| TECHNICAL OLYMPIC USA INC Item 1A Risk Factors Risks Related to Our Business Economic downturns, excess housing supply or decreased consumer confidence in the geographic areas in which we operate could adversely affect demand and prices for new homes in those areas and could have an adverse effect on our revenues and earnings |
| Although we operate in various major metropolitan markets, our operations are concentrated in Florida, Texas, and Arizona |
| Adverse economic or other business conditions, including excess housing supply or decreased consumer confidence in the real estate market in these regions or in any of the particular markets in which we operate, all of which are outside of our control, could have an adverse effect on our revenues and earnings |
| 12 _________________________________________________________________ We may not be able to acquire suitable land at reasonable prices, which could increase our costs and reduce our earnings and profit margins |
| We have experienced an increase in competition for available land and developed homesites in most of our markets as a result of the strength of the economy in many of these markets over the past few years and the availability of more capital to major homebuilders |
| Our ability to continue our development activities over the long-term depends upon our ability to locate and acquire suitable parcels of land or developed homesites to support our homebuilding operations |
| As competition for land increases, the cost of acquiring it may rise, and the availability of suitable parcels at acceptable prices may decline |
| If we are unable to acquire suitable land or developed homesites at reasonable prices, it could limit our ability to develop new projects or result in increased land costs that we may not be able to pass through to our customers |
| Consequently, it could reduce our earnings and profit margins |
| Changes in economic or other business conditions could cause our significant level of debt to adversely affect our financial condition and prevent us from fulfilling our debt service obligations |
| We currently have a significant amount of debt, and our ability to meet our debt service obligations will depend on our future performance |
| Numerous factors outside of our control, including changes in economic or other business conditions generally, or in the markets or industry in which we do business, may adversely affect our operating results and cash flows, which in turn may affect our ability to meet our debt service obligations |
| As of December 31, 2005, on a consolidated basis, we had approximately dlra876dtta6 million aggregate principal amount of debt outstanding (excluding obligations for inventory not owned of dlra124dtta6 million and the impact of original issue discounts and premiums), of which dlra810dtta0 million in aggregate principal amount matures in 2010 through 2015 |
| As of December 31, 2005, we would have had the ability to borrow an additional dlra316dtta1 million under our revolving credit facility, subject to our satisfying the relevant borrowing conditions in that facility |
| In addition, subject to restrictions in our financing documents, we may incur additional debt |
| If we are unable to meet our debt service obligations, we may need to restructure or refinance our debt, seek additional equity financing or sell assets |
| We may be unable to restructure or refinance our debt, obtain additional equity financing or sell assets on satisfactory terms or at all |
| Our debt instruments impose significant operating and financial restrictions, which may limit our ability to finance future operations or capital needs and pursue business opportunities, thereby limiting our growth |
| The indentures governing our outstanding notes and our revolving credit facility impose significant operating and financial restrictions on us |
| These restrictions limit our ability to, among other things: • incur additional debt; • pay dividends or make other restricted payments; • create or permit certain liens, other than customary and ordinary liens; • sell assets other than in the ordinary course of our business; • invest in joint ventures above the amounts established in such instruments; • create or permit restrictions on the ability of our restricted subsidiaries to pay dividends or make other distributions to us; • engage in transactions with affiliates; and • consolidate or merge with or into other companies or sell all or substantially all of our assets |
| These restrictions could limit our ability to finance our future operations or capital needs, make acquisitions, or pursue available business opportunities |
| In addition, our revolving credit facility requires us to maintain specified financial ratios and satisfy certain financial covenants, the indentures governing our 13 _________________________________________________________________ outstanding notes require us to maintain a specified minimum consolidated net worth, and our warehouse lines of credit require us to maintain the collateral value of our borrowing base |
| We may be required to take action to reduce our debt or to act in a manner contrary to our business objectives to meet these ratios and satisfy these covenants |
| A breach of any of the covenants in, or our inability to maintain the required financial ratios under, our revolving credit facility and warehouse lines of credit would prevent us from borrowing additional money under those facilities and could result in a default under those facilities and our other debt obligations |
| Our failure to maintain the specified minimum consolidated net worth under the indentures will require us to offer to purchase a portion of our outstanding notes |
| If we fail to purchase these notes, it would result in a default under the indentures and may result in a default under other debt facilities |
| We may not be successful in our effort to identify, complete, integrate and/or manage acquisitions or joint ventures, which could adversely affect our results of operations and future growth |
| A principal component of our strategy is to continue to grow profitably in a controlled manner, including, where appropriate, by acquiring other property developers or homebuilders or by entering into joint ventures |
| We may not be successful in implementing our acquisition or joint venture strategy, and growth may not continue at historical levels or at all |
| The failure to identify or complete business acquisitions or joint ventures, successfully integrate the businesses we acquire, or otherwise realize the expected benefits of any acquisitions or joint ventures, could adversely affect our results of operations and future growth |
| Even if we overcome these challenges and risks, we may not realize the expected benefits of our acquisitions or joint ventures, if any |
| We may need additional financing to fund our operations or for the expansion of our business, and if we are unable to obtain sufficient financing or such financing is obtained on adverse terms, we may not be able to operate or expand our business as planned, which could adversely affect our results of operations and future growth |
| Our operations require significant amounts of cash |
| If our business does not achieve the levels of profitability or generate the amount of cash that we anticipate or if we expand through acquisitions, joint ventures, or organic growth faster than anticipated, we may need to seek additional debt or equity financing to operate and expand our business |
| If we are unable to obtain sufficient financing to fund our operations or expansion, it could adversely affect our results of operations and future growth |
| We may be unable to obtain additional financing on satisfactory terms or at all |
| If we raise additional funds through the incurrence of debt, we will incur increased debt service costs and may become subject to additional restrictive financial and other covenants |
| Changes in accounting rules relating to the consolidation of assets associated with option contracts and joint ventures, or a change in the interpretation or application of such rules, could adversely affect our financial condition and limit our use of such arrangements, which could impact our future growth |
| We use option contracts and joint ventures to help us acquire attractive land positions, mitigate and share the risk associated with land ownership and development, increase our return on equity, and extend our capital resources |
| Under current accounting rules, the assets and liabilities associated with certain of these option contracts and joint ventures may not be required to be consolidated in our financial statements |
| A change in accounting rules or a change in the interpretation of application of such rules to require the consolidation of the assets and liabilities associated with these off-balance sheet arrangements could negatively affect our leverage ratios and could limit our future growth |
| In the event that tax liabilities arise in connection with the October 2003 restructuring, there can be no assurance that we will not be liable for such amounts |
| Prior to a restructuring transaction which occurred in October 2003, Technical Olympic, Inc, which we refer to as Technical Olympic, was the parent of our consolidated tax reporting group, and we were jointly and severally liable for any US federal income tax owed by Technical Olympic or any other member of the consolidated group |
| As part of the restructuring, Technical Olympic was merged into TOI, LLC, a newly- 14 _________________________________________________________________ formed limited liability company of which we are the sole member, and we became the parent of our consolidated tax reporting group |
| Also, as part of the restructuring, Technical Olympic Services, Inc, which we refer to as TOSI, a newly-formed corporation wholly-owned by Technical Olympic SA, assumed all liabilities of Technical Olympic |
| We do not believe that any material tax liabilities will arise by reason of the restructuring |
| However, there can be no assurance that material tax liabilities will not arise in connection with the restructuring, that we will not be held liable for such amounts or that we will be able to collect from TOSI any amounts for which they may have assumed liability |
| The assessment of material tax liabilities in connection with the restructuring could have an adverse effect on our financial condition and results of operations |
| Our business revenues and profitability may be adversely affected by natural disasters or weather conditions |
| Homebuilders are particularly subject to natural disasters and severe weather conditions as they can delay our ability to timely complete or deliver homes, damage the partially complete or other unsold homes that are in our inventory, negatively impact the demand for homes, and/or negatively affect the price and availability of qualified labor and materials |
| Our operations are located in many areas that are especially subject to natural disasters; for example, we have significant operations in Florida which is especially at risk of hurricanes |
| To the extent that hurricanes, severe storms, floods, tornadoes or other natural disasters or similar weather events occur, our business may be adversely affected |
| To the extent our insurance is not adequate to cover business interruption or losses resulting from these events, our revenues and profitability may be adversely affected |
| Technical Olympic SA, our majority stockholder, can cause us to take, or prevent us from taking, actions without the approval of the other stockholders and may have interests that could conflict with the interests of our other stockholders |
| Technical Olympic SA currently owns approximately 67prca of the voting power of our common stock |
| As a result, Technical Olympic SA has the ability to control the outcome of virtually all corporate actions requiring stockholder approval, including the election of a majority of our directors, the approval of any merger, and other significant corporate actions |
| Technical Olympic SA may authorize actions or have interests that could conflict with those of our other stockholders |
| Control of our company by Technical Olympic SA and/or our issuance of preferred stock could make it difficult for a third party to acquire us |
| Through its ownership of voting control of our common stock, Technical Olympic, SA can prevent a change in control of us and may be able to prevent or discourage certain other transactions, such as tender offers or stock repurchases, that could give holders of our common stock the opportunity to realize a premium over the then-prevailing market price for their shares of common stock |
| In addition, our board of directors has the authority to issue preferred stock and to determine the preferences, limitations and relative rights of shares of preferred stock and to fix the number of shares constituting any series and the designation of such series, without any further vote or action by our stockholders |
| The preferred stock could be issued with voting, liquidation, dividend and other rights superior to the rights of our common stock |
| The potential issuance of preferred stock may delay or prevent a change in control of us, discourage bids for the common stock at a premium over the market price, and adversely affect the market price of our common stock and the voting and other rights of the holders of our common stock |
| Our common stock price has been and could continue to be volatile |
| Our common stock price has been, and could continue to be, volatile |
| These price fluctuations may be rapid and severe and may leave investors little time to react |
| Factors that affect the market price of our common stock include: • the limited amount of our common stock held by non-affiliates; • quarterly variations in our operating results; 15 _________________________________________________________________ • general conditions in the homebuilding industry; • changes in the market’s expectations about our earnings; • changes in financial estimates and recommendations by securities analysts concerning our company or the homebuilding industry in general; • operating and stock price performance of other companies that investors deem comparable to us; • material announcements by us or our competitors; • news reports relating to trends in our markets; • changes in laws and regulations affecting our business; • sales of substantial amounts of common stock by our directors, executive officers or majority stockholder, Technical Olympic, SA, or the perception that such sales could occur; and • general economic and political conditions such as recessions and acts of war or terrorism |
| Risks Related to Our Industry Changes in economic or other business conditions could adversely affect demand and prices for new homes, which could decrease our revenues |
| The homebuilding industry historically has been cyclical and is affected significantly by adverse changes in general and local economic conditions, such as: • employment levels; • population growth; • consumer confidence and stability of income levels; • availability of financing for land and homesite acquisitions, and the availability of construction and permanent mortgages; • interest rates; • inventory levels of both new and existing homes; • supply of rental properties; and • conditions in the housing resale market |
| Adverse changes in one or more of these conditions, all of which are outside of our control, could reduce demand and/or prices for new homes in some or all of the markets in which we operate |
| A decline in demand or the prices we can obtain for our homes could decrease our revenues and earnings |
| We are subject to substantial risks with respect to the land and home inventories we maintain, and fluctuations in market conditions may affect our ability to sell our land and home inventories at expected prices, if at all, which would reduce our profit margins |
| As a homebuilder, we must constantly locate and acquire new tracts of land for development and developed homesites to support our homebuilding operations |
| There is a lag between the time we acquire land for development or developed homesites and the time that we can bring the communities to market and sell homes |
| Lag time varies on a project-by-project basis; however, historically, we have experienced a lag time of up to three years |
| As a result, we face the risk that demand for housing may decline or costs of labor or materials may increase during this period and that we will not be able to dispose of developed properties or undeveloped land or homesites acquired for development at expected prices or profit margins or within anticipated time frames or at all |
| The market value of home inventories, undeveloped land, and developed 16 _________________________________________________________________ homesites can fluctuate significantly because of changing market conditions |
| In addition, inventory carrying costs (including interest on funds used to acquire land or build homes) can be significant and can adversely affect our performance |
| Because of these factors, we may be forced to sell homes or other property at a loss or for prices that generate lower profit margins than we anticipate |
| We may also be required to make material write-downs of the book value of our real estate assets in accordance with generally accepted accounting principles if values decline |
| Supply risks and shortages relating to labor and materials can harm our business by delaying construction and increasing costs |
| The homebuilding industry from time to time has experienced significant difficulties with respect to: • shortages of qualified trades people and other labor; • inadequately capitalized local subcontractors; • shortages of materials; and • volatile increases in the cost of certain materials, including lumber, framing, roofing, and cement, which are significant components of home construction costs |
| These difficulties can, and often do, cause unexpected short-term increases in construction costs and cause construction delays |
| In addition, to the extent our subcontractors incur increased costs associated with increases in insurance premiums and compliance with state and local regulations, these costs are passed on to us as homebuilders |
| We are generally unable to pass on any unexpected increases in construction costs to those customers who have already entered into sales contracts, as those contracts generally fix the price of the house at the time the contract is signed, which may be up to one year in advance of the delivery of the home |
| Furthermore, sustained increases in construction costs may, over time, erode our profit margins |
| We have historically been able to offset sustained increases in the costs of materials with increases in the prices of our homes and through operating efficiencies |
| However, in the future, pricing competition may restrict our ability to pass on any additional costs, and we may not be able to achieve sufficient operating efficiencies to maintain our current profit margins |
| Future increases in interest rates or a decrease in the availability of government-sponsored mortgage financing could prevent potential customers from purchasing our homes, which would adversely affect our revenues and profitability |
| Almost all of our customers finance their purchases through mortgage financing obtained from us or other sources |
| Increases in interest rates or decreases in the availability of mortgage funds provided or sponsored by Fannie Mae, Freddie Mac, the Federal Housing Administration, or the Veteran’s Administration could cause a decline in the market for new homes as potential homebuyers may not be able to obtain affordable financing |
| In particular, because the availability of mortgage financing is an important factor in marketing many of our homes, any limitations or restrictions on the availability of those types of financing could reduce our home sales and the lending volume at our mortgage subsidiary |
| Increased interest rates can also limit our ability to realize our backlog because our sales contracts typically provide our customers with a financing contingency |
| Financing contingencies allow customers to cancel their home purchase contracts in the event they cannot arrange for financing |
| Even if our potential customers do not need financing, changes in interest rates and mortgage availability could make it harder for them to sell their existing homes to potential buyers who need financing |
| Interest rates currently are at one of their lowest levels in decades, and any future increases in interest rates could adversely affect our revenues and profitability |
| The competitive conditions in the homebuilding industry could increase our costs, reduce our revenues, and otherwise adversely affect our results of operations |
| The homebuilding industry is highly competitive and fragmented |
| We compete in each of our markets with numerous national, regional and local builders |
| Some of these builders have greater financial resources, more experience, more established market positions and better opportunities for land and homesite acquisitions 17 _________________________________________________________________ than we do and have lower costs of capital, labor and material than us |
| Builders of new homes compete for homebuyers, as well as for desirable properties, raw materials and skilled subcontractors |
| The competitive conditions in the homebuilding industry could, among other things: • increase our costs and reduce our revenues and/or profit margins; • make it difficult for us to acquire suitable land or homesites at acceptable prices; • require us to increase selling commissions and other incentives; • result in delays in construction if we experience a delay in procuring materials or hiring laborers; and • result in lower sales volumes |
| We also compete with resales of existing homes, available rental housing and, to a lesser extent, condominium resales |
| An oversupply of attractively priced resale or rental homes in the markets in which we operate could adversely affect our ability to sell homes profitably |
| Our financial services operations are also subject to competition from third party providers, many of which are substantially larger, may have a lower cost structure and may focus exclusively on providing such services |
| We are subject to product liability and warranty claims arising in the ordinary course of business that could adversely affect our results of operations |
| As a homebuilder, we are subject in the ordinary course of our business to product liability and home warranty claims |
| We provide our homebuyers with a one-year or two-year limited warranty covering workmanship and materials and a five to ten-year limited warranty covering major structural defects |
| Claims arising under these warranties and general product liability claims are common in the homebuilding industry and can be costly |
| Although we maintain product liability insurance, the coverage offered by, and availability of, product liability insurance for construction defects is currently limited and, where coverage is available, it may be costly |
| We currently have a homebuilder protective policy which covers warranty claims for structure and design defects related to homes sold by us during the policy period, subject to a significant self-insured retention per occurrence |
| However, our product liability insurance and homebuilder protective policies contain limitations with respect to coverage, and there can be no assurance that these insurance rights will be adequate to cover all product liability and warranty claims for which we may be liable or that coverage will not be further restricted and become more costly |
| In addition, although we generally seek to require our subcontractors and design professionals to indemnify us for liabilities arising from their work, we may be unable to enforce any such contractual indemnities |
| Uninsured and unindemnified product liability and warranty claims, as well as the cost of product liability insurance and our homebuilder protective policy, could adversely affect our results of operations |
| We are subject to mold litigation and claims arising in the ordinary course of business that could adversely affect our results of operations |
| Lawsuits have been filed against homebuilders and insurers asserting claims of property damages and personal injury caused by the presence of mold in residential dwellings |
| Some of these lawsuits have resulted in substantial monetary judgments or settlements |
| Many insurance carriers, including our insurance carriers to some extent, exclude coverage for claims arising from the presence of mold |
| Uninsured mold liability and claims could adversely affect our results of operations |
| Historically, we have had a low level of mold litigation and mold related claims and expenses related to any such litigation or claims have been immaterial to our net income |
| However, there can be no assurance that the amount of mold litigation and claims brought against us will not increase and adversely affect our net income in the future |
| 18 _________________________________________________________________ States, cities, and counties in which we operate have, or may adopt, slow or no growth initiatives that would reduce our ability to build in these areas and could adversely affect our future revenues |
| Several states, cities, and counties in which we operate have approved, and others in which we operate may approve, various “slow growth” or “no growth” initiatives and other ballot measures that could negatively impact the availability of land and building opportunities within those localities |
| Approval of slow or no growth measures would reduce our ability to build and sell homes in the affected markets and create additional costs and administration requirements, which in turn could have an adverse effect on our future revenues |
| Our business is subject to governmental regulations that may delay, increase the cost of, prohibit or severely restrict our development and homebuilding projects |
| We are subject to extensive and complex laws and regulations that affect the land development and homebuilding process, including laws and regulations related to zoning, permitted land uses, levels of density, building design, elevation of properties, water and waste disposal, and use of open spaces |
| In addition, we and our subcontractors are subject to laws and regulations relating to workers health and safety |
| We also are subject to a variety of local, state, and federal laws and regulations concerning the protection of health and the environment |
| In some of the markets in which we operate, we are required to pay environmental impact fees, use energy saving construction materials and give commitments to provide certain infrastructure such as roads and sewage systems |
| We must also obtain permits and approvals from local authorities to complete residential development or home construction |
| The laws and regulations under which we and our subcontractors operate, and our and their obligations to comply with them, may result in delays in construction and development, cause us to incur substantial compliance and other increased costs, and prohibit or severely restrict development and homebuilding activity in certain areas in which we operate |
| Our financial services operations are subject to numerous federal, state, and local laws and regulations |
| Failure to comply with these requirements can lead to administrative enforcement actions, the loss of required licenses, and claims for monetary damages |
| Special Note Regarding Forward Looking Statements This annual report contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended |
| Discussions containing forward-looking statements may be found in the material set forth in the sections entitled “Business” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations |
| ” These statements concern expectations, beliefs, projections, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts, and typically include the words “anticipate”, “believe”, “expect”, “estimate”, “project”, and “future |
| ” Specifically, this annual report contains forward-looking statements regarding: • our expectations regarding growth opportunities in the homebuilding industry and our ability to successfully take advantage of such opportunities to expand our operations; • our expectations regarding population growth and median income growth trends and their impact on future housing demand in our markets; • our expectation regarding the impact of geographic and customer diversification; • our ability to successfully integrate our current operations and any future acquisitions, and to recognize anticipated operating efficiencies, cost savings, and revenue increases; • our expectations regarding our land and homesite acquisition strategy and its impact on our business, including our estimate of the number of years our supply of homesites affords us; • our belief that homes in premier locations will continue to attract homebuyers in both strong and weak economic conditions; • our expectations regarding future land sales; 19 _________________________________________________________________ • our belief regarding growth opportunities within our financial services business; • our estimate that we have adequate financial resources to meet our current and anticipated working capital, including our annual debt service payments, and land acquisition and development needs; • our expectations regarding the implementation of certain recent accounting pronouncements, including SFAS Nodtta 123(R); • the impact of inflation on our future results of operations; • our expectations regarding our ability to pass through to our customers any increases in our costs; • our expectations regarding the impact on our business and profits of intentional efforts by us and our joint ventures to slow sales rates to match production rates; • our expectations regarding our continued use of option contracts, investments in unconsolidated joint ventures and other off-balance sheet arrangements to control homesites and manage our business and their effect on our business; • our expectations regarding the labor and supply shortages and increases in costs of materials caused by recent hurricanes and the high cost of petroleum; • our expectations regarding the housing market in 2006; • our expectations regarding the portion of our combined home deliveries in 2006 that will come from the Phoenix market; • our expectations regarding the effects of hurricane seasons and land development and permitting issues on our combined net sales orders; and • our expectations regarding our use of cash in operations |
| These forward-looking statements reflect our current views about future events and are subject to risks, uncertainties and assumptions |
| As a result, actual results may differ significantly from those expressed in any forward-looking statement |
| The most important factors that could prevent us from achieving our goals, and cause the assumptions underlying forward-looking statements and the actual results to differ materially from those expressed in or implied by those forward-looking statements include, but are not limited to, the following: • our significant level of debt and the impact of the restrictions imposed on us by the terms of this debt; • our ability to borrow or otherwise finance our business in the future; • our ability to identify and acquire, at anticipated prices, additional homebuilding opportunities and/or to effect our growth strategies in our homebuilding operations and financial services business; • our relationship with Technical Olympic SA and its control over our business activities; • our ability to successfully integrate and to realize the expected benefits of any acquisitions; • economic or other business conditions that affect the desire or ability of our customers to purchase new homes in markets in which we conduct our business, such as increases in interest rates, inflation, or unemployment rates or declines in median income growth, consumer confidence or the demand for, or the price of, housing; • events which would impede our ability to open new communities and/or deliver homes within anticipated time frames and/or within anticipated budgets; • our ability to successfully enter into, utilize, and recognize the anticipated benefits of, joint ventures and option contracts; • a decline in the value of the land and home inventories we maintain; • an increase in the cost of, or shortages in the availability of, qualified labor and materials; 20 _________________________________________________________________ • our ability to successfully dispose of developed properties or undeveloped land or homesites at expected prices and within anticipated time frames; • our ability to compete in our existing and future markets; • the impact of hurricanes, tornadoes or other natural disasters or weather conditions on our business, including the potential for shortages and increased costs of materials and qualified labor and the potential for delays in construction and obtaining government approvals; • an increase or change in government regulations, or in the interpretation and/or enforcement of existing government regulations; and • the impact of any or all of the above risks on the operations or financial results of our unconsolidated joint ventures |
| Availability of Reports and Other Information Our corporate website is www |
| We make available, free of charge, access to our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, Proxy Statements on Schedule 14A and amendments to those materials filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934 on our website under “Investor Information — SEC Filings,” as soon as reasonably practicable after we electronically file such material with, or furnish it to, the United States Securities and Exchange Commission |
| Information on our website is not part of this document |