Fitch Rates Hovnanian's $200MM Senior Unsecured Debt Issue 'BB+'

Business Wire, Nov 15, 2004

NEW YORK -- Fitch Ratings has assigned a 'BB ' rating to Hovnanian Enterprises, Inc.'s (NYSE:HOV) $200 million 6.25% senior unsecured notes due Jan. 15, 2015 and 'BB-' rating to Hovnanian's $100 million 6% senior subordinated notes due Jan. 15, 2010. The Rating Outlook is Stable. The $200 million issue will be ranked on a pari passu basis with all other senior unsecured debt, including Hovnanian's revolving and letter of credit facility. Proceeds from the new debt issues will be used to pay down bank debt in the short term and the balance will be used for general corporate purposes.

Ratings for Hovnanian are based on the company's successful execution of its business model, conservative land policies and geographic, price point and product line diversity. The company has been an active consolidator in the homebuilding industry which has led to above average growth during the past six years, but has kept debt levels somewhat higher than its peers. Management has also exhibited an ability to quickly and successfully integrate its acquisitions. In any case, now that the company has reached current scale there may be less use of acquisitions going forward and acquisitions are likely to be smaller relative to Hovnanian's current size.

Risk factors include the inherent (although somewhat tempered) cyclicality of the homebuilding industry. The ratings also manifest the company's aggressive, yet controlled growth strategy and Hovnanian's capitalization and size.

The company's EBITDA and EBIT to interest ratios tend to be modestly lower than the average public homebuilder, while inventory turnover tends to be moderately stronger. Hovnanian's leverage is somewhat higher and debt to EBITDA ratio is similar to the averages of its peers. Although the company has certainly benefited from the generally strong housing market of recent years, a degree of profit enhancement is also attributed to purchasing design and engineering, access to capital and other scale economies that have been captured by the large national and regional public homebuilders in relation to non-public builders. These economies, the company's presale operating strategy and a return on equity and assets orientation provide the framework to soften the margin impact of declining market conditions in comparison to previous cycles. Hovnanian's ratio of sales value of backlog to debt during the past few years has ranged between 1.2 times (x) to 2.2x and is currently 2.2x - a comfortable cushion.

Hovnanian employs quite conservative land and construction strategies. The company typically options or purchases land only after necessary entitlements have been obtained so that development or construction may begin as market conditions dictate. Hovnanian extensively uses lot options. The use of land option contracts without specific performance clauses gives the company the ability to renegotiate price/terms or void the option which limits down side risk in market downturns and provides the opportunity to hold land with minimal investment. At present 70.8% of its lots are controlled through options - a higher percentage than most public builders. Total lots, including those owned, were 91,897 at July 31, 2004. This represents a 6.3 year supply based on home deliveries in fiscal 2004. However, the company has one of the lowest owned lot positions in the industry, typically owning only a one to two year supply. An estimated 85%-90% of its homes are pre-sold. The balance are homes under construction or homes completed in advance of a customer's order.

Fitch estimates that in recent years at least half of Hovnanian's growth has resulted from a series of acquisitions (thirteen during the past six and a half years). The acquisitions have enabled the company to grow its position and increase market share, often broadening product and customer bases in existing markets. They have also enabled the company to enter new markets. The combinations typically were funded by debt and to a lesser degree by stock and retained earnings. At times there were earn-outs which reduced risk and served to retain key management. In the future Hovnanian's acquisition strategy will focus on purchasing smaller builders and land portfolios in current markets and on making selected acquisitions in new markets if there is a good strategic fit and appropriate returns can be achieved. The key analysis will be return on capital as to whether an acquisition will be executed. Fitch believes that management would balance debt and stock as acquisition currency to maintain current credit ratios. The company is publicly committed to maintaining an average net debt/equity ratio of 1.0:1.0.

Hovnanian maintains a $900 million revolving and letter of credit facility. The facility contains an accordion feature under which the aggregate commitment can be increased to $1 billion subject to the availability of additional commitments. As of July 31, 2004 the outstanding balance under the agreement was $215 million. Also, as of the end of the third quarter Hovnanian had issued $162.6 million of letters of credit which reduces cash available under the agreement. The revolving credit agreement matures in July 2008. The company has irregularly purchased moderate amounts of its stock in the past. About 2.1 million shares remain in the current Class A common stock repurchase authorization as of July 31, 2004.