Hovnanian Enterprises Inc (HOVNP) 2003 Q3 法說會逐字稿

Good morning, thank you for joining us today for Hovnanian Enterprises fiscal 2003 third quarter 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 Dana at 732- 747-7800. We will send you a copy of the release and ensure that you are on the Company's distribution list.

There will be a replay of the call available 1 hour after the completion of the call and run for one month. The replay can be accessed by dialing 800-428-6051. Pass code 305106. Again, the replay number is 800-428-6051, passcode 305106. This call is being recorded for rebroadcast and all participants are currently in a listen only mode.

Management will make opening remarks about third quarter results and open up the line for questions. The Company will also be webcasting a slide presentation along with the opening comments from management. The slides are available on the investors page of the Company's website at www.khov.com. Those listening who would like to follow along should log on to the website at this time.

Before we begin, I would like to remind everyone the cautionary language about forward-looking statement contained in the press release also applied to comments made in this conference call and the information in the slide presentation.

I would like to turn the call over to Ara Hovnanian, Chief Executive Office of Hovnanian Enterprises. Ara, please go ahead.

Thank you. Good morning and thanks for joining us.

I'm pleased to report the results of the third quarter fiscal 2003. We continue to set quarterly records for our company in almost all categories including net contracts, delivery sales back log, revenues and net income.

For the third quarter our annualized return on equity was 42% and our after tax return on invested capital was 24%. These extremely healthy returns remain well in access of the cost in capital, indicating that we are creating significant shareholder value. The housing industry has been posting some of the best results among businesses today and our returns have consistently been among the highest in the industry. I'm equally pleased that our strong earnings growth has also been accompanied by continued deleveraging of our balance sheet and improving credit parameters. Our average net debt to equity ratio for this year will be in line with the long-term objective of 1 to 1.

Joining me on the call today from the Company are Larry Sorsby, Executive Vice President and CFO, and Paul Buchanan, Senior Vice President and Corporate Controller, Kevin Hick, Vice President and Treasurer and Brian Cheripka, Assistant Director of Investor Relations.

Our company reported net income of $2.11 for fully diluted share of the quarter ended July '03. This represents a 76% in earnings per share from earnings of $1.20 achieved in fiscal '02 third quarter, as shown in slide number one for those of you that are following along and reviewing the slides on the website at www.khov.com. Last year's third quarter earnings of $1.20 per share set the previous record for any third quarter and was a 69% improvement over '01 third quarter. As shown on slide number 2, net income of $68.8 million increased by 76% over last year's third quarter income of $39.2 million.

As I mentioned, we once again set numerous records for our Company in a lot of categories. Slide number 3; total revenues for the three-month ended July '03 increased 20% to $849 million from $705 million from the last year. Slide 4, our Company's pretax margin for the quarter, increased 410 basis points to 12.9% from 8.8% in the prior year third quarter. This was result of increased sale, reductions in cost, as well as our ability to raise prices in many of our communities because of our continued supply/demand imbalanced in the marketplace.

Slide 5 deliveries increased to 3,066 homes, beating last year's record third quarter deliveries of 2,647 homes by 16%. Slide 6 we sold more homes in the third quarter than any other quarter in our history. Net contracts rose to a record of 3,484 homes valued at $964 million almost a billion dollar quarterly pace. This represents an increase of 48% in dollar value from last year's results. The results are a positive sign for the continued strong performance going forward since we will closing the home and recording the profits, to a large extent, over the next 6 to nine-months. The results were strong and positive in all of our existing markets and of course in addition to that we benefited from additional sales in our new markets.

The value of new contracts in our DC market, unaffected by acquisitions, increased 70% over last year third quarter. The northeast region, again excluding any effect of the Summit acquisition, increased 70%. If you include the Summit acquisition, they were up 76%. Dollar value of net contracts in Texas excluding the recent acquisition was up 30%. If you include the acquisition, we were obviously way up 100 percent, given the two acquisitions we did there. The value of net contracting in California was 17% up, again not including any acquisitions or effects. That happened in spite of the fact that the number of selling communities declined about 10%. The number of contracts was down, just a bit, excuse me, it was flat but obviously we offset that by the price. The decline in the community count was largely a result of selling out communities earlier than anticipated along with a few delays getting some new communities open. We expect the community count in California to turn around and show a year over year increase in fiscal 2004, that market remains very strong. Even in North Carolina, which has been slower over the last couple of years, we showed a 30% increase from last year's quarter.

This morning we released our new home orders for the month of August. The most recent possible barometer. The first-month of the fiscal fourth quarter. I'm pleased that these numbers indicate that the strength of nearly all of our housing marketing continues. Net contract dollars increase about 40% over the same period last year. While this was helped by acquisitions, virtually all markets showed significant strength as well. It's particularly strong and important and relevant to a lot of the concerns today, because mortgage rates have increased 125 basis points points from the low point and obviously the sales continue.

As shown in slide number 7, sales backlog at July 31st reached 5,718 homes with a sales value of about 1 billion 6. Both are all-time records for any quarter end in our history. The value of the sales backlog is a 33% increase over the third quarter of last year. Our record backlog clearly provides us good forward earnings visibility as we approach the end of our fiscal year and approach '04.

The economy appears to be showing some positive signs of recovery and that has typically been good for housing. Obviously, people are concerned because now they believe that higher interest rates are likely, therefore, housing is likely to slow down. This is a clear concern on many people's minds. We continually try to remind investors that housing activity is very core related to economic growth and we think that is far more important than interest rates. We don't believe that reasonable rising mortgage rates pose a threat to the overall housing sale. They might decrease the rate the increase of prices however that is not a major concern despite tick up of rates, mortgage rates are at historical lows. The most reasonable scenario for rising rates is a stronger economy with good job growth, solid consumer confidence and the benefit of these positives should out weigh the negatives of slightly higher rates. Housing typically does very well in a strong and bullish economy. Higher rates might mean, because of affordibility, we might sell more of the smaller home designs. So somebody might buy a 2400 square foot instead a 2800 square foot home, yet the margins are fairly similar over all of our model types. As we have grown over the past several years, so has our competitive advantage in buying and developing new land parcels, a key component of our business. Our teams are contributing to our success in creating value for our shareholders by continuing to acquire and develop excellent land position in supply constrained markets. Consistent with our conservative approach to land, we seek to maximize the number of total lots controlled via options, as shown in slide 8. As of July 31, we control 70,000 lots more than 75% of them through option contract. Lot options continue to provide us with additional flexibility in our homebuilding operations while mitigating risk associated with large owned land inventories.

The growth in our land position is not just related to repeat acquisition but contracting more land and improving our position in every market. This is due to a lot of factors. First, we are a broad and very flexibility in our land purchases with willingness and ability to option developed lots or develop them ourselves or option raw land and process the entitlements and approvals ourselves. Second, we are say dominant builder and get first land look at many of the opportunities, that is critical. Third, our diverse product array allows us to look at virtually every land deal. We can match product to almost any parcel of land, whether it's low end, middle end, high end, whether its single-family detached, condominium, townhouse, active adult, urban infield. We are able to consider all of these properties. Over the last twelve months, in the organic operations alone, excluding acquisitions, we increased our lot position both owned and optioned by almost 16,000 lots and increase of 33% in addition to replacing the 10,000 lots we delivered during the period. Our strong land position is one of our strengths and gives us the assurance to meet our projections in the future.

Slide number 9, as a residential home builder, we have to acquire new properties every day in order to replace the land we deplete by selling new homes. We acquire new properties through single property acquisition, multiple property asset purchases and through the acquisition of other companies.

I'd like to discuss our strategy in regard to the third component, the acquisition of other companies in more detail to clarify our strategy. Slide 10, since '98 we have made 2 sizable land portfolio purchases and 8 company acquisitions. These acquisitions have expanded the geographic footprint and strengthened our market share in existing market and diversified our product offerings. Our strategic approach to acquisitions is based on a consistent methodology.

Slide number 11, our acquisitions are based on their ability to generate appropriate risk generated returns. We analyze each acquisition from a community level up assuring that acquired acquisition and assets have the potential to meet or hopefully exceed our return objectives. At the same time we pay particular attention to the cultural and strategic fit and align ourselves with proven management teams with strong knowledge of the market and generating solid returns. These individuals must be committed to saying with HOV's organization and becoming a integral part of the management team. The participation and support of the team is critical after the close of the transaction after we seek on integrate and standardize processes and introduce our product array over time.

Our experience has proven that selected acquisition of local and regional home building companies is the best way. Company acquisition add multiple communities to our growth platform and provide immediate cash flows with communities already under construction and generating sales. Acquisitions limit the start up costs and allow our company to gain an immediate foot hold in the market without the usual curve and associated risk we refer to as thumb tacks.

Our strategy of becoming a dominant builder means that we actively seek to acquire builders who produce more than 500 homes and ofter more than 1,000 homes in the marketplace. This enhances our ability to get better land deals, employ economies and powers of scale, deploy our diversified product array, while generating reasonable returns on capital invested, instead of absorbing the losses during the start up year of a new operation. Our proven ability to successfully integrate the companies we acquire is evident in our bottom line performance and our strong returns.

New company integration has developed into a core strength at Hovnanian, we have not lost a single manager in all of these acquisitions and these new companies have demonstrated significant organic growth after becoming part of our organization. Organic growth after an acquisition is boosted by our broad product knowledge and capital availability. Again our experience and expertise in product niches combined with the Company's local knowledge gives us growth opportunities in these new markets. We can evaluate all land opportunities, not just the ones that fit a single niche. As we explained before, we do all types of products. This strategy is different than some of our peers who have chose to specialize, we believe this allows us to have more organic growth. One benefit we hear time and time again is that developers and land sellers are more willing to sell land and bring them opportunities as part of a large multibillion national New York stock exchange company with a large capital base.

Following the end of the third quarter, we closed previously announced acquisition of Great Western homes headquartered in Mesa, Arizona. We acquired the assets of Great Western Homes on August 8th, so their operations were not included in our results for the third quarter. This marks our entry into the Phoenix market and expands our home building operations in the South West United States. We are excited to begin operations in a rapidly growing Phoenix residential market. We did not book any goodwill or any other intangibles in conjunction with this acquisition. Currently Great Western serves only the first time home buyer with single family detached product. We will begin to share our knowledge of other product segments combined with the local knowledge will allow us to achieve solid organic growth in the future.

We are conservative as possible with respect to purchase accounting methodology on each of our acquisitions. We attempt to eliminate the amount of acquisition premium booked to goodwill since it can no longer be amortized. To accomplish this, we accomplish this by first stepping up the value of inventories, which are expensed very rapidly and then assigning the balance of any purchase premium, if there is any, to intangible assets with finite lines. These write ups, unlike goodwill, can be amortized rapidly. Although this results in lower earnings from our acquisitions in first few years, it does insures a gap for the accounting and that we represent our assets fairly in our balance sheet.

While have now made four acquisitions in the fiscal year, 95% of the year over year increase in the third quarter came from our organic growth in our existing operation. Although we expect great things from the new acquisitions in the future, the repeat acquisitions in Texas, Ohio and Arizona have not had an significant impact on our earnings to date. We are being aggressive in writing off premiums, if they exist. They will help assure our future growth. Our growth in organic operations with wider product offerings including a substantial expansion of active adult section has contributed more than the acquisitions we recently made.

We remain focused on achieving 15 to 20% organic growth going forward and hope to supplement that with growth through acquisitions if the right opportunities avail themselves.

Slide number 12, we have 245 communities open companywide as of the end of July, a 23% increase in the prior year. Our current plan is to have about 265 communities including 35 in Houston and 25 in Arizona open at our fiscal in October. This represent ace 35% increase from 196 communities open at the end of fiscal '02 or 11% increase without Houston or Arizona. Obviously Ohio where we build on customers lots does not have any communities.

Although we are subject to potential delays and the exact timing of the regulatory approvals in a few of our new communities, we have significant experience in managing the process and figuring the amount of time involved which is often quite lengthy. Each of the additional communities is owned by our company or controlled through options. So our lot costs are locked in providing good visibility to enable us to have the confidence to earn solid returns good forward. The sales will not be felt in '03 but we are optimistic and excited about the prospect for organic growths in '04 through these new communities. We are providing an updated projection in fiscal '04. We have built a backlog of homes already that are going to be delivered next year. We project our fiscal '04 will exceed $3.8 billion with over 14,000 home deliveries. Fiscal '04 earnings are projected to grow to more than $8.25 cents per diluted share increase over the prior estimate $7.50 cents per share.

I think its important to review our budgeting assumptions. As we've consistently done for many years, we assume that going forward we are unable to raise prices any further in any of our communities. That means we assume market conditions deteriorate from what we have been experiencing in recent years. Specifically, we assume that the demand and balance changes, and that the market softens, that we will not be able to raise house prices a dime. That is obviously significant different than what we have been experiencing. Further since we open communities every day with slightly higher land costs that our current communities, our projections in fiscal '04 assume the land cost of the land sales increase. We have done that based on actual cost of specific land contracts of properties coming up. Combines lower home price with higher land costs translates to lower margins.

If you look at data on our website you see the '04 margin assumes 100 basis points reduction in growth and pretax margins from our current levels that is not what we are experience nor necessarily what we expect. We feel confident while rates may increase it will likely happen with a stronger economy, which should offset the fact of rate increases as it has historically. But we think it is prudent budgeting and prudent projecting methodology. This conservative budgeting methodology resulted in us exceeding our internal budget and public projections for about 16 quarters in a row.

I would caution analysis and investors from using more aggressive assumptions for the next year until we see the new home sales pan out in the fall selling season into the holidays. We have a number of homes to meet our '04 delivery estimate.

On the other hand we do expect to enter '04 fiscal which is less than 60 days for us bait way with 45% of the annual projected deliveries already in sales backlog, which obviously gives us greater confidence in our forward view than is available for others in the industry. What is particularly important to note even with a assumption of a slower housing market with lower margins, we are projecting healthy growth and EPS to $over 8.25 cents per share and a return on equity of over 30% for fiscal '04 and 11 1/2% pretax margin, which is still healthy and it underscores an important point.

We don't need the current strong market conditions to continue in order to have strong growth and earnings per share or returns on invested capital. There are 3 reasons for this: first, consolidation among home builder. The ability of home builders to grow market share and increase serve as solid foundation. Second, material and labor cost ton to decrease as we increase in size. We have the ability to leverage significant buy being power and get subcontractor buying power as we continue to expand our business and deliver more homes in each of our markets lower costs helping in the long run margins. In addition, the administrative costs and overheads often shrink and local markets and at a corporate level as a percentage of revenue as we do more volume in local and national markets. We are further able to reduce our cost as we grow. The net result is we feel confident we can continue to post solid growth and earnings even with the assumption of a slowing market. By the way, slowing marketing often create more opportunities for large well capitalized builders such as ourselves, both as land sellers and small home builders who become more interested in selling.

Now I'd like to turn it over to Larry Sorsby to discuss the financial performance in great detail.

Thank you.

The summary of the nine-month result is on slide 13. We achieved a 100 percent growth in net income on a 25% growth in revenues during the first three quarters of this year. As Ara stated, our third quarter contracts, backlogs, deliveries, revenues and earnings all represented record levels for any quarter is our company's history. We mentioned earlier that 95% of the third quarter earnings growth came from the organic operations. For the nine months, over 95% were derived from the organic operations.

Going to slide 14, the company's consolidated home building gross margin for the third quarter excluding land sales was 25.5 %, 330 basis higher than the third quarter fiscal 2002. This improvement was primarily due to increases in home prices and improved efficiencies. We expect our gross margin to remain for the fourth quarter of this year. For 2004, because our forecast assumes we will not raise prices we are budgeting that our gross margin may decline 100 basis points in fiscal '04. This decline is primarily due to our assumption that prices will hold steady as we deliver homes with higher underlying land costs and expect our gross margin decline from the acquisitions we have made which tend to have a lower gross margin but higher inventory returns thus leading to overall terms consistent with our goals.

Moving the slide 15, total selling and general administrative expense and corporate expense as a percentage of total revenues was 9.8% in the third quarter of fiscal 2003, a 65 basis point increase from last year's third quarter, primarily a result of the increases in bonus compensation and administrative cost associated with opening additional communities. We will derive the benefit from the new communities in the form of home closings, revenues and earnings beginning in fiscal 2004.

Moving to slide 16. The average sales price for home delivered companywide for the three months was $270,000, a 5.3% increase from the average sales price of $257,000 in the prior years in the third quarter. The average sales price in our market increase as a result of the inability to raise prices in some communities and the variation in the mix of communities. The 20% increase for average price for new homes in the California market is the result of changes and product mix as we delivered more move up and empty nester product and fewer homes to first-time buyers. We expect our average sales price to remain close to $270,000 on for the remainder of this fiscal year on a consolidated basis.

Moving the slide 17. Our financial services segment continues to improve on the healthy performance, pretax earnings from financial services were 6 million in the third quarter up 20% from 5 million if the prior year third quarter. This segment consists only of our mortgage company, which serves as home buyers and our title company operations. The volume of business is generally tide to the level of home closing in the home build operation and grown commensurately with the home building operations. We have been able to improve our financial services performance by increasing the capture rate to 70% of our non-cash home buyers. Additionally, we have been improving the margins we are achieving on each originated by improving the efficiency of our mortgage operations we believe that will continue to grow.

Now, let me comment on the updated 2003 projections, if you will turn to slide 18. The continued solid demand for new homes in most of our markets along with the strong third quarter results and healthy sales backlog has given us the confidence to increase our projections for the third quarter more than 750 for fully diluted share. This new estimate represents over a 69% increase from last year's record earnings of $4.28 per share and is on top of the 66% compounded annual growth in earnings that we've achieved in the past three years. The improvement in our own projections is a result of the better than anticipated sales base in many communities and continued ability to raise prices and drive down costs in many communities over the past 12 months. Although recent acquisitions have not had a significant impact on the financial results to date, we anticipate that these operations will begin to contribute more meaningfully to the future earnings growth.

Moving to slide 19. Fiscal 2003 revenue is expected to climb more than 18% to over 3 billion dollars and deliveries are anticipated to exceed 11,000 homes, net income is expected to grow by more than 78% to over $245 million. And pretax incomes is expected to exceed $395 million, an increase of 74%.

Moving to slide 20. We expect to complete the year with a solid fourth quarter with earnings of more than $2.44 per share. Showing a considerable increase in EPS over last year's fourth quarter earnings of $1.66 per share. This projection for the fourth quarter is based on the updated projection of more than $7.50 of EPS for the entire year. At these levels, we expect fourth quarter earnings will exceed last year's results by at least 47%. Nearly all the home deliveries needed to achieve these results are already in sales backlog so the fourth quarter projections are only subject to the timings of the deliveries and projected cost. Details of the summary projections ending August 31st , 2003 and 2004 are available on the financial information page of the investor section of the Company's website at www.khov.com. Our updated projections for the reminder of 2003 reflect an increase in margins and average sales prices from prior projections along with lower effective tax rates to reflect the levels that we're currently achieving.

Now I'll address the changes in the balance sheet that occurred in the third quarter. During the quarter, we increased the aggregate commitment of our unsecured revolving credit facility from $513 million to $590 million. There was no outstanding balance of revolving credit at the end the quarter and we have more than $100 million of excess cash on the balance sheet at quarter end. The expansion of credit facility improves liquidity and provides additional flexibility for funding operations and continued growth. While we don't have specific plans for additional capacity, we feel the increase is prudent given our growth and larger scope of operations. We continue to achieve significant growth while simultaneously lowering our debt ratios. The Great Western homes acquisition had no significant impact on our leverage and we expect that our average net leverage ratio for all of fiscal 2003 will be 1 to 1. Our credit statistics continue to be excellent and are at levels that many investment companies will be pleased with. Following the end of the quarter, Moody's investor services upgraded Hovnanian credit rating on senior notes to BA2, from BA3 and raised the rating on the senior subordinated notes to BA- 2. The recent upgrades by both Moody's and Standard and Poor's validate our successful geographic diversification inniatives and improving credit statistics.

Moving to slide 21, EBITDA for the third quarter rose 45% to 135 million from 93 million in the third quarter of 2002. EBITDA represents earnings before interest expenses, income taxes, depreciation, amortization and other noncash write offs and charges. The reconciliation of the Company's EBITDA to net income can be found as an attachment on the previously distributed quarterly earnings release.

Moving to slide 22. EBITDA covered the amount of interest incurred in the quarter by 7.6 times. A very powerful indication of the Company's ability to service its debt requirements. EBITDA for the full year is expected to be more than $485 million, representing a 42% increase from 2002's levels. And the ratio of net debt to EBITDA at year end is projected to be less than two times.

As shown on slide 23, the Company's ratio of net recourse debt to equity was 0.96 to one at July 31st, 2003, after taking into account more than $100 million of excess cash. This compares to a ratio of net debt to equity of 1.13 to 1 at the end of the third quarter of 2002. We expect that the company's average net leverage ratio will be 1 to 1 in line with the long-term goal.

Turning to slide 24, shareholders equity grew 11% to $729 million as of July 31st, 2003, from $656 million at the end of April of 2003. We anticipate shareholders equity to be greater than $800 million at October 31st, 2003 and to exceed the 1 billion dollar mark by the end of fiscal 2004. As of the end of the third quarter, the application of FIN 46 led to the consolidation of six additional variable interest entities or VIE's in which the Company has no ownership. Since the implementation of FIN 46 last quarter, we have consolidated a total of approximately 93 million in land inventory and 9 VIE entities. For each of these entities, the Company holds a lot option contract for all or a majority of the lots. These consolidations have also added net of our option deposits $80.1 million of minority interest ownership and $1.4 million in liabilities in those entities to the Company's balance sheet at July 31st, 2003. In accordance with the requirements of FIN 46 the Company expects to apply the consolidation provision of FIN 46 to all of the companies VIE's no later than October 31st, 2003. We maintain that FIN 46 was not clearly thought our for application in the home building industry and does not add clarity for the readers of our financial statements. Of the 93 million of inventory not owned, that we consolidated under the requirements of FIN 46, our exposure to loss is the deposit, not the total assets consolidated on the balance sheet. We are continuing to execute our strategy of using lot option contracts with regard to minimizing our land risk and maximizing our ability to adjust to any slow down in the housing market.

Now, I'll turn it back to Ara for closing comments.

Hovnanian Enterprises continues to achieve financial results that positions us as the number 1 or two home builder in the industry in terms of earnings growth, ROE, and return on invested capital. Our company is focused on creating shareholder value through the combination of growth and return on investment. We analyze every new community and every potential acquisition based on ROI. As a result, we have achieved improved financial performance and providing greater returns to the shareholders. Hovnanian has the highest insider ownership of any public homebuilder and the Hovnanian family owns more than 45% of the Company. My father and I have sold a small number of shares over the past year. We may sell small amounts in the future. However, we remain committed to remaining the highest insider owners in the home building industry and to have the overwhelming majority of the wealth tied to Hovnanian stock. The interest of the Hovnanian family remain closely aligned with the shareholders and we remain committed to achieve strong returns and creating value for the shareholders in the future.

I'm pleased to say for the second consecutive year we were recognized by "Fortune" magazine as one of the top performing growth companies in the United States. Hovnanian Enterprises ranks 15th overall in the annual list and third highest based on total return to investors with a 3 year annualized return of 114%. We have achieved growth and revenue and earnings per share of 39 and 50% respectively over the 3 year ranks period. Our guidance for next year means our Company is likely to achieve such recognize.

Slide 25, while Hovnanian share prices performed well over the past twelve months, following tremendous earnings growth, our closing share price of $63 represents a low multiple of 8.4 times our projection for '03 with less than 60 days remaining in the fiscal year. Our share price is a multiple of 7.6 times for projections of '04 earnings. We plan to enter with about 45% of the year in backlog. This is a company, who has achieved 58% compounded growth in earning in the past five years and the second consecutive year expects to achieve a return on beginning equity above 35%. Our stock is yielding a tremendous return to our shoulders, but remaining undervalued relative to our Company's performance.

Despite the good news coming out about our company in the industry, all of the home building stocks continue to sell at low multiples with the industry average PE at about 7.6 times projected '03 earnings, less than half of the equivalent PE multiples of the S&P 500 and well below prior averages for the industry. Investors clearly are now concerned about the prospect and the event it may have on housing sales. This is the latest worry that many investor and the financial press are using to justify the low multiples. Low multiples have existed for years following worries of a slowing economy, war, consumer debt levels, consumer confidence, Freddie Mac, housing prices increases, affordibility and any other statistic that can predict a down fall in the housing industry and supposed housing bubble. We expect the housing sales to stand up well, particularly in the face of a recuperating economy.

We want to highlight again, some of the key points as to why we are more bullish. Number 1, we plan to enter the year with a solid backlog and already have one now. Number 2, we have assumed a slow down in our budgets it's discounted in our numbers already. Number 3, higher rates are likely to be accompanied by a stronger economy, more job growth, more confidence, that is generally good for the housing industry. Number 4 mortgage rates were over 8% for most of the year of 2000. That was a solid houses year. We proved in recent history the industry has as well as our company, that we can do well with rates above 8%. So we don't really fear even though we are well away from that now. Number 5, demographics create demand. Household population is growing and the outlook is solid and there is very little disagreement for that not only the next ten years but the next three decades. Number 6, the industry continues to consolidate and there are more and more advantages and growth for the big guys growth and revenues can obviously help offset potential small declines in margin. Number 7, we are continuing to reduce our costs, which are all offset possible decreases in house prices. Finally, if anything, if there is a slow down that really would create greater opportunities for -- because land sellers and smaller builders will be more anxious to sell. If you look at the home builders after a slow down they typically generate great growth and earnings per share.

We've always managed our business cautiously and will continue to do so. Our lot option strategy is the best example of this strategy in action but the most realistic view of the housing industry looking forward over the next decade is our industry needs to build an average of about 1 1/2 million in new housing starts per year just as we have in the past 4 decades in order to meet the needs of our growing population. And bigger builders like ourself will continue to gain market share in the overall market driving above average growth rates.

Slide 26, the final 2 slides we've included display housing starts of medium house prices over the last three decades. Slide 27, these offer the best evidence we believe we are not in a housing bubble. We remain focused on organic growth, as well as the successful integration of our recent acquisitions. Our financial results validate the success of the long-term strategy and our strong market positions and are a direct reflection of the hard work and dedication put forth by all our of associates. We are confident that the continued implementation of our growth strategy and the committment to process improvement will allow us to maintain excellent performance and profitability in the future.

This concludes our opening comments we are glad to open up for questions.

Thank you, the question and answer session am begin at this time. If you are using a speaker phone pick up the handset first. If you have a question press star one. If you would like to withdraw your question press star 2. Your calls will be taken in the order it was received. Please stand by for your first question.

The first question is from [Timothy Jones] from [Walcolm and Associates], please state your question.

Good morning, a couple of questions I look would at your website. And the projections at least I found of the company's projections were the old projections. Have they been upgraded or not yet?

They should be up there. We'll check it after the call.

It shows 656, 75 for this year.

We will make sure we get them up there.

No problem on this. Let's go through this. What is your mix of attached housing this year versus last year?

It varies dramatically from market to market. In general there's not a significant mix.

A rough number, 30%?

About 30% is a good guess.

Okay now. Of the closings next year, 14,000 versus 11,000, how many of those will come from the recent acquisitions roughly? Just a guess?

What is the question again?

The repeat projections for deliveries for next year is --.

It's really not something we historically make a projection.

Okay here's what I'm trying to get at. Okay. We will go a different way. Your land cost, what percentage right now are they at sales 22?

It varies dramatically at high-end 35 and 40. Low end 15%, a blended corporate average is completely meaningless.

I thought you were saying you were going to build more attached units like the east coast in California. Yet your price is up so much. Did you increase the mix of lower priced attached out there in California?

I don't know where you got that we are building more attached when we acquired and the forecast said they were more focused on the entry level first-time buyer in the inland areas.

Yeah, the inland.

That has continued as Ara mentioned during his earlier comments after we acquire a company one of the ways we organically grow is to broaden the product array we are in the process of early stages of doing with the forecast. Our organic along the coast between Los Angeles and San Diego. As well as the active document product we have stepped that up. And driven the average price upward.

My last question is this: you have about 45% of your backlog you said going in next year of your deliveries in backlog. I would guess given what you are doing now, that the margins on that backlog is higher than the year before.

Higher than 2003?

What. In other words that should be a fairly healthy backlog given the fact you --.

I think that is generally fair. Obviously, the more recent sales have the most recent land prices, and land prices each quarter slowly and gently tweak up as we replenish old land supply with user land supply. Generally speaking we feel good bet margins in the backlog it's one of the reasons we can be confident about meeting a minimum of $8.25 next year.

You are say being 10% on a 20% sale. You obviously cut half of it in -- we could be surprised in the upside.

We try to budget as we can always done a far worse scenario than we have now. We assume market conditions change in the budget.

There's nothing wrong with that.

Market slowing down we can't increase a price a nickel. That is not what we're seeing at the moment. If fall sales are continue in a strong mode we can come with a strong quarters in the last 16 and increase it. But the right thing to do now, is to be conservative and hopefully bring positive --.

Let me add two points. We look at the affirmation of the attached product we have been running less than 20% attached.

Okay.

And comment on margins and backlog looking forward. As I mentioned in my portions script, the other thing that impacts margins and them down is the mix of the communities the mix coming from the repeat acquisitions where they historically gotten lower margin that we achieved and higher inventory returns to get to these margins.

That's probably important as the change in land. The mix of the acquisition says.

Yes.

Okay. Thank you..

Thank you. The next question comes from [Tony Campbell] with [Knot Partners].

Good morning and congratulations. I was wondering if you could give us further clarification on your gross margins which obviously are outstanding. What percentage of it was land and what percentage was operating efficiencies of the increase?

The reality is it's really almost impossible to measure, I mean some home builders very few of them separate out land purchase from the home sale, and the create an artificial internal sale from the land to the home building operation. In that way they can create some kind of you know, a number in terms of land sale profit versus home sale profit. We don't do that. Our division presidents are responsible for creating buying land and developing it. We just look at the a blended return it's impossible there are so many moving parts to make that distinction.

Can you zero in on operating efficiencies for me?

To give you a couple of examples, as we grow our lot contracts for a variety of materials from appliances to lock sets to carpets to kitchen cabinets et cetera, distribution. Your national agreements provide in most cases that as we grow, the cost in which we buy materials as long as we buy more materials decreases per item purchased. That is -- an obvious benefit we are taking advantage of. Not only that. With every acquisition, we learn about a pricing opportunity or product opportunity happened time and time again. That, or look to negotiate the prices or that property into on a broader national scale.

Another example is a simple thing like corporate overhead. We as we continue to grow, we don't increase the number of people you know, to the same extent we are increasing our revenue. We get efficiencies in that area as well.

Yet another area is our clout with subcontractors as we continue to grow in our local markets and become more dominant. We have more clout with the local subcontractors and there are clearly cost efficiencies in that area as well.

Those are just a few of the simple examples. Others where we are achieving efficiencies are complex manufacturing approaches we're getting advantages of and continue to refine over time.

I guess what I'm trying to get is a sense are we halfway through getting increasing your efficiencies?

It's a never ending process. I mean truly as we continue to grow, we think our clout with suppliers and subcontractors just continues, and frankly on a lot the cost efficiencies and bringing sophisticated techniques to the manufacturing prospective of our industry, we think we just scratched the surface. There are many, many opportunities. I always joke about our industry it represents 200 years of tradition unhampered by progress. I started I have a fancy MBA. I started working summers in the construction field. I'll tell you, you go to most builders and many of our locations things have not changed dramatically in the construction field. That is changing as the home building industry is being dominated by multibillion industries like ourselves and bringing more sophisticated approaches vendor consolidation, even flow production techniques. The we are looking at the supply chain relationship and the opportunities are just tremendous it's not something I can tell you next quarter it's .25% and we're 92.87% there it's something that would gradually resolve. The think the opportunities are very large there.

Presumably that will mean that maybe the world will give you a higher pause and your margins go up.

Frankly the key is going to be we continue to show in the face of a declining economy and the face of war, in the face of interest rates, that we can continue to do well and I feel fairly confident that we'll be able to do that. You know, the profits will come from a few different sources. One is housing prices increasing and another is housing cost going down and revenue growth. Everyone is focused only on one of the 3. Housing prices and what might happen if interest rates go up. We are not overly concerned we think a strong economy will offset it. Even if you did you have the other 2 methods of increase profits, growing revenue, that is absolutely going to happen as consolidation continues keep in mind that public builders while they have grown from 10 to 24% it's still only 24% There's a lot of opportunity and the advantages to the big guys are growing every year. Secondly, I think the opportunity for cost reductions is there too. We will have two out of three going in any scenario. We feel good with three in the scenario. We feel it's a good case.

Congratulations, good luck.

The next question is from Greg Nejmeh with Deutsche Banc. Please state your question.

A couple of questions and I guess they are derivative of things already been asked. Terms of the '04 guidance you suggested with the Wall Street 8 and a quarter predicated on 100 basis points and flat pricing but you indicate that 45% of your anticipated closing were '04 are contained in backlog. Recognizing that you know the profitability with those unit system the inference that, I'm assuming that the profitability inherent in the unit is higher than what your current profitability is or higher than the first half of fiscal '03, is the inference that the earnings will have to decline in the second half in order for you to achieve that earnings target?

I think it's fair to see we would be projecting. We have a lot of backlog. We haven't sold all the first half of next year, although a big chunk we expect to enter the year with 45% of our year in backlog. We haven't sold all the homes yet we still have 60, roughly 54 or so of sales for that to occur. But generally speaking, in our projections have assumptions that we are going to have lower margins on some of the new sales primarily we assume house prices are flat as we mentioned and obviously, in general, our new land parcels are slightly higher priced than our older land parcels.

You might want to point out to Greg, that even in our backlog going into '04 some of that is new communities that have not delivered and have a higher land base as well. It's not all in the last half of the year. And combine that with the margins from the new acquisitions that we have you know hit and lowered with the step up in inventory, kind of techniques we used to ensure we don't have goodwill also impacts it. There's a lot of things going on, that you can't just make a clear cut answer to, Greg.

A related question to Tony asked earlier on process improvement. I know not long ago you acquired a builder in the Metro DC market and intrigued bite design capabilities and your company was one of the first to pioneer the use of in the field technology for scheduling purposes and so forth, without necessarily quantifying the savings that could arise from the initiatives could you at least share what percentage of the subdivision or communities adopted the practices to give us how widespread the activities are within the company now?

I would say the entire DC, North Carolina, and northeast region has embraced a lot of the design efficiencies that we learn from the acquisition you are speaking about. One in Washington that was about 5 years ago. We redesigned a lot of our lines and really did bump margins in those areas. From that. I think there are still opportunities in the rest of the country to embrace some of those. Keep in mind, you know, we have done you know, we have grown partly through acquisition. Part of your success in good integration with the acquisition is not to inundate them with too much change. We have to pick and choose what areas we are going to focus on. And that has not been one that we focused on tremendously yet, it exists as a further opportunity. It is really the case in some of the other manufacturing cases as well. We have many, many, areas that we transition new companies in and we just delicately choose those opportunities. I can't give you a percent on each one. But we made great progress but there are still many opportunities.

It struck me, Ara, for you allow Hovnanian to capitalize on market share gains in somewhat smaller markets. A, is that an accurate terms and I B, are you approaching that opportunity by experimenting with on your plot and marketing that perhaps are not as large of a market you would enter?

Greg, you are right. That is an opportunity, and our acquisition in Ohio earlier in the year, really gives us numerous interesting strategic options. One is just as you say the ability to enter markets beyond the top 50, which has been more of a focus of our company and most of the national home builders. We do think it's an excellent model. Frankly we think it's a great motel for the top 50 markets too, markets like the North Carolina markets, Texas, even in places in California we think that absolutely is an opportunity for us.

In addition to that, the acquisition in Ohio is really woken us up to other opportunities this is a company that is making 10% margins, and there is no land depreciation 0, zip. And they haven't done it through home price appreciation because of land. They just done it because they are fabulous manufacturers. Two of the components of why they are fabulous manufacturers are first, that they have a efficient distribution and warehousing facility and process. That is something we are also exploring to see where the cost efficiencies can be in the markets. There are only two others public builders doing that, Toll Brothers and Ryan, and I understand they get good efficiencies there. That's clearly an opportunity. We are at the beginning of exploring that opportunity. But quick glance seems to say there's real cost reduction opportunities there. Eliminating some of the middle man. Buying directly and getting the efficiencies of the logistic.

The other thing that is interesting they do some of their own labor in the trades. That is something that all of the national home builders include ourselves have shied away from. They have a better good expertise. The return on investment is tremendous. Tools and a couple of pick up trucks to do your own labor. We have to be careful not to inundate new management not take them out of the current job and rush them to the new ideas.

This gets back to Greg, the point I was making before. Everybody focused so -- on the fact that oh my god rates are going to go up the market will slow down you won't be able to raise prices. Even if that is the case, we don't believe that is, we have lots of opportunities for cost reductions those two examples are just some of the opportunities there. And then the other is the revenue growth side. And it's huge. You know, including things like you just brought up. Which sway build on your own lot program. There we compete with super small builders I'll tell you our cost advantages are more pronounced on build on your own compared to the smaller home builders.

Thank you. The next question comes from Steven Ken with Smith Barney. State your question.

Michael Kender for Steve Kim, congratulations on another solid quarter.

Thank you, .

Just a couple of housekeeping questions, if I could. You mentioned briefly about the tax rate. Good luck forward, is something in the lower -- going forward. Something in the 37% range something we can expect through '04. Or would we be in a better position to use something else.

I would use what it is in the first nine months which is 37.5 or 37.4. Something like that.

Your expense line I think it was around $9 million I think is higher than in previous quarters, is there something, what in particular drove that number up?

I can't answer that off the top of my head. I'll have to get back to you

Look back in other expenses, Paul. It's about 5 million or something comes to mind.

Are we talking about the three months or?

July quarter. $9.01 million.

From last year we didn't have amortization of the intangibles from any acquisition from Ohio and Brighton Homes in Houston, Texas. So that you know, accounts for approximately 4 1/2 million of the 9 million we had in the third quarter. We do have a -- two communities matched on operations that does have minority interest associated with that that was a couple million dollars out of the $5 million increase they account for the vast majority of the increase.

As we pointed out. To remain conservative, we markup assets, which is the most common if there is a premium secondly we will tip look at finite life. Intangibles and amortize those rapidly that is what you are seeing there.

One final question. Your subdivision count has been up consistently year-over-year. Do you have a forecast what you look for that to go to by year end into '04.

We projected a -- there was a slide in the presentation. 265 for '03 we have not made a projection for '04.

Thanks again, congratulation.

Thanks once again if you are asking a question press star 1 on your push button telephone. If there are no further questions I will turn the question over to Ara Hovnanian for final remarks.

Thank you very much. As you can tell, we are pleased and not only that, we are very excited, and confident. And optimistic about our opportunities in the future. Look forward to good housing market ahead in reporting good news for the next quarter. Thank you. And if you have questions in the future please don't hesitate to contact Kevin Hake or Brian Cheripka or Larry Sorsby. Thanks so much.

To access the replay, please dial 1- 800- 428- 6201. Pass code 305106. Thank you for participating all parties may disconnect.