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NVR > SEC Filings for NVR > Form 10-Q on 1-Nov-2013All Recent SEC Filings

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Form 10-Q for NVR INC


1-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

(dollars in thousands)

Forward-Looking Statements

Some of the statements in this Form 10-Q, as well as statements made by us in periodic press releases or other public communications, constitute "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). Certain, but not necessarily all, of such forward-looking statements can be identified by the use of forward-looking terminology, such as "believes," "expects," "may," "will," "should," or "anticipates" or the negative thereof or other comparable terminology. All statements other than of historical facts are forward-looking statements. Forward-looking statements contained in this document may include those regarding market trends, NVR's financial position, business strategy, the outcome of pending litigation, investigations or similar contingencies, projected plans and objectives of management for future operations. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results or performance of NVR to be materially different from future results, performance or achievements expressed or implied by the forward-looking statements. Such risk factors include, but are not limited to the following: general economic and business conditions (on both a national and regional level), including the possibility of a U.S. Government shutdown or the failure of the U.S. Congress to raise the debt ceiling; interest rate changes; access to suitable financing by NVR and NVR's customers; increased regulation in the mortgage banking industry; the ability of our mortgage banking subsidiary to sell loans it originates into the secondary market; competition; the availability and cost of land and other raw materials used by NVR in its homebuilding operations; shortages of labor; weather related slow-downs; building moratoriums; governmental regulation; fluctuation and volatility of stock and other financial markets; mortgage financing availability; and other factors over which NVR has little or no control. NVR undertakes no obligation to update such forward-looking statements except as required by law. For additional information regarding risk factors, see Part II, Item 1A of this Form 10-Q and Part I, Item 1A of NVR's Form 10-K for the fiscal year ended December 31, 2012.

Unless the context otherwise requires, references to "NVR", "we", "us" or "our" include NVR and its consolidated subsidiaries.

Results of Operations for the Three and Nine Months Ended September 30, 2013 and 2012

Overview

Business

Our primary business is the sale and construction of single-family detached homes, townhomes and condominium buildings, all of which are primarily constructed on a pre-sold basis. To fully serve customers of our homebuilding operations, we also operate a mortgage banking and title services business. We primarily conduct our operations in mature markets. Additionally, we generally grow our business through market share gains in our existing markets and by expanding into markets contiguous to our current active markets. Our four homebuilding reportable segments consist of the following regions:

Mid Atlantic: Maryland, Virginia, West Virginia, Delaware and Washington, D.C.

North East: New Jersey and eastern Pennsylvania

Mid East: New York, Ohio, western Pennsylvania, Indiana and Illinois

South East: North Carolina, South Carolina, Tennessee and Florida

Our lot acquisition strategy is predicated upon avoiding the financial requirements and risks associated with direct land ownership and development. Historically, we have not engaged in land development to obtain finished lots for use in our homebuilding operations. Instead, we have acquired finished lots at market prices


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from various third party land developers pursuant to fixed price purchase agreements. These purchase agreements require deposits, typically ranging up to 10% of the aggregate purchase price of the finished lots, in the form of cash or letters of credit that may be forfeited if we fail to perform under the purchase agreement. This strategy has allowed us to maximize inventory turnover, which we believe enables us to minimize market risk and to operate with less capital, thereby enhancing rates of return on equity and total capital.

Our continued success is contingent upon our ability to control an adequate supply of finished lots on which to build, and on our developers' ability to timely deliver finished lots to meet the sales demands of our customers. However, during the past several years, the impact of economic conditions on the homebuilding industry have negatively impacted our developers' ability to obtain acquisition and development financing or to raise equity investments to finance land development activity, potentially constraining our supply of finished lots. This pressure has necessitated that in certain specific strategic circumstances we deviate from our historical lot acquisition strategy and engage in joint venture arrangements with land developers or directly acquire raw ground already zoned for its intended use for development. Once we acquire control of any raw ground, we will determine whether to sell the raw parcel to a developer and enter into a fixed price purchase agreement with the developer to purchase the finished lots, or whether we will hire a developer to develop the land on our behalf. While joint venture arrangements and direct land development activity are not our preferred method of acquiring finished building lots, we may enter into additional transactions in the future on a limited basis where there exists a compelling strategic or prudent financial reason to do so. We expect, however, to continue to acquire substantially all of our finished lot inventory using fixed price purchase agreements with forfeitable deposits.

As of September 30, 2013, we controlled approximately 56,000 lots under purchase agreements with deposits in cash and letters of credit totaling approximately $279,500 and $2,200, respectively. Included in the number of controlled lots are approximately 9,600 lots for which we have recorded a contract land deposit impairment reserve of approximately $61,000 as of September 30, 2013. In addition, we had an aggregate investment of approximately $85,400 in three joint venture limited liability corporations ("JVs"), expected to produce approximately 7,300 lots. Of the lots controlled by the JVs, approximately 2,700 were not under contract with us at September 30, 2013. Further, as of September 30, 2013, we directly owned five separate raw parcels of land, zoned for their intended use, with a current cost basis, including development costs, of approximately $59,400 that we intend to develop into approximately 800 finished lots for use in our homebuilding operations. See Notes 3 and 4 to the condensed consolidated financial statements included herein for additional information regarding JVs and land under development, respectively.

In addition to constructing homes primarily on a pre-sold basis and utilizing what we believe is a conservative lot acquisition strategy, we focus on obtaining and maintaining a leading market position in each market we serve. This strategy allows us to gain valuable efficiencies and competitive advantages in our markets, which we believe contributes to minimizing the adverse effects of regional economic cycles and provides growth opportunities within these markets.

Overview of Current Business Environment

During the third quarter of 2013, new orders, net of cancellations ("New Orders") slowed in part due to the increase in mortgage rates at the end of the second quarter of 2013, which reduced affordability. In addition, anticipated stimulus tapering by the Federal Reserve and the ongoing Federal government budget and debt ceiling negotiations have led to buyer uncertainty as to the direction of the market recovery. We believe this had a further negative impact on New Orders. The housing market also continues to face challenges from tight mortgage underwriting standards. While we have benefited from generally improved market conditions in prior quarters, we continue to face gross margin pressure due to increasing land and construction costs.

Our consolidated revenues for the third quarter of 2013 totaled $1,188,967, a 37% increase compared to the third quarter of 2012. Net income and diluted earnings per share in the current quarter were $82,935 and $17.67, respectively, increases of 56% and 71%, respectively, compared to the third quarter of 2012. The number of New Orders for the third quarter of 2013 decreased 7%, while the average sales price for New Orders increased 10%, compared to the third quarter of 2012. Our backlog of homes sold but not yet settled with customers at the end of the quarter was 14% higher on a unit basis and 24% higher on a dollar basis than the same period in 2012.


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We believe that the continuation of the housing market recovery which began in 2012 is dependent upon a sustained overall economic recovery. Due to the strength of our balance sheet, we believe that we are well positioned to take advantage of opportunities that may arise from future economic and homebuilding market volatility.

Homebuilding Operations

The following table summarizes the results of operations and other data for the
consolidated homebuilding operations:



                                            Three Months Ended                   Nine Months Ended
                                              September 30,                        September 30,
                                          2013              2012              2013               2012
Revenues                               $ 1,167,595        $ 854,396        $ 2,910,673        $ 2,195,881
Cost of sales                          $   964,416        $ 702,436        $ 2,422,789        $ 1,819,243
Gross profit margin percentage                17.4 %           17.8 %             16.8 %             17.2 %
Selling, general and
administrative expenses                $    78,897        $  76,553        $   239,430        $   222,483
Settlements (units)                          3,342            2,656              8,492              7,055
Average settlement price               $     349.2        $   321.7        $     342.7        $     311.2
New orders (units)                           2,381            2,558              9,169              8,329
Average new order price                $     367.9        $   334.7        $     355.9        $     325.2
Backlog (units)                                                                  5,656              4,950
Average backlog price                                                      $     367.3        $     338.3
New order cancellation rate                   19.1 %           16.6 %             15.0 %             14.2 %

Consolidated Homebuilding-Three Months Ended September 30, 2013 and 2012

Homebuilding revenues increased 37% for the third quarter of 2013 from the same period in 2012 primarily as a result of a 26% increase in the number of units settled and a 9% increase in the average settlement price. The increase in the number of units settled was primarily attributable to our beginning backlog units being approximately 31% higher entering the third quarter of 2013 as compared to the same period in 2012, offset partially by a lower backlog turnover rate quarter over quarter. Average settlement prices were favorably impacted by an 8% higher average price of homes in beginning backlog period over period.

Gross profit margin for the third quarter of 2013 decreased 39 basis points compared to the third quarter of 2012, primarily due to higher construction costs, including lumber and certain other commodity costs, quarter over quarter, offset partially by higher settlement volume in the current year quarter allowing us to better leverage our operating costs.

The number of New Orders for the third quarter of 2013 decreased 7%, while the average sales price of New Orders increased 10%, when compared to the third quarter of 2012. As noted in the Overview section above, New Orders were impacted by reduced affordability associated with rising mortgage interest rates. This also contributed to an increase in the cancellation rate and lower absorption rates quarter over quarter. We expect sales and pricing pressures to continue over the next several quarters due to reduced affordability associated with the higher mortgage rates and a general slowdown in the housing market. In addition, economic uncertainties, including uncertainties related to the anticipated stimulus tapering by the Federal Reserve and ongoing government budget and debt ceiling negotiations may negatively impact New Orders during the next several quarters.

Selling, general and administrative ("SG&A") expenses in the third quarter of 2013 increased approximately $2,300, or 3%, compared to the third quarter of 2012 but decreased as a percentage of revenue to 6.8% from 9.0% quarter over quarter. The increase in SG&A dollars was attributable primarily to higher sales and marketing costs due to an increase in the number of active communities quarter over quarter.


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Consolidated Homebuilding-Nine Months Ended September 30, 2013 and 2012

Homebuilding revenues increased 33% for the nine months ended September 30, 2013 compared to the same period in 2012 as a result of a 20% increase in the number of units settled and a 10% increase in the average settlement price. The increase in the number of units settled was primarily attributable to our beginning backlog units being approximately 35% higher entering 2013 compared to the same period in 2012, offset partially by a lower backlog turnover rate year over year. Average settlement prices were favorably impacted by a 10% higher average price of homes in beginning backlog period over period. In addition, both settlements and average settlement prices in 2013 were favorably impacted by the December 2012 Heartland Homes acquisition.

Gross profit margin in the first nine months of 2013 decreased 39 basis points compared to the first nine months of 2012. Gross profit margin in the current year was impacted by a charge of approximately $15,600, or 54 basis points of revenue, to establish an accrual during the second quarter of 2013 related to remediation of primarily water infiltration issues in a single community. The water infiltration issues were the result of a design issue with several products developed for and built exclusively in that one community. Build-out of that community has been completed. Excluding the charge, gross profit margin was 17.3%, an increase of 15 basis points from the prior year. Gross profit margin was favorably impacted by higher settlement volume in the current year allowing us to better leverage our operating costs, partially offset by higher construction costs, including lumber and certain other commodity costs, year over year. We expect to continue to experience gross profit margin pressure over the next several quarters, due to cost and pricing pressures.

The number of New Orders and the average sales price of New Orders for the first nine months of 2013 increased 10% and 9%, respectively, when compared to the first nine months of 2012. New Orders and average New Order sales prices were higher year over year in each of our market segments. The increase in New Orders was driven by an 11% increase in the number of active communities year over year. The Heartland Homes acquisition added approximately 280 New Orders in the current year. The favorable market conditions during the first half of 2013 allowed us to increase our number of active communities and pricing in many of our markets.

SG&A expenses in the first nine months of 2013 increased approximately $16,900 compared to the first nine months of 2012 but decreased as a percentage of revenue to 8.2% from 10.1% year over year. The increase in SG&A dollars was attributable to increases of approximately $19,900 and $2,000 in personnel and management incentive costs, respectively, in 2013 due to an increase in headcount year over year. In addition, sales and marketing costs were approximately $9,400 higher in 2013 due to the increase in the number of active communities. These cost increases were partially offset by an approximate $18,600 reduction in equity-based compensation in 2013 compared to 2012. Equity-based compensation was favorably impacted as a result of the RSUs issued in 2010 becoming fully vested as of December 31, 2012, offset partially by equity-based compensation expense incurred in 2013 related to RSUs issued in May 2013. The decrease in SG&A costs as a percentage of revenue was driven by increased revenue in the current year, allowing us to better leverage our overhead costs.


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Backlog units and dollars were 5,656 and $2,077,425, respectively, as of September 30, 2013 compared to 4,950 and $1,674,502, respectively, as of September 30, 2012. Backlog units were higher primarily due to our beginning backlog units being approximately 35% higher entering 2013 compared to the same period in 2012, coupled with the increase in New Orders and a lower backlog turnover rate in 2013. Backlog dollars were favorably impacted by the increase in backlog units and the 9% higher average New Order sales price during the second and third quarters of 2013 compared to the same period in the prior year.

Backlog, which represents homes sold but not yet settled with the customer, may be impacted by customer cancellations for various reasons that are beyond our control, such as failure to obtain mortgage financing, inability to sell an existing home, job loss, or a variety of other reasons. In any period, a portion of the cancellations that we experience are related to new sales that occurred during the same period, and a portion are related to sales that occurred in prior periods and therefore appeared in the opening backlog for the current period. Expressed as the total of all cancellations during the period as a percentage of gross sales during the period, our cancellation rate was approximately 15.0% and 14.2% in the first nine months of 2013 and 2012, respectively. During the most recent four quarters, approximately 6% of a reporting quarter's opening backlog cancelled during the fiscal quarter. We can provide no assurance that our historical cancellation rates are indicative of the actual cancellation rate that may occur in the remainder of 2013 or future years.

The backlog turnover rate is impacted by various factors, including, but not limited to, changes in New Order activity, internal production capacity, external subcontractor capacity and other external factors over which we do not exercise control.

Reportable Segments

Homebuilding profit before tax includes all revenues and income generated from the sale of homes, less the cost of homes sold, SG&A expenses, and a corporate capital allocation charge determined at the corporate headquarters. The corporate capital allocation charge eliminates in consolidation, is based on the segment's average net assets employed, and is charged using a consistent methodology in the periods presented. The corporate capital allocation charged to the operating segment allows the Chief Operating Decision Maker to determine whether the operating segment's results are providing the desired rate of return after covering our cost of capital. We record charges on contract land deposits when we determine that it is probable that recovery of the deposit is impaired. For segment reporting purposes, impairments on contract land deposits are generally charged to the operating segment upon the determination to terminate a finished lot purchase agreement with the developer or to restructure a lot purchase agreement resulting in the forfeiture of the deposit. We evaluate our entire net contract land deposit portfolio for impairment each quarter. For additional information regarding our contract land deposit impairment analysis, see the Critical Accounting Policies section within this Management Discussion and Analysis. For presentation purposes below, the contract land deposit reserve at September 30, 2013 and 2012 has been allocated to the respective year's reportable segments to show contract land deposits on a net basis. The net contract land deposit balances below also include $2,200 and $2,800 at September 30, 2013 and 2012, respectively, of letters of credit issued as deposits in lieu of cash. The following tables summarize certain homebuilding operating activity by segment for the three and nine months ended September 30, 2013 and 2012:


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Selected Segment Financial Data:



                                     Three Months Ended              Nine Months Ended
                                       September 30,                   September 30,
                                    2013           2012            2013             2012
Revenues:
Mid Atlantic                      $ 685,822      $ 509,487      $ 1,712,592      $ 1,324,802
North East                           88,451         80,525          233,322          203,926
Mid East                            266,598        174,645          650,817          432,948
South East                          126,724         89,739          313,942          234,205
Gross profit margin:
Mid Atlantic                      $ 140,683      $  95,774      $   312,788      $   242,782
North East                           16,255         15,211           40,811           36,070
Mid East                             44,608         30,172           96,763           70,159
South East                           22,406         14,814           51,085           38,908
Segment profit:
Mid Atlantic                      $  92,496      $  56,763      $   177,762      $   130,428
North East                            8,031          8,383           18,114           16,476
Mid East                             21,823         13,652           33,058           24,256
South East                           11,529          5,555           20,277           13,839
Gross profit margin percentage:
Mid Atlantic                           20.5 %         18.8 %           18.3 %           18.3 %
North East                             18.4 %         18.9 %           17.5 %           17.7 %
Mid East                               16.7 %         17.3 %           14.9 %           16.2 %
South East                             17.7 %         16.5 %           16.3 %           16.6 %

Segment Operating Activity:



                     Three Months Ended September 30,                  Nine Months Ended September 30,
                 2013         2012        2013        2012         2013        2012        2013        2012
                       Units                Average Price               Units                Average Price
Settlements:
Mid Atlantic       1,700       1,339     $ 403.2     $ 380.5        4,331       3,620     $ 395.3     $ 365.9
North East           264         249     $ 335.0     $ 323.4          714         665     $ 326.8     $ 306.7
Mid East             890         682     $ 299.5     $ 256.0        2,205       1,739     $ 295.1     $ 248.9
South East           488         386     $ 259.6     $ 232.5        1,242       1,031     $ 252.7     $ 227.0

Total              3,342       2,656     $ 349.2     $ 321.7        8,492       7,055     $ 342.7     $ 311.2

New orders, net of cancellations:
Mid Atlantic       1,224       1,355     $ 420.8     $ 391.5        4,611       4,339     $ 412.8     $ 379.3
North East           265         217     $ 333.7     $ 326.2          832         712     $ 331.2     $ 327.2
Mid East             543         576     $ 321.0     $ 267.3        2,325       2,051     $ 306.9     $ 261.0
South East           349         410     $ 281.2     $ 246.2        1,401       1,227     $ 264.8     $ 240.2

Total              2,381       2,558     $ 367.9     $ 334.7        9,169       8,329     $ 355.9     $ 325.2


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                                             As of September 30,
                                  2013        2012        2013        2012
                                        Units               Average Price
                  Backlog:
                  Mid Atlantic     2,963       2,692     $ 421.6     $ 390.7
                  North East         551         423     $ 336.2     $ 338.1
                  Mid East         1,272       1,119     $ 319.0     $ 268.8
                  South East         870         716     $ 272.7     $ 250.0

                  Total            5,656       4,950     $ 367.3     $ 338.3

                                      Three Months Ended           Nine Months Ended
                                         September 30,               September 30,
                                      2013            2012         2013           2012
     New order cancellation rate:
     Mid Atlantic                        19.5 %        16.5 %         15.0 %       13.1 %
     North East                          17.2 %        19.9 %         15.5 %       17.3 %
     Mid East                            15.4 %        17.0 %         13.4 %       14.4 %
     South East                          24.1 %        14.2 %         17.3 %       15.7 %

     Average active communities:
     Mid Atlantic                         224           204            216          196
     North East                            42            40             39           39
     Mid East                             121           103            126          104
     South East                            66            65             66           62

     Total                                453           412            447          401

Segment Homebuilding Inventory:



                                                      As of September 30,
                                                       2013          2012
         Sold inventory:
         Mid Atlantic                               $  462,590     $ 353,926
         North East                                     68,608        44,655
         Mid East                                      140,248        94,213
         South East                                     77,598        54,144

         Total (1)                                  $  749,044     $ 546,938

         Unsold lots and housing units inventory:
         Mid Atlantic                               $   61,964     $  43,524
         North East                                      3,981         2,724
         Mid East                                        9,657         8,914
         South East                                      9,071        10,318

         Total (1)                                  $   84,673     $  65,480

(1) The reconciling items between segment inventory and consolidated inventory include certain consolidation adjustments necessary to convert the reportable . . .

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