Sept 20 - Fitch Ratings has assigned the following ratings to Hovnanian Enterprises, Inc.’s (NYSE: HOV) proposed notes offering:
--$550 million senior secured first-lien notes ‘B-/RR2’;
--$247 million senior secured second-lien notes ‘CC/RR6’;
--$90 million exchangeable note units ‘CC/RR6’.
A complete list of ratings follows at the end of this release.
Net proceeds from these offerings will be used to fund a tender offer and consent solicitation for any and all of HOV’s outstanding $797 million 10 5/8% senior secured notes due 2016. The consummation of the tender offer is conditioned upon the closing of the proposed offerings. However, the offerings will not be conditioned upon the closing of the tender offer. HOV expects to exercise its right to optionally redeem any and all of the existing 10 5/8% senior secured notes that are not purchased in the tender offer.
Fitch views these transactions positively as the company is able to further extend its debt maturities as well as lower its annual interest payments.
The rating for HOV is influenced by the company’s execution of its business model, land policies, and geographic, price point and product line diversity. The rating additionally reflects the company’s liquidity position, substantial debt and high leverage.
Builder and investor enthusiasm have for the most part surged so far in 2012. However, national housing metrics have not entirely kept pace. Year-over-year comparisons have been solidly positive on a consistent basis. Yet, month to month the national statistics (single-family starts, new home, and existing home sales) have been erratic and, at times, below expectations. In any case, year to date these housing metrics are well above 2011 levels. As Fitch has noted in the past, recovery will likely occur in fits and starts.
Fitch’s housing forecasts for 2012 have been raised since early spring but still assume only a moderate rise off a very low bottom. In a slowly growing economy with relatively similar distressed home sales competition, less competitive rental cost alternatives, and new home inventories at historically low levels, single-family housing starts should improve about 12%, while new home sales increase approximately 10.5% and existing home sales grow 5.6%. Further moderate improvement is forecast for 2013.
The company ended the July 2012 quarter with $219.3 million of unrestricted cash on the balance sheet and no major debt maturities until calendar 2014, when approximately $42 million of senior notes become due.
While the company currently has an adequate liquidity position, Fitch is somewhat concerned that the company is willing to operate with a cash target level of between $170 million and $245 million (including $48.1 million of restricted cash) to take advantage of land acquisition opportunities. Given that the company does not have a revolving credit facility, Fitch is concerned that this level of cash does not provide a large enough liquidity cushion in the event that the housing recovery dissipates. The absence of a bank credit facility also means a lack of bank oversight, which is a useful check on management’s appetite for risk.
Management has shown its ability to manage land and development spending. HOV spent roughly $236 million on land and development during the first nine months of 2012. This compares to $305 million of land and development spending during the first nine months of fiscal 2011.
HOV had negative cash flow from operations ($90.2 million) for the latest 12 months (LTM) ended July 31, 2012. For all of fiscal 2012, Fitch expects the company will be cash flow negative by $50 million to $75 million. Fitch also anticipates the company will be cash flow negative in fiscal 2013 as it continues to rebuild its land position. Fitch currently projects HOV’s unrestricted cash position will be between $150 million and $200 million by year-end 2013.
At July 31, 2012, the company controlled 29,261 lots (including unconsolidated joint ventures), of which 56.4% were owned and the remaining lots controlled through options and joint venture partnerships. Based on LTM closings, HOV controlled six years of land and owned roughly 3.4 years of land.
Future ratings and Outlooks will be influenced by broad housing-market trends as well as company specific activity, such as trends in land and development spending, general inventory levels, speculative inventory activity (including the impact of high cancellation rates on such activity), gross and net new order activity, debt levels and especially free cash flow trends and uses, and the company’s cash position.
HOV’s ratings are constrained in the intermediate term because of relatively high leverage metrics. However, positive rating action may be considered if the recovery in housing is significantly stronger than the agency’s current outlook, if the company’s operating and credit metrics are well above Fitch’s expectations for 2012 and 2013, and liquidity improves from current levels.
A negative rating action could be triggered if the industry recovery dissipates; HOV’s operating performance for this year is well below Fitch’s current forecast for revenues ($1.4 billion); and 2013 revenues drop mid-teens while the pretax loss approaches levels 2011 levels; and HOV’s liquidity position falls sharply, perhaps below $125 million.
Fitch currently rates HOV as follows:
--Long-term IDR ‘CCC’;
--Senior secured notes due 2021 ‘CCC-/RR5’;
--Senior unsecured notes ‘CC/RR6’;
--Series A perpetual preferred stock ‘C/RR6’.
Fitch’s Recovery Rating (RR) of ‘RR2’ on HOV’s senior secured first-lien notes indicates good recovery prospects for holders of these debt issues. The ‘RR5’ on the senior secured notes due 2021 indicates below-average recovery prospects in a default scenario. The ‘RR6’ on HOV’s senior secured second-lien notes, senior unsecured notes, senior subordinated notes and preferred stock indicates poor recovery prospects in a default scenario. HOV’s exposure to claims made pursuant to performance bonds and the possibility that part of these contingent liabilities would have a claim against the company’s assets were considered in determining the recovery for the unsecured debtholders. Fitch applied a liquidation value analysis for these RRs.