KB Home (KBH) 2007 Q2 法說會逐字稿

Good day, everyone, and welcome to KB Home's second quarter earnings conference call. As a reminder today's conference is being recorded and webcast on KB Home's website at kbhome.com. The recording will also be available via telephone replay until July 5, 2007 at midnight. You can access this recording by dialing 719-457-0820 or 888 -203-1112 and entering the replay passcode of 7248630.

KB Home's discussion today may include certain predictions and other forward-looking statements regarding market or economic conditions and about KB Home's business and prospects, future financial and operational performance, and future actions and their expected results. These are based on management's current expectations and projections about future events, which should not be considered guarantees of future performance. Please be aware that KB Home's actual results may differ from those that are expressed, forecasted or implied by the predictions and forward-looking statements that may be made today due to a number of risks, assumptions, uncertainties and events outside of the Company's control, and that the differences may be material. Many of these risk factors are identified in the Company's periodic reports and other filings with the SEC and the Company urges you to read them.

For opening remarks and introductions I'd now like to turn the call over to KB Home's President and Chief Executive Officer, Mr. Jeffrey Mezger. Please go ahead, sir.

Thank you. Good morning, everyone. Thank you for joining us today for an update on our business and the financial results for our second quarter of 2007. With me this morning are Dom Cecere, our Executive Vice President and CFO, Bill Hollinger, our Senior Vice President and Chief Accounting Officer, and Kelly Masuda, our Senior Vice President of Investor Relations and Treasurer.

In May, after a competitive bidding process launched earlier in the year, we announced that we had entered in to an agreement to sell our 49% ownership interest in Kaufman & Broad SA to PAI, a French private equity firm headquartered in Paris, France, for approximately $800 million. We expect the transaction to close in the next couple of weeks following the receipt of EU anti-trust clearance. As we have shared in the past, we will continue our strategy to have a balanced approach to the use of cash. Proceeds from the sale of KBSA, along with free cash flow from operations will be used to strengthen our balance sheet , pay down debt, repurchase shares of our common stock, and reinvest in opportunities in our business where appropriate. Additionally, we have announced that we are redeeming $250 million of 9.5% senior subordinated notes. The redemption should be completed in approximately 30 days.

Here in the U.S., market conditions continue to remain challenging, affordability remains an issue, and it is too early to determine when the housing market will begin to stabilize. Based on the home sales data released this week, the inventory of existing unsold homes increased in May to an 8.9-month supply and new home inventory increased to over a seven-month supply. Housing starts have been declining for at least 12 months now; however, the contraction of new home completions really just began in the first quarter of '07. These inventory levels must stabilize and clear the market and then we will recover.

In the long run, the housing market will eventually recover, with continued demand for new homes being created by favorable demographic trends, job growth, growth in personal income and lifestyle changes. The desire to fulfill the American dream of home ownership remains strong and is still the cornerstone of long-term wealth building for the vast majority of Americans. In the short term, we anticipate the pricing and margin pressure will continue until the inventory level of unsold homes is back in balance with demand. In the meantime, we are staying disciplined by adhering to our [KB next] business principles as a build-to-order home builder, with even flow production based on a six-month order backlog of pre-qualified buyers and limited spec production. By remaining a build-to-order home builder, we continue to differentiate ourselves in the marketplace, providing home buyers with the opportunity to customize their homes for more than 5,000 options at our world-class design studios and also from branding initiatives, such as our partnership with Martha Stuart.

We are diligently working to differentiate ourselves in other areas as well. Our strategic partnership with Countrywide, which provides loans to approximately 70% of KB Home buyers, is proving invaluable in providing buyers suitable mortgage products in a timely manner with high levels of customer satisfaction in a market burdened by the subprime fall out and tightening credit standards. We have a renewed discipline for land investments, maintaining no more than a three to four-year supply of land owned and controlled, keeping community count growth in line with market demand, and featuring products at pricing targeted to the income level of our buyers in each specific market. With our current land holdings, we are focused on generating cash from operations, improving cycle times, and remaining competitive in our served markets. On new land transactions, we are requiring terms that improve cash flow and generate returns well above our cost of capital, and we continue to deploy our cash with a priority on controlled growth, debt reduction, and share repurchases while maintaining a strong balance sheet.

Now, I'll turn it over to

Thanks, Jeff. First, let me share with you the expected financial impact from the sale of our 49% stake in Kaufman & Broad SA. Gross cash proceeds will be approximately $800 million. After-tax net cash proceeds will be approximately $550 million. Debt to total capital was just over 50% at the end of the second quarter. On a pro forma basis, after the sale of our KBSA stock our book equity is expected to increase by approximately $400 million to over $3 billion. Debt to total capitalization net of cash is anticipated to approximate 41% when taking into account the $400 million after-tax gain from the sale of France, the $550 million in proceeds from the sale, and the $272 million in cash on the balance sheet at the end of the second quarter.

Net orders for new homes were down 3% on a year-over-year basis with 18% fewer active selling communities. Orders for new homes on the West Coast were up 3% from a year ago, orders in the southwest were up 16%, and orders in the southeast were up 19%, while orders in the central region were down 30% driven primarily by a 35% reduction in the number of active selling communities in this region, primarily in Texas and Colorado. Even with the tightening of credit standards and subprime fall out, cancellation rates have been at normalized levels relative to historical rates for the last two quarters. In the second quarter cancellation rates were 34% of gross orders, improving from 41% of gross orders one year ago. Compared to beginning backlog, cancellation rates were 30% in Q4 of 2006, 28% in Q1, and 33% in Q2 of 2007.

Community counts this quarter were down 18% from the prior-year quarter, with 342 active selling communities compared to 419 active selling communities in the second quarter of 2006. We continue to curtail community count growth to reduce working capital and to free up cash until supply and demand gets back in balance in our served markets. We do not believe in investing in community count growth in markets where demand is down and there is already an excess supply of unsold homes.

Total revenue in the second quarter was $1.41 billion, a decline of 36% from $2.20 billion in the second quarter of 2006. We closed 4,776 homes in the second quarter, representing a year-over-year decline of 36% and had $113 million in land sales compared to to $12 million one year ago. The average sales price of homes delivered in the second quarter of 2007 decreased by 8% to $271,600 from $295,300 in the second quarter of 2006. We continue to price homes to remain competitive in the marketplace while still offering buyers the opportunity to customize their homes at our design studios. The 4,776 homes delivered in the second quarter converted 43% of our backlog to deliveries in the quarter, improving from a 36% conversion ratio in the second quarter of 2006 and a 38% conversion ratio in the first quarter of 2007. We continue to see the benefits in cycle time reductions from sale to close improving inventory turns and converting our backlog to sales.

Housing gross margin was 14.9% this quarter, excluding impairments and abandonments, compared to 25.6% in the second quarter of 2006, driven by the continued pressure on pricing and markets where the supply of unsold homes continues to out strip demand. The pretax loss from continuing operations reported for the quarter was $291 million, excluding -- including $308 million in inventory and joint venture impairments and abandonments. Continuing operations, excluding these charges, remained profitable with a pre-tax profit of $16.8 million in the second quarter of 2007. We own or control approximately 97,000 lots, down 44% from 173,000 lots owned and controlled one year ago. On a forward-looking basis, we own a two-year supply of land and have another 1.5 years of land controlled via option contracts.

With our continued focus as a risk adverse build-to-order home builder, we had approximately 1,200 unsold homes under construction, only 11% of production inventory, down from 17% of production inventory in the first quarter; again when the lowest levels of spec production in the industry. There were only 511 finished unsold homes in inventory at quarter end, which was less than 1.5 per active (inaudible) community. Our build-to-order KB next operating model also provides KB Home with one of the largest and most diverse backlogs of sold homes in the industry. We have a very geographically balanced business today with 2,910 homes sold in the backlog in our West Coast region, 2,829 in the southwest region, 3,628 in the central region and 4,305 in the southeast region. We had 13,672 sold homes in backlog at the end of the second quarter, valued at $3.7 billion.

In summary, while the market environment remains very challenging, we have a healthy six-month order backlog of sold homes, minimal spec inventory in production, substantial cash, a strong balance sheet, lean operations and patiently waiting for the market to show some signs of stability, which we are well positioned to capitalize on. Now it's back to Jeff.

Thanks, Dom. This time last year, we reviewed several operating strategies with many of you at our investor conference in New York and also on our Q2 earnings call. At that time, we referenced a decline in new home demand, an increase in new and existing home supply, with higher cancellation rates negatively impacting orders for new homes. Our response to the change in market conditions translated into several well-defined operating strategies and I want to take a moment to outline our results versus those strategic initiatives we identified. The strategies included: Being much more selective in land investments; a focus on reducing the cycle time to build a home; lowering the direct costs of reduction -- or lowering the direct costs of construction; aligning our overhead cost to projected revenues going forward; and generating free cash flow with a strong and liquid balance sheet. At that time, we targeted $1 billion in free cash flow over the ensuing 18 months. One year later we are definitely seeing benefits of implementing these strategies in what has turned out to be a more dramatic market correction than anyone anticipated.

Inventories are now down by $1.7 billion, from $6.9 billion at the end of the second quarter of '06 to $5.2 billion at the end of this quarter. Unfortunately, approximately $630 million of the reduction came from impairment and abandonment charges; however, we did unlock over $1 billion of cash from working capital by reducing our investments in under-performing communities, improving cycle times, and lowering our land pipeline by 44%. The cycle time to build a home has been reduced by approximately 40 days from one year ago, causing a 20% improvement in our conversion of backlog, and we have reduced our work in process by 39% from over 18,000 homes under construction at this time last year to 11,000 homes at the end of the current quarter.

The direct construction cost to build a home is being reduced by approximately 6% to 8% per square foot, excluding permits and fees, by negotiating price reductions with subcontractors and material suppliers and also by introducing smaller homes with lower spec levels. Entering 2008, we will have replaced 75% of the communities open at this time last year with product offerings that build at a lower cost and better match the income of our buyers. We continue to diligently pursue additional reductions in our direct costs. SG&A in our business was reduced by 28% or $74 million from from $268 million one year ago to $194 million in the second quarter of '07, a $300 million reduction on an annualized basis. We are continuing to remove overhead from the business until the business stabilizes and SG&A gets back in line with housing revenue.

Debt net of cash one year ago was $3.3 billion, which has been reduced by $800 million to $2.5 billion at the end of the second quarter of '07, and we lowered the average number of share outstanding to approximately 77 million, down 3% from 79 million shares outstanding in the second quarter of '06. In the last 12 months we generated over $1 billion in cash, delivering on our promise at our investor day in New York one year ago, and we used this free cash flow to lower our debt, strengthen our balance sheet and reduce the number of diluted shares outstanding. In the second half of 2007, we are targeting another $500 million in cash from operations and $550 million in cash from the sale of KBSA. This $1 billion in cash generated in the second half will be used to further reduce debt and depending on market conditions, repurchase shares of our common stock and invest in the business.

We are well positioned for reinvesting in our business as attractive land transactions become available. For example, earlier this month, we approved a land purchase from a bank for 139 finished lots in foreclosure adjacent to an open KB Home community. We will sell from our existing models. The lots were purchased on a take-down schedule tied to current market absorptions with a small deposit at 34% lower lot costs and homes that can be priced to the income level of the buyers. We expect more of these type of opportunities to come our way over the next several quarters.

We generated over $1 billion in cash in the last four quarters and are starting to deliver another $1 billion in cash in the next two quarters. Our land pipeline is back in balance with 97,000 lots owner controlled. Debt was reduced by $800 million, and we have zero outstanding on our $1.5 billion bank line. We have a six-month order backlog of 13,672 sold homes valued at $3.7 billion. Cancellation rates have normalized to more historical levels and the business continues to be right sized. We are staying disciplined to our business model as a build-to-order home builder with production tied to the six-month order backlog and only 1,200 or 11% of our homes under production unsold.

In summary, we're disappointed with our financial results for the second quarter; however, our strategic initiatives tied to our KB next business model are sound and paying dividends. We will continue to deploy these strategies in these difficult times, generating cash and applying a balanced use of this cash. In our 50-year history we have successfully navigated through many turbulent markets. In fact, this is personally my fourth down cycle in the industry. Through each downturn we have emerged from the cycle a stronger business and we intend for this to be the outcome once again. We will now open up the lines to take your questions.

(OPERATOR INSTRUCTIONS) First up from Citigroup this is Stephen Kim.

Hi, Steve.

We lost him.

Mr. Kim, you may be muted. We can't hear you right now.

Hey, guys, can you hear me okay?

Yes, morning, Steve.

Okay, good morning. I guess my first question related to the specific number of options that you may have abandoned in the quarter. Could you give us an update on that?

There were no options abandoned in the quarter. This was all mostly impairments, joint ventures and inventory owned.

Okay. So can you remind us how much over the last, let's say, 12 months that you have abandoned in terms of lot options?

Well, I think the dollar amount is about $100 million worth and it's somewhere between 45,000 and 50,000 lots.

And would you say at this point that --

About $3,000 a lot -- under $3,000 a lot, I believe.

Okay. And do you think at this point that we may be pretty much through the option abandonment? At this point you're obviously not signing a whole lot of new ones except for unusual circumstances like what you laid out, but would you say at this point that pretty much what you've got, most likely you're probably follow through given the valuations of those options?

Yes, I think that's correct, Steve, because the option counts now down to just somewhere around 30,000 to 40,000 lots.

Right, exactly. Okay.

There wouldn't be much impairments left for opt -- abandonment cost for options anyway.

Okay, great. Thanks very much.

You're welcome.

N=Moving on now to Greg Gieber at A.G. Edwards.

Morning, guys.

Morning, Greg.

Jeff, I wonder if you could go into more detail on the comment you made that by the end of the year 75% of your product will have been replaced with new lower-price product? Just roughly, what kind of price reductions are you putting in place? How much are these physically smaller or less specified. And if you've moved to the smaller -- or lower-priced houses, what is the implication for your gross margins?

You just asked a lot of questions, Greg. Since the conference call last year, we've turned approximately 160 communities (inaudible) already and we have another 150 to open in the next 12 months -- I think that was your number. But what we've been doing, Greg, is retooling our products to smaller -- on average across the Company, the average size probably 200 to 300 square feet less, so there's a direct correlation in your cost to build due to just the smaller home that you're constructing. We've lowered spec levels based on lower-priced product, which again would lower your cost, and we've been value engineering and rebidding our products along the way. And as we end this year through all of those processes, we'll have turned 75% of our communities since the investor conference last spring. As to impact on margins, it's a community-specific strategy. Our margins right now are in the 14.9 range, I think we reported for this quarter, and building a smaller home on an expensive lot does impact your margin but allows you to sell the lot and turn the inventory.

Any idea on just what the price reduction is? I mean, affordability is really the big issue. That's what's creating a large amount of this inventory overhang.

If I had to peg a number I'd say 10% if they were to select a smaller home.

Okay.

That's part of the beauty of our bus model, Greg. We're offering the lower product, but there are still buyers taking a larger product in the same community. We're spreading our product lines in order to offer more affordability while holding the current product for those that take it.

Okay, well that's a good strategy. If I could follow just one question related to all of this, your studios. Is the cash spend in your studios, is that falling as a part -- putting pressure on ASPs?

As we shared in '06 we actually saw an increase versus '05 in a pretty difficult market condition. In '07 to date, sales per unit are about flat year over year on base prices that are actually down, so as a percent of revenue it's a bigger component than it was a year ago.

Okay, thank you.

Thanks, Greg.

Question now from Dan Oppenheim at [Banc of America] Securities

Thanks very much. Wanted to ask about your comments there in terms of the slowing community growth, that seems to be in contrast from what a lot of other builders have said recently where they talk about how land doesn't really improve over time in these competitive markets. Can you talk about how you're viewing that and just how much you have planned to slow your community growth, and are there specific markets where you would want to burn through that land where it's in the midst of a lot of competitive pressure there? So how are you viewing that overall?

Our community count growth, Dan, with our current lot pipeline is -- our community count's pretty much in balance with our lots that are owned and controlled. What we're referring to is reinvesting in communities in that we're only going to invest dollars if we can get the returns. We're not going to grow community count just for growth sake.

And Dan, we only own less than 60,000 lots, so we're not faced with a problem as how do we get rid of an eight-year supply of land or seven-year supply of land that may be owned. We're really down to around a two-year supply of land so there's no reason to invest significantly in having more communities open in the market where demand is down just to push land through the pipeline.

Right, but I guess two years or eight years, if the at home prices in those markets are falling, wouldn't you want to try to generate cash from those markets?

It's community specific and market specific, Dan. If we're in a land constrained market where there's no opportunity to replace it and it's a decent land base, we'll park it instead of investing the improvement dollars, the model investment, all the cost to run the community and we'll wait for another day and we do have some of that. So we're being strategic and selective in turning some assets, parking some assets, and the key in our community count growth will be at what pace we reinvest going forward.

Dan, it's almost the opposite if you think about it when you talked about cash. Our order growth has tracked quite well against the other public builders, yet we've done it with fewer communities. So we're putting less cash in the ground and still moving as much inventory as everyone else. We're just doing it in fewer communities.

And just one follow up. You talked about buying land and the foreclosure from a bank expecting more of that. That would also -- if you're expecting more of that it probably means you would have more impairments [comes] on your land. How much are you factoring in there the remainder of this year in terms of your comment? Do you expect --?

Actually, Dan, we're not suggesting more impairments. That's a quarterly review tied to the market conditions. What we're illustrating is there is already some difficulties with some small developers, smaller builders, where banks are taking back assets and then off-loading them to get them out of their portfolio. t's not tied to impairments at -- in this case, example, it was a bank, just wanting to move an asset off their books, so the price for our product hasn't changed in that sub market.

I mean you're just getting ten or 15 points of margin better than you do if you had an asset on the books that's not impaired but has minimum margin.

Thanks very much.

Moving on now to a question from Jim Wilson at JMP Securities.

Great. thanks. Good morning, guys. Two questions. One, Jeff, a little more color on your 40-day cycle time improvement. I know you talked about how you'd improve the cost per square foot. but could you give a little color further on how you've been able to further reduce the cycle time? And then the second question was just -- and I got on a few minutes late so I don't know if you addressed it, but a little more specific regional color on your order trends like different parts of California or different parts of the southeast, how they looked compared to other parts of those regions?

Sure. Jim, the cycle time reductions primarily been through focus and as the markets have cooled in activity, the subs are more available and we're back to, frankly, historical levels, what we were building at in '03 and '04. We have to continue to pursue additional reductions because it helps our inventory turn, but it's working and partnering with our contractors and being smart frankly and more focused. So across the system, it's been a 40-day reduction, which is a big help in inventory turn. Dom can again give you the regional color. We don't get into specifics within the region, but if you want to share that again, Dom?

We did talk about it, but you'll notice that in the community counts that we were down 8% in communities --18% in community counts and -- on the West Coast and southwest have been flat year over year and in the southwest and central region have been down around 25% and order trends have really followed -- on the gross order trends have really followed community counts. And net orders are only down 3% in our business because our cancellation rates have come back to normal levels. But business overall across the whole country has been pretty much down the same every where.

Okay, all right thanks.

Question now from Ken Zener at Merrill Lynch.

Morning.

Morning, Ken.

Just a little follow up on this land that you guys got. Is that common?

We're starting to see it, Ken. Terms softened last year, so terms were much more favorable and we've been working quite a bit even on our current pipeline to continue to negotiate better terms. Prices, we're just now starting to see some movement and it varies by market. The land constrained markets where large builders and large land developers control the percentage that's in the pipeline, we're not seeing much movement as we are in the markets that are more free to enter. Like Phoenix, for instance, there's a lot of reduction in lot prices available there and yet in more land-constrained urban areas of California, we haven't seen as much movement.

Does that -- within the context of you haven't seen a lot of movement but clearly prices have come down -- and I'm thinking let's say Riverside, which is a very -- affordability is worse than it was during the early 90's recession. Do you think the absence of price declines, is that creating a no-bid market whereas assets are higher than they would be otherwise?

Yes, I think Riverside's a good example where you will see prices come down because it's more of a commuter market and as values reset closer in prices have to come down out there for the offset of own a home and drive to work, that balance we've always talked about over the years. I think in part it's been an interesting dynamic in that the builders really haven't been in the market to any degree on the acquisition side, so prices haven't come down because no one's been offering to buy land and as we're reengaging in the markets and poking around out there, we are seeing a willingness on the seller once they know they have a legitimate buyer to move their asset.

Right, okay. And I guess my follow-up question's going to be related to the derivative of pricing. Last quarter, can you guys break out margins by your segments?

No. I don't have the margins by segment in front of me. It'll be in the Q so you'll get it in the Q.

Because what was interesting last quarter is your southwest was actually your strongest division which is basically comprised of Vegas and Phoenix along with some other smaller communities and you had 9% margin there. Could you discuss the trends that we're seeing? Could we say that's going to be going down a lot given all of the inventory? Because that would contrast with central, which is largely Texas for you guys, which was already at a negative margin, [X] charges. I'm just trying to get a flavor of how the regional margins are moving.

I don't think there's any big swing quarter to quarter in regional margins, and I [won't] doubt that when you see the Q2 it's going to be much different than the Q1 with the exception that we lost another couple points of margin.

So region to region they'll be the same relativity but across regions down.

Well, would the central be picking up since you're closing down your less-profitable communities out there or why is that -- why is that operating at such a low level, negative 6%? Thank you.

Well, in theory, over time, we've been closing out of a lot of communities in the central region and frankly haven't been reinvesting because we couldn't hit our return hurdles. But it's not like you turn the switch and it flows through to your bottom line at the same time. It takes time for the overhead to flow through. It takes time for the community to get built out and the margins to go away, so you won't see it in a month or three months but you certainly will see the trends over a six months to nine months.

Moving on now to a question from JPMorgan's Michael Rehaut.

All right, thanks. Good morning.

Morning, Michael.

Question on the orders. It was a lot stronger than we were anticipating and other builders have actually seen absorptions continue to remain weak or deteriorate, and for you -- actually you had an absorption up 19% year over year, so the question is what drove that? Had you been in -- have you been more aggressive, do you feel, relative to your competition in terms of incentives or even aside from just the competition, have your incentives gotten larger as you went throughout the quarter? That's the first question.

This is Dom. When I first saw the orders, my thought was, boy, our absorption to communities are way up, but then when I went back and looked I realized that was not the case. First of all it was an easy comp over last year where orders in the U.S. were down 27%, but actually gross orders per community were about the same first quarter to second quarter. What caused the net orders to be down only 3% was nothing more than the cancellation rates coming down. So what we ended up seeing was it was the cancellation rate that made it look like orders were only down 3% where actually gross orders were down about the same quarter to quarter. Actually the last four or five quarters our gross orders have been down somewhere between 15% to 20% and the things that really has swung net orders has been cans, and as our cans have normalized our net orders have come back up.

Right, but I mean in terms of incentives, could you comment on the direction during the quarter and have you gotten materially more aggressive and relative to the marketplace or are you just within your own business?

Well, Michael, first off again, let me reinforce that the focus in our business model is best price, not best incentive, so in not cases -- I'm not saying we don't have incentives because we do, but we will focus on offering to the buyer the best price we can for the home and in some communities we have in fact lower prices, as you know. But through that we price to the market and let the market dictate, and our sales rates are targeted in our strategy to what the market will give us so it's the price that the market will give us. We don't necessarily throw a bunch of incentives out in the marketplace. And I would say on average our prices are down as reflected in our average sales price going down.

Well, I mean, your average order price is -- by region is actually up sequentially for all of your four regions.

You have to be careful looking at order price by backing into it because it's a strange number at times.

Well, yes.

(inaudible) Michael, because in our backlog, there's a component that hasn't been to the studio yet and finalized, so you can't look at the backlog what closed, because what closes is fully loaded from the studio versus backlog where a third of it is still finalizing going forward.

Our average prices are just hovering right around $270,000, which is right at the average price for a retail home, and I'm sure with price pressure it's going to trend down a little bit.

The second question I have -- and thank you for that -- the second question I have is the transactions described with the 139 lots. If you could just tell us which market was that in and are you seeing aggravated levels of distress from some of the smaller home builders in other regions across the country? And where would you say the breaking point is for a material number of some of the less capitalized builders starting to exit the market?

The acquisition we outlined is in Colorado. The squeeze on the smaller and mid-size builders continues, Michael. These impairments that we're taking are -- in a different way also effect in the privates in that their property gets reappraised and the bank gives them a capital call and they don't have the cash for the capital call. So they are feeling the same pressures in a different way that we are and what we're finding is with the available credit that was out there over the last few year, you have small builders with a much larger lot pipeline than they would need for their business. So in effect they were land speculators or developers as well, and as things get tighter for them, we do see them offering up lots for sale to help them as they recapitalize and there are opportunities out there.

I have a question now from Timothy Jones, Wasserman & Associates.

Good morning.

Morning, Tim.

(inaudible) presentation. First question, I'm a little -- I was wondering, you only took $9 million of impairments in the first quarter and like $308 million in the second quarter and you had taken impairments several quarters ago before that. Why such a -- so few in the previous quarter and so much in this quarter? Why wasn't it more evened out?

Tim it's a quarterly review as we (inaudible) and what happened in the second quarter, we don't give color on our sales month to month, but we did see significant pressure on pricing and a lot of competitive moves in April and May that accelerated through the quarter that frankly didn't occur in the first quarter. So there was a lot more pressure on pricing coming out of the second quarter and that's what triggered the impairments.

Okay, thank you for that answer. And the second question, Hovnanian I think said that the last fiscal year subprime was about 12% of their business and then latest quarter it had decreased to 3%. Could you give me some kind of a similar number?

I think in our second quarter, Tim, it was about 6% of our business and it's going down very quickly.

Where would you say last year just as a guess what it was ?

16%.

So it went from 16% to 6% Thank you so much.

Mostly in the central region.

Really, not California?

No, central region.

Okay, thank you.

Moving on now to a question from Alex Barron at Agency Trading Group.

Thanks, guys. I wanted to focus a little bit on your impairments. Can you talk about how many communities you impaired this quarter and do you have a break down by region? And are any of these communities repeats from previous quarters? Thanks.

Well first of all, Alex, none are repeats -- no, shouldn't say none -- only a handful are repeats, and I think in this quarter it was about 42 communities that were impaired, about 11% of our community count. Last year was around 29 communities, about 7% were impaired.

Okay, and how about some kind of break down by region?

Over half was in California and the next largest portion was in the southeast, then a small amount in the -- less than 10% in the southeast -- I mean, in the southwest and in central.

okay, got it. And I guess the second question I wanted to ask is what are your use of the France proceeds? Is it mostly to pay down debt?

Well, I think there's two comments I'd like to make on it if I can just jump in. One is we've already generated $1 billion of cash and now we're going to generate another $1 billion in cash and I think where the market is the first wave will be to continue to reduce our debt. But we're looking at not just the French cash but the fact that we're going to have $1 billion in the next six months and we'll make the first decision to some reduce debt. The second decision will be made in the fourth quarter depending on what the market looks like on how much is share repurchase, invest in the business or our continued debt reduction.

Okay, and one last one. What's your headcount down from peak levels?

Over the last 12 months in excess of 30%.

Okay, thanks a lot.

Tony Campbell at Dorsett Management is next.

Hi, guys. I'm just trying -- most of the builders are saying the business got worse through the quarter. Has that been your experience? I'm just surprised that your can rates are stable because that's not what other folks have been reporting and I'm just a little confused there.

Yes. I can't speak to the other builders, Tony, but as I told Tim , we did see a lot of margin pressure in the latter half of the second quarter, which would suggest that the markets are getting tougher and there's still this big inventory overhang that has to clear so I think you'll see additional pressure going forward on pricing and margins. But it did get worse through the latter half of the

Thank you.

Next from Goldman Sachs, this is Keith Wiley.

Yes, thank you. You finished the quarter with about $2.8 billion of debt, gross debt, and I'm just trying to think as you collect over about $1 billion over the next six months of cash, could we assume -- or is it safe to assume maybe $500 million of that goes to reduce your gross debt levels or do you have a target for gross debt over the next six to 12 months?

That's probably not a bad number to start with, and again, I think how much goes to debt reduction will really depend for us on what we think the business looks like going into 2008. But clearly we've -- remember, we already took $800 million of debt out in the last 12 months and the next wave we'll continue to take debt down. But at this point we have nothing outstanding in our revolver and the only thing really left to reduce is you could take out your $400 million term loan and $300 million of 7.75% of subordinated debt and that's about it.

And then one follow-up question if I will on impairment. A lot of your inventories are -- a significant portion of your inventories would be land that you haven't started construction on. Is that stuff that you look at for impairments as well and do you have a forecast of revenues for land that you haven't even started to develop?

Of course we do the the [MA's] on all the land -- all the land that we own as well as that under development.

So are most of your impairments on the stuff that's closer to selling or is it pretty evenly distributed between the two or how do I think about that?

What do you think, Bill? How would you say it?

Well, again I would say just what you said is we look at everything. I don't think we distinguish between what's closer or what's farther. It's all evaluated and impairments are taken as needed.

We don't have a ton of raw land that we're just sitting on, so remember we only have a two-year supply so we have some of it already under development for the next two years.

Excellent, thank you.

Question now from [Joel Locker] at SBM Securities.

Hi, guys. Just wanted to get your dollars from your buyers total deposits against the $3.7 billion in backlog?

It varies around the Company, Joel, but on average it's between 2% and 3% of the price.

But you don't have a total number in capital of buyers deposits on hand right now?

I don't know what it is off the top of my head. I mean, it's not a huge number.

All right

And Bill'll look it up and see if he can find it for you.

Has that changed any year over year or is that pretty similar as a percentage?

Well the volume's down so I would say the percentage is similar. but it should be slightly up but the dollar amount's probably down just because volume's down 35% to 40%.

Right. And just the orders in the central region being down about 30%, what was --?

Community counts are down 35% in the central region.

All right, so --

It was community count driver.

On a community basis. And communities in the west, is that flattish from last year or is that --?

It's relatively flat year over year.

So that's pretty much the change in orders or the deviation --?

Our community counts and orders and traffic have all tracked fairly close in the last four or five quarters. What's swung has been net orders because of the swing in cancellation rates, which has now come back to normal levels.

Right. All right, thanks a lot. Then I'll --

You're welcome.

-- get the other [end] number from William.

We have a follow-up question now from Stephen Kim at Citigroup.

Hi, Stephen.

And again, Stephen, you may be muted, we can't hear you.

(inaudible) Okay, can you hear me now?

Yes.

There was a question regarding the percent share of subprime. I guess I was interested the share of FHA/VA. I think last year when we went and visited you, you had indicated that your share of VA had dropped from -- or FHA/VA had dropped from something like 50% to 3% by 2006. Can you give us a sense of where that is now, where it was in the most recent quarter?

Stephen, as we predicted on the last call, we're continuing to see an increase in FHA business. It was very minimal a year ago. In the second quarter, it was eight or 9% and heading here into the third quarter in our backlog it's about 15%.

Oh, great. And the second question I had relates to that. I think when we went and visited you again last year, you had indicated that at the time 60% or so of your communities were FHA qualified. Would you say that that percentage is about the same today or is it increased?

I think it's actually up a little bit from there, Stephen , closer to

Okay, great. That was my question. Thanks.

Thanks, Stephen.

Next another follow-up from Greg Gieber at A.G. Edwards.

My question's been largely answered. I just want to get a point, so what is your target debt to cap? At what point would it get down low enough that you use the money either to increase the dividend or buyback -- get aggressive in share buyback?

In the presentation that we just made, I said after the France transaction on a pro forma basis debt to total cap is at 41% and I think that's low enough.

So you're satisfied with 41%. because a lot of builders are down in the low 30s, so I just wanted to clarify that point. Any comments on your dividend policy?

It's not changing to my knowledge.

Are you going to continue to --?

It's usually reviewed with the board annually and that's usually at the end of the year and I'm sure we'll review it again.

Okay, thank you.

With that ladies and gentlemen, we will conclude the question-and-answer session. I'll hand things back over to our speakers for any additional or closing remarks.

Thank you. I'd like to thank all of you for joining us today for our second quarter 2007 earnings call and we look forward to talking to you again in the near future. Have a great day.

Thanks again for joining us, everyone. That concludes today's conference call. Again, have a good day.