Hovnanian Enterprises Inc (HOV) 2009 Q2 法說會逐字稿

Good morning, thank you for joining us today for Hovnanian Enterprises fiscal 2009 second quarter earnings conference call. By now you should have all received a copy of the earnings press release. However, if anyone is missing a copy and would like one, please contact Donna Roberts at 732-383-2200. We will send you a copy of the release and ensure you are on the Company's distribution list. There will be a replay for today's call. This telephone replay will be available after the completion of the call and will run for one week. The replay can be accessed by dialing 888-286-8010. Pass code 17857471. Again, the replay number is 888-286-8010. Pass code 17857471. An archive of the web cast live will be available for 12 months. This conference is being recorded for rebroadcast and all participants are currently in listen only mode. Management will make opening remarks about the second quarter results. And then open the line up for questions. The Company will be web casting a slide presentation along with the opening comments from management. The slides are available on the investor's page of the Company's website at www.KHOV.com. Those listeners who would like to follow along should log on to the website at this time.

Before we begin I would like to remind everyone that the cautionary language about the forward-looking statements contained in the press release also applies to any comments made during this conference call and to any information in the slide presentation.

I would like to turn the presentation over to your host, Ara Hovnanian, President and Chief Executive Officer of Hovnanian Enterprises. Please go ahead.

Thank you. Good morning and thank you all for participating in today's call to review the results of our second quarter and six months ended April '09. Joining me from the Company today are Larry Sorsby, Executive Vice-President & CFO. Paul Buchanan, Senior Vice President and Chief Accounting Officer. Brad O'Connor, Vice-President and Corporate Controller. David Valiaveeden, Vice-President of Finance. Jeff O'Keefe, Director of Investor Relations.

On slide three you will see a brief summary of our second quarter results. As usual, we give this data and more in our press release which we issued yesterday. There are three points on the slide that are worth highlighting. On the third line down, you see that our net contract per community during the most recent quarter showed a 25% year-over-year increase for the quarter. This is the second consecutive quarter we achieved an increase in year-over-year contracts per community and encouraging considering the consistent year-over-year declines we saw for the past four years.

Another positive trend on the fourth line down, you see there are cancellation rate decreased during the second quarter of '09 to 24%. This is the lowest quarterly cancellation rate that we have reported since the third quarter of '05. Cancellation rate in the mid-20s is close to more normalized levels.

Third and third from the bottom, you see we purchased $525 million of face value of debt for $208 million in cash. These transactions resulted in $525 million reduction in our outstanding debt and $311 million of pre-tax gain from debt extinguishment. During the first half of fiscal '09 we reduced our debt by $620 million as a result of the debt exchange and open market repurchasing of our debt resulting in the $391 million pre-tax gain.

Turning to slide four, we show the progress we made in reducing our active selling community count from 379 at the end of last year's second quarter to 215 at the end of our '09 second quarter. This represents a 43% decline in the number of storefronts we operate. An important step in lowering our capital investing in communities and our overhead.

Now let me get back to the sales trends we are seeing in the market today. We are seeing more than the typical seasonal uptick in sales throughout our second quarter. The seasonal aspect is not unusual but note worthy this is the second consecutive quarter that our contracts per community were up year-over-year. As you can see on slide number five. Net contracts per community were up 5% in the first quarter, and increased even more, actually 25% year-over-year in the second quarter and that same season compared to the same season last year. The enhancement of the $8000 federal tax credit certainly contributed to our increased sales, but out of all of the applications our mortgage Company took in a second quarter only 32% of them were from first time home buyers, which was not significantly more than the 29% we had in the first quarter of '09 before the new tax credit. This is relevant because the federal tax credit is only available to first time home buyers. Approximately two-thirds of our purchasers bought without any benefit of a tax credit.

Of particular note the second quarter pace of 7.4 net contracts per community not only exceeded our '08 second quarter results but exceeded our '07 second quarter results as well. Prior to the increased sales pace in the first quarter of '09 we reported a year-over-year decrease in net contracts per community for 15 quarters in a row. While this increase in net contracts per community is a positive trend that is continued now for two quarters, it is fair to point out our net contracts in total for the second quarter were still off 29% year-over-year, however, we feel the most relevant number is the per community results because our community count continues to shrink as we discussed earlier similar to the retail business with 43% fewer storefronts, you would expect lower absolute year-over-year numbers again lowering these storefronts as part of our overall plan of capital reduction in overhead.

Looking at net contracts on a monthly basis, slide six, you see our monthly net contracts -- you see what our monthly net contracts were since September of '08. In February, March and April monthly sales exceeded 500 for the first time since August of '08. On the bottom of this slide you can see what our contracts per community were for the most recent months and for the comparable month a year ago. The contracts per community have shown a positive comparison for six of the past seven months. And the comparison has been stronger during the two most recent months with the 25% and 33% increase in net contracts per community for March and April respectively.

When you look at MLS data for many markets today you see two positive forces at work. First, you see absolute sales numbers have picked up. And second, you see inventory levels have come down. In some markets you could almost make the case that the month's supply has corrected too much. Believe it or not by normal standards there is actually a shortage of homes based on the current sales pace in certain markets including some the markets that were the most oversupplied not long ago.

However, there are two risk factors that mitigate some of this good news. For starters again, the expiration of the federal tax credit coming in November of this year is a concern. Second, at some point the state of California will max out on its $10,000 state tax home credit for new home buyers. There is the potential of increase of listings due to a potential rise in foreclosures as recent moratorium on foreclosures have ended and finally, mortgage rates while still very low by historical standards they have tweaked up in the very recent period. The combination of these factors could clearly dampen the positive signs we have been seeing popping up.

Even though we are concerned with these potential risks, many markets have shown signs of improvement in terms of supply and sales pace. Not only have the conditions improved from the technical perspective but these markets feel better today and there seems to be a better psychology today. These next couple of slides show listings and sales trends for existing homes in some of our most difficult markets. On slide seven, you see what is happening in Stockton, California. The yellow symbols are total listings outstanding each month. The maroon symbols are monthly sales and the blue line is the number of months supply. This is one of the hardest hit markets in the country with respect to foreclosures resulting in dramatic price declines. However, the good news is listings have consistently declined for almost two years and over the last eight months, sales have increased. The combination has resulted in a sharp decline of month supply which now stands at less than two months supply. That's unusually low and below normal. Similar trends can be seen for Bakersfield, California, as you can see on the next slide, number eight. Inventory here has dropped from a 12 month supply to over a two month supply.

On slide nine, in Phoenix, April 2009 sales were the highest monthly sales in the past seven years. Even though listings remain somewhat elevated, the month supplies coming down to more realistic and normal levels and is being driven by the increased sales volume. At a five month supply, this market looks a lot better than it did a year and a half ago when it had almost a 25 month supply. We really have two components to our DC market on both sides of the Potomac. The existing home market seems to be improving on both the Virginia and the DC side -- excuse me, the Virginia and Maryland side. On slide 10 we show Virginia, which has been improving since the end of '07. Virginia at a three month supply of existing homes. This is decreased dramatically from the peak of a 13 month supply. Things on the Maryland side of the DC market have been slower to improve but the last five months have shown steady improve. You can see this on slide 11, that market is down to about the seven month supply.

While all of our markets have not improved to a five to seven month supply of homes for sale, some markets like west Palm Beach shown on slide 12 have experienced consistent improvements in the number of month supply. Listings dropped to about 20,000 in monthly sales increased to 1,400 yielding a reduction from a 42-month supply to roughly a 15 month supply. It's still very high, but it's definitely progress and trending in the right direction. The trends in our monthly net contract per community plus the trends in market specific existing home sales data indicate an improving housing market despite all of the uncertainty regarding the economy.

However, there is some pain associated with these improvements. Unfortunately the increase sales pace came at the expense of declining sales prices in many of these markets partly driven by foreclosure pressures. Since we were more focused on cash flow and are sacrificing margin to achieve pace, we have lowered our prices in many communities to achieve and improve sales pace. However it's safe to say that the rate of decline in home prices has recently slowed in most parts of the country and in a few locations we actually been able to raise prices without adversely impacting our sales pace.

As illustrated on slide 13, the recent quarter saw an improvement in gross margin over the first quarter. Needless to say in spite of the improvement we are disappointed in the absolute levels of gross margin. During the second quarter, our home building cost of sales was reduced by $49.3 million from the reversal of impairments. While the absolute amount of total SG&A decreased by 33% year-over-year, as you can see on slide 14, total SG&A expenses as a percentage of total revenues was still in the high teens for the second quarter. Clearly above normal and where we like to see it.

The higher than normal SG&A percentage comes despite significant reductions in our staffing levels. Slide 15 illustrates a 71% reduction in staffing levels from the peak levels in the summer of '06 through April of '09. In fact, the staffing levels have decreased 28% in the last six months alone. But it has been hard to cut SG&A as fast as our revenues in our sales pace has dropped. The sales pace we are achieving at a community level make this very challenging. It's unlikely we will be able to get back to a more normalized historical percentage of SG&A until the sales pace per community returns to more customary levels. We have seen positive trends these past two quarters on a per community basis although we remain at very low levels.

Slide 16 gives a historical perspective of the annual sales per community. Over the period of time shown on this graph we have averaged about 42 net contracts per community per year. The current run rate of the last six months -- at the current run rate we would be about 23 net contracts per community, while better than last year this is still significantly below average. After steep drops in absorption the previous three years, it appears we may be starting to see a leveling off or slight increase in pace rather than continued declines. However, it's difficult to make money when the sales pace is still so low. To keep our expenses in line we will continue to right size our business based on the current activity we are generating in our markets.

Cash flow remains our top priority. Once upon a time we used gross margin as the primary go, no-go call of building through a community. Our focus has shifted to cash flow, today we are less concerned with margins and more concerned with the cash we will generate by building and delivering a home. Needless to say, we will not start a home if the selling price is less than the cost of the sticks, bricks and labor. Besides needing to recover all of the cash costs of recovering a home, we also want to recover a reasonable portion of the cash cost for a finished lot.

In some of our communities we are foreclosures are nearby and where the home prices have come down so much that we no longer generate cash flow by building homes, the decision to moth ball is easy. In other markets where we can still get all of our cash back for building a house, we take a closer look at the cash we were getting back on the finished lot, both raw land and land development. In some of our more challenged markets like Bakersfield or Fresno, California, we might accept as little as $15,000 or $20,000 per lot in cash flow by building homes. Now that may not seem like a lot of money, but there are carrying costs associated with moth balling a community so it can make sense to move forward with a project even when we are only recovering $20,000 of lot value in certain oversupplied markets. We also moth ball lots where we are bullish that the recovery will show particularly good appreciation in lot values and home prices in a given location. Through the end of the second quarter we moth balled about 9,800 lots in 76 communities. 12 communities were moth balled during the most recent quarter.

On slide 17, we showed the number of lots that were moth balled broken out by our segments. There are more moth balled lots in markets like New Jersey and California where we do a fair percentage of land development ourselves. In many of these communities, it just doesn't make sense to go forward spending money on land development. In other markets like Texas, very little has been moth balled. Book value at the end of the second quarter for these communities was $388 million, net of an impairment balance of almost $0.5 billion, which reflects nearly a 60% reduction in book value. $101 million of the moth balled land was in several parcels along the Hudson river overlooking Manhattan in our northeast segment. While this is expensive land, the Hudson river waterfront is a AAA location where we have successfully built homes for more than 15 years. We are confident that this market will rebound strongly in the future given its close proximity to Manhattan. Once home prices begin to increase and we see further improvement in sales pace, we will begin to dust off these moth balled communities and open the communities up for sale. This will obviously add to our cash flow later.

With our laser-like focus on cash flow, excluding the $208 million we spent on debt repurchases, we reported our fifth consecutive quarter of positive cash flow as you can see on slide 18. Given the continued deterioration in the housing market, generating cash flow in the future is clearly going to be more challenging than it was last year. Our ability to generate cash is partially a reflection of our decision to not fully replenish our land as we delivered houses. Slide 19 shows how much our land position both owned and optioned has been reduced over the last several years. Our total land position is down 71% from peak levels while our options and owned positions are down 85% and 40% respectively from peak levels. During the second quarter our own lot positioned declined by about 1100 lots. We delivered approximately 1400 homes and sold 200 lots without a home loan offsetting these reductions we took down 420 lots that were under option.

As we moved forward, we still need to reduce our own lot supply further. On slide 20, we showed a break down of the 22,000 lots we owned at the end of the second quarter. Approximately 45% of these were 80% or more finished. 15% had 30% to 80% of the improvements already in place and the remaining 40% had less than 30% of the improvement dollars spent. We are currently focused on reducing our consolidated land supply. In the land markets we have recently seen some land deals that are starting to make sense again, finally. These deals are primarily being marketed by banks if and are penciling at current sales paces and current sale prices to an unlevered IRR of between 25 and 30% plus. So far, we have seen a dozen deals across the country that meet these parameters including Chicago, Virginia, Maryland, Florida and California. One specific example is in Florida where we recently put under contract 160 lots from a bank. In this case, the original cost per raw lot was approximately $170,000 and then an additional $50,000 of improvements per lot was put in place for a total cost of $220,000 per lot and that's without allocating interest or overhead. Our contract on this project is about $25,000 per lot, which is about 11% of the original cost and only about 50% of the replacement cost of improvements and that's with a zero land valuation. Further, sales in this particular geography and product niche have been reasonably solid. The fact that we have to value the raw land at zero in order to achieve a fair return on homes is a clear indication that the pendulum for land has swung too far. We are seeing more land deals like this making their way to the surface around the country and will provide a once in a generation opportunity for us to reload and reinvest in land.

I will now turn it over to Larry who will discuss our gross margin and the charges we took in the quarter as well as other topics.

Thanks. Let me start off by making a couple of points about our current land supply. If you turn to slide 21, it shows our owned and options land supply broken out by our publicly reported segments. On a trailing 12 month basis, we own slightly more than three years worth of land. On a relative basis, this compares well to our own land position of our peers, which can be seen on slide 22. The good news is that each quarter we work through more of our own land and we will eventually get through all of it and be ready to replenish our land supply with lower cost land at the bottom of the housing cycle. Over time this sale of older land combined with purchasing new land at market prices will cause our gross margin to gradually increase back to normalized levels. Of course if the market improves and we can raise prices the time frame to return to normalized margins will shorten.

I will now talk about the land related charges that we took during the second quarter. We continued to walk away from land options when they don't make economic sense. During the second quarter we walked away from 1187 lots and took a writeoff of $9.1 million related to these option lots. On slide 23, it shows how these charges were broken out between our various segments. Our remaining investment and option deposits was $43 million at April 30, 2009. With $31 million in cash deposits and the other $12 million of deposits being held by letters of credit. Additionally, we have another $56.5 million invested in predevelopment expenses.

The next category of pre-tax charges relates to impairments, which is also shown on the same slide. We incurred impairment charges of $301.1 million related to land and communities that we owned in the second quarter. Land impairments exceeded $100 million in both the northeast and west segments. Impairments in the northeast are due to recent weaknesses in this market primarily in the suburbs of Manhattan, which is a direct result of recent increases in unemployment and that market especially as it relates to Wall Street. Almost $90 million of the impairments was in one location on the Hudson River Waterfront overlooking Manhattan. The New York City market held up much longer than other markets during this downturn. But with the perils of the financial market sector that hit home in the fall of 2008, the declines in this market have occurred rapidly.

Unlike the weakness we recently seen on the water front markets overlooking Manhattan, we have actually been able to raise prices in a handful of communities that are located closer to key employment centers in California as these markets have shown some signs of both prices and absorption paces firming up. However, in the fringe markets in California, or the west, where much of the competition comes by way of foreclosures, we continue to lower prices during the second quarter with resulted in impairments in 37 communities in the west. We test all of our communities including communities not open for sales at the end of each quarter for impairments. If home prices continue to deteriorate we will see additional impairments in future quarters. While we have seen signs of price stability in the past six weeks or so, more foreclosures are looming over market and indexes such as the Case Schiller Index suggests there could be more pressure on home prices in the future.

During the second quarter of 2009, we also recorded $8.7 million of write downs associated with our investment and joint ventures, which shows up on the loss from unconsolidated joint ventures line in our income statement. This joint venture where we had a write down is in New Jersey and also on the Hudson River Waterfront with views of Manhattan. Looking at all of our consolidated communities in the aggregate including moth balled communities, we have an inventory book value of $1.5 billion. Net of $1 billion of impairments which were recorded on 251 of our communities.

Turning to slide 24. It shows our investment and inventory broken out into two distinct categories. Sold and unsold homes, which includes homes which are in back log started unsold homes and model homes as well as the land underneath those homes. The other category includes both finished lots and lots under development which are associated with all other owned lots that do not have sales contracts or vertical construction. We have reduced our total dollar investment in these two categories by 66% since our peak levels in July 2006 and we planned to make further progress in reducing our inventories during the remainder of 2009.

Turning now to slide 25, you can see that we continue to reduce the number of started and unsold homes excluding models and are below the 1000 home level for the first time since the second quarter of fiscal 2003. We ended the quarter with 892 started and unsold homes, which is decline of 73% from the peak levels at July 31, 2006. This translates to 4.1 started unsold homes per active selling community. While the absolute number of started unsold homes may come down as our community count decreases in the future, the number of started unsold homes per community will likely stay in the range of four to five. This is consistent with the average of five started unsold homes per community we have averaged over the past dozen years or so. That leaves us with the last major area of charges for the quarter which is related to taxes and the FAS 109 current and deferred tax asset allowance. We concluded we should book an additional $42.2 million after tax non-cash tax asset valuation allowance during the second quarter. While our tax asset valuation allowance charge was non-cash in nature, it did affect our net worth by the same $42.2 million during the quarter and increased our total valuation allowance to date to $797.1 million.

Now let me update you on our mortgage markets and our mortgage finance operation. Turning to slide 26. With our average FICO scores at 733, our recent data indicates that our average credit quality of our mortgage customers remains quite strong. Turning to slide 27, we show a break out of all of the various loan types originated by our mortgage operations during the second quarter of fiscal 2009 and compared it to all of fiscal 2008. During the second quarter, FHA/VA loans made up 43% of our volume as compared to 36% for government loan originations throughout all of fiscal 2008 and only 8% for all of fiscal 2007. We continue to have variable exposure to jumbo mortgages which were only 0.9% and 2.5% of total loans for the second quarter of '09 and the 2008 full year respectively. The mortgage industry continues to be risk averse and embraced sound reasonable lending practices. There are many loan products from which to choose and interest rates remain near all time lows. The mortgage industry has become more black and white. One either meets the underwriting guidelines or one does not meet them. The practice of using compensating factors to get the marginal loan approved has disappeared. We continue to offer competitive mortgage rates including rate buy downs and we are leveraging our mortgage associates' knowledge and expertise to assist our home buyers in obtaining mortgage loans.

I will now discuss our joint venture activity. At April 30, 2009, after cumulative charges we had $42.2 million invested in eight land development and nine home building joint ventures. As a result of the cumulative effect of $359.4 million in impairments and since 2006 within our joint ventures, you can see on slide 28 that our debt to cap of all our joint ventures and the aggregate increased to 71%. We financed our joint ventures solely on a nonrecourse basis. We are now more than four years into this downturn. And because of the loans are nonrecourse and these are the joint venture loans that I'm speaking of, we have not had any margin or capital calls on any of the debt associated with our joint ventures.

Considering the $525 million of debt we repurchased during the most recent quarter, it should not be surprising that our cash position has decreased. We ended the quarter with $779 million of cash as you can see on slide 29. We did borrow $100 million against our credit facility during the quarter that we subsequently have repaid. Although this borrowing may seem odd given our significant cash balances, it has some benefits to the calculation of the amount available under our restricted payment basket covenant. This $100 million short term borrowing had no adverse effect on our net debt or any of our debt covenants. Net of debt additional borrowing, our cash position would have been $679 million at quarter end.

As shown on slide 30, we do not have any significant debt maturities looming due over the next few years. Our debt maturities are well structured and our first debt maturity is not until January 2010 and as of April 30, 2009 there is only $29 million of face value outstanding on that issue. After that, nothing comes due until April 2012 and even then it's only $159 million of original face value. During the second quarter of fiscal 2009, total debt repurchases amounted to $525 million. Excluding the $71 million face value of the 6% senior subordinated notes due in 2010 that were purchased at an average price of 92.2%, the average price remaining debt repurchases was 31.5%. As a result, a $311.3 million gain on extinguishment of debt was recorded in the second quarter of fiscal '09. We have not purchased any additional debt since the end of our second quarter and we have debt covenants that limit the amount of additional debt we may repurchase. Between the exchanges and repurchases to date, we have reduced our debt by $620 million and reduced our annual cash interest by $41 million.

Our current cash position and our lack of substantial near term maturities compares well to those of our peers. Some of our peers do have larger cash positions as of the most recent reported quarters as can be seen on slide 31. A few of those peers also have more debt maturing between now and the end of 2012 as you can see on slide 32. When you subtract these near term maturities from the cash positions as we have done on slide 33, we are in relatively good standing compared with our peers on a net cash basis.

Now I will turn it back to Ara for closing comments.

There is a lot of talk out there about green shoots or indications that things are starting to get better in the overall economy or in specific industries. We told you about the positive monthly trends we seen in net contracts per community and six of the last seven months as well as cancellation rates returning to more normalized levels. We also gave you some examples of MLS data in markets that are showing signs of improvement. We see evidence that the housing starts may be finding a bottom if you look at total housing starting since the end of World War II, which is depicted on slide 34, you will see the only year where production was below a million starts was last year in 2008 when there were just over 900,000 starts. Other than that, the seasonally adjusted current rate of 458,000 homes is the lowest level since World War II. This is significantly below any level of production we seen in over the 60 plus period of time shown on this graph. Most demographers agree 1.4 million households will be forming each year this decade and the coming decades. This translates to annual housing demand of 1.9 million homes needed every single year this coming decade. These current levels of low production can't last much longer against the rising tide of a growing demographic population.

Housing is a classical cyclical industry not just here but throughout the world. Housing tends to lead countries into and then out of recessions. If you look at slide 35, you will see examples of improving conditions in housing markets in Australia, New Zealand, Spain, Ireland, China and the UK. While these metrics which indicate that things may be getting better are certainly more pleasant to hear about than a barrage of negative news, I will say once more that there certainly are risks remaining. Once again, the $8000 federal tax credit for new home buyers expires in November. In California, the problem could be compounded as its generous tax credit could be depleted soon and that will clearly have an effect on the more hardest hit markets in the country.

If you look at slide 36, you see that the combination of the federal and state tax credits have caused the month supply in the California markets to correct faster than it has in some of the other tough markets across the country. This shows that California markets have seen the most dramatic reduction in terms of the month of inventory. If the government would just realize how important housing is to the overall recovery of the economy, it could take action that would bring the total tax credit similar to what worked in California. And it's also important for them to consider extending the tax credit.

In the mean time, we will remain very cautious. We believe the above factors plus the potential increase in listings due to a rise in foreclosures that many are concerned about and the recent uptick in mortgage rates could clearly have a negative impact on future sales as we said several times. We will continue to price our homes to a level that will provide the best cash flows to the Company. We will continue to look at land deals that the banks are shopping around. But we will exhibit levels of discipline in our underwriting criteria such that we will maximize future cash flows to the Company. In short, we are mindful that there are still some pain that lies ahead and we will do everything in our power to preserve and maximize our cash position. Maintaining liquidity is the key to navigating this incredibly challenging times. Once our country gets through this period, we are confident that the housing industry will once again show robust growth.

That concludes my comments and I'll be pleased to open up the floor for questions.

(Operator Instructions). Our first question will come from the line of Ivy Zelman with Zelman and Associates. Please proceed.

Good morning, everyone. Thank you for taking our questions. First question I want to ask you relates to your gross margins and backlog. Realizing you are focused on cash and we understand that. Can you give us some indication if the margins are substantially higher than the 8% you reported for this quarter and the second question relates to understanding your finished lots versus undeveloped?

Let me tackle the first question, Ivy. We aren't making any projections about the gross margins. You can see the trend that has occurred from the sequentially from the first to the second quarter. But I will say I don't think there is anything in the backlog that will lead to a dramatic improvement or decrease in the gross margin from what you saw notice second quarter. What was your second question?

The second question related to just better clarification on the total owned and options inventory, how much is developed versus undeveloped, finished versus unfinished.

We break it down only on the owned. The option lots, we don't give that same break down. The slide number is 20.

I was a little confused by that slide. That's why I asked to clarify it.

Well, what that means is 45% of the lots that we own have at least 80% of the development cost already in place.

Okay.

Some are 100% finished and some are almost finished and have just the last 20% remaining. The middle means they are in process of development. They aren't 100% finished nor are they undeveloped. There in the middle. They average about 50% developed. And finally the last category is -- yeah, they are something around raw land. May have some expenditures. If it's less than 30% of the total land development cost, we categorize them in that last category.

Great. I appreciate the clarification. I will get back in the queue. Thank you.

Our next question will come from the line of Dan Oppenheim with Credit Suisse. Please proceed.

Hi, this is actually Mike in for Dan. You have done a great job opportunistically retiring debt and reducing near term obligations. If we start to look through the down turn here and focus on what's the next step and think about your future opportunities, leverage is still quite high. How comfortable will you be kind of redeploying the cash you built up to pursue and opportunities and what are the things you need to see in order to make you comfortable doing that?

Well, first of all clearly we have found ourselves in a much more highly leveraged position than we ever imagined give this downturn. We have to balance our cash uses clearly going forward. As we described on prior calls, although we didn't re-iterate it on this call, our primary strategy going forward with new land acquisitions is through joint venture vehicles. We have had very solid experience in this area. We have done well over a dozen joint ventures with major financial institutions. They have been our partners through the vertical. I can say that some did very well. Some did not do so well. Those that obviously were entered into the peak of the marketplace. However, our relationship with all of the partners has been excellent.

There is a lot of interest out in the investment world to buy assets and team up with a Company such as ours at what is perceived to be at or near the bottom of the cycle. That allows us to really utilize our capital very efficiently and assuming we meet anywhere near our projected proformas, we get a better -- much better than normal return on our investment. Better than if we invested in our wholly owned basis. That's our key strategy for going forward.

In our 50 year history, we have seen many cycles. We have a lot of experience in buying distressed assets, both land and distressed loans. We are very active in '91 during the RTC days. We have been looking and looking finally literally in the last I would say -- I don't know, 90 to 120 days. We are starting to see some great opportunities in the marketplace. We just entered our first contract in buying the distressed opportunity. We bid on many others and never quite got them at the right price. We got an great opportunity buying in this case actually it was the debt which is secured by property but entering into a tri-party agreement with a friendly foreclosure with the original developer. We think it's in excellent opportunity for us to generate some very solid profits even at today's dismal sales pace and sales price.

That is really our key strategy going forward. Clearly we ought to maintain the liquidity we need to pay down our debt as well and try to get our ratios over time to improve. Obviously, if we have further losses and impairments equity will go to or easily below negative and that will take some earnings to bring that back into line so we can start getting positive ratios. But we think we have a plan in place to make that happen.

Thanks for the color on that. That was great. I guess that also address the follow-up question with the update on the joint venture partners. I guess what are -- what is the type of scale that you are looking at generally when you are looking at these land opportunities? The 160 lots should we expect more deals of that type of size? Is there a specific focus on scale or geography there?

We are really just looking opportunity by opportunity. I can tell you they are all over the board. We just had a land committee review this morning where we are looking at a 41-lot opportunity up in northern California. It's very small. Then on the other extreme we have seen some tightly clustered portfolios are substantially larger than that. And interestingly investor appetites are all over. Generally speaking there is more interest in larger deals. But there is also interest in medium and small sized deals as well, fortunately different players have different appetites. We think there is a very receptive market out there. The issue has not been finding investment partners. The issue has been getting the solid deals under contract. We finally just got our first opportunity under contract. Actually, we closed as of a day or two ago. That just happened in recent weeks. So that is the key first step because we can talk to all the partners and potential partners in the world and they want to see specific deals. Now that we have one, we are finding good reception out there.

Great. Thank you.

Our next question will come from the line of Joshua Pollard with Goldman Sachs. Please proceed.

Good morning. Can you walk through the capital plan over the next few years, specifically hitting a few points. Number one, how much debt can you repurchase under your debt covenants and how can you actually increase the number or the amount of debt you can repurchase? Number two, how much can you actually borrow under your facility? I know you have to pay back that $100 million already. Three, if you guys could talk about what your thoughts are raising equity? And four, can you -- help us understand why land purchases are on the table? Just given your current debt position that would all be helpful.

Let me tackle a couple of them and then I'll let Ara tackle a couple, Joshua. Similar to what we told the market at the end of the first quarter, we aren't going to provide specific details on what our restricted payment basket will allow or won't allow with respect to the buy-back of bonds. All the information regarding the limitations on restricted payments can be found in the SEC filings for each of our individual debt issues. There are several baskets that are available to us under various limitations on restricted payments when we remain in compliance with and expect to remain in compliance with all of our debt covenants. There is no maintenance covenants associated with those bonds. Safe to say there are some very specific significant limits. It's complicated to make all of the calcs and does change depending on our individual situation from month to month.

With respect to our revolving line of credit, it's a $300 million facility that's primarily set up for letters of credit but we can use up to $100 million of any time for borrowings, which we did at the end of the second quarter and have subsequently repaid it. That $100 million remains available to be redrawn if we choose to do so. With that, Ara, I will let you tackle the equity in the land.

The land one is fairly straightforward. We purchased land given debt. Our plan as I mentioned was really to leverage the opportunity of joint ventures so that while we have closed on this property we really see that as kind of a staging area until we are prepared to close with the joint venture that would replace 80% of the capital that we put in it. We are talking about doing these joint ventures on an all equity basis initially probably no debt. Although at some point we will be able to put on moderate levels of debt definitely below 50% and definitely consistent with what we have done in the past. Always staying nonrecourse so that our exposure is limited.

But as I mentioned earlier, we have been through these cycles many times. Every time finally if we stayed discipline we ultimately find land opportunities to prove to be great values in the long run. And that's critical to building our equity base back up. We can't cut costs low enough in this environment. We have to replenish our land supply at much lower costs. And if we do that, we can generate some sizable profits and start replenishing our equity. What we are doing now exact same discipline we did in the 80s and the 90s. We only buy -- we do not buy hoping for appreciation. We buy land parcels that work today. And that are sizable discounts to where they were a couple years ago. Benefit is that we buy them that generate a reasonable return today when and if the market recovers and we think it will at some point in the near future. Then we will generate some substantial returns, far better than our proformas and we will start refilling our equity basket. In regards to the question and you were supposed to be allowed one question. We will have to give you grief about this four prong sneaky approach here.

I have a follow-up.

We are open to looking at equity in the future. However we want the equity markets to stabilize and we want the market to get a little more comfortable with where we are and have our stock price go up a little bit more before we consider that.

My quick follow-up and I have tons of them. Quick follow-up is any update on May, the month is over where things equally as strong as April or a little worse? Little better? Can you give us some color on that?

Yeah, I think may -- May was similar to April. We don't have the specific data to provide to you right now. I would say May was similar to April.

Yes. The sales environment continues to be reasonable right now. I hate to use the word solid because everything is relevant -- relative, excuse me. So far so good. More continuation what we just recently experienced.

Thank you, guys.

Thank you.

And our next question will come from the line of Michael Rehaut with JP Morgan.

This is Rey in for Mike. First question, you guys mentioned the 23 net contracts per community in 2009. If you can extrapolate the first half of the year and mentioned it was difficult to make money at these levels. What type of absorption do you guys need then to kind of turn a profit and does that necessary to get back to the 40 or 50 absorption rate you had --

The combination of absorption and margin. So, you know, probably close to a level that could make sense if we were back at normalized margins. But having both absorptions be roughly half of what it was on average over the last decade and margins be well below of normalized. It just doesn't work.

And obviously it's very different from location to location. Actually, in North Carolina you could do okay at 24 homes per year in most locations. In California or Arizona you need to be in the 40s. It depends. I would say closer to 40 would be much, much more efficient and part of the reason for that is obvious. You know, you still have the to staff a sales office. You have to keep it clean. And so forth. And you have to have a minimum amount of construction staff at least one person. That stays whether you are doing 20 homes or 30 homes and then you might ask more personnel as you get to 40 or 50. But it becomes a lot more efficient.

And then I guess what are you kind of modeling into your own forecast given all those headwinds you mentioned regarding the tax credits going away and the impending foreclosures coming up and the spring sales are ending over the next couple months.

We run a lot of different scenarios in terms of longer term forecast to gradually get us back to normalized absorption pace and gradually get us back to normalized margin. In terms of budgeting anything on a near term basis say the next 12 to 18 months we use current pace and current price and no assumption of improvements in either.

What we do is we stress tested in our cash flow and treasury models to make sure we are comfortable and have the liquidity we need in the downside scenarios. We have done that and are comfortable with our position. Obviously it takes us longer to build our equity base in those scenarios but we were comfortable with our liquidity position.

And our next question will come from the line of Joel Locker with FBN Securities. Please proceed.

Hey, guys. The land impairments, how much of $301 million was on fully developed lots and what was on partially developed or raw?

We don't have that breakout.

And the other question is more theoretical on the sides you see housing starts post World War II but if you go back another 20 years where you are facing a deleveraging period in the 30s you saw housing starts drop 400,000 for a three year period.

Where is that data. We would love to get it.

I mean, I will shoot it to you. I will E-mail it to you.

We have not seen it back beyond.

One important thing to keep in mind the population of the United States has grown dramatically.

I was saying on a population adjusted basis it was between 250 and 400 or so for 31 --

All our numbers that go back to World War II are not population adjusted. So we are down way below World War II levels and the population is dramatically higher. I don't remember them off the top of my head. I want to say we are up around -- or down around 100 million plus population at that point and we were up around 300 million today. There is really no comparison. Anyway, I might have interrupted the point you were making.

Our next question will come from the line of Megan McGrath from Barclay's Capital.

I wanted to get more regional color especially on the California market. You put up a lot of different data there. Some of it positive in terms of month supply and inventory. You talked about being worried about the $10,000 tax credit going away. But in terms of your results in the western segment, Q2 your prices came down dramatically. Sales the most dramatic. My question is, is tax credit really helping you? Is it worth it give than it looks like you are still having to make price concessions to get the volume? If you can give general color on what's going on there for you in California?

Sure. I tried to be pretty clear on the commentary that the positive was the velocity in sales price and the negative is what happened to prices everywhere. Absolutely positively the tax credit has been helpful in California. Much more so than the federal level where the federal level will credit was only for first time home buyers was only $8000 in California it was $10,000 on top of the $8,000 and the $10,000 was for all price points. It clearly has improved the California market from what we can see much more than anywhere else in the rest of the country. Now, generally speaking during that period it hasn't improved it so much that it's dropped the sales price -- excuse me, the sales price decreases, although I will note that last month we -- and we were trying to verify the data we heard positive anecdotes that sales prices in the most recent month this California went up. So it's a positive impact without a doubt. In general, we are constantly looking at the two alternatives of price and pace. And generally speaking we as a home builder are more willing to drop the price to keep the pace and velocity up. Generate cash flow. Burn through the old land and create the cash to invest in future land parcels at greatly discounted rates.

Great. Just as a quick follow-up given that good portion of your moth balled planned is in the west. Any sense of what you need in terms of pricing, especially given what you are seeing in these new land deals to really start building on that old moth ball land again and as a quick follow-up to that, as a clarification, are the mothball lot in your total lot count?

The mothball lots are in our total lot count and the answer to the first part it varies dramatically by community. But we have some locations where we consider unmothballing them for $10,000 home price increase in that marketplace if it's coupled with reasonable velocity because unmothballing is dependent on pace end price. So in some cases $10,000 will open a community back up in -- if it's a $300,000 home that's a 3.5% increase. In other communities it may take a $20,000 or $30,000 price increase to make it worth our while. It's also a little different whether it's a developed lot or undeveloped lot that's mothballed. I would say from $10,000 price increases on we will begin to unmothball some of those properties.

And our next question will come from the line of David Goldberg with UBS. Please proceed.

Thanks. Good afternoon. First question is actually and you talked a little bit around this but I wonder if we could drill into it. On the land you are think being buying in the JVs, you potentially looking at more foreclosures as you mentioned in the opening comments and more pricing pressure and I'm trying to get an idea how you think of margin of safety when you look at land and what kind of profitability you could maybe potentially be able to achieve in the joint ventures if prices went down further in the next few months.

It's a good question and one we talk about. First generally speaking for land purchases we are targeting a 25% to 30% unlevered IRR. And often it's at a minimum of a 10% pre-tax profit after everything. So if it's a $300,000 home then you have a $30,000 safety cushion so to speak to get to break even. We have seen much greater stability in pricing over the last four, six weeks, eight weeks. And much greater stability in velocities. Nonetheless it's reasonable that one would be cautious. But in the first transaction that we finally purchased, you know, we are buying in what I consider an A-minus location, land at 50% of what it costs to put the streets in. We have got the land for free. Zero. So I guess basically we were looking at that and saying, okay, we might not be right at the bottom and maybe there is a little downside risk. Generally speaking on an A location if you can buy it for zero for the land and buy the streets in for 50%, how wrong can you be unless we go into the Great Depression. So that's the gamble we were taking and that's part of our rationale.

Great. And the follow-up question, might be more for Larry. Is a question just about the impairment this quarter and what I'm trying to reconcile is I understand trying to cut prices but I thought that the pick up in sales price would have more of a benefit or had insulated you from the impairment charges that you took and I'm trying to get an idea when you look at the test, degree-wise, magnitude-wise, what do you think the changes in pricing were relative to the change in pace and why didn't the increasing sales pace and the improvement in the environment help insulate you a little bit from the size of the impairment charges.

First thing I would say is that you have to look at this community by community. When we took the impairments we tried to highlight in the script that there were some specific instances in the northeast, all of them were Hudson river water front or very close to Manhattan where we seen very significant declines that occurred very rapidly. We had some situations on the west coast where we actually raised prices and had better absorption. We didn't have impairments in those communities. On the other hand we seen markets where we had significant foreclosure action even if we have been able to improve pace the amount of price decreases that occurred caused us to trigger additional impairments. I think that price is a more important factor. There are not equal when you are looking at triggering impairments. If that answers your question.

I think it's fair to say once you trigger, then the amount of the impairments could vary by velocity and how long it's out there. In terms of whether it triggers it all, price is the more significant factor. And by the way, the price decreases we saw a lot more pressure on prices in the fringe markets. Clearly that's where we see more of the foreclosures and the reduced demand and we had to adjust prices there more. In the same market but going in closer to the employment centers or the coast we might have seen some price increases. You can't paint, for example, southern California with one uniform brush. They are very different things going on in different locations.

Our next question will come from the line of Nishu Sood with Deutsche Banc. Please proceed.

First question I wanted to ask was about your mothballed lots. Thanks for all of the details information. But if I look at the 9,800 mothballed lots you have, that is close to half of your owned lots. Kind of painting a scenario here. Looking the year out, let's say the market has skidding along the bottom still. Very slow recovery. So that these mothballed lots are in this scenario are still economically unviable. You would be a year if now close to running out of lots. So wanted to get your thoughts if that's the scenario we find ourselves in, what do you do in that situation? Are you forced in that situation then to then go out and acquire a lot more lots or sell these mothballed lots?

Our own lot position is little over 22,000. If you take these out we were approaching 13,000 of owned lots. Not mothballed. And if you look at our recent sales pace and annualize that, that is actually a couple of years supply if we didn't purchase any new lots. In some markets like Houston and Dallas and parts of Washington and a couple of other markets, Minneapolis, et cetera, we are still purchasing lots on a lot by lot basis oftentimes and most times after we actually got a sales contract. I believe last quarter we bought about 400 on that basis. If you add that in as well, we think we have got a reasonable supply. Add to that what we hope to purchase on the joint ventures, we are comfortable that we are not going to run out of lots before we have to unmothball these.

We still have 13,000 lots that are under option. As Ara mentioned a lot of those are Houston, Dallas, DC and other markets to where those options remain economically viable and are taking them down on a flow basis. You have to look at the option and combination with the owned net of the mothballed I think to get to the answer you are looking for and that is still very significant supply so we aren't overly concerned about it on an overall basis.

Great. And second question I wanted to ask was on the revolver, $100 million drawdown, I wanted to get a sense of the rationale of drawing it down, you would have close to $700 million in cash on the balance sheet. Why drawdown this quarter?

As I tried to explain in my prepared comments, there were benefits to the calculation of what we can free up under our restricted payment baskets in our covenant. That's the primary driver for it and there was no negative impact of drawing that money down and we have subsequently repaid it.

Okay. Got it. Great. Thanks a lot.

And our next question will come from the line of Alex Barron with Agency Trading Group. Please proceed.

Hey, guys. I have a backwards looking 30,000 foot view question. Your own lot position has come down relatively little the last few years compared to the number of deliveries I guess you guys have done. I'm wondering I guess in hindsight why have you continued to exercise lot options as opposed to just completely walk away from all those contracts.

First of all in certain markets, like Houston and Dallas and other locations even right now in Virginia and Maryland and Minneapolis we have land that is under option and renegotiated and makes sense in today's marketplace to do that. Those are properties that generate positive contribution for us. If you go back on Monday morning, are there some that we wish we didn't execute or exercise our option? Sure, there are. But we have to make each decision with what we know at that point in time. Obviously walking away and we haven't been able to walk away. We walked way from many. But based on the information we have at that time, we make our best estimate and decision.

The impairment is pretty large this quarter at least relative to my expectations. I think you mentioned you didn't expect much of an improvement in the margin next quarter. I'm wondering, what was the benefit from a gross margin from previous impairment to the gross margin this quarter and why wouldn't there be a bigger benefit going forward?

Well, one example would be that we took impairments on land that still is mothballed. You aren't going to get any benefit in gross margin reversals until such time as we actually begin to sell those mothballed lots. There are other lots that we will be selling that we incurred additional impairments on and that will have an incremental benefit to margin. I didn't say we would have any margin improvement. I said there wouldn't be dramatic backlog.

And our next question will come from the line of Timothy Jones with Wasserman Associates. Please proceed.

Good afternoon. First question, you stated that there was a shortage of homes in certain markets and can you name the markets in both cases and how much you raised prices on average.

First of all what I said and some of the specific examples I gave is by historic standards were under supplied in a number of lots. A number of homes. And that's in the existing home market. Typically four to six months supply in normal healthy markets exists in throughout the country. As I gave several examples --

I got them.

Stockton and Bakersfield -- where it fell below that number. It's healthy in terms of number of month supply. Prices have remained challenging and that's because most of the listings and the sales in those markets have been foreclosure sales and REO sales. So the velocity is good. Prices have dropped and people are taking advantage of it and that's working well.

Now I mentioned and you asked the question of the price increases, I would say that has occurred in the closer in markets specifically in southern California and some of the San Diego suburbs and in the closest in markets to L.A. or Orange County. And there have been increases. I would say over the past 60 days in those locations maybe 1.5% total is the price increase which is positive. It's nice to have a positive. But putting things into perspective they dropped 30 plus percent. So 1.5% is a positive trend. Doesn't nearly make up for where it was.

And Tim, you have been around the block long enough that what we are saying is that the fringe markets are going to be the last to recover. We are beginning to see better signs of stability and the closer in markets that are better located than we were in the fringe markets that are still being adversely impacted by foreclosures.

41 years. The second question is that $90 million project that you mothballed on the Hudson river, what stage of development was it in and did the $8 million writeoff that you took on the Hudson, did that have -- was that related to this project?

No. The 8 -- two different projects. Both on the Hudson river by chance, two different cities. But $8 million was our portion of the write down. That was in a joint venture. And that is in a building that is under construction. The other one is developed land. It's almost all develops but it's for mid-rise buildings. That are unstarted.

And our next question will come from the line of Jim Wilson with JMP Securities. Please proceed.

Thanks. Good morning, guys. Pretty much all my questions were answered. One last one would be, Larry, could you go over geographic exposure on your JVs and what of the debt is recourse and nonrecourse?

None of the debt on our existing JVs have any form of recourse or maintenance guarantees to us and the best evidence of that, Jim, is we were four years into this downturn and we had no capital calls or forced injection of additional equity even though we've written down our investment in JVs dramatically. We always took a low leverage philosophy with our JVs or at least what we thought at the time was low leverage 50% debt to cap. And increased to 70-plus percent only because we written down the value of our investment in JVs and not had any banks require us because they are nonrecourse in nature. No maintenance guarantees, et cetera. Geographically we have got JVs and the Washington, DC market. We have some in the northeast. We have any in California remaining? I don't think so. That's primarily in the DC and northeast markets.

Got it. Great. Thanks. That's all have I.

Thank you.

This concludes the question and answer session. I will now turn the call back over to Mr. Hovnanian for closing remarks.

Thank you very much. We are glad to give at least some glimmers of positive light. We hope that by the time of our next conference call next quarter we will be able to share with you some more. Thank you and we look forward to chatting and updating you again.

This concludes our conference call today. Thank you for participating and have a nice day. All parties may now disconnect.