Item 7. Management’s Discussion and Analysis
ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Overview
We experienced strong demand for our products throughout 2021 as new orders increased 8% in units and 28% in dollars over the prior year. New order growth was uneven through the year as 2021 volume reflected our traditional seasonal patterns of higher orders in the first half of the year as part of the spring selling season while 2020 experienced significant volatility resulting from the onset of the COVID-19 pandemic, which severely impacted sales in the first half of 2020 but then contributed to a sharp increase in demand in the second half of 2020. The favorable demand for new housing has been driven by mortgage interest rates near historical lows, a limited supply of new and existing home inventory, an increased appeal for homeownership and single-family living, and a desire among some buyers to exit more densely populated urban centers or to relocate from higher cost geographical regions.
Home closings increased 17% in 2021 compared with the prior year. The higher closing volume occurred in the face of significant disruption in the homebuilding supply chain, including the availability of certain materials and construction labor combined with delays in municipal approvals and inspections, which has elongated the production cycle of the homes we are constructing. While we are working with our supply partners, have increased our speculative housing starts, and have hired additional construction and customer service employees, our production cycle times have extended in substantially all of our markets due to the challenges referenced above. Due to these supply chain challenges, we are moderating lot releases and the pace of new orders in the majority of our communities in order to balance sales volume and production capacity to reduce backlog durations. We believe these conditions will continue to impact our industry for at least the next few quarters.
We are also facing cost pressures related to labor and materials, due in large part to a shortage of workers and supply chain challenges resulting from ongoing effects of the COVID-19 pandemic and other macroeconomic factors. Specifically, the cost of lumber more than quadrupled from mid-2020 to mid-2021. While the cost of lumber declined significantly since peaking in May 2021, it increased again in late 2021 and remains elevated compared to historical norms. Additionally, the availability of certain wood products, including roof and floor trusses and oriented strand boards, remains challenged. We also continue to experience significant challenges with the cost and availability of windows, siding, and appliances, among other supply categories. To date, we have been, and believe we will continue to be, able to increase pricing to offset the majority of such cost increases due to ongoing high consumer demand.
Despite the development of vaccines and more effective treatments for the physical impacts of COVID-19, there are no reliable estimates of how long the COVID-19 pandemic, or its related impacts on overall economic conditions or the global supply chain, will last. As a result, the unpredictability of the current economic and public health conditions will continue to evolve. However, all of our operations continue to function at effectively full capacity subject to health and safety protocols, and we remain optimistic about future housing demand and our ability to continue expanding our business. Due to the higher demand and long municipal entitlement timelines, the number of our average active communities declined 9% in 2021 compared to 2020 as we closed-out communities at a pace faster than we were opening new ones. In response, we have increased our investments in land acquisition and development, and we expect the number of our active communities to increase meaningfully in 2022. Also, while mortgage interest rates have recently increased, they remain low relative to historical levels, and supplies of new and existing home inventory remain low. Combined with an improving macroeconomic environment, overall demand for new housing remained robust at the end of 2021 as evidenced by our significantly higher order backlog, which increased 19% in units and 45% in dollars as of December 31, 2021 over the prior year. However, future economic conditions and the demand for homes are subject to continued uncertainty due to many factors, including the recent increase in mortgage interest rates, higher inflation, ongoing disruptions from supply chain challenges and labor shortages, the ongoing impact of the COVID-19 pandemic and government directives, and other factors. While we believe the demand for new housing will remain strong through 2022, our past performance may not be indicative of future results.
The following tables and related discussion set forth key operating and financial data for our Homebuilding and Financial Services operations as of and for the fiscal years ended December 31, 2021 and 2020. For similar operating and financial data and discussion of our fiscal 2020 results compared to our fiscal 2019 results, refer to Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” under Part II of our annual report on Form 10-K for the fiscal year ended December 31, 2020, which was filed with the SEC on February 2, 2021.
21
The following is a summary of our operating results by line of business ($000's omitted, except per share data):
Years Ended December 31,
2021 2020
Income before income taxes:
Homebuilding $ 2,288,128 $ 1,542,057
Financial Services 221,717 186,637
Income before income taxes 2,509,845 1,728,694
Income tax expense (563,525) (321,855)
Net income $ 1,946,320 $ 1,406,839
Per share data - assuming dilution:
Net income $ 7.43 $ 5.18
• Homebuilding income before income taxes increased 48% in 2021, primarily as the result of higher revenues and gross margins and improved overhead management. Homebuilding results also included insurance reserve reversals of $81.1 million and $93.4 million in 2021 and 2020, respectively, partially offset by reserves against insurance receivables of $17.8 million in 2020 (see Note 11 ) and a goodwill impairment charge of $20.2 million in 2020 (see Note 1 ).
• Financial Services income before income taxes increased in 2021 compared with 2020 resulting from higher volumes, partially offset by lower revenue per loan. The prior year also included $26.4 million of mortgage repurchase reserve charges (see Note 11 ).
• Our effective income tax rate was 22.5% and 18.6% for 2021 and 2020, respectively. The lower effective tax rate in 2020 resulted primarily from a benefit for federal energy efficient homes credits related to homes closed in prior years (see Note 8 ).
22
Homebuilding Operations
The following is a summary of income before income taxes for our Homebuilding operations ($000’s omitted):
Years Ended December 31,
2021 FY 2021 vs. FY 2020 2020
Home sale revenues $ 13,376,812 26 % $ 10,579,896
Land sale and other revenues 160,538 71 % 94,017
Total Homebuilding revenues 13,537,350 27 % 10,673,913
Home sale cost of revenues (a)
(9,841,961) 23 % (8,004,823)
Land sale and other cost of revenues (134,013) 73 % (77,626)
Selling, general, and administrative expenses ("SG&A") (b)
(1,208,698) 20 % (1,011,442)
Loss on debt retirement (61,469) (c) —
Goodwill impairment — (c) (20,190)
Other expense, net (d)
(3,081) (83) % (17,775)
Income before income taxes $ 2,288,128 48 % $ 1,542,057
Supplemental data:
Gross margin from home sales (a)
26.4 % 24.3 %
SG&A % of home sale revenues (b)
9.0 % 9.6 %
Closings (units) 28,894 17 % 24,624
Average selling price $ 463 8 % $ 430
Net new orders:
Units 31,739 8 % 29,275
Dollars $ 16,442,441 28 % $ 12,837,272
Cancellation rate 9 % 14 %
Average active communities 799 (9) % 874
Backlog at December 31:
Units 18,003 19 % 15,158
Dollars $ 9,858,811 45 % $ 6,793,182
(a) Includes the amortization of capitalized interest.
(b) Includes insurance reserve reversals of $81.1 million and $93.4 million in 2021 and 2020, respectively, partially offset by reserves against insurance receivables of $17.8 million in 2020 (see Note 11 ).
(c) Percentage not meaningful.
(d) See "Other expense, net" for a table summarizing significant items (see Note 1 ).
23
Home sale revenues
Home sale revenues for 2021 were higher than 2020 by $2.8 billion, or 26%. The increase was attributable to a 17% increase in closings combined with an 8% increase in average selling price. The increase in closings was primarily the result of favorable demand conditions and occurred in substantially all of our geographic markets. Beginning in March 2020, the COVID-19 pandemic began to unfavorably impact the demand environment. However, demand improved significantly beginning in June 2020 and has remained favorable. The higher average selling price reflects the impact of pricing actions taken in response to the higher demand as well as increased input costs, partially offset by a small increase in the mix of first-time buyer homes, which typically carry a lower sales price.
Home sale gross margins
Home sale gross margins were 26.4% in 2021, compared with 24.3% in 2020. Gross margins remained strong in both 2021 and 2020 relative to historical levels and reflect a combination of factors, including: strong consumer demand, the low mortgage interest rate environment, and limited supplies of new and existing housing inventory. As a result, the pricing environment remains strong, which has allowed us to effectively manage pressure in house and land costs through pricing actions. While costs remain elevated, we have been able to more than offset these cost increases through price increases. Additionally, while speculative home sales (homes started prior to receipt of a customer order) remain the minority of our operations, the current environment is providing opportunities for additional pricing and relative margin gains related to such homes.
Land sale and other revenues
We periodically elect to sell parcels of land to third parties in the event such assets no longer fit into our strategic operating plans or are zoned for commercial or other development. Land sale and other revenues and their related gains or losses vary between periods, depending on the timing of land sales and our strategic operating decisions. Land sales and other revenues contributed income of $26.5 million and $16.4 million in 2021 and 2020, respectively. Income in 2021 included a gain of $12.9 million related to a land sale transaction in California that had been in the entitlement process for a number of years.
SG&A
SG&A as a percentage of home sale revenues was 9.0% and 9.6% in 2021 and 2020, respectively. The dollar amount of our SG&A increased $197.3 million, or 20%, in 2021 compared with 2020. This increase resulted primarily from higher sales commissions expense and other variable costs due to the higher production volume. The improvement in SG&A as a percentage of home sale revenues is primarily attributable to leverage gained from the higher revenues. This overhead leverage was partially offset in 2021 by higher headcount to support the increased production volume as well as higher performance-based compensation accruals due to the Company's strong operating results. These results also reflect insurance reserve reversals of $81.1 million and $93.4 million in 2021 and 2020, respectively, partially offset by reserves against insurance receivables of $17.8 million in 2020. The 2020 SG&A expense also reflects severance costs of $10.3 million recorded in the second quarter of 2020 as we took actions to reduce overhead expenses due to the disruption caused by the early stages of the COVID-19 pandemic.
Goodwill impairment
As a result of the significant decline in equity market valuations that occurred during the period between our acquisition of Innovative Construction Group ("ICG") in January 2020 and March 31, 2020, we determined that an event-driven goodwill impairment test was appropriate for the ICG goodwill, which resulted in an impairment totaling $20.2 million in the first quarter of 2020. This impairment was not the result of any unique factors specific to ICG's operations but, rather, reflected the broad-based declines in the market capitalizations of publicly-traded construction companies in the short period of time between the acquisition and the March 31, 2020 valuation date.
24
Other expense, net
Other expense, net includes the following ($000’s omitted):
2021 2020
Write-offs of deposits and pre-acquisition costs (Note 2)
$ (12,283) $ (12,390)
Amortization of intangible assets (Note 1)
(16,502) (19,685)
Interest income 1,953 6,837
Interest expense (502) (4,248)
Equity in earnings of unconsolidated entities ( Note 4 )
17,199 1,880
Miscellaneous, net 7,054 9,831
Total other expense, net $ (3,081) $ (17,775)
Equity in earnings of unconsolidated entities reflects our share of earnings from joint ventures and other investments with independent third parties and varies between periods based on the performance of the underlying investments.
Net new orders
Net new orders in units increased 8% in 2021 compared with 2020 while net new orders in dollars increased by 28% compared with 2020. The net new order volume in 2021 reflects favorable demand conditions partially offset by a lower community count, as more fully discussed above. The annual cancellation rate (canceled orders for the period divided by gross new orders for the period) was a historically-low 9% in 2021 compared to 14% in 2020. Ending backlog dollars, which represents orders for homes that have not yet closed, increased 45% in 2021 compared with 2020 as the result of the higher new orders coupled with elongated cycle times due to supply chain delays for certain materials and labor and obtaining necessary approvals, permits, and inspections from local municipalities.
Homes in production
The following is a summary of our homes in production at December 31, 2021 and 2020:
2021 2020
Sold 14,228 10,421
Unsold
Under construction 4,105 1,694
Completed 90 255
4,195 1,949
Models 1,275 1,287
Total 19,698 13,657
The number of homes in production at December 31, 2021 was 44% higher compared to December 31, 2020. The increase in homes under production is the result of the significant increase in demand, coupled with elongated cycle times due to supply chain delays for certain materials and labor and obtaining necessary approvals, permits, and inspections from local municipalities. The higher level of unsold homes, or speculative homes, under construction reflects a strategic decision to increase our housing starts of speculative units in response to the noted supply chain challenges and to meet demand. The lower unsold completed inventory is near historical lows for our company and reflects our ability to sell these speculative units given the strong demand environment.
25
Controlled lots
The following is a summary of our lots under control at December 31, 2021 and 2020:
December 31, 2021 December 31, 2020
Owned Optioned Controlled Owned Optioned Controlled
Northeast 4,422 7,637 12,059 4,956 4,001 8,957
Southeast 15,604 28,887 44,491 15,051 18,248 33,299
Florida 27,654 32,240 59,894 20,737 24,396 45,133
Midwest 11,723 17,118 28,841 9,728 14,734 24,462
Texas 20,538 21,235 41,773 15,923 17,841 33,764
West 29,137 12,101 41,238 24,968 9,769 34,737
Total 109,078 119,218 228,296 91,363 88,989 180,352
48 % 52 % 100 % 51 % 49 % 100 %
Developed (%) 38 % 13 % 25 % 43 % 16 % 30 %
While competition for well-positioned land is robust, we continue to pursue land investments that we believe can achieve appropriate risk-adjusted returns on invested capital and have increased our controlled lot count as the result of the strong demand environment. Additionally, we continue to seek to increase the percentage of our lots that are controlled via land option agreement. Such contracts enable us to defer acquiring portions of properties owned by third parties or unconsolidated entities until we have determined whether and when to exercise our option, which reduces our financial risks associated with long-term land holdings. The remaining purchase price under our land option agreements totaled $5.5 billion at December 31, 2021.
Homebuilding Segment Operations
Our homebuilding operations represent our core business. Homebuilding offers a broad product line to meet the needs of homebuyers in our targeted markets. As of December 31, 2021, we conducted our operations in 41 markets located throughout 24 states. For reporting purposes, our Homebuilding operations are aggregated into six reportable segments:
Northeast: Connecticut, Maryland, Massachusetts, New Jersey, Pennsylvania, Virginia
Southeast: Georgia, North Carolina, South Carolina, Tennessee
Florida: Florida
Midwest: Illinois, Indiana, Kentucky, Michigan, Minnesota, Ohio
Texas: Texas
West: Arizona, California, Colorado, Nevada, New Mexico, Washington
We also have a reportable segment for our financial services operations, which consist principally of mortgage banking, title, and insurance brokerage operations. The Financial Services segment operates generally in the same markets as the Homebuilding segments.
26
The following table presents selected financial information for our reportable Homebuilding segments:
Operating Data by Segment ($000's omitted)
Years Ended December 31,
2021 FY 2021 vs. FY 2020 2020
Home sale revenues:
Northeast $ 1,127,182 33 % $ 845,853
Southeast 2,231,002 32 % 1,687,139
Florida 3,040,360 34 % 2,274,113
Midwest 1,971,593 31 % 1,507,450
Texas 1,800,767 24 % 1,447,715
West 3,205,908 14 % 2,817,626
$ 13,376,812 26 % $ 10,579,896
Income before income taxes (a) :
Northeast $ 215,193 57 % $ 136,985
Southeast 417,880 61 % 258,794
Florida (b)
585,680 62 % 362,276
Midwest 285,825 34 % 213,017
Texas 322,979 33 % 242,383
West 594,976 40 % 424,803
Other homebuilding (c)
(134,405) (40) % (96,201)
$ 2,288,128 48 % $ 1,542,057
Closings (units):
Northeast 1,963 29 % 1,522
Southeast 4,956 21 % 4,108
Florida 6,640 21 % 5,496
Midwest 4,397 24 % 3,553
Texas 5,617 18 % 4,747
West 5,321 2 % 5,198
28,894 17 % $ 24,624
Average selling price:
Northeast $ 574 3 % $ 556
Southeast 450 9 % 411
Florida 458 11 % 414
Midwest 448 6 % 424
Texas 321 5 % 305
West 603 11 % 542
$ 463 8 % $ 430
(a) Includes land-related charges as summarized in the following land-related charges table (see Notes 2 and 3 ).
(b) Includes goodwill impairment charge of $20.2 million in 2020 (see Note 1 ).
(c) Other homebuilding includes the amortization of intangible assets, amortization of capitalized interest, and other items not allocated to the operating segments. Also includes: insurance reserve reversals of $81.1 million and $93.4 million in 2021 and 2020, respectively, partially offset by reserves against insurance receivables of $17.8 million in 2020 (see Note 11 ) and a loss on debt retirement of $61.5 million in 2021 (see Note 5 ).
27
The following table presents additional selected financial information for our reportable Homebuilding segments:
Operating Data by Segment ($000's omitted)
Years Ended December 31,
2021 FY 2021 vs. FY 2020 2020
Net new orders - units:
Northeast 1,798 (5) % 1,886
Southeast 5,092 11 % 4,583
Florida 8,416 23 % 6,844
Midwest 4,886 16 % 4,212
Texas 5,663 (5) % 5,950
West 5,884 1 % 5,800
31,739 8 % 29,275
Net new orders - dollars:
Northeast $ 1,077,091 2 % $ 1,059,479
Southeast 2,562,954 32 % 1,934,579
Florida 4,470,326 53 % 2,923,718
Midwest 2,329,112 26 % 1,846,109
Texas 2,121,278 15 % 1,837,939
West 3,881,680 20 % 3,235,448
$ 16,442,441 28 % $ 12,837,272
Cancellation rates:
Northeast 7 % 10 %
Southeast 6 % 10 %
Florida 8 % 13 %
Midwest 7 % 11 %
Texas 13 % 18 %
West 11 % 18 %
9 % 14 %
Unit backlog:
Northeast 788 (17) % 953
Southeast 2,476 6 % 2,340
Florida 5,430 49 % 3,654
Midwest 2,688 22 % 2,199
Texas 3,099 2 % 3,053
West 3,522 19 % 2,959
18,003 19 % 15,158
Backlog dollars:
Northeast $ 511,231 (9) % $ 561,323
Southeast 1,362,863 32 % 1,030,910
Florida 3,057,832 88 % 1,627,865
Midwest 1,348,155 36 % 990,635
Texas 1,301,602 33 % 981,091
West 2,277,128 42 % 1,601,358
$ 9,858,811 45 % $ 6,793,182
28
The following table presents additional selected financial information for our reportable Homebuilding segments:
Operating Data by Segment ($000's omitted)
Years Ended December 31,
2021 2020
Land-related charges*:
Northeast $ 1,433 $ 5,301
Southeast 5,365 3,815
Florida 1,088 1,395
Midwest 2,150 2,390
Texas 1,357 4,588
West 909 1,936
Other homebuilding — 880
$ 12,302 $ 20,305
* Land-related charges include land impairments, net realizable value adjustments for land held for sale, and write-offs of deposits and pre-acquisition costs. Other homebuilding consists primarily of write-offs of capitalized interest resulting from land-related charges. See Notes 2 and 3 to the Consolidated Financial Statements for additional discussion of these charges.
Northeast:
For 2021, Northeast home sale revenues increased 33% compared with 2020 due to a 29% increase in closings combined with a 3% increase in average selling price. The increase in closings occurred across all markets while the increase in average selling price occurred across the majority of markets. Income before income taxes increased 57% primarily due to increased revenues, as well as improved gross margins and overhead management which occurred across all markets. Net new orders decreased, which was primarily attributable to Mid-Atlantic.
Southeast:
For 2021, Southeast home sale revenues increased 32% compared with 2020 due to a 21% increase in closings combined with a 9% increase in average selling price. The increase in closings and average selling price occurred across all markets. Income before income taxes increased 61% primarily due to increased revenues, as well as improved gross margins which occurred across all markets, and improved overhead management which occurred across the majority of markets. Net new orders increased across the majority of markets.
Florida:
For 2021, Florida home sale revenues increased 34% compared with 2020 due to a 21% increase in closings combined with an 11% increase in average selling price. The increase in closings and average selling price occurred across all markets. Income before income taxes increased 62% due to increased revenues, as well as improved gross margins which occurred across all markets, and improved overhead management which occurred across the majority of markets. Florida's income before income taxes also includes a goodwill impairment charge of $20.2 million in 2020 (see Note 1 ). Net new orders increased across all markets.
Midwest:
For 2021, Midwest home sale revenues increased 31% compared with 2020 due to a 24% increase in closings combined with a 6% increase in average selling price. The increase in closings occurred across all markets while the increase in average selling price occurred across the majority of markets. Income before income taxes increased 34% primarily due to increased revenues, as well as improved gross margins and overhead management which occurred across all markets. Net new orders increased across all markets.
29
Texas:
For 2021, Texas home sale revenues increased 24% compared with 2020 due to an 18% increase in closings combined with a 5% increase in the average selling price. The increase in closings and average selling price occurred in all markets. Income before income taxes increased 33% primarily due to increased revenues, as well as improved gross margins which occurred across all markets, and improved overhead management which occurred across the majority of markets. Net new orders decreased across the majority of markets.
West:
For 2021, West home sale revenues increased 14% compared with 2020 period due to a 2% increase in closings combined with an 11% increase in the average selling price. The increase in closings was mixed among markets while the increase in average selling price occurred across all markets. Income before income taxes increased 40% primarily due to increased revenues, as well as improved gross margins and overhead management, which occurred across the majority of markets. In addition, 2021 results include a gain of $12.9 million related to a land sale transaction in California that had been in the entitlement process for a number of years. The increase in net new orders was mixed among markets.
Financial Services Operations
We conduct our Financial Services operations, which include mortgage banking, title, and insurance brokerage operations, through Pulte Mortgage and other subsidiaries. In originating mortgage loans, we initially use our own funds, including funds available pursuant to credit agreements with third parties. Substantially all of the loans we originate are sold in the secondary market within a short period of time after origination, generally within 30 days. We also sell the servicing rights for the loans we originate through fixed price servicing sales contracts to reduce the risks and costs inherent in servicing loans. This strategy results in owning the loans and related servicing rights for only a short period of time. Operating as a captive business model primarily targeted to supporting our Homebuilding operations, the business levels of our Financial Services operations are highly correlated to Homebuilding. Our Homebuilding customers continue to account for substantially all loan production. We believe that our capture rate, which represents loan originations from our Homebuilding operations as a percentage of total loan opportunities from our Homebuilding operations, excluding cash closings, is an important metric in evaluating the effectiveness of our captive mortgage business model. The following tables present selected financial information for our Financial Services operations ($000’s omitted):
Years Ended December 31,
2021 FY 2021 vs. FY 2020 2020
Mortgage revenues $ 304,287 4 % $ 293,099
Title services revenues 70,084 23 % 57,023
Insurance brokerage commissions 15,161 26 % 12,047
Total Financial Services revenues 389,532 8 % 362,169
Expenses (168,486) (4) % (175,481)
Other income (expense), net 671 (a) (51)
Income before income taxes $ 221,717 19 % $ 186,637
Total originations:
Loans 21,213 15 % 18,433
Principal $ 7,454,108 23 % $ 6,075,132
(a) Percentage not meaningful
30
Years Ended December 31,
2021 2020
Supplemental data:
Capture rate 85.8 % 86.4 %
Average FICO score 751 751
Funded origination breakdown:
Government (FHA, VA, USDA) 19 % 21 %
Other agency 73 % 71 %
Total agency 92 % 92 %
Non-agency 8 % 8 %
Total funded originations 100 % 100 %
Revenues
Total Financial Services revenues during 2021 increased 8% compared with 2020. The increase occurred as the result of increased homebuilding volumes, partially offset by lower capture rates and margins per loan. Mortgage interest rates were at or near historically low levels during 2020, which resulted in a refinancing boom that created a very favorable competitive environment for new originations. However, the demand for refinancing within the mortgage industry waned in 2021 as mortgage interest rates began to rise, which led to an increase in competition among lenders and lower margins per loan.
Income before income taxes
The increase in income before income taxes for 2021 as compared with 2020 was due primarily to higher volume, partially offset by lower margins per loan. Additionally, we incurred $26.4 million of mortgage repurchase reserve charges in 2020 (see Note 11 ).
Income Taxes
Our effective income tax rate was 22.5% and 18.6% for 2021 and 2020, respectively. The lower effective income tax rate in 2020 resulted primarily from the extension of federal energy efficient home credits related to homes closed in prior years. Both 2021 and 2020 also included benefits related to the reversals of valuation allowances against state net operating loss carryforwards. See Note 8 .
Liquidity and Capital Resources
We finance our land acquisition, development, and construction activities and financial services operations using internally-generated funds, supplemented by credit arrangements with third parties and capital market financing. We routinely monitor current and expected operational requirements and financial market conditions to evaluate accessing available financing sources, including revolving bank credit and securities offerings.
At December 31, 2021, we had unrestricted cash and equivalents of $1.8 billion, restricted cash balances of $54.5 million, and $701.2 million available under our Revolving Credit Facility. We follow a diversified investment approach for our cash and equivalents by maintaining such funds with a broad portfolio of banks within our group of relationship banks in high quality, highly liquid, short-term deposits and investments. Our ratio of debt-to-total capitalization, excluding our Financial Services debt, was 21.3% at December 31, 2021.
For the next twelve months, we expect our principal demand for funds will be for the acquisition and development of land inventory, construction of house inventory, and operating expenses, including our general and administrative expenses. Additionally, we plan to continue our dividend payments and repurchases of common stock. Beyond the next twelve months, we will need to repay or refinance our long-term debt, the next tranche of which becomes due in 2026.
We believe that our current cash position and other available financing resources, coupled with our ongoing operating activities, will provide sufficient liquidity to fund our business needs over the next twelve months and beyond. To the extent the sources
31
of capital described above are insufficient to meet our needs, we may also conduct additional public offerings of our securities, refinance debt, dispose of certain assets to fund our operating activities, or draw on existing or new debt facilities.
Unsecured senior notes
At December 31, 2021, we had $2.0 billion of unsecured senior notes outstanding with no repayments due until March 2026 when $500.0 million of notes are scheduled to mature.
During 2021, we retired $426.0 million of senior notes at their scheduled maturity date and also accelerated the retirement of $200.0 million and $100.0 million of our unsecured notes scheduled to mature in 2026 and 2027, respectively, through a cash tender offer. The tender offer resulted in a loss of $61.5 million, which includes the write-off of debt issuance costs, unamortized discounts and premiums, and transaction fees.
Other notes payable
Certain of our local homebuilding operations are party to non-recourse and limited recourse collateralized notes payable with third parties that totaled $40.2 million at December 31, 2021. These notes have maturities ranging up to three years, are secured by the applicable land positions to which they relate, have no recourse to any other assets, and are classified within notes payable.
Revolving credit facility
We maintain a Revolving Credit Facility maturing in June 2023 that has a maximum borrowing capacity of $1.0 billion and contains an uncommitted accordion feature that could increase the capacity to $1.5 billion, subject to certain conditions and availability of additional bank commitments. The Revolving Credit Facility also provides for the issuance of letters of credit that reduce the available borrowing capacity under the Revolving Credit Facility, with a sublimit of $500.0 million at December 31, 2021. The interest rate on borrowings under the Revolving Credit Facility may be based on either the London Interbank Offered Rate ("LIBOR") or a base rate plus an applicable margin, as defined therein. In the event that LIBOR is no longer widely available, the agreement contemplates transitioning to an alternative widely available market rate agreeable between the parties. As a precautionary measure during the initial phase of the COVID-19 pandemic, we made the decision in March 2020 to draw $700.0 million under the Revolving Credit Facility. In June 2020, we repaid the full outstanding balance of $700.0 million. We had no borrowings outstanding and $298.8 million and $249.7 million of letters of credit issued under the Revolving Credit Facility at December 31, 2021 and 2020, respectively.
The Revolving Credit Facility contains financial covenants that require us to maintain a minimum Tangible Net Worth, a minimum Interest Coverage Ratio, and a maximum Debt-to-Capitalization Ratio (as each term is defined in the Revolving Credit Facility). As of December 31, 2021, we were in compliance with all covenants. Outstanding balances under the Revolving Credit Facility are guaranteed by certain of our wholly-owned subsidiaries. Our available and unused borrowings under the Revolving Credit Facility, net of outstanding letters of credit, amounted to $701.2 million and $750.3 million as of December 31, 2021 and 2020, respectively.
Financial Services debt
Pulte Mortgage provides mortgage financing for the majority of our home closings by utilizing its own funds and funds made available pursuant to credit agreements with third parties. Pulte Mortgage uses these resources to finance its lending activities until the loans are sold in the secondary market, which generally occurs within 30 days.
Pulte Mortgage maintains a master repurchase agreement with third party lenders (the "Repurchase Agreement") that matures on July 28, 2022. The maximum aggregate commitment was $650.0 million during the seasonally high borrowing period from December 27, 2021 through January 13, 2022. At all other times, the maximum aggregate commitment ranges from $460.0 million to $550.0 million. The purpose of the changes in capacity during the term of the agreement is to lower associated fees during seasonally lower volume periods of mortgage origination activity. Borrowings under the Repurchase Agreement are secured by residential mortgage loans available-for-sale. The Repurchase Agreement contains various affirmative and negative covenants applicable to Pulte Mortgage, including quantitative thresholds related to net worth, net income, and liquidity. Pulte Mortgage had $626.1 million and $411.8 million outstanding under the Repurchase Agreement at December 31, 2021 and 2020, respectively, and was in compliance with its covenants and requirements as of such dates.
32
Dividends and share repurchase program
We declared quarterly cash dividends totaling $148.1 million and $135.1 million in 2021 and 2020, respectively, and repurchased 17.7 million and 4.5 million shares in 2021 and 2020, respectively, for a total of $897.3 million and $170.7 million in 2021 and 2020, respectively. On April 26, 2021, our board of directors approved an additional share repurchase authorization of $1.0 billion. At December 31, 2021, we had remaining authorization to repurchase $457.6 million of common shares. This repurchase authorization was increased by $1.0 billion on January 31, 2022.
Contractual Obligations
We are a party to many contractual obligations involving commitments to make payments to third parties. These obligations impact our short-term and long-term liquidity and capital resource needs. Certain contractual obligations are reflected on the Consolidated Balance Sheet as of December 31, 2021, while others are considered future commitments. Our contractual obligations primarily consist of long-term debt and related interest payments, purchase obligations related to expected acquisitions and development of land, operating leases, and obligations under our various compensation and benefit plans.
We use letters of credit and surety bonds to guarantee our performance under various contracts, principally in connection with the development of our homebuilding projects. The expiration dates of the letter of credit contracts coincide with the expected completion date of the related homebuilding projects. If the obligations related to a project are ongoing, annual extensions of the letters of credit are typically granted on a year-to-year basis. At December 31, 2021, we had outstanding letters of credit of $298.8 million. Our surety bonds generally do not have stated expiration dates; rather, we are released from the bonds as the contractual performance is completed. These bonds, which approximated $1.8 billion at December 31, 2021, are typically outstanding over a period of approximately three to five years. Because significant construction and development work has been performed related to the applicable projects but has not yet received final acceptance by the respective counterparties, the aggregate amount of surety bonds outstanding is in excess of the projected cost of the remaining work to be performed.
In the ordinary course of business, we enter into land option agreements in order to procure land for the construction of houses in the future. At December 31, 2021, these agreements had an aggregate remaining purchase price of $5.5 billion. Pursuant to these land option agreements, we provide a deposit to the seller as consideration for the right to purchase land at different times in the future, usually at predetermined prices. At December 31, 2021, outstanding deposits totaled $254.4 million, of which $20.0 million is refundable.
For further information regarding our primary obligations, refer to Note 5 , "Debt" and Note 11 , "Commitments and Contingencies" to the Consolidated Financial Statements included elsewhere in this Annual Report on 10-K for amounts outstanding as of December 31, 2021, related to debt and commitments and contingencies, respectively.
Cash flows
Operating activities
Net cash provided by operating activities in 2021 was $1.0 billion, compared with net cash provided by operating activities of $1.8 billion in 2020. Generally, the primary drivers of our cash flow from operations are profitability and changes in inventory levels and residential mortgage loans available-for-sale, each of which experiences seasonal fluctuations. Our positive cash flow from operations for 2021 was primarily due to our net income of $1.9 billion, which was partially offset by a $1.3 billion increase in inventories which was primarily attributable to higher house inventory in production resulting from higher sales activity and extended production cycle times combined with higher investment in land inventory to support future growth. Cash flow from operations was also favorably impacted by $395.3 million more in customer deposits resulting from the higher order backlog but unfavorably impacted by an increase of $382.8 million in residential mortgage loans available-for-sale resulting from higher loan originations to support revenue growth.
Net cash provided by operating activities in 2020 was primarily due to our net income of $1.4 billion.
Investing activities
Net cash used in investing activities totaled $124.1 million in 2021, compared with $107.9 million in 2020. The 2021 cash outflows primarily reflect $101.6 million of investments in unconsolidated entities primarily in support of our land development activities and capital expenditures of $72.8 million related to our ongoing investment in new communities and certain
33
information technology applications. The outflows were partially offset by distributions from unconsolidated entities of $53.9 million.
Net cash used in investing activities in 2020 primarily reflected our acquisition of ICG in January 2020 for $83.3 million as well as capital expenditures of $58.4 million.
Financing activities
Net cash used in financing activities was $1.7 billion in 2021 compared with $295.6 million during 2020. The net cash used in financing activities for 2021 resulted primarily from the repurchase of 17.7 million common shares for $897.3 million under our repurchase authorization, repayments of debt of $836.9 million, and cash dividends of $147.8 million, partially offset by net Financial Services borrowings of $214.3 million.
Net cash used in financing activities for 2020 resulted primarily from the repurchase of 4.5 million common shares for $170.7 million under our repurchase authorization, repayments of debt of $65.3 million, and cash dividends of $130.2 million.
Seasonality
Although significant changes in market conditions have impacted our seasonal patterns in the past and could do so again, we historically experience variability in our quarterly results from operations due to the seasonal nature of the homebuilding industry. We generally experience increases in revenues and cash flow from operations during the fourth quarter based on the timing of home closings. This seasonal activity increases our working capital requirements in our third and fourth quarters to support our home production and loan origination volumes. As a result of the seasonality of our operations, our quarterly results of operations are not necessarily indicative of the results that may be expected for the full year. Additionally, given the disruption in economic activity caused by the COVID-19 pandemic, our quarterly results in 2021 and 2020 are not necessarily indicative of results that may be achieved in the future.
Supplemental Guarantor Financial Information
As of December 31, 2021 PulteGroup, Inc. had outstanding $2.0 billion principal amount of unsecured senior notes due at dates from March 2026 through February 2035 and no amounts outstanding on its Revolving Credit Facility.
All of our unsecured senior notes and the Revolving Credit Facility are fully and unconditionally guaranteed, on a joint and several basis, by certain subsidiaries of PulteGroup, Inc. ("Guarantors" or "Guarantor Subsidiaries"). Each of the Guarantor Subsidiaries is 100% owned, directly or indirectly, by PulteGroup, Inc. Our subsidiaries associated with our financial services operations and certain other subsidiaries do not guarantee the unsecured senior notes or the Revolving Credit Facility (collectively, "Non-Guarantor Subsidiaries"). The guarantees are senior unsecured obligations of each Guarantor and rank equal with all existing and future senior debt of such Guarantor and senior to all subordinated debt of such Guarantor. The guarantees are effectively subordinated to any secured debt of such Guarantor to the extent of the value of the assets securing such debt.
A court could void or subordinate any Guarantor’s guarantee under the fraudulent conveyance laws if existing or future creditors of any such Guarantor were successful in establishing that such Guarantor:
(a) incurred the guarantee with the intent of hindering, delaying or defrauding creditors; or
(b) received less than reasonably equivalent value or fair consideration in return for incurring the guarantee and, in the case of and any one of the following is also true at the time thereof:
• such Guarantor was insolvent or rendered insolvent by reason of the issuance of the incurrence of the guarantee;
• the incurrence of the guarantee left such Guarantor with an unreasonably small amount of capital or assets to carry on its business;
• such Guarantor intended to, or believed that it would, incur debts beyond its ability to pay as they mature;
• such Guarantor was a defendant in an action for money damages, or had a judgment for money damages docketed against it, if the judgment is unsatisfied after final judgment.
The measures of insolvency for purposes of determining whether a fraudulent conveyance occurred would vary depending upon the laws of the relevant jurisdiction and upon the valuation assumptions and methodology applied by the court. However, in general, a court would deem a company insolvent if:
34
• the sum of its debts, including contingent and unliquidated liabilities, was greater than the fair saleable value of all of its assets;
• the present fair saleable value of its assets was less than the amount that would be required to pay its probable liability on its existing debts, including contingent liabilities, as they become absolute and mature; or
• it could not pay its debts as they became due.
The guarantees of the senior notes contain a provision to limit each Guarantor’s liability to the maximum amount that it could incur without causing the incurrence of obligations under its guarantee to be a fraudulent transfer. However, under recent case law, this provision may not be effective to protect such guarantee from being voided under fraudulent transfer law or otherwise determined to be unenforceable. If a court were to find that the incurrence of a guarantee was a fraudulent transfer or conveyance, the court could void the payment obligations under that guarantee, could subordinate that guarantee to presently existing and future indebtedness of the Guarantor or could require the holders of the senior notes to repay any amounts received with respect to that guarantee. In the event of a finding that a fraudulent transfer or conveyance occurred, holders may not receive any repayment on the senior notes.
Finally, as a court of equity, a bankruptcy court may subordinate the claims in respect of the guarantees to other claims against us under the principle of equitable subordination if the court determines that (1) the holder of senior notes engaged in some type of inequitable conduct, (2) the inequitable conduct resulted in injury to our other creditors or conferred an unfair advantage upon the holders of senior notes and (3) equitable subordination is not inconsistent with the provisions of the bankruptcy code.
On the basis of historical financial information, operating history and other factors, we believe that each of the Guarantors, after giving effect to the issuance of the guarantees when such guarantees were issued, was not insolvent, did not have unreasonably small capital for the business in which it engaged and did not and has not incurred debts beyond its ability to pay such debts as they mature. We cannot assure you, however, as to what standard a court would apply in making these determinations or that a court would agree with our conclusions in this regard.
The following tables present summarized financial information for PulteGroup, Inc. and the Guarantor Subsidiaries on a combined basis after intercompany transactions and balances have been eliminated among PulteGroup, Inc. and the Guarantor Subsidiaries, as well as their investment in and equity in earnings from the Non-Guarantor Subsidiaries ($000’s omitted):
PulteGroup, Inc. and Guarantor Subsidiaries
Summarized Balance Sheet Data December 31,
ASSETS 2021 2020
Cash, cash equivalents, and restricted cash $1,598,328 $2,429,639
House and land inventory 8,859,163 7,600,542
Amount due from Non-Guarantor Subsidiaries 278,531 —
Total assets 11,658,352 11,028,911
LIABILITIES
Accounts payable, customer deposits,
accrued and other liabilities $2,788,465 $2,101,427
Notes payable 2,029,044 2,752,302
Amount due to Non-Guarantor Subsidiaries — 12,208
Total liabilities 4,986,491 4,948,275
35
Years Ended December 31,
Summarized Statement of Operations Data 2021 2020
Revenues $13,173,753 $10,368,616
Cost of revenues 9,697,959 7,839,807
Selling, general, and administrative expenses 1,164,553 966,662
Income before income taxes 2,213,419 1,510,185
Critical Accounting Estimates
The preparation of the Company's financial statements in conformity with U.S. generally accepted accounting principles and the discussion and analysis of its financial condition and operating results requires management to make estimates and assumptions, including estimates about the future resolution of existing uncertainties that affect the amounts reported. As a result, actual results could differ from these estimates. Management bases its estimates on historical experience and on various other assumptions it believes to be reasonable under the circumstances. We believe the following critical accounting estimates reflect the more significant judgments and estimates used in the preparation of our consolidated financial statements. For a discussion of all of our significant accounting policies, refer to Note 1 , "Summary of Significant Account Policies".
Inventory and cost of revenues
Cost of revenues includes the construction cost, average lot cost, estimated warranty costs, and closing costs applicable to the home. The construction cost of the home includes amounts paid through the closing date of the home, plus an accrual for costs incurred but not yet paid, based on an analysis of budgeted construction costs. This accrual is reviewed for accuracy based on actual payments made after closing compared with the amount accrued, and adjustments are made if needed. Land acquisition and development costs are allocated to individual lots using an average lot cost determined based on the total expected land acquisition and development costs and the total expected home closings for the community. Total community land acquisition and development costs are based on an analysis of budgeted costs compared with actual costs incurred to date and estimates to complete. The development cycles for our communities range from under one year to in excess of ten years for certain master planned communities. Adjustments to estimated total land acquisition and development costs for the community affect the amounts costed for the community’s remaining lots.
We test inventory for impairment when events and circumstances indicate that the undiscounted cash flows estimated to be generated by the community may be less than its carrying amount. Such indicators include gross margins or sales paces significantly below expectations, construction costs or land development costs significantly in excess of budgeted amounts, significant delays or changes in the planned development for the community, and other known qualitative factors. Communities that demonstrate potential impairment indicators are tested for impairment by comparing the expected undiscounted cash flows for the community to its carrying value. For those communities whose carrying values exceed the expected undiscounted cash flows, we determine the fair value of the community and impairment charges are recorded if the fair value of the community’s inventory is less than its carrying value.
We generally determine the fair value of each community using a combination of discounted cash flow models and market comparable transactions, where available. These estimated cash flows are significantly impacted by estimates related to expected average selling prices, expected sales paces, expected land development and construction timelines, and anticipated land development, construction, and overhead costs. The assumptions used in the discounted cash flow models are specific to each community. Due to uncertainties in the estimation process, the significant volatility in demand for new housing, the long life cycles of many communities, and potential changes in our strategy related to certain communities, actual results could differ significantly from such estimates.
Generally, a community must have projected gross margin percentages in the mid-single digits or lower to potentially fail the undiscounted cash flow step and proceed to the fair value step. Our overall gross margin realized during 2021 and our average gross margin in backlog at December 31, 2021 both exceeded 20%, and we have only a small minority of communities with gross margins below 10%. However, in the event of an extended economic slowdown that leads to moderate or significant decreases in the price of new homes in certain geographic or buyer submarkets, we could have a larger number of communities that begin to approach these levels such that more detailed impairment analyses would be necessary, and the resulting impairments could be material. Additionally, we have $404.9 million of deposits and pre-acquisition costs at December 31, 2021 related to option agreements to acquire additional land. In the event of an extended economic slowdown, we could elect to
36
cancel a large portion of such land option agreements, which would generally result in the write-off of the related deposits and pre-acquisition costs.
Self-insured risks
At any point in time, we are managing approximately 1,000 individual claims related to general liability, property, errors and omission, workers compensation, and other business insurance coverage. We reserve for costs associated with such claims (including expected claims management expenses) on an undiscounted basis at the time product revenue is recognized for each home closing and periodically evaluate the recorded liabilities based on actuarial analyses of our historical claims. The actuarial analyses calculate estimates of the ultimate cost of all unpaid losses, including estimates for incurred but not reported losses ("IBNR"). IBNR represents losses related to claims incurred but not yet reported plus development on reported claims.
Our recorded reserves for all such claims totaled $627.1 million and $641.8 million at December 31, 2021 and 2020, respectively, the vast majority of which relate to general liability claims. The recorded reserves include loss estimates related to both (i) existing claims and related claim expenses and (ii) IBNR and related claim expenses. Liabilities related to IBNR and related claim expenses represented approximately 70% and 68% of the total general liability reserves at December 31, 2021 and 2020, respectively. The actuarial analyses that determine the IBNR portion of reserves consider a variety of factors, including the frequency and severity of losses, which are based on our historical claims experience supplemented by industry data. The actuarial analyses of the reserves also consider historical third party recovery rates and claims management expenses. Because of the inherent uncertainty in estimating future losses related to these claims, actual costs could differ significantly from estimated costs. Based on the actuarial analyses performed, we believe the range of reasonably possible losses related to these claims is $525 million to $725 million. While this range represents our best estimate of our ultimate liability related to these claims, due to a variety of factors, including those factors described above, there can be no assurance that the ultimate costs realized by us will fall within this range.
Volatility in both national and local housing market conditions can affect the frequency and cost of construction defect claims. Additionally, IBNR estimates comprise the majority of our liability and are subject to a high degree of uncertainty due to a variety of factors, including changes in claims reporting and resolution patterns, third party recoveries, insurance industry practices, the regulatory environment, and legal precedent. State regulations vary, but construction defect claims are reported and resolved over an extended period often exceeding ten years. Changes in the frequency and timing of reported claims and estimates of specific claim values can impact the underlying inputs and trends utilized in the actuarial analyses, which could have a material impact on the recorded reserves. Additionally, the amount of insurance coverage available for each policy period also impacts our recorded reserves. Because of the inherent uncertainty in estimating future losses and the timing of such losses related to these claims, actual costs could differ significantly from estimated costs.
Adjustments to reserves are recorded in the period in which the change in estimate occurs. During 2021 and 2020, we reduced general liability reserves by $81.1 million and $93.4 million, respectively, as a result of changes in estimates resulting from actual claim experience observed being less than anticipated in previous actuarial projections. The changes in actuarial estimates were driven by changes in actual claims experience that, in turn, impacted actuarial estimates for potential future claims. These changes in actuarial estimates did not involve any changes in actuarial methodology but did impact the development of estimates for future periods, which resulted in adjustments to the IBNR portion of our recorded liabilities. There were no material adjustments to individual claims. Rather, the adjustments reflect an overall lower level of losses related to construction defect claims in recent years as compared with our previous experience. We attribute this favorable experience to a variety of factors, including improved construction techniques, rising home values, and increased participation from our subcontractors in resolving claims.
37