | Inventory held and used - In determining the fair values of its inventory held and used in its impairment evaluations, the Company performs an analysis of the undiscounted cash flows estimated to be generated by those assets. The most significant factors used to estimate undiscounted future cash flows include pricing and incentive levels actually realized by the community, the rate at which the homes are sold and the costs incurred to develop the lots and construct the homes. Inventory held and used measured at fair value represents those communities for which the estimated undiscounted cash flows are less than their carrying amounts and therefore, the Company has recorded impairments during the current period to record the inventory at fair value calculated based on its discounted estimated future cash flows. |
• | Inventory available for sale - The factors considered in determining fair values of the Company’s land held for sale primarily include actual sale contracts and recent offers received from outside third parties, and may also include prices for land in recent comparable sales transactions and other market analysis. If the estimated fair value less the costs to sell an asset is less than the asset’s current carrying value, the asset is written down to its estimated fair value less costs to sell. |
• | Certain mortgage loans held for sale - A limited number of mortgage loans held for sale have some degree of impairment affecting their marketability. For some of these loans, quoted prices in the secondary market are not available and therefore, a cash flow valuation model is used to determine fair value. |
• | Certain other mortgage loans, rental properties and real estate owned - Other mortgage loans include performing and nonperforming mortgage loans, which often become real estate owned through the foreclosure process. The fair values of other mortgage loans, rental properties and real estate owned are determined based on the Company’s assessment of the value of the underlying collateral or the value of the property, as applicable. The Company uses different methods to assess the value of the properties, which may include broker price opinions, appraisals or cash flow valuation models. |
107
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The following tables summarize the Company’s assets and liabilities measured at fair value on a recurring basis at September 30, 2018 and 2017, and the changes in the fair value of the Level 3 assets during fiscal 2018 and 2017.
Fair Value at September 30, 2018 | |||||||||||||||||
Balance Sheet Location | Level 1 | Level 2 | Level 3 | Total | |||||||||||||
(In millions) | |||||||||||||||||
Debt securities collateralized by residential real estate | Other assets | $ | — | $ | — | $ | 3.9 | $ | 3.9 | ||||||||
Mortgage loans held for sale (a) | Mortgage loans held for sale | — | 784.6 | 7.8 | 792.4 | ||||||||||||
Derivatives not designated as hedging instruments (b): | |||||||||||||||||
Interest rate lock commitments | Other assets | — | 10.5 | — | 10.5 | ||||||||||||
Forward sales of MBS | Other assets | — | 3.3 | — | 3.3 | ||||||||||||
Best-efforts and mandatory commitments | Other assets | — | 0.2 | — | 0.2 | ||||||||||||
Fair Value at September 30, 2017 | |||||||||||||||||
Balance Sheet Location | Level 1 | Level 2 | Level 3 | Total | |||||||||||||
(In millions) | |||||||||||||||||
Debt securities collateralized by residential real estate | Other assets | $ | — | $ | — | $ | 8.8 | $ | 8.8 | ||||||||
Mortgage loans held for sale (a) | Mortgage loans held for sale | — | 580.2 | 5.6 | 585.8 | ||||||||||||
Derivatives not designated as hedging instruments (b): | |||||||||||||||||
Interest rate lock commitments | Other assets | — | 9.4 | — | 9.4 | ||||||||||||
Forward sales of MBS | Other assets | — | 1.1 | — | 1.1 | ||||||||||||
Best-efforts and mandatory commitments | Other assets | — | 0.6 | — | 0.6 | ||||||||||||
Level 3 Assets at Fair Value for the Year Ended September 30, 2018 | |||||||||||||||||||||||||||
Balance at September 30, 2017 | Net realized and unrealized gains (losses) | Purchases | Sales and Settlements | Principal Reductions | Net transfers to (out of) Level 3 | Balance at September 30, 2018 | |||||||||||||||||||||
(In millions) | |||||||||||||||||||||||||||
Debt securities collateralized by residential real estate (c) | $ | 8.8 | $ | — | $ | — | $ | (4.9 | ) | $ | — | $ | — | $ | 3.9 | ||||||||||||
Mortgage loans held for sale (a) | 5.6 | 0.6 | — | (6.8 | ) | — | 8.4 | 7.8 | |||||||||||||||||||
Level 3 Assets at Fair Value for the Year Ended September 30, 2017 | |||||||||||||||||||||||||||
Balance at September 30, 2016 | Net realized and unrealized gains (losses) | Purchases | Sales and Settlements | Principal Reductions | Net transfers to (out of) Level 3 | Balance at September 30, 2017 | |||||||||||||||||||||
(In millions) | |||||||||||||||||||||||||||
Debt securities collateralized by residential real estate | $ | — | $ | — | $ | 8.8 | $ | — | $ | — | $ | — | $ | 8.8 | |||||||||||||
Mortgage loans held for sale (a) | 6.8 | 1.3 | — | (13.4 | ) | — | 10.9 | 5.6 | |||||||||||||||||||
___________________
(a) | The Company typically elects the fair value option upon origination for mortgage loans held for sale. Interest income earned on mortgage loans held for sale is based on contractual interest rates and included in other income. Mortgage loans held for sale valued using Level 3 inputs at September 30, 2018 and 2017 include $7.8 million and $5.6 million, respectively, of loans for which the Company elected the fair value option upon origination and did not sell into the secondary market. Mortgage loans held for sale totaling $8.4 million and $10.9 million were transferred to Level 3 during fiscal 2018 and 2017, respectively, due to significant unobservable inputs used in determining the fair value of these loans. The fair value of these mortgage loans held for sale is generally calculated considering pricing in the secondary market and adjusted for the value of the underlying collateral, including interest rate risk, liquidity risk and prepayment risk. The Company plans to sell these loans as market conditions permit. |
(b) | Fair value measurements of these derivatives represent changes in fair value, as calculated by reference to quoted prices for similar assets, and are reflected in the balance sheet as other assets or accrued expenses and other liabilities. Changes in the fair value of these derivatives are included in revenues in the consolidated statements of operations. |
(c) | In August 2018, the Company sold $4.9 million of its debt securities to a third party for $7.3 million. The resulting gain of $2.4 million on the sale is included in other income in the consolidated statement of operations for fiscal 2018. |
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D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
The following table summarizes the Company’s assets measured at fair value on a nonrecurring basis at September 30, 2018 and 2017.
Fair Value at September 30, | |||||||||
Balance Sheet Location | 2018 | 2017 | |||||||
Level 3 | |||||||||
(In millions) | |||||||||
Inventory held and used (a) (b) | Inventories | $ | 4.4 | $ | 33.4 | ||||
Inventory available for sale (a) (c) | Inventories | 1.4 | 1.2 | ||||||
Mortgage loans held for sale (a) (d) | Mortgage loans held for sale | 2.9 | 0.6 | ||||||
Other mortgage loans (a) (e) | Other assets | 1.0 | 1.4 | ||||||
___________________
(a) | The fair values included in the table above represent only those assets whose carrying values were adjusted to fair value as a result of impairment in the respective period and were held at the end of the period. |
(b) | In performing its impairment analysis of communities, discount rates ranging from 12% to 18% were used in the periods presented. |
(c) | The fair value of inventory available for sale was determined based on recent offers received from outside third parties, comparable sales or actual contracts. |
(d) | These mortgage loans have some degree of impairment affecting their marketability and are valued at the lower of carrying value or fair value. When available, quoted prices in the secondary market are used to determine fair value (Level 2); otherwise, a cash flow valuation model is used to determine fair value (Level 3). |
(e) | The fair values of other mortgage loans was determined based on the value of the underlying collateral. |
For the financial assets and liabilities that the Company does not reflect at fair value, the following tables present both their respective carrying value and fair value at September 30, 2018 and 2017.
Carrying Value | Fair Value at September 30, 2018 | ||||||||||||||||||
Level 1 | Level 2 | Level 3 | Total | ||||||||||||||||
(In millions) | |||||||||||||||||||
Cash and cash equivalents (a) | $ | 1,473.1 | $ | 1,473.1 | $ | — | $ | — | $ | 1,473.1 | |||||||||
Restricted cash (a) | 32.9 | 32.9 | — | — | 32.9 | ||||||||||||||
Notes payable (b) (c) | 3,203.5 | — | 2,602.6 | 642.2 | 3,244.8 | ||||||||||||||
Carrying Value | Fair Value at September 30, 2017 | ||||||||||||||||||
Level 1 | Level 2 | Level 3 | Total | ||||||||||||||||
(In millions) | |||||||||||||||||||
Cash and cash equivalents (a) | $ | 1,007.8 | $ | 1,007.8 | $ | — | $ | — | $ | 1,007.8 | |||||||||
Restricted cash (a) | 16.5 | 16.5 | — | — | 16.5 | ||||||||||||||
Notes payable (b) (c) | 2,871.6 | — | 2,584.1 | 431.1 | 3,015.2 | ||||||||||||||
___________________
(a) | The fair values of cash, cash equivalents and restricted cash approximate their carrying values due to their short-term nature and are classified as Level 1 within the fair value hierarchy. |
(b) | The fair value of the senior notes is determined based on quoted prices, which is classified as Level 2 within the fair value hierarchy. |
(c) | The fair values of other secured notes and borrowings on the revolving credit facilities and the mortgage repurchase facility approximate carrying value due to their short-term nature or floating interest rate terms, as applicable, and are classified as Level 3 within the fair value hierarchy. |
109
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE N – QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Consolidated quarterly results of operations for fiscal 2018 and 2017 were (in millions, except per share amounts):
Fiscal 2018 | |||||||||||||||
1st Quarter | 2nd Quarter | 3rd Quarter | 4th Quarter | ||||||||||||
Revenues | $ | 3,332.7 | $ | 3,794.7 | $ | 4,435.3 | $ | 4,505.2 | |||||||
Income before income taxes | 391.2 | 444.8 | 616.2 | 607.7 | |||||||||||
Income tax expense (a) | 202.4 | 94.0 | 162.5 | 138.8 | |||||||||||
Net income | 188.8 | 350.8 | 453.7 | 468.9 | |||||||||||
Net income (loss) attributable to noncontrolling interests | (0.5 | ) | (0.2 | ) | (0.1 | ) | 2.8 | ||||||||
Net income attributable to D.R. Horton, Inc. | 189.3 | 351.0 | 453.8 | 466.1 | |||||||||||
Basic net income per common share attributable to D.R. Horton, Inc. | 0.50 | 0.93 | 1.20 | 1.24 | |||||||||||
Diluted net income per common share attributable to D.R. Horton, Inc. | 0.49 | 0.91 | 1.18 | 1.22 | |||||||||||
Fiscal 2017 | |||||||||||||||
1st Quarter | 2nd Quarter | 3rd Quarter | 4th Quarter | ||||||||||||
Revenues | $ | 2,904.2 | $ | 3,251.3 | $ | 3,776.4 | $ | 4,159.1 | |||||||
Income before income taxes | 318.1 | 353.9 | 444.5 | 485.5 | |||||||||||
Income tax expense | 111.2 | 124.7 | 155.5 | 172.3 | |||||||||||
Net income attributable to D.R. Horton, Inc. | 206.9 | 229.2 | 289.0 | 313.2 | |||||||||||
Basic net income per common share attributable to D.R. Horton, Inc. | 0.55 | 0.61 | 0.77 | 0.84 | |||||||||||
Diluted net income per common share attributable to D.R. Horton, Inc. | 0.55 | 0.60 | 0.76 | 0.82 | |||||||||||
_____________
(a) | Income tax expense in the first quarter of fiscal 2018 includes additional expense of $108.7 million due to remeasurement of the Company’s net deferred tax assets as a result of the Tax Act. |
The Company experiences variability in its results of operations from quarter to quarter due to the seasonal nature of its homebuilding business. The Company generally closes more homes and has greater revenues and income before income taxes in the third and fourth quarters (June and September) than in the first and second quarters (December and March) of its fiscal year.
NOTE O – SUBSEQUENT EVENT
On November 9, 2018, the Company acquired the homebuilding operations of Westport Homes for approximately $190 million in cash. Westport Homes operates in Indianapolis and Fort Wayne, Indiana, and Columbus, Ohio. The assets acquired included approximately 400 homes in inventory, 3,500 lots and control of approximately 3,200 additional lots through option contracts. The Company also acquired a sales order backlog of approximately 550 homes.
110
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION
All of the Company’s homebuilding senior notes and the homebuilding revolving credit facility are fully and unconditionally guaranteed, on a joint and several basis, by D.R. Horton, Inc. and other subsidiaries (Guarantor Subsidiaries). Each of the Guarantor Subsidiaries is 100% owned, directly or indirectly, by the Company. The Company’s subsidiaries associated with the Forestar land development operation, the financial services operations and certain other subsidiaries do not guarantee the Company’s homebuilding senior notes or the homebuilding revolving credit facility (collectively, Non-Guarantor Subsidiaries). In lieu of providing separate financial statements for the Guarantor Subsidiaries, consolidating condensed financial statements are presented below. Separate financial statements and other disclosures concerning the Guarantor Subsidiaries are not presented because management has determined that they are not material to investors.
The guarantees by a Guarantor Subsidiary will be automatically and unconditionally released and discharged upon: (1) the sale or other disposition of its common stock whereby it is no longer a subsidiary of the Company; (2) the sale or other disposition of all or substantially all of its assets (other than to the Company or another Guarantor); (3) its merger or consolidation with an entity other than the Company or another Guarantor; or (4) depending on the provisions of the applicable indenture, either its (a) proper designation as an unrestricted subsidiary, (b) ceasing to guarantee any of the Company’s publicly traded debt securities, or (c) ceasing to guarantee any of the Company’s obligations under the homebuilding revolving credit facility.
To conform to the current year presentation, the Company’s equity in income of subsidiaries in its condensed consolidating statements of operations for fiscal 2017 and 2016 is presented after income tax expense. As a result, the amounts of equity in income of subsidiaries and income tax expense were each reduced by $434.5 million and $370.4 million in fiscal 2017 and 2016, respectively, in both the D.R. Horton, Inc. and Eliminations columns. This reclassification, which the Company determined was not material, had no impact on any financial statements or notes, except for the D.R. Horton, Inc. and Eliminations columns of the condensed consolidating statements of operations in this Supplemental Guarantor Information note. Prior period financial information will be presented similarly in the condensed consolidating statement of operations of future filings.
111
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Balance Sheet
September 30, 2018
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
ASSETS | |||||||||||||||||||
Cash and cash equivalents | $ | 908.1 | $ | 158.7 | $ | 406.3 | $ | — | $ | 1,473.1 | |||||||||
Restricted cash | 6.6 | 2.0 | 24.3 | — | 32.9 | ||||||||||||||
Investment in subsidiaries | 6,344.9 | — | — | (6,344.9 | ) | — | |||||||||||||
Inventories | 4,037.1 | 5,824.1 | 545.0 | (11.2 | ) | 10,395.0 | |||||||||||||
Investment in unconsolidated entities | — | — | 11.0 | — | 11.0 | ||||||||||||||
Mortgage loans held for sale | — | — | 796.4 | — | 796.4 | ||||||||||||||
Deferred income taxes, net | 69.2 | 105.0 | 17.3 | 2.5 | 194.0 | ||||||||||||||
Property and equipment, net | 111.2 | 66.1 | 230.7 | (6.9 | ) | 401.1 | |||||||||||||
Other assets | 306.6 | 361.3 | 79.2 | (45.2 | ) | 701.9 | |||||||||||||
Goodwill | — | 80.0 | 29.2 | — | 109.2 | ||||||||||||||
Intercompany receivables | 246.2 | 27.3 | — | (273.5 | ) | — | |||||||||||||
Total Assets | $ | 12,029.9 | $ | 6,624.5 | $ | 2,139.4 | $ | (6,679.2 | ) | $ | 14,114.6 | ||||||||
LIABILITIES & EQUITY | |||||||||||||||||||
Accounts payable and other liabilities | $ | 590.8 | $ | 1,000.4 | $ | 210.1 | $ | (49.1 | ) | $ | 1,752.2 | ||||||||
Intercompany payables | — | — | 273.5 | (273.5 | ) | — | |||||||||||||
Notes payable | 2,443.9 | 2.1 | 757.5 | — | 3,203.5 | ||||||||||||||
Total Liabilities | 3,034.7 | 1,002.5 | 1,241.1 | (322.6 | ) | 4,955.7 | |||||||||||||
Stockholders’ equity | 8,995.2 | 5,622.0 | 722.8 | (6,355.6 | ) | 8,984.4 | |||||||||||||
Noncontrolling interests | — | — | 175.5 | (1.0 | ) | 174.5 | |||||||||||||
Total Equity | 8,995.2 | 5,622.0 | 898.3 | (6,356.6 | ) | 9,158.9 | |||||||||||||
Total Liabilities & Equity | $ | 12,029.9 | $ | 6,624.5 | $ | 2,139.4 | $ | (6,679.2 | ) | $ | 14,114.6 | ||||||||
112
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Balance Sheet
September 30, 2017
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
ASSETS | |||||||||||||||||||
Cash and cash equivalents | $ | 780.9 | $ | 154.5 | $ | 72.4 | $ | — | $ | 1,007.8 | |||||||||
Restricted cash | 7.8 | 1.5 | 7.2 | — | 16.5 | ||||||||||||||
Investment in subsidiaries | 4,812.6 | — | — | (4,812.6 | ) | — | |||||||||||||
Inventories | 3,540.4 | 5,579.9 | 116.8 | — | 9,237.1 | ||||||||||||||
Mortgage loans held for sale | — | — | 587.3 | — | 587.3 | ||||||||||||||
Deferred income taxes, net | 138.5 | 223.6 | 2.9 | — | 365.0 | ||||||||||||||
Property and equipment, net | 104.8 | 59.7 | 166.3 | (5.8 | ) | 325.0 | |||||||||||||
Other assets | 245.5 | 259.7 | 60.7 | — | 565.9 | ||||||||||||||
Goodwill | — | 80.0 | — | — | 80.0 | ||||||||||||||
Intercompany receivables | 1,047.7 | — | — | (1,047.7 | ) | — | |||||||||||||
Total Assets | $ | 10,678.2 | $ | 6,358.9 | $ | 1,013.6 | $ | (5,866.1 | ) | $ | 12,184.6 | ||||||||
LIABILITIES & EQUITY | |||||||||||||||||||
Accounts payable and other liabilities | $ | 483.9 | $ | 956.9 | $ | 126.6 | $ | (2.0 | ) | $ | 1,565.4 | ||||||||
Intercompany payables | — | 732.2 | 315.5 | (1,047.7 | ) | — | |||||||||||||
Notes payable | 2,443.4 | 8.2 | 420.0 | — | 2,871.6 | ||||||||||||||
Total Liabilities | 2,927.3 | 1,697.3 | 862.1 | (1,049.7 | ) | 4,437.0 | |||||||||||||
Stockholders’ equity | 7,750.9 | 4,661.6 | 151.0 | (4,816.4 | ) | 7,747.1 | |||||||||||||
Noncontrolling interests | — | — | 0.5 | — | 0.5 | ||||||||||||||
Total Equity | 7,750.9 | 4,661.6 | 151.5 | (4,816.4 | ) | 7,747.6 | |||||||||||||
Total Liabilities & Equity | $ | 10,678.2 | $ | 6,358.9 | $ | 1,013.6 | $ | (5,866.1 | ) | $ | 12,184.6 | ||||||||
113
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Statement of Operations
Year Ended September 30, 2018
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
Revenues | $ | 5,835.0 | $ | 9,795.7 | $ | 488.0 | $ | (50.7 | ) | $ | 16,068.0 | ||||||||
Cost of sales | 4,612.5 | 7,752.5 | 74.9 | (41.8 | ) | 12,398.1 | |||||||||||||
Selling, general and administrative expense | 665.6 | 676.1 | 335.1 | — | 1,676.8 | ||||||||||||||
Equity in earnings of unconsolidated entities | — | — | (5.3 | ) | 2.5 | (2.8 | ) | ||||||||||||
Gain on sale of assets | (2.4 | ) | — | (16.4 | ) | — | (18.8 | ) | |||||||||||
Other (income) expense | (6.0 | ) | (0.2 | ) | (39.1 | ) | — | (45.3 | ) | ||||||||||
Income before income taxes | 565.3 | 1,367.3 | 138.8 | (11.4 | ) | 2,060.0 | |||||||||||||
Income tax expense | 167.9 | 406.1 | 27.1 | (3.4 | ) | 597.7 | |||||||||||||
Equity in net income of subsidiaries, net of tax | 1,069.7 | — | — | (1,069.7 | ) | — | |||||||||||||
Net income | 1,467.1 | 961.2 | 111.7 | (1,077.7 | ) | 1,462.3 | |||||||||||||
Net income attributable to noncontrolling interests | — | — | 3.1 | (1.1 | ) | 2.0 | |||||||||||||
Net income attributable to D.R. Horton, Inc. | $ | 1,467.1 | $ | 961.2 | $ | 108.6 | $ | (1,076.6 | ) | $ | 1,460.3 | ||||||||
114
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Statement of Operations
Year Ended September 30, 2017
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
Revenues | $ | 4,773.6 | $ | 8,939.5 | $ | 387.0 | $ | (9.1 | ) | $ | 14,091.0 | ||||||||
Cost of sales | 3,827.6 | 7,199.6 | 24.1 | (8.5 | ) | 11,042.8 | |||||||||||||
Selling, general and administrative expense | 584.3 | 631.0 | 256.3 | — | 1,471.6 | ||||||||||||||
Other (income) expense | (8.3 | ) | (1.4 | ) | (15.8 | ) | — | (25.5 | ) | ||||||||||
Income before income taxes | 370.0 | 1,110.3 | 122.4 | (0.6 | ) | 1,602.1 | |||||||||||||
Income tax expense | 129.4 | 388.6 | 45.9 | (0.2 | ) | 563.7 | |||||||||||||
Equity in net income of subsidiaries, net of tax | 798.2 | — | — | (798.2 | ) | — | |||||||||||||
Net income | $ | 1,038.8 | $ | 721.7 | $ | 76.5 | $ | (798.6 | ) | $ | 1,038.4 | ||||||||
115
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Statement of Operations
Year Ended September 30, 2016
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
Revenues | $ | 3,947.5 | $ | 7,930.3 | $ | 295.6 | $ | (16.0 | ) | $ | 12,157.4 | ||||||||
Cost of sales | 3,163.6 | 6,357.5 | (7.7 | ) | (10.8 | ) | 9,502.6 | ||||||||||||
Selling, general and administrative expense | 503.8 | 592.7 | 223.8 | — | 1,320.3 | ||||||||||||||
Goodwill impairment | — | 7.2 | — | — | 7.2 | ||||||||||||||
Gain on sale of assets | (4.5 | ) | — | — | — | (4.5 | ) | ||||||||||||
Other (income) expense | (3.1 | ) | (3.9 | ) | (14.7 | ) | — | (21.7 | ) | ||||||||||
Income before income taxes | 287.7 | 976.8 | 94.2 | (5.2 | ) | 1,353.5 | |||||||||||||
Income tax expense | 98.6 | 334.9 | 35.5 | (1.8 | ) | 467.2 | |||||||||||||
Equity in net income of subsidiaries, net of tax | 700.6 | — | — | (700.6 | ) | — | |||||||||||||
Net income | $ | 889.7 | $ | 641.9 | $ | 58.7 | $ | (704.0 | ) | $ | 886.3 | ||||||||
116
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Statement of Cash Flows
Year Ended September 30, 2018
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
OPERATING ACTIVITIES | |||||||||||||||||||
Net cash provided by (used in) operating activities | $ | 195.0 | $ | 903.8 | $ | (445.9 | ) | $ | (107.7 | ) | $ | 545.2 | |||||||
INVESTING ACTIVITIES | |||||||||||||||||||
Expenditures for property and equipment | (34.5 | ) | (30.3 | ) | (3.3 | ) | — | (68.1 | ) | ||||||||||
Proceeds from sale of assets | — | — | 292.9 | — | 292.9 | ||||||||||||||
Expenditures related to multi-family rental properties | — | — | (81.8 | ) | 11.6 | (70.2 | ) | ||||||||||||
Decrease (increase) in restricted cash | 1.2 | (0.5 | ) | (17.1 | ) | — | (16.4 | ) | |||||||||||
Return of investment in unconsolidated entities | — | — | 17.5 | — | 17.5 | ||||||||||||||
Net principal increase of other mortgage loans and real estate owned | — | — | (1.2 | ) | — | (1.2 | ) | ||||||||||||
Proceeds from debt securities collateralized by residential real estate | 7.3 | — | — | — | 7.3 | ||||||||||||||
Intercompany advances | 801.8 | — | — | (801.8 | ) | — | |||||||||||||
Payments related to business acquisitions, net of cash acquired | (561.0 | ) | — | 401.8 | — | (159.2 | ) | ||||||||||||
Net cash provided by (used in) investing activities | 214.8 | (30.8 | ) | 608.8 | (790.2 | ) | 2.6 | ||||||||||||
FINANCING ACTIVITIES | |||||||||||||||||||
Proceeds from notes payable | 2,162.1 | — | 1.4 | — | 2,163.5 | ||||||||||||||
Repayment of notes payable | (2,165.9 | ) | (5.2 | ) | (10.6 | ) | — | (2,181.7 | ) | ||||||||||
Advances on mortgage repurchase facility, net | — | — | 217.7 | — | 217.7 | ||||||||||||||
Intercompany advances | — | (863.6 | ) | 61.8 | 801.8 | — | |||||||||||||
Proceeds from stock associated with certain employee benefit plans | 47.4 | — | — | — | 47.4 | ||||||||||||||
Cash paid for shares withheld for taxes | (10.3 | ) | — | — | — | (10.3 | ) | ||||||||||||
Cash dividends paid | (188.4 | ) | — | (96.1 | ) | 96.1 | (188.4 | ) | |||||||||||
Repurchases of common stock | (127.5 | ) | — | — | — | (127.5 | ) | ||||||||||||
Distributions to noncontrolling interests, net | — | — | (3.2 | ) | — | (3.2 | ) | ||||||||||||
Net cash (used in) provided by financing activities | (282.6 | ) | (868.8 | ) | 171.0 | 897.9 | (82.5 | ) | |||||||||||
Increase in cash and cash equivalents | 127.2 | 4.2 | 333.9 | — | 465.3 | ||||||||||||||
Cash and cash equivalents at beginning of year | 780.9 | 154.5 | 72.4 | — | 1,007.8 | ||||||||||||||
Cash and cash equivalents at end of year | $ | 908.1 | $ | 158.7 | $ | 406.3 | $ | — | $ | 1,473.1 | |||||||||
117
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Statement of Cash Flows
Year Ended September 30, 2017
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
OPERATING ACTIVITIES | |||||||||||||||||||
Net cash (used in) provided by operating activities | $ | (283.2 | ) | $ | 721.0 | $ | 115.0 | $ | (112.6 | ) | $ | 440.2 | |||||||
INVESTING ACTIVITIES | |||||||||||||||||||
Expenditures for property and equipment | (54.2 | ) | (26.2 | ) | (22.3 | ) | — | (102.7 | ) | ||||||||||
Expenditures related to multi-family rental properties | — | — | (63.7 | ) | 9.1 | (54.6 | ) | ||||||||||||
(Increase) decrease in restricted cash | (0.4 | ) | 0.6 | (7.2 | ) | — | (7.0 | ) | |||||||||||
Net principal decrease of other mortgage loans and real estate owned | — | — | 6.2 | — | 6.2 | ||||||||||||||
Purchases of debt securities collateralized by residential real estate | (8.8 | ) | — | — | — | (8.8 | ) | ||||||||||||
Intercompany advances | 561.7 | — | — | (561.7 | ) | — | |||||||||||||
Payments related to business acquisitions | (4.1 | ) | — | — | — | (4.1 | ) | ||||||||||||
Net cash provided by (used in) investing activities | 494.2 | (25.6 | ) | (87.0 | ) | (552.6 | ) | (171.0 | ) | ||||||||||
FINANCING ACTIVITIES | |||||||||||||||||||
Proceeds from notes payable | 835.0 | — | — | — | 835.0 | ||||||||||||||
Repayment of notes payable | (1,187.2 | ) | (5.1 | ) | — | — | (1,192.3 | ) | |||||||||||
Payments on mortgage repurchase facility, net | — | — | (53.0 | ) | — | (53.0 | ) | ||||||||||||
Intercompany advances | — | (689.8 | ) | 128.1 | 561.7 | — | |||||||||||||
Proceeds from stock associated with certain employee benefit plans | 46.7 | — | — | — | 46.7 | ||||||||||||||
Excess income tax benefit from employee stock awards | 14.3 | — | — | — | 14.3 | ||||||||||||||
Cash paid for shares withheld for taxes | (5.1 | ) | — | — | — | (5.1 | ) | ||||||||||||
Cash dividends paid | (149.6 | ) | — | (103.5 | ) | 103.5 | (149.6 | ) | |||||||||||
Repurchases of common stock | (60.6 | ) | — | — | — | (60.6 | ) | ||||||||||||
Net cash used in financing activities | (506.5 | ) | (694.9 | ) | (28.4 | ) | 665.2 | (564.6 | ) | ||||||||||
(Decrease) increase in cash and cash equivalents | (295.5 | ) | 0.5 | (0.4 | ) | — | (295.4 | ) | |||||||||||
Cash and cash equivalents at beginning of year | 1,076.4 | 154.0 | 72.8 | — | 1,303.2 | ||||||||||||||
Cash and cash equivalents at end of year | $ | 780.9 | $ | 154.5 | $ | 72.4 | $ | — | $ | 1,007.8 | |||||||||
118
D.R. HORTON, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS – (Continued)
NOTE P – SUPPLEMENTAL GUARANTOR INFORMATION - (Continued)
Consolidating Statement of Cash Flows
Year Ended September 30, 2016
D.R. Horton, Inc. | Guarantor Subsidiaries | Non-Guarantor Subsidiaries | Eliminations | Total | |||||||||||||||
(In millions) | |||||||||||||||||||
OPERATING ACTIVITIES | |||||||||||||||||||
Net cash provided by (used in) operating activities | $ | 121.0 | $ | 596.7 | $ | (16.0 | ) | $ | (77.8 | ) | $ | 623.9 | |||||||
INVESTING ACTIVITIES | |||||||||||||||||||
Expenditures for property and equipment | (40.7 | ) | (14.3 | ) | (23.1 | ) | — | (78.1 | ) | ||||||||||
Expenditures related to multi-family rental properties | — | — | (24.0 | ) | 16.0 | (8.0 | ) | ||||||||||||
Decrease in restricted cash | — | 0.2 | — | — | 0.2 | ||||||||||||||
Net principal decrease of other mortgage loans and real estate owned | — | — | 19.7 | — | 19.7 | ||||||||||||||
Proceeds from debt securities collateralized by residential real estate | 35.8 | — | — | — | 35.8 | ||||||||||||||
Intercompany advances | 409.9 | — | — | (409.9 | ) | — | |||||||||||||
Payments related to business acquisitions | (82.2 | ) | — | — | — | (82.2 | ) | ||||||||||||
Net cash provided by (used in) investing activities | 322.8 | (14.1 | ) | (27.4 | ) | (393.9 | ) | (112.6 | ) | ||||||||||
FINANCING ACTIVITIES | |||||||||||||||||||
Repayment of notes payable | (542.9 | ) | (1.9 | ) | — | — | (544.8 | ) | |||||||||||
Payments on mortgage repurchase facility, net | — | — | (4.9 | ) | — | (4.9 | ) | ||||||||||||
Intercompany advances | — | (521.3 | ) | 111.4 | 409.9 | — | |||||||||||||
Proceeds from stock associated with certain employee benefit plans | 72.4 | — | — | — | 72.4 | ||||||||||||||
Excess income tax benefit from employee stock awards | 10.0 | — | — | — | 10.0 | ||||||||||||||
Cash paid for shares withheld for taxes | (5.9 | ) | — | — | — | (5.9 | ) | ||||||||||||
Cash dividends paid | (118.7 | ) | — | (61.8 | ) | 61.8 | (118.7 | ) | |||||||||||
Net cash (used in) provided by financing activities | (585.1 | ) | (523.2 | ) | 44.7 | 471.7 | (591.9 | ) | |||||||||||
(Decrease) increase in cash and cash equivalents | (141.3 | ) | 59.4 | 1.3 | — | (80.6 | ) | ||||||||||||
Cash and cash equivalents at beginning of year | 1,217.7 | 94.6 | 71.5 | — | 1,383.8 | ||||||||||||||
Cash and cash equivalents at end of year | $ | 1,076.4 | $ | 154.0 | $ | 72.8 | $ | — | $ | 1,303.2 | |||||||||
119
ITEM 9. | CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE |
None.
ITEM 9A. | CONTROLS AND PROCEDURES |
Evaluation of Disclosure Controls and Procedures
As of the end of the period covered by this report, an evaluation was performed under the supervision and with the participation of the Company’s management, including the Chief Executive Officer (CEO) and Chief Financial Officer (CFO), of the effectiveness of the Company’s disclosure controls and procedures as defined in Rule 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934. Based on that evaluation, the CEO and CFO concluded that the Company’s disclosure controls and procedures as of September 30, 2018 were effective in providing reasonable assurance that information required to be disclosed in the reports the Company files, furnishes, submits or otherwise provides the Securities and Exchange Commission (SEC) under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the SEC’s rules and forms, and that information required to be disclosed in reports filed by the Company under the Exchange Act is accumulated and communicated to the Company’s management, including the CEO and CFO, in such a manner as to allow timely decisions regarding the required disclosure.
There have been no changes in the Company’s internal controls over financial reporting during the quarter ended September 30, 2018 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
Our management is responsible for establishing and maintaining adequate internal control over financial reporting, as defined in Rule 13a-15(f) under the Securities Exchange Act of 1934, as amended. Internal control over financial reporting is a process to provide reasonable assurance regarding the reliability of our financial reporting and the preparation of financial statements for external purposes in accordance with U.S. generally accepted accounting principles. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.
Management conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation, management concluded that the Company’s internal control over financial reporting was effective as of September 30, 2018.
PricewaterhouseCoopers LLP, an independent registered public accounting firm, has audited the effectiveness of our internal control over financial reporting as of September 30, 2018, as stated in their report included herein.
ITEM 9B. | OTHER INFORMATION |
None.
120
PART III
ITEM 10. | DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE |
The information required by this item is set forth under the captions “Proposal One — Election of Directors,” “Corporate Governance and Board Matters,” “Section 16(a) Beneficial Ownership Reporting Compliance” and “Requesting Documents from the Company” in the registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Stockholders and incorporated herein by reference.
ITEM 11. | EXECUTIVE COMPENSATION |
The information required by this item is set forth under the caption “Executive Compensation” in the registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Stockholders and incorporated herein by reference.
ITEM 12. | SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS |
Securities Authorized for Issuance under Equity Compensation Plans
The following table summarizes our equity compensation plans as of September 30, 2018.
(a) Number of Shares to be Issued Upon Exercise of Outstanding Options, Warrants and Rights | (b) Weighted-Average Exercise Price of Outstanding Options, Warrants and Rights | (c) Number of Securities Remaining Available for Future Issuance Under Equity Compensation Plans (Excluding Securities Reflected in Column (a)) | ||||||||||
Plan Category | ||||||||||||
Equity compensation plans approved by stockholders | 11,644,881 | (1) | $ | 17.25 | (2) | 21,555,619 | (3) | |||||
Equity compensation plans not approved by stockholders | — | n/a | — | |||||||||
Total | 11,644,881 | $ | 17.25 | 21,555,619 | ||||||||
______________
(1) | Amount includes outstanding stock option and restricted stock unit awards. The number of outstanding performance-based restricted stock unit awards is based on the target number of units granted. |
(2) | Amount reflects the weighted average exercise price with respect to outstanding stock options and does not take into account outstanding restricted stock units, which do not have an exercise price. |
(3) | Amount includes 3,100,740 shares reserved for issuance under the Company’s Employee Stock Purchase Plan. Under the Employee Stock Purchase Plan, employees purchased 114,340 shares of common stock in fiscal 2018. |
The remaining information required by this item is set forth under the caption “Beneficial Ownership of Common Stock” in the registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Stockholders and incorporated herein by reference.
121
ITEM 13. | CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE |
The information required by this item is set forth under the captions “Certain Relationships and Related Person Transactions” and “Corporate Governance and Board Matters” in the registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Stockholders and incorporated herein by reference.
ITEM 14. | PRINCIPAL ACCOUNTANT FEES AND SERVICES |
The information required by this item is set forth under the caption “Independent Registered Public Accountants” in the registrant’s definitive Proxy Statement for the 2019 Annual Meeting of Stockholders and incorporated herein by reference.
122
PART IV
ITEM 15. | EXHIBITS AND FINANCIAL STATEMENT SCHEDULES |
(a) The following documents are filed as part of this report:
(1). Financial Statements:
See Item 8 above.
(2). Financial Statement Schedules:
Schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange Commission (SEC) are omitted because they are not required under the related instructions or are not applicable, or because the required information is shown in the consolidated financial statements or notes thereto.
(3). and (b) Exhibits:
Exhibit Number | Exhibit | ||
2.1 | |||
3.1 | |||
3.2 | |||
4.1 | |||
4.2 | |||
4.3 | |||
4.4 | |||
4.5 | |||
4.6 | |||
123
Exhibit Number | Exhibit | ||
4.7 | |||
4.8 | |||
4.9 | |||
4.10 | |||
4.11 | |||
4.12 | |||
4.13 | |||
10.1 | Form of Indemnification Agreement between the Registrant and each of its directors and executive officers and schedules of substantially identical documents (incorporated by reference from Exhibit 10.1 to the Registrant’s Annual Report on Form 10-K for the fiscal year ended September 30, 1995, filed with the SEC on November 22, 1995 (file number 1-14122); Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended June 30, 1998, filed with the SEC on August 6, 1998; and Exhibit 10.4 to the Registrant’s Quarterly Report on Form 10-Q for the quarter ended March 31, 2001, filed with the SEC on May 15, 2001). | ||
10.2 | † | ||
10.3 | † | ||
10.4 | † | Form of Non-Qualified Stock Option Agreement under the D.R. Horton, Inc. 1991 Stock Incentive Plan (Term Vesting) (incorporated by reference from Exhibit 10.3 to the Registrant’s Registration Statement on Form S-1 (Registration No. 3-81856), filed with the SEC on July 22, 1994). | |
10.5 | † | ||
124
Exhibit Number | Exhibit | ||
10.6 | † | ||
10.7 | † | ||
10.8 | † | ||
10.9 | † | ||
10.10 | † | ||
10.11 | † | ||
10.12 | † | ||
10.13 | † | ||
10.14 | † | ||
10.15 | † | ||
10.16 | † | ||
10.17 | † | ||
10.18 | † | D.R. Horton, Inc. Supplemental Executive Retirement Plan No. 1 (incorporated by reference from the Registrant’s Transitional Report on Form 10-K for the period from January 1, 1993 to September 30, 1993, filed with the SEC on December 28, 1993 (file number 1-14122)). | |
10.19 | † | ||
125
Exhibit Number | Exhibit | ||
10.20 | † | ||
10.21 | † | ||
10.22 | † | ||
10.23 | † | ||
10.24 | † | ||
10.25 | † | ||
10.26 | † | ||
10.27 | † | ||
10.28 | |||
10.29 | |||
10.30 | |||
10.31 | |||
10.32 | |||
10.33 | |||
10.34 | |||
126
Exhibit Number | Exhibit | ||
10.35 | |||
10.36 | |||
10.37 | |||
10.38 | |||
10.39 | |||
10.40 | |||
10.41 | |||
10.42 | |||
10.43 | |||
10.44 | |||
10.45 | |||
10.46 | |||
127
Exhibit Number | Exhibit | ||
10.47 | |||
14.1 | Code of Ethical Conduct for the CEO, CFO and Senior Financial Officers (**) | ||
21.1 | |||
23.1 | |||
31.1 | |||
31.2 | |||
32.1 | |||
32.2 | |||
101 | The following financial statements from D.R. Horton, Inc.'s Annual Report on Form 10-K for the year ended September 30, 2018, filed on November 16, 2018, formatted in XBRL (Extensible Business Reporting Language); (i) Consolidated Balance Sheets, (ii) Consolidated Statements of Operations and Comprehensive Income, (iii) Consolidated Statements of Total Equity, (iv) Consolidated Statements of Cash Flows and (v) the Notes to Consolidated Financial Statements. (*) | ||
_____________________
* Filed herewith.
** Posted to the Registrant’s website at www.drhorton.com under the Investor Relations and Corporate Governance links.
† Management contract or compensatory plan arrangement.
ITEM 16. | 10-K SUMMARY |
None.
128
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
D.R. Horton, Inc. | ||||
Date: | November 16, 2018 | By: | /s/ Bill W. Wheat | |
Bill W. Wheat | ||||
Executive Vice President and Chief Financial Officer | ||||
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
Signature | Title | Date | ||||
/s/ David V. Auld | President and Chief Executive Officer (Principal Executive Officer) | November 16, 2018 | ||||
David V. Auld | ||||||
/s/ Bill W. Wheat | Executive Vice President and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer) | November 16, 2018 | ||||
Bill W. Wheat | ||||||
/s/ Donald R. Horton | Chairman of the Board and Director | November 16, 2018 | ||||
Donald R. Horton | ||||||
/s/ Barbara K. Allen | Director | November 16, 2018 | ||||
Barbara K. Allen | ||||||
/s/ Brad S. Anderson | Director | November 16, 2018 | ||||
Brad S. Anderson | ||||||
/s/ Michael R. Buchanan | Director | November 16, 2018 | ||||
Michael R. Buchanan | ||||||
/s/ Michael W. Hewatt | Director | November 16, 2018 | ||||
Michael W. Hewatt | ||||||
129