UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
/X/ Annual Report Pursuant to Section 13 or 15 (d) of the Securities Exchange
Act of 1934
[Fee Required]
For the fiscal year ended December 31, 1998
/ / Transition Report Pursuant to Section 13 or 15 (d) of the Securities
Exchange Act of 1934
[No Fee Required]
Commission File Number 1-8029
THE RYLAND GROUP, INC.
(Exact name of registrant as specified in its charter)
Maryland 52-0849948
-------- ----------
(State or other jurisdiction (I.R.S. Employer Identification No.)
of incorporation or organization)
11000 Broken Land Parkway
Columbia, Maryland 21044
(Address of principal executive offices)
Registrant's telephone number, including area code: (410) 715-7000
Securities Registered Pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which registered
------------------- -----------------------------------------
Common Stock, (Par Value $1.00) New York Stock Exchange
Common Share Purchase Rights New York Stock Exchange
Securities Registered Pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days.
Yes /X/ No / /
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (SS 229.405 of this chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K. / /
The aggregate market value of the Common Stock of The Ryland Group, Inc., held
by non-affiliates of the registrant (14,768,385 shares) as of February 24,
1999, was $384,901,034. The number of shares of common stock of
The Ryland Group, Inc., outstanding on February 24, 1999, was 14,844,307.
1
DOCUMENTS INCORPORATED BY REFERENCE
Name of Document Location in Report
- ---------------- ------------------
Proxy Statement for 1999 Annual Meeting of Stockholders Parts I, III
Annual Report to Shareholders for the year ended
December 31, 1998 Parts II, IV
Form 8-K filed September 12, 1989 Part IV
Form 10-K for the year ended December 31, 1989 Part IV
Form 8-K filed August 6, 1992 Part IV
Form 10-K for the year ended December 31, 1990 Part IV
Form 10-Q for the quarter ended June 30, 1992 Part IV
Registration Statement on Form S-3, Registration 33-48071 Part IV
Form 10-Q for the quarter ended June 30, 1994 Part IV
Form 8-K filed October 24, 1996 Part IV
Registration Statement on Form S-3, Registration 333-03791 Part IV
Form 10-K for the year-ended December 31, 1995 Part IV
Form 8-K filed July 2, 1996 Part IV
Form 10-K for the year-ended December 31, 1996 Part IV
Form 10-K for the year-ended December 31, 1997 Part IV
2
THE RYLAND GROUP, INC.
FORM 10-K
INDEX
Page
PART I. Number
------
Item 1. Business.....................................................4
Item 2. Properties...................................................9
Item 3. Legal Proceedings............................................9
Item 4. Submission of Matters to a Vote of Security Holders.........10
PART II.
Item 5. Market for the Company's Common Stock and Related
Stockholder Matters...........................................12
Item 6. Selected Financial Data.......................................12
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations.....................................12
Item 7A. Quantitative and Qualitative Disclosures About Market Risk....12
Item 8. Financial Statements and Supplementary Data...................12
Item 9. Changes In and Disagreements with Accountants on Accounting
and Financial Disclosure......................................12
PART III.
Item 10. Directors and Executive Officers of the Registrant............13
Item 11. Executive Compensation........................................13
Item 12. Security Ownership of Certain Beneficial Owners
and Management................................................13
Item 13. Certain Relationships and Related Transactions................13
PART IV.
Item 14. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K...........................................14
SIGNATURES.................................................................19
INDEX OF EXHIBITS..........................................................20
3
PART I
Item 1. Business.
The Ryland Group, Inc. (the "Company"), is a leading national homebuilder and
mortgage-related financial services firm. Established in 1967, the Company
builds homes in 21 markets in 14 states and is one of the largest single-
family on-site homebuilders in the United States. The Company's homebuilding
segment specializes in the sale and construction of single-family attached and
detached housing. The financial services segment, whose business is conducted
through Ryland Mortgage Company and its subsidiaries (RMC), complements the
Company's homebuilding activities by providing various mortgage-related
products and services for retail customers including loan origination, title
and escrow services.
Homebuilding
- ------------
Markets
- ------- The homebuilding segment markets and builds homes that are
constructed on-site in three regions which comprise 21 markets across the
nation. The three regions are the North (consisting of the Mid-Atlantic and
Midwest), South (consisting of the Southeast and Southwest) and West. As of
December 31, 1998, the Company operated in the following metropolitan markets:
Region Major Markets Served
------ --------------------
North: Mid-Atlantic:
------------
Baltimore, Washington, D.C./Northern Virginia
Midwest:
-------
Chicago, Cincinnati, Indianapolis, Minneapolis
South: Southeast:
---------
Atlanta, Charlotte, Greenville, Orlando, West Florida
Southwest:
---------
Austin, San Antonio, Dallas, Houston,
West: West:
----
Denver, Phoenix, San Diego, Los Angeles,
San Jose, Bay Area/Sacramento
The Company markets detached and attached single family homes generally
targeted to the entry level, first-and second-time move-up home buyer, as well
as the active-adult retirement market through a diverse product line tailored
to local styles and preferences in each of its geographic markets. The
product line offered in a particular community is determined in conjunction
with the land acquisition process, and is dependent upon a number of factors,
including consumer preferences, competitive product offerings and the cost of
building lots in the community. In 1998, the Company's average closing price
for its homes was $185,000.
During the last five years, the Company has substantially updated its product
line and over the past year, the Company again introduced many new home
designs across the country. The Company generally outsources architectural
services to a network of architects to increase creativity and to ensure that
its home designs are consistent with local market preferences. In addition,
through flexible supply
4
arrangements and construction methods, the Company has significantly improved
its ability to quickly bring new home designs to market and modify existing
products.
The Company's operations in each of its homebuilding markets may differ based
on a number of market-specific factors. These factors include regional
economic conditions and job growth, land availability and the local land
development process, consumer tastes, competition from other builders of new
homes and home resale activity. The Company considers each of these factors
when entering into new markets or determining the extent of its operations and
capital allocation in existing markets. During 1998, the Company completed
the acquisition of The Regency Organization ("Regency"), a privately held
homebuilder with operations in Pasco, Hernando and Citrus Counties, Florida,
immediately north of the Company's existing Tampa Bay operations. The
acquisition afforded the Company the opportunity to gain market share in a
rapidly growing area of Florida and an immediate presence in the Florida
retirement market.
During the past year, the Company began the process of exiting three of its
smaller markets, Delaware Valley, Portland, and Salt Lake, which did not meet
its strategic objectives. In addition, several divisions were combined to
increase operating efficiencies.
Land Acquisition and Development
- -------------------------------- As of December 31, 1998, the Company
operated in approximately 250 communities in 21 metropolitan markets in 14
states. The Company's objective is to control a portfolio of building lots
sufficient to meet anticipated homebuilding requirements for a period of two
to three years. The land acquisition process is controlled through a formal
corporate land approval committee to help ensure that transactions meet the
Company's standards for financial performance and risk. In the ordinary
course of its homebuilding business, the Company utilizes both direct
acquisition and option contracts to control building lots for use in the sale
and construction of homes. The Company's direct land acquisition activities
include the bulk purchase of finished building lots from land developers and
the purchase of undeveloped, entitled land from various third parties. The
Company generally does not purchase unentitled or unzoned land. Option
contract agreements are generally limited to finished building lots.
Although control of lot inventory through the use of option contracts
minimizes the Company's investment, such a strategy is not viable in certain
markets due to the absence of third party land developers. In other markets,
competitive conditions may preclude the Company from controlling quality
building lots solely through the use of option contracts. In such situations,
the Company may acquire undeveloped, entitled land and/or finished lots on a
bulk basis. The Company utilizes selective development of entitled land in
order to gain access to prime locations, increase margins and position the
Company as a leader in the community through its influence over the
community's character, layout and amenities.
As of December 31, 1998, the Company had deposits and letters of credit
outstanding of $30.6 million in connection with option and land purchase
contracts having a total purchase price of $387.9 million. These options and
commitments expire at various dates through 2001.
Materials Costs
- --------------- Substantially all materials used in the construction of homes
are available from a number of sources, but may fluctuate in price due to
various factors. To increase purchasing efficiencies, the Company
standardizes certain building materials and products in its homes and may
procure such products through national supply contracts. The Company operates
a plant in Maryland that produces and ships rough lumber packages and trim
materials to building sites in its Baltimore, Maryland and Washington,
D.C./Northern Virginia markets. In other markets, the Company may purchase
rough lumber packages from outside suppliers where this is determined to be
the most cost effective procurement and construction approach.
5
Production Management and Subcontractors
- ---------------------------------------- Substantially all on-site
construction is performed for a fixed price by independent subcontractors
selected on a competitive bid basis. The Company generally requires a minimum
of three competitive bids for each phase of construction. Construction
activities are supervised by the Company's production supervisors who schedule
and coordinate subcontractor work, monitor quality and ensure compliance with
local zoning and building codes. The Company has an integrated financial and
homebuilding management information system which assists in scheduling
production and controlling costs. Through this system, the Company monitors
the construction status and job costs incurred for each home for each phase of
construction. The system provides for detailed budgeting and allows the
Company to monitor and control actual costs versus construction bids for each
subcontractor. The Company has, on occasion, experienced shortages of skilled
labor in certain markets. If shortages were to occur in the future, such
shortages could result in longer construction times and higher costs than
those experienced in the past.
Marketing and Customer Service
- ------------------------------ The Company generally markets it's homes to
entry level, first and second-time move-up buyers as well as, active adult
retirement market through targeted product offerings in each of the
communities in which it operates. The Company's marketing strategy is
determined during the land acquisition and feasibility stage of a community's
development. The Company's homes are sold by employees and independent real
estate brokers, generally by showing furnished model homes. The Company
reports a new order when a customer's sales contract is approved, and records
revenue from a sale at closing. The Company normally commences construction
of homes when a customer has selected a lot and floor plan and has received
preliminary mortgage approval. However, construction of homes may begin prior
to a sale to satisfy market demand for completed homes and to facilitate
construction scheduling.
The Company provides each homeowner with a comprehensive one-year warranty at
the time of sale and a ten-year warranty covering loss related to structural
defects. The Company believes its warranty program meets or exceeds terms
customarily offered in the homebuilding industry.
Financial Services
- ------------------
The Company repositioned its financial services segment in recent years
through a strategy consisting of (1) focusing on retail mortgage loan
originations and improving the efficiency of these activities by establishing
regional operating centers (2) divesting of non-core assets and lines of
business, (3) leveraging its affiliation with the Company's homebuilding
segment to increase its capture rate for builder loans and (4) reaching
mortgage customers directly at the point of sale through the use of
technology. In the first quarter of 1998, the Company sold the majority of
its loan servicing portfolio. Future earnings from retail operations will be
negatively impacted by the sale. Operations of the financial services segment
include retail loan origination, loan servicing, title, escrow, homeowners
insurance and investment activities.
Retail Operations
Loan Origination
- ---------------- In 1998, the Company's mortgage origination operations
consisted of both builder loans, which are originated in connection with the
sale of the Company's homes, and spot loans, which are unrelated to the
financing of homes built by the Company. During 1998, RMC originated 8,412
loans totaling approximately $1.2 billion of which 70 percent were for
purchases of homes built by the Company and 30 percent were for purchases of
homes built by others, purchases of existing homes, or for the refinancing of
existing mortgage loans. The Company has increased its focus on the Company's
homebuilder loan production by deploying loan officers directly in the
Company's homebuilding
6
communities and by utilizing traffic and prospect information generated by the
Company's homebuilding sales and marketing staff. RMC's capture rate of the
Company's homebuilding segment customers was 70 percent in 1998.
The Company arranges various types of mortgage financing including
conventional, Federal Housing Administration (FHA) and Veterans Administration
(VA) mortgages with various fixed-and adjustable-rate features. The
Company's mortgage operations are approved by Federal Home Loan Mortgage
Corporation (FHLMC), Federal National Mortgage Association (FNMA) and
Government National Mortgage Association (GNMA).
Loan Servicing
- -------------- The repositioning of the financial services segment in recent
years led to the sale of the majority of its loan servicing portfolio in the
first quarter of 1998. As a result, the Company primarily services loans that
it originates for only a short period of time prior to the sale of servicing
rights in the secondary market on a monthly or quarterly basis. As of
December 31, 1998, the Company's loan servicing portfolio was $301 million.
Future earnings of the financial services segment will be negatively impacted
due to reductions in loan servicing income attributable to the aforementioned
sale.
Title and Escrow Services
- ------------------------- Cornerstone Title Company, a wholly owned
subsidiary, provides title services primarily to the Company's customers. As
of December 31, 1998, Cornerstone had offices in Colorado, Delaware, Florida,
Illinois, Maryland, New Jersey, Ohio, Texas and Virginia. The Company also
operates an escrow Company in California that performs escrow and loan closing
functions primarily on homes built by the Company. During 1998, Cornerstone
Title Company captured 96% of the title and escrow business related to
settlement of the Company's homes in those markets in which it operates.
Investment Operations
The Company's investment operations hold certain assets, primarily mortgage-
backed securities and notes receivable, which were obtained as a result of the
exercise of redemption rights on various mortgage-backed bonds previously
owned by the Company's limited-purpose subsidiaries. The Company earns a net
interest spread on the investment portfolio and may periodically realize gains
from the sale of mortgage-backed securities from the portfolio.
Real Estate and Economic Conditions
- -----------------------------------
The Company is significantly affected by the cyclical nature of the
homebuilding industry, which is sensitive to fluctuations in economic
activity, interest rates and levels of consumer confidence, the effects of
which differ among the various geographic markets in which the Company
operates. Higher interest rates may affect the ability of buyers to qualify
for mortgage financing and decrease demand for new homes. As a result, the
Company's home sales and mortgage originations generally will be negatively
impacted by rising interest rates. The Company's business is also affected by
local economic conditions, such as employment rates and housing demand in the
markets in which it builds homes.
Inventory risk can be substantial for homebuilders. The market value of land,
building lots and housing inventories can fluctuate significantly as a result
of changing market and economic conditions. In addition, inventory carrying
costs can be significant and can result in losses in poorly performing
projects or markets. The Company must, in the ordinary course of its
business, continuously seek and make acquisitions of land for expansion into
new markets as well as for replacement and expansion of land inventory within
its current markets. Although the Company employs various measures including
7
the land approval process, and continued review by senior management designed
to manage inventory risks, there can be no assurance that such measures will
be successful.
Competition
- -----------
The residential housing industry is highly competitive, and the Company
competes in each of its markets with a large number of national, regional and
local homebuilding companies. Some of these companies are larger than the
Company and have greater financial resources. In addition, the increase in
the availability of capital and financing in recent years has made it easier
for both large and small homebuilders to expand and enter new markets and has
increased competition. The Company also competes with other housing
alternatives including existing homes and rental housing. Principal
competitive factors in homebuilding are home price, design, quality,
reputation, relationship with developers, accessibility of subcontractors,
availability and location of lots and availability of customer financing.
The financial services segment competes with other mortgage bankers to arrange
financing for home buyers and refinancing customers. Principal competitive
factors include interest rates and other features of mortgage loan products
available to the consumer.
Regulatory and Environmental Matters
- ------------------------------------
The homebuilding segment is subject to various local, state and federal
statutes, ordinances, rules and regulations concerning zoning, building
design, construction and similar matters, including local regulations which
impose restrictive zoning and density requirements in order to limit the
number of homes that can be built within the boundaries of a particular area.
The Company may also be subject to periodic delays in homebuilding projects
due to building moratoria in any of the areas in which it operates.
Generally, such moratoria relate to insufficient water or sewage facilities or
inadequate roads or local services.
The Company and its competitors are subject to a variety of local, state and
federal statutes, ordinances, rules and regulations concerning the protection
of health and the environment. The Company is also subject to a variety of
environmental conditions that can affect its business and its homebuilding
projects. The particular environmental laws which apply to any given
homebuilding site vary greatly according to the site's location, the site's
environmental condition and the present and former uses of the site, as well
as adjoining properties. Environmental laws and conditions may result in
delays, may cause the Company to incur substantial compliance and other costs,
and can prohibit or severely restrict homebuilding activity in certain
environmentally sensitive regions or areas.
The Company's financial services segment is subject to the rules and
regulations of HUD, FHA, VA, FNMA, FHLMC, and GNMA ("regulatory agencies")
with respect to originating, processing, selling and servicing mortgage loans.
In addition, there are other federal and state statutes and regulations
affecting such activities. These rules and regulations, among other things,
prohibit discrimination and establish underwriting guidelines which include
provisions for inspections and appraisals, require credit reports on
prospective borrowers and fix maximum loan amounts. Moreover, the Company is
required to submit to the regulatory agencies audited financial statements
annually, and each regulatory entity has its own financial requirements. The
Company's affairs are also subject to examination by the regulatory agencies
at all times to assure compliance with the applicable regulations, policies
and procedures. Mortgage origination activities are subject to the Equal
Credit Opportunity Act, Federal Truth-in-
8
Lending Act and Real Estate Settlement Procedures Act and the regulations
promulgated thereunder which prohibit discrimination and require the
disclosure of certain information to mortgagors concerning credit and
settlement costs.
Employees
- ---------
At December 31, 1998, the Company employed 2,119 people. The Company
considers its employee relations to be good. No employees are represented by
a collective bargaining agreement.
Item 2. Properties.
The Company leases office space for its corporate headquarters in Columbia,
Maryland. In addition, the Company leases office space in the various markets
in which it operates. The Company operates a building component plant in New
Windsor, Maryland.
Item 3. Legal Proceedings.
Contingent liabilities may arise from the obligations incurred in the ordinary
course of business, or from the usual obligations of on-site housing producers
for the completion of contracts.
On July 31, 1998, Ryland Mortgage Company ("RMC") entered into a Plea
Agreement with the United States Attorney's Office for the Middle District of
Florida to resolve all charges in connection with an indictment previously
brought against RMC (the "Indictment"). The Indictment concerns actions in
1993 related to two of RMC's loan servicing contracts with the Resolution
Trust Corporation ("RTC"). Under the terms of the Plea Agreement, RMC paid
$3.5 million in restitution plus interest, as well as a fine of $4.2 million
and admitted responsibility for two charges of impeding the function of the
RTC.
As a result of the Indictment, the U.S. Department of Housing and Urban
Development ("HUD") previously had indicated that it was considering sanctions
against RMC, including possible withdrawal of RMC's right to participate in
the Federal Housing Administration ("FHA") loan program and originate FHA
loans. RMC previously entered into an agreement with HUD under which it was
allowed to originate loans and participate in the FHA loan program while HUD
considers what administrative action, if any, it will take as a result of the
resolution of the Indictment as RMC seeks to reach agreement on its ability to
continue to participate in the FHA loan program with representatives of HUD.
The Company also is exploring alternative arrangements in the event that RMC
is not successful in these efforts. Termination of RMC's right to participate
could be followed by similar exclusions from the loan programs of other RMC
investors. No assurance can be given regarding the results of these ongoing
discussions with HUD and its possible impact on RMC and its business.
The Company is party to various other legal proceedings generally incidental
to its businesses. Based on evaluation of these other matters and discussions
with counsel, management believes that liabilities to the Company arising from
these other matters will not have a material adverse effect on the financial
condition of the Company.
9
Item 4. Submission of Matters to a Vote of Security Holders.
No matters were submitted to a vote of security holders during the fourth
quarter of the year ended December 31, 1998.
10
Separate Item: Executive Officers of the Registrant
Name Age Position (date elected to position)
Prior Business Experience
- ---------------------------------------------------------------------------
R. Chad Dreier 51 Chairman of the Board of Directors (1994), President
and Chief Executive Officer of the Company (1993).
Michael D. Mangan 42 Executive Vice President and Chief Financial Officer
of the Company (1994). Executive Vice President and
Group Chief Financial Officer of GMAC Mortgage
Corporation (1991-1994).
John M. Garrity 52 Senior Vice President of the Company (1995),
President of the South Region of Ryland Homes
(1996), President of the Southeast Region of Ryland
Homes (1994-1996). Division General Manager of Arvida
Homes (1992-1994).
Timothy J. Geckle 46 Senior Vice President, General Counsel and Secretary
of the Company (1997). Vice President, Deputy
General Counsel (1995-1996). Corporate Counsel
(1991-1995).
Edward W. Gold 41 Senior Vice President, Human Resources of the Company
(1996). Vice President, Human Resources, United
States Fidelity & Guaranty Company (1991-1996).
Frank J. Scardina 50 Senior Vice President of the Company (1994),
President of West Region of Ryland Homes (1996),
President of California Region of Ryland Homes
(1994-1996).
Daniel G. Schreiner 41 Senior Vice President of the Company (1999),
President, Ryland Mortgage Company (1998).
President, Kaufman and Broad Mortgage Company
(1991-1998).
Kipling W. Scott 44 Senior Vice President of the Company (1995),
President of the North Region of Ryland Homes
(1997), President of Midwest Region of Ryland Homes
(1994-1997).
All officers are elected by the board of directors.
There are no family relationships, arrangements or understandings pursuant to
which any of the officers listed were elected. For a description of
employment and severance arrangements with certain executive officers of the
Company, see page 9 of the Proxy Statement for the 1999 Annual Meeting of
Stockholders.
11
PART II
Item 5. Market for the Company's Common Stock and Related Stockholder
Matters.
The information required by this item is incorporated by reference from the
section entitled "Common Stock Prices and Dividends" appearing on page 45 of
the Annual Report to Shareholders for the year ended December 31, 1998.
Item 6. Selected Financial Data.
The information required by this item is incorporated by reference from the
section entitled "Selected Financial Data" appearing on page 19 of the Annual
Report to Shareholders for the year ended December 31, 1998.
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations.
The information required by this item is incorporated by reference from the
section entitled "Management's Discussion and Analysis of Results of
Operations and Financial Condition" appearing on pages 20 through 24 of the
Annual Report to Shareholders for the year ended December 31, 1998.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk.
The information required by this item is incorporated by reference from the
section entitled "Management's Discussion and Analysis of Results of
Operations and Financial Condition", Market Risk Summary, appearing on page 24
of the Annual Report to Shareholders for the year ended December 31, 1998.
Item 8. Financial Statements and Supplementary Data.
The information required by this item is incorporated by reference from the
information appearing on pages 25 through 42 and from the section entitled
"Quarterly Financial Data and Common Stock Prices and Dividends" appearing on
page 45 of the Annual Report to Shareholders for the year ended December 31,
1998.
Item 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure.
During the fiscal years ended December 31, 1998 and 1997, there were no
disagreements between the Company and its accountants on any matter of
accounting principle or financial statement disclosure.
12
PART III
Item 10. Directors and Executive Officers of the Registrant.
Information as to the Company's Directors is incorporated by reference from
pages 2 and 4 of the Company's Proxy Statement for its 1999 Annual Meeting of
Stockholders. Information as to the Company's executive officers is shown
under Part I as a separate item.
Item 11. Executive Compensation.
The information required by this item is incorporated by reference from pages
5 through 10 of the Company's Proxy Statement for its 1999 Annual Meeting of
Stockholders.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information required by this item is incorporated by reference from page 3
of the Company's Proxy Statement for its 1999 Annual Meeting of Stockholders.
Item 13. Certain Relationships and Related Transactions.
There are no transactions, business relationships or indebtedness required to
be reported by the Company pursuant to this Item.
13
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K.
(a) 1. Financial Statements.
The following consolidated financial statements of The Ryland Group,
Inc., and Subsidiaries, included in the Annual Report to Shareholders
for the year ended December 31, 1998, are incorporated by reference
in Item 8:
Consolidated Statements of Earnings - years ended December 31, 1998,
1997, and 1996.
Consolidated Balance Sheets - December 31, 1998 and 1997.
Consolidated Statements of Stockholders' Equity - years ended
December 31, 1998, 1997 and 1996.
Consolidated Statements of Cash Flows - years ended December 31,
1998, 1997 and 1996.
Notes to Consolidated Financial Statements.
(a) 2. Financial Statement Schedules. (filed herewith) Page No.
Schedule II - Valuation and Qualifying Accounts.............. 18
Schedules not listed above have been omitted because they are either
inapplicable or the required information has been given in the
financial statements or notes thereto.
14
(a) 3. Exhibits
Exhibit No.
- -----------
3.1 Charter of The Ryland Group, Inc., as amended.
(Incorporated by reference from Form 10-K for the
year ended December 31, 1989)
3.2 Bylaws of The Ryland Group, Inc., as amended.
(Incorporated by reference from Form 10-K for the
year ended December 31, 1996)
4.1 Rights Agreement dated as of October 18, 1996, between The Ryland
Group, Inc., and ChaseMellon Shareholder Services, L.L.C.
(Incorporated by reference from Form 8-K filed October 24, 1996)
4.2 Articles Supplementary dated as of August 31, 1989.
(Incorporated by reference from Form 8-K filed
September 12, 1989)
4.3 Indenture dated as of July 15, 1992, between The Ryland Group,
Inc., and Security Trust Company, N.A., as Trustee.
(Incorporated by reference from Form 8-K filed August 6, 1992)
4.4 Senior Subordinated Notes dated as of November 4, 1993.
(Incorporated by reference from Registration Statement on
Form S-3, Registration No. 33-48071)
4.5 Indenture dated as of June 28, 1996, between The Ryland Group,
Inc., and Chemical Bank, as Trustee.
(Incorporated by reference from Form 8-K filed July 2, 1996)
4.6 Senior Notes dated as of June 10, 1996. (Incorporated by
reference from Registration Statement on Form S-3,
Registration No. 333-03791)
4.7 Senior Subordinated Notes dated as of April 13, 1998.
(Incorporated by reference from Registration Statement on
Form S-3, Registration No. 33-50933 and 333-03791).
10.1 Lease Agreement between Seventy Corporate Center Limited
Partnership and The Ryland Group, Inc., dated April 17, 1990.
(Incorporated by reference from Form 10-K for the year ended
December 31, 1990)
10.2 * 1992 Equity Incentive Plan of The Ryland Group, Inc.
(Incorporated by reference from Form 10-Q for the quarter ended
June 30, 1992)
10.3 * 1992 Non-Employee Director Equity Plan of The Ryland Group, Inc.,
as amended. (Incorporated by reference from Form 10-Q for the
quarter ended June 30, 1994)
10.4 Restated Credit Agreement dated as of July 21, 1995, between
The Ryland Group, Inc., and certain banks. (Incorporated by
reference from Form 10-K for the year ended December 31, 1995)
10.5 Second Amended and Restated Credit Agreement dated as of June 24,
1997, between The Ryland Group, Inc., and certain banks.
(Incorporated by reference from Form 10-K for the year ended
December 31, 1997)
15
(a) 3. Exhibits, continued
Exhibit No.
- ----------
10.6 Restated Loan and Security Agreement dated as of June 16, 1995,
between Ryland Mortgage Company; Associates Mortgage Funding
Corporation; BankOne, Texas, N.A.; and certain lenders.
(Incorporated by reference from Form 10-K for the year ended
December 31, 1995)
10.7 First Amendment to Restated Loan and Security Agreement dated as
of June 3, 1996, between Ryland Mortgage Company, Associate
Mortgage Funding Corporation, BankOne, Texas, N.A., and certain
lenders. (Incorporated by reference from Form 10-K for the year
ended December 31, 1996)
10.8 Second Amendment to Restated Loan and Security Agreement dated as
of June 23, 1997, between Ryland Mortgage Company, Associate
Mortgage Funding Corporation, BankOne, Texas, N.A., and certain
lenders. (Incorporated by reference from Form 10-K for the year-
ended December 31, 1997)
10.9 Third Amendment to Restated Loan and Security Agreement dated as
of December 31, 1997, between Ryland Mortgage Company, Associate
Mortgage Funding Corporation, BankOne, Texas, N.A., and certain
lenders. (Incorporated by reference from Form 10-K for the year-
ended December 31, 1997)
10.10 * Employment Agreement dated as of January 28, 1997, between
R. Chad Dreier and The Ryland Group, Inc. (Incorporated by
reference from Form 10-K for the year ended December 31, 1996)
10.11 * Employment Agreement dated as of September 18, 1995 between
Michael D. Mangan and The Ryland Group, Inc. as amended and
restated as of January 28, 1997. (Incorporated by reference from
Form 10-K for the year ended December 31, 1996)
10.12 * Senior Executive Severance Agreement dated as of January 28,
1997, between the executive officers of the Company and The
Ryland Group, Inc. (Incorporated by reference from Form 10-K
for the year ended December 31, 1996)
10.13 * Amendment and Restatement of the Executive and Director Deferred
Compensation Plan, as of March 1, 1997 between The Ryland Group,
Inc. and certain of its executive employees and Directors.
(Incorporated by reference from Form 10-K for the year ended
December 31, 1997)
10.14* Amendment No. 1 to the Executive and Director Deferred
Compensation Plan effective January 1, 1998. (Incorporated by
reference from Form 10-K for the year ended December 31, 1997)
10.15* Non-Employee Directors' Stock Unit Plan between The Ryland Group,
Inc. and the Board of Directors, effective January 1, 1998.
(Incorporated by reference from Form 10-K for the year ended
December 31, 1997)
11 Computation of Per Share Earnings.
(Filed herewith)
13 Annual Report to Shareholders for the year ended December
31, 1998.
(Filed herewith)
16
(a) 3. Exhibits, continued
Exhibit No.
- ----------
21 Subsidiaries of the Registrant.
(Filed herewith)
23 Consent of Ernst & Young LLP, Independent Auditors.
(Filed herewith)
24 Power of Attorney.
(Filed herewith)
27. Financial Data Schedule.
(Filed herewith)
* Executive Compensation Plan or Arrangement
(b) There were no reports on Form 8-K filed in the fourth quarter of 1998.
17
The Ryland Group, Inc. and Subsidiaries
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
(dollar amounts in thousands)
Balance at Charged to Charged Deductions Balance at
Beginning Costs and to Other and End of
Description of Period Expenses Accounts Transfers Period (1)
Valuation allowance:
Homebuilding inventories
1998 $2,967 $4,188 $ 0 $ (922) $ 6,233
1997 3,052 580 0 (665) 2,967
1996 8,303 0 0 (5,251) 3,052
Valuation allowance:
Investment in and advances
to joint ventures
1998 $ 0 $1,000 $ 0 $ 0 $1,000
1997 6,500 0 0 (6,500) 0
1996 7,933 0 0 (1,433) 6,500
(1) Balances as of December 31, 1998, 1997 and 1996, represent valuation
allowances for assets to be disposed of.
18
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
THE RYLAND GROUP, INC.
By: /s/ R. Chad Dreier March 10, 1999
R. Chad Dreier, Chairman of the Board,
President, and Chief Executive Officer
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
Principal Executive Officer:
/s/ R. Chad Dreier March 10, 1999
R. Chad Dreier
Chief Executive Officer
Principal Financial Officer:
/s/ Michael D. Mangan March 10, 1999
Michael D. Mangan
Chief Financial Officer
Principal Accounting Officer:
/s/ David L. Fristoe March 10, 1999
David L. Fristoe
Chief Accounting Officer
Majority of the Board of Directors: James A. Flick, Jr.; R. Chad Dreier;
Robert J. Gaw; Leonard M. Harlan; William L. Jews; William G. Kagler;
Charlotte St. Martin; Leslie M. Frecon; John O. Wilson.
By: /s/ Michael D. Mangan March 10, 1999
Michael D. Mangan
As Attorney-in-Fact
19
Page Of
Sequentially
Numbered Pages
--------------
INDEX OF EXHIBITS
11 Computation of Per Share Earnings 21
13 Annual Report to Shareholders for the year ended
December 31, 1998 22 - 55
21 Subsidiaries of the Registrant 56
23 Consent of Ernst & Young LLP, Independent Auditors 57
24 Power of Attorney 58
27 Financial Data Schedule 59
20
<TABLE>
<CAPTION>
Exhibit 11 Computation of Per Share Earnings
December 31, December 31, December 31,
1998 1997 1996
------------- ------------- -------------
Basic:
- -------
<S> <C> <C> <C>
Net earnings before extraordinary item $ 43,592 $ 21,882 $ 15,839
Extraordinary item, net of tax (3,326) 0 0
--------------- -------------- -------------
Net earnings 40,266 21,882 15,839
Adjustment for dividends on
convertible preferred shares (1,000) (1,630) (1,974)
--------------- -------------- -------------
Net earnings applicable to
common stockholders $ 39,266 $ 20,252 $ 13,865
============== ============= =============
Weighted average common shares outstanding 14,709,404 15,227,829 15,789,184
Net earnings per share before extraordinary
item $ 2.90 $ 1.33 $ 0.88
Extraordinary item (0.23) 0.00 0.00
-------------- -------------- -------------
Net earnings per share $ 2.67 $ 1.33 $ 0.88
============== ============== =============
Diluted:
- -------
Net earnings before extraordinary item $ 43,592 $ 21,882 $ 15,839
Extraordinary item, net of tax (3,326) 0 0
--------------- -------------- -------------
Net earnings 40,266 21,882 15,839
Adjustment for dividends on
convertible preferred shares 0 (1,630) (1,974)
-------------- -------------- -------------
Net earnings applicable to
common stockholders $ 40,266 $ 20,252 $ 13,865
=============== ============== =============
Weighed average common shares outstanding 14,709,404 15,227,829 15,789,184
Common stock equivalents:
Stock options 316,640 69,577 5,387
Compensation unit plan 113,894 107,661 134,240
Convertible preferred stock (1) 463,374 0 0
-------------- --------------- -----------
Total 15,603,312 15,405,067 15,928,811
=============== =============== =============
Net earnings per share before extraordinary item $ 2.79 $ 1.32 $ 0.87
Extraordinary item (0.21) 0.00 0.00
-------------- -------------- -------------
Net earnings per share $ 2.58 $ 1.32 $ 0.87
=============== =============== =============
</TABLE>
(1) The assumed conversion of preferred shares was dilutive for the year
ended December 31, 1998. For the years ending December 31, 1997 and 1996
the net earnings was adjusted for dividends on convertible preferred
shares as the adjustment for incremental dividends related to the assumed
conversion of convertible preferred shares would be anti-dilutive.
THE RYLAND GROUP, INC. & SUBSIDIARIES
Selected Financial Data
(dollar amounts in millions, except unit and per share data) unaudited
- -----------------------------------------------------------------------------
1998 1997 1996 1995 1994
- -----------------------------------------------------------------------------
ANNUAL RESULTS:
Revenues
Homebuilding $1,695 $1,557 $1,473 $1,458 $1,443
Financial services and limited-
purpose subsidiaries 70 93 107 127 176
---------------------------------------
Total 1,765 1,650 1,580 1,585 1,619
Cost of sales - homebuilding (1) 1,429 1,346 1,277 1,325 1,262
Selling, general and administrative
expenses 216 211 203 211 225
Interest expense 45 57 74 91 105
---------------------------------------
Earnings (loss) from continuing
operations before taxes 75 36 26 (42) 27
Tax expense (benefit) 32 14 10 (17) 11
---------------------------------------
Net earnings (loss) from continuing
operations before extraordinary
item and cumulative effect of
accounting change 43 22 16 (25) 16
Discontinued operations, net of
taxes (2) 0 0 0 22 6
Extraordinary item, extinguishment
of debt (3) (3) 0 0 0 0
Cumulative effect of accounting
change, net of taxes (4) 0 0 0 0 2
---------------------------------------
Net earnings (loss) $ 40 $ 22 $ 16 $ (3) $ 24
---------------------------------------
YEAR-END POSITION:
Assets
Housing inventories $ 642 $ 555 $ 575 $ 538 $ 600
Mortgage loans held-for-sale 159 200 180 285 215
Mortgage-backed securities
and notes receivable 112 153 144 113 171
Collateral for bonds payable
of limited-purpose subsidiaries 92 142 214 375 459
Other assets 210 233 226 270 259
--------------------------------------
Total assets $1,215 $1,283 $1,339 $1,581 $1,704
--------------------------------------
Liabilities
Long-term debt $ 308 $ 310 $ 354 $ 397 $ 409
Short-term notes payable 223 341 326 367 378
Bonds payable of limited-
purpose subsidiaries 88 137 207 365 447
Other liabilities 250 190 142 151 158
--------------------------------------
Total liabilities $ 869 $ 978 $1,029 $1,280 $1,392
--------------------------------------
Stockholders'equity $ 346 $ 305 $ 310 $ 301 $ 312
--------------------------------------
PER COMMON SHARE DATA:
Basic
Net earnings (loss) from
continuing operations before
extraordinary item and
cumulative effect of accounting
change $ 2.90 $ 1.33 $ 0.88 $(1.78) $ 0.91
Net earnings (loss) $ 2.67 $ 1.33 $ 0.88 $(0.31) $ 1.43
Diluted
Net earnings (loss) from
continuing operations before
extraordinary item and
cumulative effect of accounting
change $ 2.79 $ 1.32 $ 0.87 $(1.78) $ 0.90
Net earnings (loss) $ 2.58 $ 1.32 $ 0.87 $(0.31) $ 1.42
Dividends declared $ 0.16 $ 0.27 $ 0.60 $ 0.60 $ 0.60
Stockholders'equity $22.83 $ 20.31 $19.00 $18.69 $19.56
- -----------------------------------------------------------------------------
(1) 1995 reflects a $45 million pretax charges related to homebuilding
inventories and investments in unconsolidated joint ventures.
(2) The Company sold its institutional mortgage-securities administration
business in the second quarter of 1995. 1995 results from discontinued
operations include the second-quarter gain on the sale and the results of
operations for the first half of 1995.
(3) The Company reported an extraordinary after-tax charge of $3.3 million in
1998 related to a loss on the early extinguishment of debt.
(4) The Company adopted Statement of Financial Accounting Standards No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," in 1994.
22
MANAGEMENT'S DISCUSSION AND ANALYSIS OF RESULTS OF OPERATIONS AND FINANCIAL
CONDITION
THE COMPANY
Operations of The Ryland Group, Inc. and subsidiaries (the "Company") consist
of two business segments: homebuilding and financial services. The Company's
homebuilding segment constructs and sells single-family attached and detached
homes in 21 markets in 14 states. The financial services segment provides
mortgage-related products and services for retail customers and conducts
investment activities.
RESULTS OF OPERATIONS
CONSOLIDATED
The Company reported consolidated net earnings from operations (before
extraordinary item) of $43.6 million, or $2.90 per share, for 1998, compared
with consolidated net earnings of $21.9 million, or $1.33 per share, for 1997,
and consolidated net earnings of $15.8 million, or $.88 per share, for 1996.
The homebuilding segment reported pretax earnings of $80.1 million for 1998,
compared with pretax earnings of $35.2 million for 1997 and pretax earnings of
$22.6 million for 1996. Homebuilding results in 1998 increased from 1997
primarily due to higher gross profit margins combined with increased closings
and lower interest expense. Homebuilding results in 1997 increased from 1996
primarily due to higher gross profit margins combined with lower interest
expense.
The financial services segment reported pretax earnings of $11.8 million for
1998, compared with $15.6 million for 1997 and $15.8 million for 1996. The
decrease in 1998 from 1997 was primarily attributable to the significant
reduction in the Company's loan-servicing operations due to portfolio sales in
1997 and the first quarter of 1998.
Corporate expenses represent the costs of corporate functions, which support
the business segments. Corporate expenses of $16.7 million for 1998 and $14.3
million for 1997, were up $2.4 million and $2.2 million, respectively, from
the prior year levels primarily due to increases in incentive compensation
attributable to the higher earnings levels in 1998 and 1997, respectively.
The Company's limited-purpose subsidiaries no longer issue mortgage-backed
securities and mortgage-participation securities, but they continue to hold
collateral for previously issued mortgage-backed bonds in which the Company
maintains a residual interest. Revenues, expenses and portfolio balances
continue to decline as the mortgage collateral pledged to secure the bonds
decreases due to scheduled payments, prepayments and exercises of early
redemption provisions. Revenues have approximated expenses for the last three
years.
EXTRAORDINARY ITEM
In the third quarter of 1998, the Company recognized an extraordinary loss of
$3.3 million (net of taxes of $2.2 million), or $.23 per share. The loss was
recorded in connection with the redemption on July 15, 1998 of $100 million of
10.5 percent senior subordinated notes due 2002. The redemption of the notes
was at the stated call price of 103.9 percent of par and was funded by the
April 1998 issuance of lower cost debt. Net earnings for the year 1998 after
the extraordinary item were $40.3 million, or $2.67 per share, versus $1.33
per share for 1997.
23
HOMEBUILDING SEGMENT
Results of operations for the homebuilding segment are summarized as follows
(amounts in thousands, except average closing price):
1998 1997 1996
- ----------------------------------------------------------------
Revenues
Home sales $1,664,267 $1,527,107 $1,456,634
Land sales 30,238 30,219 16,641
--------- --------- ---------
Total 1,694,505 1,557,326 1,473,275
Gross profit 265,742 211,185 196,398
Selling, general and
administrative expenses 168,004 152,071 146,285
Interest expense 17,681 23,964 27,517
--------- --------- ---------
Homebuilding pretax
earnings $ 80,057 $ 35,150 $ 22,596
--------- --------- ---------
--------- --------- ---------
Average closing price $ 185,000 $ 182,000 $ 174,000
Homebuilding revenues increased 9 percent in 1998, compared with 1997, due to
a 7 percent increase in closings and an increase in the average closing price.
The increase in closings in 1998 was due to the higher backlog at the
beginning of the year and the increase in homes sold during the year.
Homebuilding revenues increased 6 percent in 1997, compared with 1996,
primarily due to an $8,000 increase in the average closing price and increased
revenues from land sales, which more than offset the slight decline in
closings. The increase in average closing price in 1997 was primarily due to
increased closings in the Company's higher priced markets. Homebuilding
results included pretax gains from land sales of $1.2 million in 1998, $4.8
million in 1997 and $3.7 million in 1996.
Gross profit margins from home sales averaged 15.9 percent for the year 1998,
a significant increase from 13.5 percent for 1997 and 13.2 percent for 1996.
The improvement was primarily due to increased closings from newer communities
which have better land positions and a more cost-effective product. Sales
price increases in excess of increases in direct construction costs have also
contributed to improved margins. Company initiatives to reduce direct
construction costs have helped to limit increases in these costs.
Selling, general and administrative expenses as a percent of revenues were 9.9
percent for 1998, 9.8 percent for 1997 and 9.9 percent for 1996, basically
flat as a percentage of revenues. Total selling, general and administrative
expenses increased in 1998 and 1997 primarily due to higher selling costs
associated with increased closings and higher incentive compensation expense
as a result of improved earnings. Interest expense decreased $6.3 million, or
26 percent in 1998 due to lower average homebuilding borrowings, lower
effective rates paid on borrowings and an increase in the amount of interest
capitalized due to an increase in land under development. The lower effective
rate on borrowings was primarily due to the Company's issuance of lower cost
long-term debt combined with the early redemption of higher cost debt.
Interest expense decreased in 1997 due to a decrease in average homebuilding
borrowings primarily attributable to a decline in average homebuilding
inventories.
24
HOMEBUILDING OPERATIONAL DATA
New Orders (Units) Closings (Units)
% %
1998 1997 Change 1998 1997 Change
---- ---- ------- ---- ---- -------
Mid-Atlantic 1,083 1,256 (14) 1,060 1,243 (15)
Midwest 1,693 1,509 12 1,610 1,372 17
Southeast 2,126 1,792 19 1,910 1,653 16
Southwest 2,079 2,027 3 1,967 1,716 15
West 2,449 2,410 2 2,447 2,393 2
----- ----- -- ----- ----- --
Total 9,430 8,994 5 8,994 8,377 7
Outstanding Contracts Outstanding Contracts
December 31, 1998 December 31, 1997
----------------- -----------------
Dollars Dollars
% in Average in Average
Units Change Millions Price Units Millions Price
----- ------ -------- ----- ----- -------- -----
Mid-Atlantic 406 6 $ 87 $215,000 383 $ 81 $212,000
Midwest 689 14 126 183,000 606 106 174,000
Southeast 1,057 66 192 182,000 637 117 183,000
Southwest 757 17 120 158,000 645 95 148,000
West 543 0 128 235,000 541 110 203,000
----- -- --- ------- ----- --- -------
Total 3,452 23 $653 $189,000 2,812 $509 $181,000
New orders increased 5 percent in 1998 compared with 1997 with increases in
all regions except the Mid-Atlantic. The largest increases in new orders were
in the Southeast and Midwest regions where growth occurred in both new and
existing markets. In the West region, sales were relatively flat due to
strong sales in California in 1997 and early 1998 which reduced the number of
communities currently open for sales. The Company is opening new communities
in California and expects increased sales in 1999. The decline in the Mid-
Atlantic reflects the Company's reduced investment in those markets.
On October 30, 1998, the Company completed the acquisition of The Regency
Organization ("Regency"), a privately held homebuilder with operations in
Pasco, Hernando and Citrus Counties, Florida, immediately north of the
Company's existing Tampa Bay operations. Regency's operational focus has been
primarily on age-restricted and active-adult retirement communities. The
acquisition affords the Company the opportunity to gain market share in a
rapidly growing area of Florida and an immediate presence in the Florida
retirement market. The Company purchased Regency and retired Regency's
indebtedness for a total cash investment of approximately $18 million.
Results of Regency's operations have been included in the Company's results
from the date of acquisition. The Company anticipates that this acquisition
could add approximately 350-400 closings to its results for 1999 at sales
prices ranging from $90-$150 thousand.
As of December 31, 1998, the Company had outstanding contracts for 3,452
units, an increase of 23 percent from year-end 1997 due to the increase in new
orders during the year and the acquisition of Regency. Outstanding contracts
represent the Company's backlog of sold but not closed homes, which generally
are built and closed, subject to cancellation, over the next two quarters. The
$653 million value of outstanding contracts increased 28 percent from year-end
1997.
25
FINANCIAL SERVICES SEGMENT
Revenues and expenses of the Company's financial services segment are
summarized as follows (amounts in thousands):
1998 1997 1996
- -------------------------------------------------------------------------
Retail revenues:
Interest and
net origination fees $ 7,524 $ 7,651 $13,210
Gains on sales of mortgages
and servicing rights 22,667 21,968 15,543
Loan servicing 7,675 24,464 29,684
Title/escrow 8,723 6,394 5,733
------ ------ ------
Total retail revenues 46,589 60,477 64,170
Revenues from investment
operations 13,796 16,452 15,354
------ ------ ------
Total revenues $60,385 $76,929 $79,524
Expenses:
General and administrative 32,023 43,454 44,723
Interest 16,574 17,890 18,954
------ ------ ------
Total expenses 48,597 61,344 63,677
Pretax earnings $11,788 $15,585 $15,847
------ ------ ------
------ ------ ------
Pretax earnings by line of business were as follows (amounts in thousands):
1998 1997 1996
- -------------------------------------------------------------------------
Retail $ 7,915 $10,093 $ 9,539
Investments 3,873 5,492 6,308
------ ------ -----
Total $11,788 $15,585 $15,847
------ ------ ------
------ ------ ------
OPERATIONAL DATA:
1998 1997 1996
- -------------------------------------------------------------------------
Retail operations:
Originations
Number of mortgage originations 8,412 7,248 11,161
Dollars (in millions) $1,200 $1,005 $1,466
Percent of total originations
from Ryland Homes 70% 66% 47%
Investment operations:
Portfolio average
balance (in millions) $ 139 $ 153 $ 123
Revenues and general and administrative expenses for the financial services
segment decreased significantly for the year ended December 31, 1998 compared
with 1997. The decreases were primarily due to the decline in loan servicing
operations related to loan servicing portfolio sales in 1997 and the first
quarter of 1998. Interest expense decreased 7.4 percent for the year ended
December 31, 1998, compared with 1997, primarily due to a decrease in the
warehouse holding period for mortgage loans before they are sold in the
secondary market. Revenues for the financial services segment decreased in
1997 compared with the same period of 1996 due to fewer mortgage loan
originations and lower loan servicing revenues which were partially offset by
higher gains on sales of mortgages and servicing rights. Loan servicing
revenues declined as a result of a lower portfolio balance and changes in the
portfolio product mix. The decline in interest expense for 1997 was directly
related to the reduced warehouse borrowings required to fund lower origination
volume. General and administrative expenses declined in 1997 primarily due to
improved
26
efficiencies in the mortgage origination process and cost savings related to
the disposition of the Company's wholesale mortgage origination business in
1996.
Retail operations include residential mortgage origination, loan servicing,
title, escrow and homeowners insurance services for retail customers. Retail
operations reported pretax earnings of $7.9 million for 1998 compared with
$10.1 million for 1997 and $9.5 million for 1996. The Company sold the
majority of its loan servicing portfolio in the first quarter of 1998 and
realized a $6.1 million pretax gain, net of expenses and liabilities related
to the sale of servicing. The decline in earnings for 1998 was primarily due
to lower loan servicing income, attributable to the reduction in the
portfolio, partially offset by cost reductions. Future earnings from retail
operations will be negatively impacted by the sale. The 1997 results from
retail operations were favorably impacted by higher gains on sales of
mortgages and servicing rights and lower expenses which more than offset the
effect of lower loan originations and reduced loan servicing income.
Mortgage originations for 1998 increased by 16 percent from 1997 due to higher
closing volume from homebuilder loan originations and higher refinancing
activity. Mortgage originations decreased in 1997 by 35 percent from 1996
primarily due to the sale of the wholesale mortgage operations which was
completed in May 1996 as well as lower closing volume from spot and
homebuilder loan originations.
Investment operations hold certain assets, primarily mortgage-backed
securities which were obtained as a result of the exercise of redemption
rights on various mortgage-backed bonds previously owned by the Company's
limited-purpose subsidiaries. Pretax earnings from investment operations were
$3.9 million for 1998 compared with $5.5 million for 1997 and $6.3 million for
1996. The decline in 1998 was due to the lower average portfolio balance
which resulted in a decline in interest income, and the fact that 1997
included $.8 million of other income related to the redemption of certain
securities. Pretax earnings were down $.8 million in 1997 compared with 1996.
Although the average portfolio balance was higher in 1997, investment income
included only $.8 million of other income related to the redemption of certain
securities in 1997 compared with $1.3 million of such income in 1996. Results
for 1996 also included $1.1 million in gains from the sale of mortgage-backed
securities.
FINANCIAL CONDITION AND LIQUIDITY
The Company generally provides for the cash requirements of the homebuilding
and financial services businesses from outside borrowings and internally
generated funds. The Company believes that its current sources of cash are
sufficient to finance its requirements.
The homebuilding segment borrowings include senior notes, senior subordinated
notes and an unsecured revolving credit facility. Senior and senior
subordinated notes outstanding totaled $308 million as of December 31, 1998
and December 31, 1997. On April 13, 1998, the Company issued $100 million of
8.25 percent senior subordinated notes due April 1, 2008. The net proceeds
from this issuance were initially used to repay outstanding amounts under the
revolving credit facility and to repay short-term notes payable. On July 15,
1998, the Company borrowed funds under its revolving credit facility to retire
its $100 million, 10.5 percent, senior subordinated notes due 2002 at the
stated call price of 103.9 percent of par.
The Company uses its unsecured revolving credit facility to finance increases
in its homebuilding inventory and working capital. This facility, which
matures in July 2000, provides for total borrowings of up to $300 million.
There were no outstanding borrowings under this facility as of December 31,
1998 or as of December 31, 1997. The Company had letters of credit outstanding
under this facility totaling $34 million at December 31, 1998 and $22 million
at December 31, 1997.
Housing inventories increased to $642 million as of December 31, 1998 from
$555 million as of the end of 1997. The increase reflects higher sold
inventory related to the significant increase in year-end backlog, additional
inventory investment in certain markets and the acquisition of Regency. The
increase in inventory was funded with internally generated funds and higher
accounts payable.
The financial services segment uses cash generated from operations and
borrowing arrangements to finance its operations. A bank credit facility
agreement, which matures on June 1, 2000, provides up to $260 million for
mortgage warehouse funding and $30 million for working capital advances.
Other borrowing arrangements as of December 31, 1998 included repurchase
agreement facilities aggregating $370 million, and a $100 million revolving
credit facility used to finance investment portfolio securities. At December
31,
27
1998 and December 31, 1997, the combined borrowings of the financial services
segment outstanding under all agreements were $223 million and $341 million,
respectively.
Mortgage loans, notes receivable and mortgage-backed securities held by the
limited-purpose subsidiaries are pledged as collateral for the issued bonds,
the terms of which provide for the retirement of all bonds from the proceeds
of the collateral. The source of cash for the bond payments is cash received
from the mortgage loans, notes receivable and mortgage-backed securities.
The Company has not guaranteed the debt of the financial services
segment or the limited-purpose subsidiaries.
During 1998, the Company repurchased approximately 353,000 shares of its
outstanding common stock at a cost of approximately $7 million. As of
December 31, 1998, the Company had Board authorization to repurchase up to an
additional 958,400 shares of its common stock. The Company's stock repurchase
program has been funded through internally generated funds.
28
MARKET RISK SUMMARY
The following table provides information about the Company's significant
financial instruments that are sensitive to changes in interest rates. For
debt obligations, the table presents principal cash flows and related
weighted-average interest rates by expected maturity dates. Weighted-average
variable rates are based on implied forward rates as of the reporting date.
<TABLE>
<CAPTION>
INTEREST RATE SENSITIVITY
Principal Amount by Expected Maturity
- -----------------------------------------------------------------------------------------------------------------------
FAIR VALUE
(dollars in thousands) 1999 2000 2001 2002 2003 THEREAFTER TOTAL 12/31/98
- -----------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
HOMEBUILDING:
Liabilities
Long-term debt (fixed rate) $ 8,000 $300,000 $308,000 $313,140
Average interest rate 10.5% 9.5% 9.5%
FINANCIAL SERVICES:
Assets
Mortgage loans, held-for-sale
(fixed rate) $139,786 $139,786 $141,918
Average interest rate 6.5% 6.5%
Mortgage loans, held-for-sale $ 18,825 $ 18,825 $ 19,112
Average interest rate 7.2% 7.2%
Mortgage-backed securities,
available-for-sale $ 7,516 $ 5,441 $ 4,606 $ 3,305 $ 2,617 $10,087 $ 33,572 $ 36,414
Average interest rate 9.5% 9.6% 9.6% 9.6% 9.6% 9.7% 9.6%
Mortgage-backed securities,
held-to-maturity $ 1,074 $ 779 $ 662 $ 476 $ 378 $ 1,457 $ 4,826 $ 5,147
Average interest rate 9.0% 9.0% 9.0% 9.0% 9.0% 9.0% 9.0%
Notes receivable, whole loans
and funds held by trustee $ 16,211 $12,455 $ 9,574 $ 7,362 $ 5,665 $19,147 $ 70,414 $ 76,224
Average interest rate 9.4% 9.4% 9.4% 9.4% 9.5% 9.5% 9.4%
Liabilities
Short-term notes payable
(variable rate) $223,058 $223,058 $223,058
Average interest rate 5.3% 5.3%
Off balance sheet financial
instruments
Forward delivery contracts:
Notional amount $163,000 $163,000 $ (441)
Average interest rate 6.5% 6.5%
Commitments to originate
mortgage loans:
Notional amount $ 33,859 $ 33,859 $ 155
Average interest rate 6.8% 6.8%
- -----------------------------------------------------------------------------------------------------------------------
</TABLE>
29
Interest rate risk is the primary market risk facing the Company. Interest
rate risk arises principally in the Company's financial services segment but
also with respect to the homebuilding segment long-term debt. The Company
enters into forward delivery contracts and may at times use other hedging
contracts to mitigate its exposure to movements in interest rates on mortgage
loan commitments and mortgage loans held-for-sale based upon the Company's
marketing strategy that establishes a risk tolerance level. The major factors
influencing the use of hedging contracts include general market conditions,
interest rates, types of mortgages originated, and the percentage of mortgage
loan commitments expected to be funded. The market risk assumed while holding
the hedging contracts mitigates the market risk associated with the mortgage
loan commitments and mortgage loans held-for-sale. In managing interest rate
risk, the Company does not speculate on the direction of interest rates.
Although the collateral for bonds payable and the bonds payable of the
limited-purpose subsidiaries are subject to interest rate risk, the Company
has not guaranteed nor is otherwise obligated with respect to these bond
issues and therefore has no risk of loss.
YEAR 2000 READINESS DISCLOSURE
The Company's Year 2000 remediation efforts have focused on its key business
computer applications representing those systems that the Company is dependent
upon to conduct day-to-day business operations. Starting in 1997, the Company
initiated a comprehensive review of its business applications to determine
their Year 2000 readiness and the adequacy of these systems to meet future
business requirements. Out of this effort, a number of systems were
identified that were not Year 2000 compliant. In most cases these systems
were already in the process of being replaced or upgraded.
As of December 31, 1998, the Company believes that its key homebuilding
business systems are Year 2000 compliant. No material costs have been
incurred to date in achieving Year 2000 readiness for these systems. However,
certain data, voice communication and financial service's systems are in the
process of being replaced or upgraded. Some implementation and testing
procedures were completed in 1998 and the remainder are scheduled for
completion in mid-1999. The additional costs of achieving Year 2000 compliance
could aggregate between $1 to $2 million.
The Company is currently assessing other potential Year 2000 issues, including
non-information technology systems. The Company's relationships with vendors,
financial institutions and other third parties are being reviewed to determine
the status of their Year 2000 compliance and the impact their potential
noncompliance could have on the Company. The Company has no means of ensuring
that its third party service providers will be Year 2000 ready. In the event
that they are not ready on a timely basis, the Company will seek alternative
sources for goods and services, where practicable. The Company is in the
process of developing a Year 2000 contingency plan.
Although the Company will continue to monitor the situation, it is possible
that the Company or the third parties with whom it has significant
relationships will not successfully complete all of their Year 2000
remediation efforts. If this were to occur, the Company could encounter
disruptions to its business, but, currently believes it unlikely that such
disruptions would have a material adverse effect on its results of operations.
The Company could also be impacted by financial market disruption or by Year
2000 computer system failures at government agencies on which the Company is
dependent for zoning, building permits and related matters.
Note:
Certain statements in this Annual Report may be "forward-looking statements"
within the meaning of the Private Securities Litigation Act of 1995. Forward-
looking statements are based on various factors and assumptions that include
known and unknown risks and uncertainties, the completion and profitability of
sales reported, the market for homes generally and in areas where the Company
operates, the availability and cost of land, changes in economic conditions
and interest rates, increases in raw material and labor costs, consumer
confidence, government regulations, and general competitive factors, all or
each of which may cause actual results to differ materially.
30
THE RYLAND GROUP, INC. & SUBSIDIARIES
Consolidated Statement of Earnings
(amounts in thousands, except share data)
- -------------------------------------------------------------------------
Year ended December 31,
1998 1997 1996
- -------------------------------------------------------------------------
REVENUES:
Homebuilding:
Residential revenue $ 1,664,267 $ 1,527,107 $ 1,456,634
Other revenue 30,238 30,219 16,641
---------- ----------- ----------
Total homebuilding revenue 1,694,505 1,557,326 1,473,275
Financial services 60,385 76,929 79,524
Limited-purpose subidiaries 10,598 15,551 27,387
---------- ----------- ----------
Total revenues 1,765,488 1,649,806 1,580,186
---------- ----------- ----------
EXPENSES:
Homebuilding:
Cost of sales 1,428,763 1,346,141 1,276,877
Selling, general and
administrative 168,004 152,071 146,285
Interest 17,681 23,964 27,517
--------- --------- ---------
Total homebuilding expenses 1,614,448 1,522,176 1,450,679
Financial services:
General and administrative 32,023 43,454 44,723
Interest 16,574 17,890 18,954
--------- -------- ---------
Total financial services
expenses 48,597 61,344 63,677
Limited-purpose subsidiaries
expenses 10,598 15,551 27,387
Corporate expenses 16,687 14,265 12,046
--------- --------- ---------
Total expenses 1,690,330 1,613,336 1,553,789
--------- --------- ---------
Earnings before taxes and
extraordinary item 75,158 36,470 26,397
Tax expense 31,566 14,588 10,558
--------- --------- ---------
NET EARNINGS BEFORE
EXTRAORDINARY ITEM 43,592 21,882 15,839
Extraordinary item - loss on early
extinguishment of debt (net of
taxes of $2,217) (3,326) 0 0
--------- -------- --------
NET EARNINGS $ 40,266 $ 21,882 $ 15,839
- -------------------------------------------------------------------------
Preferred dividends $ 1,000 $ 1,630 $ 1,974
Net earnings applicable
to common stockholders $ 39,266 $ 20,252 $ 13,865
NET EARNINGS PER COMMON SHARE:
Basic:
Net earnings before
extraordinary item $ 2.90 $ 1.33 $ 0.88
Extraordinary item (0.23) 0 0
---------- -------- --------
Net earnings per common share $ 2.67 $ 1.33 $ 0.88
Diluted:
Net earnings before
extraordinary item $ 2.79 $ 1.32 $ 0.87
Extraordinary item (0.21) 0 0
---------- -------- --------
Net earnings per common share $ 2.58 $ 1.32 $ 0.87
Average common shares outstanding:
Basic 14,709,404 15,227,829 15,789,184
Diluted 15,603,312 15,405,067 15,928,811
- -------------------------------------------------------------------------
See notes to consolidated financial statements.
31
THE RYLAND GROUP, INC. & SUBSIDIARIES
Consolidated Balance Sheets
(amounts in thousands)
- --------------------------------------------------------------------
December 31,
1998 1997
- --------------------------------------------------------------------
ASSETS
HOMEBUILDING:
Cash and cash equivalents $ 48,100 $ 33,065
Housing inventories:
Homes under construction 373,012 332,452
Land under development and
improved lots 268,750 222,379
------------ -----------
Total inventories 641,762 554,831
Property, plant and equipment 26,818 26,463
Purchase price in excess of net
assets acquired 23,473 19,511
Other assets 38,515 37,359
------------ -----------
778,668 671,229
------------ -----------
FINANCIAL SERVICES:
Cash and cash equivalents 1,684 3,066
Mortgage loans held-for-sale 158,611 199,857
Mortgage-backed securities and
notes receivable 111,654 153,022
Mortgage servicing rights 4,479 8,242
Other assets 10,255 46,715
------------ -----------
286,683 410,902
------------ -----------
OTHER ASSETS:
Collateral for bonds payable of
limited-purpose subsidiaries 92,403 142,303
Net deferred taxes 31,384 35,764
Other 26,260 23,211
------------ -----------
TOTAL ASSETS $ 1,215,398 $ 1,283,409
- ---------------------------------------------------------------------
See notes to consolidated financial statements.
32
THE RYLAND GROUP, INC. & SUBSIDIARIES
Consolidated Balance Sheets
(amounts in thousands except share data)
- --------------------------------------------------------------------
December 31,
1998 1997
- --------------------------------------------------------------------
LIABILITIES
HOMEBUILDING:
Accounts payable and
other liabilities $ 173,370 $ 117,326
Long-term debt 308,152 310,221
------------ -----------
481,522 427,547
------------ -----------
FINANCIAL SERVICES:
Accounts payable and
other liabilities 16,473 17,382
Short-term notes payable 223,058 340,632
----------- ----------
239,531 358,014
OTHER LIABILITIES:
Bonds payable of limited-purpose
subsidiaries 87,980 136,865
Other 60,082 55,860
------------ -----------
TOTAL LIABILITIES 869,115 978,286
------------ -----------
STOCKHOLDERS' EQUITY:
Convertible preferred stock,
$1 par value:
Authorized - 1,400,000 shares
Issued - 416,744 shares
(502,833 for 1997) 417 503
Common stock, $1 par value:
Authorized - 78,600,000 shares
Issued - 14,751,753 shares
(14,521,859 for 1997) 14,752 14,522
Paid-in capital 93,193 88,502
Retained earnings 236,011 199,114
Accumulated other comprehensive
income 1,910 2,482
------------ -----------
TOTAL STOCKHOLDERS' EQUITY 346,283 305,123
------------ -----------
TOTAL LIABILITIES AND
STOCKHOLDERS' EQUITY $ 1,215,398 $ 1,283,409
- ---------------------------------------------------------------------
See notes to consolidated financial statements.
33
<TABLE>
<CAPTION>
THE RYLAND GROUP, INC. & SUBSIDIARIES
Consolidated Statements of Stockholders' Equity
(amounts in thousands, except share data)
- ---------------------------------------------------------------------------------------------------------------------------------
ACCUMULATED TOTAL
OTHER STOCK-
PREFERRED COMMON PAID-IN RETAINED COMPREHENSIVE DUE FROM HOLDERS'
STOCK STOCK CAPITAL EARNINGS INCOME RSOP TRUST EQUITY
- ---------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT JANUARY 1, 1996 $ 943 $ 15,682 $115,611 $179,937 $ 2,550 $(13,599) $301,124
Comprehensive income:
Net earnings 15,839 15,839
Other comprehensive income, net of tax:
Unrealized gains/(losses) on
mortgage-backed securities,
net of taxes of $139 208 208
Total comprehensive income 16,047
Preferred stock dividends (per share $2.21) (1,974) (1,974)
Common stock dividends (per share $0.60) (9,475) (9,475)
Conversion of preferred stock (81) 81 (961) (961)
Reclassification of preferred paid-capital
and related RSOP receivable 828 (1,759) (931)
RSOP debt repayments 5,004 5,004
Employee stock plans (89,482 shares) 90 1,174 351 1,615
--------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1996 862 15,853 116,652 184,678 2,758 (10,354) 310,449
--------------------------------------------------------------------------------
Comprehensive income:
Net earnings 21,882 21,882
Other comprehensive income, net of tax:
Unrealized gains/(losses) on
mortgage-backed securities,
net of taxes of $(184) (276) (276)
Total comprehensive income 21,606
Preferred stock dividends (per share $2.21) (1,630) (1,630)
Common stock dividends (per share $0.27) (4,155) (4,155)
Repurchase of common stock (1,689) (23,824) (25,513)
Conversion of preferred stock (110) 110 (1,474) (1,474)
Retirement of preferred stock and
related RSOP debt (249) (9,293) (1,850) 11,392 0
Reclassification of preferred paid-in capital
and related RSOP receivable 2,400 (6,037) (3,637)
RSOP debt repayments 4,999 4,999
Employee stock plans (248,017 shares) 248 4,041 189 4,478
--------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1997 503 14,522 88,502 199,114 2,482 0 305,123
--------------------------------------------------------------------------------
Comprehensive income:
Net earnings 40,266 40,266
Other comprehensive income,net of tax:
Unrealized gains/(losses) on
mortgage-backed securities,
net of taxes of $(381) (572) (572)
Total comprehensive income 39,694
Preferred stock dividends (per share $2.21) (1,000) (1,000)
Common stock dividends (per share $0.16) (2,369) (2,369)
Repurchase of common stock (353) (6,676) (7,029)
Conversions and retirements of preferred stock (86) 73 (1,446) (1,459)
Reclassification of preferred paid-in capital 3,242 3,242
Employee stock plans (509,580 shares) 510 9,571 10,081
--------------------------------------------------------------------------------
BALANCE AT DECEMBER 31, 1998 $ 417 $ 14,752 $ 93,193 $236,011 $ 1,910 $ 0 $346,283
--------------------------------------------------------------------------------
See notes to consolidated financial statements.
34
</TABLE>
THE RYLAND GROUP, INC. & SUBSIDIARIES
Consolidated Statement of Cash Flows
(amounts in thousands)
- ------------------------------------------------------------------------------
Year ended December 31,
1998 1997 1996
- ------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings $ 40,266 $ 21,882 $ 15,839
Adjustments to reconcile net
earnings to net cash provided
by operating activities:
Depreciation and amortization 25,586 31,396 31,373
Loss on early extinguishment
of debt 5,543 0 0
Changes in assets and liabilities,
net of effects from acquisition:
Decrease (increase) in
mortgage loans held-for-sale 41,246 (19,708) 104,852
(Increase) decrease in
inventories (67,828) 19,759 (36,672)
Net change in other assets,
payables and other liabilities 95,272 31,657 (7,269)
Other operating activities, net 354 (849) (58)
------------------------------------
Net cash provided by
operating activities 140,439 84,137 108,065
------------------------------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Net additions to property, plant
and equipment (22,734) (17,568) (19,500)
Principal reduction of mortgage
collateral 39,887 41,537 64,230
Principal reduction of mortgage-
backed securities-available-
for-sale 10,899 11,969 20,362
Purchase of mortgage-backed
securities-available-for-sale 0 0 (8,572)
Sales of mortgage-backed securities-
available-for-sale 10,935 2,222 21,937
Principal reduction of mortgage-
backed securities - held-to-
maturity 19,942 15,064 19,818
Decrease (increase)in funds
held by trustee 8,796 (6,808) 17,133
Acquisition of Regency (17,885) 0 0
Other investing activities, net 767 239 1,074
----------------------------------
Net cash provided by investing
activities 50,607 46,655 116,482
----------------------------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash proceeds of long-term debt 98,955 2,475 103,145
Reduction of long-term debt (106,836) (46,522) (145,485)
(Decrease) increase in short-term
notes payable (117,574) 14,982 (41,819)
Bond principal payments (50,162) (71,009) (159,665)
Common and preferred stock
dividends (3,399) (7,320) (11,449)
Common stock repurchases (7,028) (25,513) 0
Other financing activities, net 8,651 9,538 3,442
----------------------------------
Net cash used for financing
activities (177,393) (123,369) (251,831)
----------------------------------
Net increase (decrease) in cash and
cash equivalents 13,653 7,423 (27,284)
Cash and cash equivalents at
beginning of year 36,131 28,708 55,992
----------------------------------
CASH AND CASH EQUIVALENTS
AT END OF YEAR $ 49,784 $ 36,131 $ 28,708
----------------------------------
SUPPLEMENTAL DISCLOSURES OF CASH
FLOW INFORMATION:
Cash paid for interest (net of
capitalized interest) $ 50,866 $ 54,452 $ 69,754
Cash paid (received) for income
taxes (net of refunds) $ 19,143 $ 5,887 $ (3,230)
- ------------------------------------------------------------------------------
See notes to consolidated financial statements.
35
THE RYLAND GROUP, INC. & SUBSIDIARIES
Notes to Consolidated Financial Statements.
(amounts in thousands, except share data, in all notes unless otherwise noted)
NOTE A: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
- ---------------------------------------------------
Basis of Presentation
The consolidated financial statements include the accounts of The Ryland
Group, Inc. and its wholly owned subsidiaries (the "Company"). Intercompany
transactions have been eliminated in consolidation. Certain amounts in the
consolidated statements of prior years have been reclassified to conform to
the 1998 presentation.
Use of Estimates
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the amounts reported in the financial statements and accompanying
notes. Actual results could differ from those estimates.
Per Share Data
Basic net earnings per common share is computed by dividing net earnings,
after considering preferred stock dividend requirements, by the weighted-
average number of common shares outstanding.
Diluted net earnings per common share additionally gives effect to dilutive
common stock equivalent shares, including the assumed conversion of the
preferred shares held by The Ryland Group, Inc. Retirement Savings Opportunity
Plan Trust (RSOP Trust) into common stock. The effect of the RSOP Trust was
dilutive for the year ended December 31, 1998. For the years ended December
31, 1997 and 1996, the conversion of preferred shares was not assumed due to
an antidilutive effect.
Income Taxes
The Company files a consolidated federal income tax return. Certain items of
income and expense are included in one period for financial reporting purposes
and another for income tax purposes. Deferred income taxes are provided in
recognition of these differences. Deferred tax assets and liabilities are
determined based on the enacted tax rates and are subsequently adjusted for
changes in these rates. A change in the deferred tax assets or liabilities
results in a charge or credit to deferred tax expense.
Homebuilding Revenues
Homebuilding revenues are recognized when home sales are closed and title
passes to the customer.
Service Liabilities
Service and warranty costs are estimated and accrued for at the time a home
closes.
Housing Inventories
Housing inventories consist principally of homes under construction and land
under development and improved lots.
Inventories to be held and used are stated at cost, unless a subdivision is
determined to be impaired, in which case the impaired inventories are written
down to fair value. Writedowns of impaired inventories to fair value are
recorded as adjustments to the cost basis of the respective inventory.
36
Inventories to be disposed of are stated at the lower of cost or fair value
less cost to sell and are reported net of valuation reserves. Valuation
reserves related to inventories to be disposed of amounted to $6.2 million at
December 31, 1998, and $3.0 million at December 31, 1997. The net carrying
value of the related inventories amounted to $16.2 million and $8.9 million at
December 31, 1998 and 1997, respectively.
Costs of inventory include direct costs of land, material acquisition, home
construction and related direct overhead expenses. Real estate taxes,
insurance and interest are capitalized during the land development stage. The
costs of acquiring and developing land and constructing certain related
amenities are allocated to the parcels to which these costs relate.
The following table is a summary of capitalized interest:
1998 1997
---- ----
Capitalized interest as of January 1, $ 23,644 $ 27,589
Interest capitalized 18,601 17,636
Interest amortized to cost of sales (20,645) (21,581)
-------- --------
Capitalized interest as of December 31, $ 21,600 $ 23,644
Property, Plant and Equipment
Property, plant and equipment, which includes model home furnishings, are
carried at cost, less accumulated depreciation and amortization. Depreciation
is provided for, principally, by the straight-line method over the estimated
useful lives of the assets. Model home furnishings are amortized over the
life of the community as homes are closed.
Purchase Price in Excess of Net Assets Acquired
Costs in excess of net assets of acquired businesses (goodwill) are being
amortized on a straight-line basis over their estimated useful lives for
periods of up to 30 years. On a periodic basis, the Company evaluates the
businesses to which goodwill relates in order to insure that the carrying
value of goodwill has not been impaired.
Mortgage Loans Held-For-Sale
Mortgage loans held-for-sale are reported net of discounts and are valued at
the lower of cost or market determined on an aggregate basis. Any gain or
loss on the sale of the loans is recognized at the time of sale.
Mortgage-Backed Securities
The Company classifies its mortgage-backed securities into three categories:
held-to-maturity, available-for-sale and trading. Management determines the
appropriate classification of these securities at the time of purchase and re-
evaluates such designations as of each balance sheet date.
Mortgage-backed securities are classified as held-to-maturity when the Company
has the positive intent and ability to hold the securities to maturity.
Securities classified as held-to-maturity are stated at amortized cost.
Securities classified as available-for-sale are measured at fair value with
the unrealized gains and losses, net of tax, reflected as accumulated other
comprehensive income in stockholders' equity. Securities classified as
trading are measured at fair value with gains and losses, both realized and
unrealized, recognized in the Consolidated Statement of Earnings. The Company
may at times have securities in each category.
Loan Origination Fees, Costs and Mortgage Discounts
Loan origination fees, net of the related direct origination costs, and loan
discount points are deferred as an adjustment to the carrying value of the
related mortgage loans held-for-sale and are recognized into income upon the
sale of the mortgage loans.
37
Discounts on mortgage collateral for the bonds of the limited-purpose
subsidiaries primarily represent loan origination discount points and purchase
price discounts. These discounts are deferred as an adjustment to the
recorded book value of the related mortgage loans. They are amortized into
interest income over their respective lives using the interest method, which
is adjusted for the effect of prepayments.
Hedging Contracts
The Company enters into forward delivery contracts, options on forward
delivery contracts, futures contracts and options on futures contracts, as an
end-user, for the purpose of minimizing its exposure to movements in interest
rates on mortgage loan commitments, mortgage loans held-for-sale and mortgage-
backed securities classified as trading. These contracts primarily represent
commitments or options to purchase or sell mortgages or securities generally
within 90 days and at a specified price or yield. Forward delivery contracts
and futures are commitments only and, as such, are not recorded on the
Company's balance sheet or statement of earnings. Option premiums are
deferred when paid and recognized as an adjustment to gains on sales of
mortgages over the lives of the options on a straight-line basis. Changes in
the fair value of contracts are deferred and included in mortgage loans held-
for-sale and mortgage-backed securities classified as trading. Changes in
fair value are recognized in income as an adjustment to gains on sales of
mortgages when the mortgages and securities are sold.
In addition, the Company entered into an interest rate swap and collar
agreement to moderate the interest rate risks inherent in the financing of its
investment securities classified as available-for-sale. During the term of
the agreement, the net settlements are accrued and recognized as an adjustment
to interest expense. The agreement is not required to be marked to market and
therefore is not recorded on the Company's balance sheet.
Mortgage Servicing Rights
Retained mortgage servicing rights on originated loans are capitalized by
allocating the total cost of the mortgage loans between the mortgage servicing
rights and the loans based on their relative fair values. Mortgage servicing
rights are amortized in proportion to and over the period of estimated net
servicing revenue.
The book value of capitalized mortgage-servicing rights at December 31, 1998
and 1997, was $4.5 million and $8.2 million, respectively, and the aggregate
fair value totaled $4.5 million and $8.9 million, respectively. Comparable
market values and the present value of future cash flows are used to estimate
fair value. For purposes of measuring impairment, when deemed material, risk
characteristics including product type, investor type and interest rates are
used to stratify mortgage servicing rights.
Deferred Financing Costs
Financing costs incurred in connection with the issuance of bonds by the
limited-purpose subsidiaries are capitalized and amortized over the respective
lives of the bonds using the interest method.
Stock Based Compensation
The Company has elected to follow the intrinsic value method to account for
compensation expense related to the award of stock options and to furnish the
pro forma disclosures required under Statement of Financial Accounting
Standards No. 123 (FASB 123), "Accounting for Stock-Based Compensation."
Since stock option awards are granted at prices no less than the fair-market
value of the shares at the date of grant, no compensation expense is
recognized.
New Accounting Pronouncements
FASB 130
As of January 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130 (FASB 130), "Reporting Comprehensive Income." FASB 130
defines comprehensive income and establishes new rules for the reporting of
comprehensive income and its components; however, the adoption of this
Statement had no impact on the Company's net income or stockholders' equity.
FASB 130 requires unrealized gains or losses on the
38
Company's available-for-sale securities, which are included in stockholders'
equity, to be reported as other comprehensive income which is added to net
income to arrive at total comprehensive income. The Company has elected to
report its comprehensive income in its Consolidated Statement of Stockholders'
Equity. Prior year financial statements have been reclassified to conform to
the FASB 130 requirements.
FASB 131
In June 1997, the FASB issued Statement of Financial Accounting Standards No.
131 (FASB 131), "Disclosures about Segments for an Enterprise and Related
Information." FASB 131 establishes standards for the way that public business
enterprises report selected information about operating segments in financial
reports issued to shareholders. The Company has adopted the provisions of FASB
131 which did not have a significant impact on the Company's definition of
operating segments and related disclosures.
FASB 133
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133 (FASB 133), "Accounting for Derivative
Instruments and Hedging Activities," which is required to be adopted in years
beginning after June 15, 1999. FASB 133 requires all derivatives to be
recorded on the balance sheet at fair value and establishes new accounting
procedures for hedges that will effect the timing of recognition and the
manner in which hedging gains and losses are recognized in the Company's
financial statements. The Company has not completed its evaluation of FASB
133; however, management does not anticipate that the adoption of FASB 133
will have a material impact on the Company's earnings or financial position.
The Company currently expects to adopt FASB 133 beginning on January 1, 2000.
NOTE B: SEGMENT INFORMATION
The Company is a leading national homebuilder and mortgage-related financial
services firm. As one of the largest single-family on-site homebuilders in the
United States, the Company builds homes in 21 markets in 14 states. The
Company's homebuilding segment specializes in the sale and construction of
single-family attached and detached housing. The financial services segment
provides mortgage-related products and services for retail customers,
including loan origination, loan servicing, title, escrow and homeowners
insurance services, and also conducts investment activities.
The Company evaluates performance and allocates resources based on a number of
factors, including segment pretax earnings. The accounting policies of the
segments are the same as those described in the summary of significant
accounting policies in Note A. Certain corporate expenses are allocated to
the homebuilding and financial services segments. In addition, amounts
related to the limited-purpose subsidiaries are combined with corporate
expenses and corporate assets in the following table as "Other".
39
SEGMENT INFORMATION
1998 1997 1996
- ---------------------------------------------------------------------------
REVENUES:
Homebuilding $1,694,505 $1,557,326 $1,473,275
Financial services 60,385 76,929 79,524
Other 10,598 15,551 27,387
--------- --------- ---------
Total $1,765,488 $1,649,806 $1,580,186
--------- --------- ---------
--------- --------- ---------
PRETAX EARNINGS:
Homebuilding $ 80,057 $ 35,150 $ 22,596
Financial services 11,788 15,585 15,847
Corporate and other (16,687) (14,265) (12,046)
-------- -------- --------
Total $ 75,158 $ 36,470 $ 26,397
-------- -------- --------
-------- -------- --------
DEPRECIATION AND AMORTIZATION:
Homebuilding $ 23,166 $ 23,479 $ 25,762
Financial services 895 5,901 3,296
Corporate and other 1,525 2,016 2,315
------ ------ ------
Total $ 25,586 $ 31,396 $ 31,373
------ ------ ------
------ ------ ------
IDENTIFIABLE ASSETS:
Homebuilding $ 778,668 $ 671,229 $ 695,284
Financial services 286,683 410,902 382,431
Corporate and other 150,047 201,278 260,809
------- ------- -------
Total $1,215,398 $1,283,409 $1,338,524
--------- --------- ---------
--------- --------- ---------
40
NOTE C: EARNINGS PER SHARE RECONCILIATION
The following table sets forth the computation of basic and diluted earnings
per share before extraordinary items:
1998 1997 1996
---- ---- ----
Numerator:
Net earnings before extraordinary item $43,592 $21,882 $15,839
Preferred stock dividends (1,000) (1,630) (1,974)
------ ------ ------
Numerator for basic earnings per share-
earnings before extraordinary item
available to common stockholders 42,592 20,252 13,865
Effect of dilutive securities-
preferred stock dividends 1,000 0 0
------ ------ ------
Numerator for diluted earnings per
share - earnings before extraordinary
item available to common stockholders $43,592 $20,252 $13,865
Denominator:
Denominator for basic earnings per
share - weighted-average shares 14,709,404 15,227,829 15,789,184
Effect of dilutive securities:
Stock options 316,640 69,577 5,387
Conversion of preferred shares 463,374 0 0
Equity incentive plan 113,894 107,661 134,240
---------- ---------- ----------
Dilutive potential common shares 893,908 177,238 139,627
Denominator for diluted earnings
per share - adjusted weighted-average
shares and assumed conversions 15,603,312 15,405,067 15,928,811
BASIC EARNINGS PER COMMON SHARE:
Net earnings per share before
extraordinary item $ 2.90 $ 1.33 $ 0.88
DILUTED EARNINGS PER COMMON SHARE:
Net earnings per share before
extraordinary item $ 2.79 $ 1.32 $ 0.87
The assumed conversion of preferred shares was dilutive for the year ended
December 31, 1998. For the years ended December 31, 1997 and 1996, the
conversion of preferred was not assumed due to an anti-dilutive effect.
NOTE D: ASSETS OF FINANCIAL SERVICES AND THE LIMITED-PURPOSE SUBSIDIARIES
Financial Services
Mortgage loans held-for-sale consist of loans collateralized by first
mortgages or first deeds of trust on single-family attached or detached
houses. Mortgage-backed securities and notes receivable consist of GNMA
certificates, FNMA mortgage pass-through certificates, FHLMC participation
certificates, notes receivable secured by mortgage-backed securities, whole
loans and funds held by trustee.
Mortgage loans held-for-sale were reported net of mortgage discounts of $406
and $658 at December 31, 1998 and 1997, respectively. Mortgage loans held-for-
sale, which are generally sold within 60 days of being
41
funded, mortgage-backed securities and notes receivable are pledged as
collateral for certain short-term notes payable (see Note E).
The Company sold the majority of its loan servicing portfolio in the first
quarter of 1998 and realized a $6.1 million pre-tax gain, net of expenses and
liabilities related to the sale of servicing. The financial services segment
serviced 2,500 and 62,000 loans with principal balances totaling $301 million
and $4.5 billion at December 31, 1998 and 1997, respectively, including loans
subserviced for others of $1.3 billion in 1997. As a mortgage servicer, the
Company may incur risk with respect to mortgages that are delinquent or in
foreclosure to the extent that losses are not covered by a mortgage insurer or
guarantor. The reserve for potential losses on the servicing portfolio was
$377 and $1,784, at December 31, 1998 and 1997, respectively. These reserves
are established based on the current economic environment and historical
experience for foreclosures and delinquencies.
Limited-Purpose Subsidiaries
Collateral for bonds payable consists of mortgage-backed securities, notes
receivable secured by mortgage-backed securities and mortgage loans, fixed-
rate mortgage loans and funds held by trustee. Mortgage-backed securities
consist of GNMA certificates, FNMA mortgage pass-through certificates and
FHLMC participation certificates. All principal and interest on the collateral
is remitted directly to a trustee and is available for payment on the bonds.
The components of collateral for bonds payable at December 31 are summarized
as follows:
1998 1997
---- ----
Mortgage-backed securities $ 59,915 $ 81,089
Notes receivable 15,423 40,409
Mortgage loans 4,699 7,939
Funds held by trustee 13,681 14,426
Mortgage discounts (1,315) (1,560)
------ ------
Total $ 92,403 $142,303
Neither the Company nor its homebuilding and financial services subsidiaries
have guaranteed or are otherwise obligated with respect to these bond issues.
Mortgage-Backed Securities: Unrealized Gains and Losses
Mortgage-backed securities are held by the financial services segment and
reported in the balance sheet caption, "Mortgage-backed securities and notes
receivable," and are also held by the limited-purpose subsidiaries and
reported in the balance sheet caption, "Collateral for bonds payable."
The following is a consolidated summary of mortgage-backed securities
classified as available-for-sale and held-to-maturity as of:
Gross Gross
Amortized Unrealized Unrealized
Cost Gains Losses Fair Value
- ----------------------------------------------------------------------------
December 31, 1998
Available-for-sale $ 40,802 $ 3,299 $ 116 $ 43,985
Held-to-maturity 56,463 4,642 0 61,105
-----------------------------------------------
Total $ 97,265 $ 7,941 $ 116 $105,090
December 31, 1997
Available-for-sale $ 50,453 $ 4,153 $ 17 $ 54,589
Held-to-maturity 76,229 5,761 0 81,990
-----------------------------------------------
Total $126,682 $ 9,914 $ 17 $136,579
===============================================
42
NOTE E: FINANCIAL SERVICES SHORT-TERM NOTES PAYABLE
Financial services had outstanding borrowings at December 31 as follows:
1998 1997
---- ----
Mortgage warehouse and working
capital facility $106,699 $ 191,352
Repurchase agreements 64,320 88,162
Revolving credit agreement 52,039 53,542
Other 0 7,576
------- -------
Total outstanding borrowings $223,058 $340,632
======= =======
The Company's bank facility, which matures in June 2000, provides up to $260
million for mortgage warehouse funding and $30 million for working capital
advances. Warehouse advances are secured by mortgage loans held-for-sale, and
working capital advances are secured by certain loan servicing rights and loan
servicing advances. Borrowings outstanding under this bank facility totaling
$106,699 at December 31, 1998, were collateralized by mortgage loans held-for-
sale with outstanding principal balances of $121,079. Borrowings outstanding
under this bank facility totaling $191,352 at December 31, 1997, were
collateralized by mortgage loans held-for-sale with outstanding principal
balances of $159,358, servicing rights of $10,252 and certain loan servicing
advances of $21,906. The effective interest rates on these borrowings were 4.1
percent, 3.0 percent and 3.1 percent for 1998, 1997 and 1996, respectively.
The agreement contains certain financial covenants, which the Company met at
December 31, 1998.
The repurchase agreements represent short-term borrowings that are
collateralized by mortgage loans, mortgage-backed securities and investments
in securities issued by the Company's limited-purpose subsidiaries with
outstanding balances at December 31, 1998 and 1997, of $64,129 and $88,198,
respectively, with related fair values of $66,653 and $91,806. As of December
31, 1998, $40 million of the Company's variable-rate short-term borrowings had
been effectively converted by interest rate swap and collar agreements to
fixed-rate borrowings. The notional amount of the swap and collar agreements
will decline to $30 million in 1999. The effective interest rates on the
repurchase agreements, including the effect of the interest rate swap and
collar agreements, were 5.9 percent, 6.0 percent and 5.8 percent for 1998,
1997 and 1996, respectively.
In May 1998, the Company renewed and extended its $100 million credit facility
used to finance investment securities in the financial services segment. The
agreement was extended through March 1999, bears interest at market rates and
is collateralized by investment portfolio securities. Borrowings outstanding
under this facility, totaling $52,039 and $53,542, were collateralized by
investment portfolio securities with principal balances of $52,700 and $53,482
at December 31, 1998 and 1997, respectively. The fair values of the
investment securities at December 31, 1998 and 1997 were $54,668 and $56,207,
respectively.
The weighted-average interest rates at the end of the period on all short-term
borrowings were 5.3 percent, 4.9 percent and 4.2 percent for 1998, 1997 and
1996, respectively. The weighted-average interest rates during the period on
all short-term borrowings were 5.2 percent, 4.6 percent and 4.3 percent for
1998, 1997 and 1996, respectively.
NOTE F: OFF BALANCE SHEET FINANCIAL INSTRUMENTS RELATED TO MORTGAGE LOAN
ORIGINATIONS
The Company is a party to financial instruments in the normal course of
business. The financial services segment uses financial instruments to meet
the financing needs of its customers and reduce its exposure to fluctuations
in interest rates. These instruments involve, to varying degrees, elements of
credit and market risk not recognized in the consolidated balance sheets. The
Company has no derivative financial instruments that are held for trading
purposes.
43
The contract or notional amounts of these financial instruments as of December
31 are as follows:
1998 1997
- ------------------------------------------------------------------------
Commitments to originate mortgage loans $ 33,859 $ 29,765
Hedging contracts:
Forward delivery contracts $163,000 $159,878
Others 4,000 0
- ------------------------------------------------------------------------
In addition, to protect against exposure to interest rate fluctuations on
adjustable-rate mortgage loan commitments, at December 31, 1998 and 1997, the
Company contracted with various parties to deliver $12,308 and $24,440,
respectively, in adjustable and fixed-rate mortgage loans for a specified
price on primarily a best-efforts basis.
Commitments to originate mortgage loans represent loan commitments with
customers at market rates up to 120 days before settlement. Loan commitments
have no carrying value on the balance sheet. These commitments expose the
Company to market risk as a result of increases in mortgage interest rates.
The amount of risk is limited to the difference between the contract price and
current market value, and is mitigated by fees collected from the customer and
by the Company's hedging activities. Loan commitments had interest rates
ranging from 6.0 percent to 10.3 percent as of December 31, 1998, and 6.5
percent to 10.3 percent as of December 31, 1997.
Hedging contracts are regularly entered into by the Company for the purpose of
mitigating its exposure to movements in interest rates on mortgage loan
commitments and mortgage loans held-for-sale. The selection of these hedging
contracts is based upon the Company's secondary marketing strategy, which
establishes a risk tolerance level. The major factors influencing the use of
the various hedging contracts include general market conditions, interest
rate, types of mortgages originated and the percentage of mortgage loan
commitments expected to be funded. The market risk assumed while holding the
hedging contracts, generally mitigates the market risk associated with the
mortgage loan commitments and mortgage loans held-for-sale.
The Company is exposed to credit related losses in the event of non-
performance by counterparties to certain hedging contracts. Credit risk is
limited to those instances where the Company is in a net unrealized gain
position. The Company manages this credit risk by entering into agreements
with counterparties meeting the credit standards of the Company and monitoring
position limits.
NOTE G: FAIR VALUES OF FINANCIAL INSTRUMENTS
The Company's financial instruments, both on and off the balance sheet, are
held for purposes other than trading. The fair values of these financial
instruments are based on quoted market prices, where available, or are
estimated using present value or other valuation techniques. Estimated fair
values are significantly affected by the assumptions used, including the
discount rate and estimates of cash flows. In that regard, the derived fair-
value estimates can not be substantiated by comparison to independent markets
and, in many cases, could not be realized in immediate settlement of the
instruments.
The table below sets forth the carrying values and fair values of the
Company's financial instruments, except for those financial instruments noted
below for which the carrying values approximate fair values at the end of the
year. It excludes non-financial instruments and, accordingly, the aggregate
fair-value amounts presented do not represent the underlying value of the
Company.
44
1998 1997
- ------------------------------------------------------------------------------
CARRYING FAIR CARRYING FAIR
VALUE VALUE VALUE VALUE
- ------------------------------------------------------------------------------
HOMEBUILDING:
Liabilities
Senior notes $108,000 $116,140 $108,000 $119,360
Senior subordinated notes 200,000 197,000 200,000 207,000
FINANCIAL SERVICES:
Assets
Mortgage loans held-
for-sale $158,611 $161,030 $199,857 $201,583
Mortgage-backed securities,
available-for-sale 36,414 36,414 50,678 50,678
Mortgage-backed securities,
held-to-maturity 4,826 5,147 0 0
Notes receivable, whole loans
and funds held by trustee 70,414 76,224 102,344 110,339
Off-balance sheet
financial instruments
Commitments to originate
mortgage loans 0 155 0 386
Forward delivery contracts 0 (441) 0 (196)
Other hedging contracts 0 (54) 0 0
OTHER ASSETS:
Collateral for bonds payable
of the limited-purpose
subsidiaries $ 92,403 $ 98,341 $142,303 $152,133
OTHER LIABILITIES:
Bonds payable of the limited-
purpose subsidiaries $ 87,980 $ 97,344 $136,865 $151,053
The Company used the following methods and assumptions in estimating fair
values:
- Cash and cash equivalents, secured notes payable, loan servicing
receivables, funds held by trustee and short-term notes payable: The carrying
amounts reported in the balance sheet approximate fair values.
- Senior notes, senior subordinated notes, mortgage loans held-for-sale,
mortgage-backed securities, notes receivable and whole loans, the various
hedging contracts if settled on December 31, 1998 and 1997 and mortgage loan
commitments: The fair values of these financial instruments are estimated
based on quoted market prices for similar financial instruments.
NOTE H: LIMITED-PURPOSE SUBSIDIARIES' BONDS PAYABLE
The Company's limited-purpose subsidiaries are no longer issuing mortgage-
backed bonds and mortgage-participation securities. Previously, they issued
mortgage-backed bonds, and the Company retained residual interests in some of
these bonds. Payments are made on the bonds on a periodic basis as a result
of, and in amounts relating to, corresponding payments received on the
underlying mortgage collateral.
45
The following table sets forth information with respect to the limited-purpose
subsidiaries' bonds payable outstanding at December 31:
1998 1997
- ---------------------------------------------------------------------------
Bonds payable, net of discounts:
1998-$2,517; 1997-$3,795 $87,980 $136,865
Range of interest rates 7.25%-12.625% 7.25%-12.625%
Stated maturities 2006-2019 2006-2019
- ----------------------------------------------------------------------------
NOTE I: LONG-TERM DEBT
Long-term debt consists of the following:
December 31,
1998 1997
- ---------------------------------------------------------------------------
Senior subordinated notes $200,000 $200,000
Senior notes 108,000 108,000
Other 152 2,221
------- -------
$308,152 $310,221
- ---------------------------------------------------------------------------
The Company has an unsecured credit agreement with a group of banks, which
matures in July 2000, with a total borrowing capacity of $300 million.
Borrowings under this agreement bear interest at variable short-term rates.
The effective interest rates for 1998, 1997 and 1996 were 6.8 percent, 7.1
percent and 7.1 percent, respectively. There were no amounts outstanding
under this agreement at December 31, 1998 or 1997.
The Company has $100 million of 9.625% senior subordinated notes outstanding,
due June 2004, with interest payable semi-annually, which may be redeemed at
the option of the Company, in whole or in part, at any time on or after
December 1, 2000. In April 1998, the Company issued $100 million of 8.25%
senior subordinated notes, due April 2008, with interest payable semi-
annually, which may be redeemed at the option of the Company, in whole or in
part, at any time on or after April 1, 2003. In July 1998 the Company redeemed
$100 million of 10.5% senior subordinated notes due 2002 at the stated call
price of 103.94 percent of par. As a result, the Company recognized an
extraordinary loss on early extinguishment of debt in 1998 of $3.3 million
(net of a $2.2 million income tax benefit). Senior subordinated notes are
subordinated to all existing and future senior debt of the Company.
The Company has $100 million of 10.5% senior notes due July 2006, with
interest payable semi-annually, which may be redeemed at the option of the
Company, in whole or in part, at any time on or after July 1, 2001. At
December 31, 1998, the Company also has $8 million of senior notes bearing a
fixed rate of 10.5% which mature in August 2000.
Maturities of long-term debt for the next five years are as follows:
1999 - $68; 2000 - $8,000; 2001 - $84; 2002 through 2003 - $0.
The bank credit agreement, senior subordinated indenture agreements and senior
note agreements contain certain financial covenants. Under the loan
covenants, the Company has $56.1 million of retained earnings available for
dividends at December 31, 1998. At December 31, 1998, the Company is in
compliance with its covenants.
46
NOTE J: INCOME TAXES
The Company's expense for income taxes is summarized as follows:
1998 1997 1996
- -----------------------------------------------------------------------
Current:
Federal $22,453 $14,931 $ 954
State 4,491 3,167 203
------- ------- -------
Total current 26,944 18,098 1,157
------- ------- -------
Deferred:
Federal 3,852 (2,896) 7,756
State 770 (614) 1,645
------- ------- -------
Total deferred 4,622 (3,510) 9,401
------- ------- -------
Total expense $31,566 $14,588 $10,558
------- ------- -------
- -----------------------------------------------------------------------
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting
purposes and the amounts used for income tax purposes.
Significant components of the Company's deferred tax assets and liabilities as
of December 31 were as follows:
1998 1997
- --------------------------------------------------------------------
Deferred tax assets:
Inventory valuation differences,
operating reserves and accruals $32,598 $32,740
Other differences in inventory 2,903 7,775
Other 1,863 2,383
------- -------
Total deferred tax assets 37,364 42,898
------- -------
Deferred tax liabilities:
Gross profit from sales reported
on the installment method (2,377) (3,404)
Deferred gains (1,830) (2,085)
Other (1,773) (1,645)
------ ------
Total deferred tax liabilities (5,980) (7,134)
------- -------
Net deferred tax asset $31,384 $35,764
------- -------
- ---------------------------------------------------------------------
The Company has determined that no valuation allowance for the deferred tax
asset is required due to tax carrybacks currently available. The Company had
a current tax liability of $9,761 and $7,608 as of December 31, 1998 and 1997,
respectively.
The following table reconciles the statutory federal income tax rate to the
Company's effective income tax rate:
Years Ended December 31,
1998 1997 1996
- --------------------------------------------------------------------------
Income taxes at federal
statutory rate 35.0% 35.0% 35.0%
State income taxes, net
of federal tax 4.5 4.5 4.5
Other, net 2.5 .5 .5
----- ---- ----
Effective rate 42.0% 40.0% 40.0%
- --------------------------------------------------------------------------
The change in the tax rate was primarily due to the fine paid in connection
with the RTC matter discussed in Note M.
47
NOTE K: STOCKHOLDERS' EQUITY
Preferred Stock
On August 31, 1989, the Company sold 1,267,327 shares of non-transferable
convertible preferred stock, par value $1.00, to the RSOP Trust for $31.5625
per share, or an aggregate purchase price of approximately $40,000.
Each share of preferred stock pays an annual cumulative dividend of $2.21.
During 1998, 1997 and 1996, the Company paid $1,000, $1,630 and $1,974,
respectively, in dividends on the preferred stock. Each share of preferred
stock is entitled to a number of votes equal to the shares into which it is
convertible, and the holders of the preferred stock generally vote together
with the common stockholders on all matters.
Under the RSOP Trust, at the option of the trustee, the Company may be
obligated to redeem the preferred stock to satisfy distribution obligations to
or investment elections of participants. For purposes of these redemptions,
the value of each share of preferred stock is determined monthly by an
independent appraiser, with a minimum guaranteed value of $25.25 per share.
The Company may issue common stock to satisfy this redemption obligation, with
any excess redemption price to be paid in cash. At December 31, 1998 and
1997, the maximum cash obligation for such redemptions was shown outside of
stockholders' equity as part of other liabilities. This obligation is
calculated assuming that all preferred shares outstanding were submitted for
redemption.
Based upon the appraised value of each share of preferred stock ($39.37 and
$38.69) and the market value of each share of common stock ($28.88 and $23.50)
at December 31, 1998 and 1997, respectively, the redemption obligation at
December 31, 1998 and 1997 was $4,376 and $7,618, respectively. During 1998
and 1997, 73,415 and 110,027 shares of preferred stock, respectively, were
converted into shares of common stock, and 12,674 and 248,881 shares of
preferred stock, respectively, were retired (See Note L).
Common Share Purchase Rights
In 1996, the Company adopted a revised shareholder rights plan under which the
Company distributed one common share purchase right for each share of common
stock outstanding on January 13, 1997. Each right entitles the holder to
purchase one share of common stock at an exercise price of $70. The rights
become exercisable 10 business days after any party acquires or announces an
offer to acquire 20 percent or more of the Company's common stock. The rights
expire January 13, 2007, and are redeemable at $0.01 per right at any time
before 10 business days following the time that any party acquires 20 percent
or more of the Company's common stock.
In the event the Company enters into a merger or other business combination,
or if a substantial amount of its assets are sold after the time that the
rights become exercisable, the rights provide that the holder will receive,
upon exercise, shares of the common stock of the surviving or acquiring
company having a market value of twice the exercise price. Until the earlier
of the time that the rights become exercisable, are redeemed or expire, the
Company will issue one right with each new share of common stock issued.
NOTE L: EMPLOYEE INCENTIVE AND STOCK PLANS
Retirement Savings Opportunity Plan (RSOP)
In 1989, the Company established a retirement and employee stock ownership
plan that purchased shares of preferred stock from the Company. The purchase
of preferred stock by the plan was financed by a loan from the Company in the
amount of $40,000. The interest rate on the loan was 9.99% and through
September, 1997,
48
the loan was being repaid by the plan through dividends received on the
preferred stock and Company contributions. On October 1, 1997, the Company
purchased 248,881 shares of preferred stock at fair market value from the plan
representing preferred shares that secured the loan and had not been released
for allocation to participant's accounts. The plan used the proceeds to
payoff the related loan balance and the Company retired the preferred shares.
The RSOP Trust incurred interest on the loan in 1997 and 1996 of $930 and
$1,794, respectively. As of December 31, 1998, 416,744 shares of preferred
stock are allocated to participant's accounts. As of January 1, 1998,
participants receive cash and no longer receive preferred stock in connection
with Company matching contributions to their accounts.
All full-time employees are eligible to participate in the RSOP the first pay
period of the quarter following 30 days of employment. Pursuant to Section
401(k) of the Internal Revenue Code, the plan permits deferral of a portion of
a participant's income into a variety of investment options. Compensation
expense reflects the Company's matching contributions of the employee 401(k)
contributions. Total compensation expense related to this Plan amounted to
$3,549, $4,039 and $5,230 in 1998, 1997 and 1996, respectively.
Equity Incentive Plan and Other Related Plans
The Company's 1992 Equity Incentive Plan permits the Company to provide equity
incentives in the form of stock options, stock appreciation rights,
performance shares, restricted stock and other stock-based awards to
employees. Under the Company's 1992 Equity Incentive Plan, options are
granted to purchase shares at prices not less than the fair-market value of
the shares at the date of grant. The options are exercisable at various dates
over one- to 10-year periods. Stock options granted during 1998 generally
have a maximum term of 10 years and vest over three years. At the beginning
of each year, 2 1/2 percent of the number of common shares outstanding at the
beginning of the year are authorized for grants of options and other equity
instruments.
Under the Company's Non-Employee Director Equity Plan, stock options are
granted to directors to purchase shares at prices not less than the fair
market value of the shares at the date of grant. A maximum of 100,000 shares
of common stock has been reserved for issuance under this plan.
<TABLE>
<CAPTION>
The following is a summary of the transactions relating to all stock option plans for each year ended December 31:
1998 1997 1996
--------------------------------------------------------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
------ ---------- ------ -------- ------ --------
<S> <C> <C> <C> <C> <C> <C>
Options outstanding beginning of year 1,932,560 $15.71 1,783,738 $16.70 1,545,700 $17.44
Granted 637,000 23.88 619,500 13.49 539,500 14.85
Exercised (540,350) 16.13 (211,110) 16.33 (4,950) 15.00
Forfeited (188,810) 18.07 (252,068) 16.47 (211,362) 16.27
Expired 0 0 (7,500) 26.00 (85,150) 19.48
--------- ----- --------- ----- --------- -----
Options outstanding end of year 1,840,400 18.02 1,932,560 15.71 1,783,738 16.70
Available for future grant 320,143 478,309 561,715
--------- ----- --------- ----- --------- -----
Total shares reserved 2,160,543 2,410,869 2,345,453
--------- ----- --------- ----- --------- -----
Options exercisable December 31 864,795 16.61 966,065 17.39 923,119 18.16
Prices related to options exercised
during the year $12.88-$24.13 $13.50-$20.75 $15.00
- -------------------------------------------------------------------------------------------------------------
49
</TABLE>
A summary of stock options outstanding and exercisable as of
December 31, 1998 follows:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
- -------------------------------------------------------------------------------------------------------
Range of Number Weighted Average Weighted Average Number Weighted Average
Exercise Prices Outstanding Remaining Life-(years) Exercise Price Exercisable Exercise Price
<S> <C> <C> <C> <C> <C>
$11.50 to $13.88 495,690 7.92 $13.28 184,535 $13.30
$14.00 to $20.75 751,360 6.08 $16.76 615,860 $16.92
$21.75 to $28.88 593,350 8.55 $23.56 64,400 $23.15
</TABLE
The Company has adopted the disclosure-only provisions of FASB 123.
Accordingly, no compensation expense has been recognized for the stock option
plans. Had compensation expense for the Company's stock option plans been
determined based on the fair value at the grant date for awards in 1998, 1997
and 1996 consistent with the provisions of FASB 123, the Company's net
earnings and net earnings per share would have been reduced to the pro-forma
amounts indicated in the following table:
1998 1997 1996
---- ---- ----
Net earnings - as reported $40,266 $21,882 $15,839
Net earnings - pro forma $38,761 $20,808 $15,154
Basic net earnings per share - as reported $ 2.67 $ 1.33 $ 0.88
Basic net earnings per share - pro forma $ 2.57 $ 1.26 $ 0.83
Diluted net earnings per share - as reported $ 2.58 $ 1.32 $ 0.87
Diluted net earnings per share - pro forma $ 2.48 $ 1.25 $ 0.83
For 1996, the pro-forma effect on net earnings and net earnings per share may
not be representative of the pro-forma effect on net earnings and net earnings
per share in future years because it does not take into consideration pro-
forma compensation expense related to grants made prior to 1995.
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1998, 1997 and 1996, respectively: a risk-free
interest rate of 5.4%, 6.3% and 5.6%; an expected volatility factor for the
market price of the Company's common stock of 35%, 34% and 34%; a dividend
yield of .7%, 1.2% and 4.0%; and an expected life of 5 years, 5 years and 6
years. The weighted-average fair value as of the grant date for options
granted in 1998, 1997 and 1996 was $9.11, $4.90 and $4.07, respectively.
NOTE M: COMMITMENTS AND CONTINGENCIES
Commitments
In the normal course of business, the Company acquires rights under option
agreements to purchase land for use in future homebuilding operations. As of
December 31, 1998, the Company had deposits and letters of credit outstanding
of $30,565 for options and land purchase contracts having a total purchase
price of $387,963.
Rent expense primarily relates to office facilities, model home furniture and
equipment. Total rent expense amounted to $14,142, $10,634 and $10,191 for the
years ended December 31, 1998, 1997, and 1996 respectively. Future minimum
rental commitments under non-cancelable leases with remaining terms in excess
of one year are as follows:
1999 $ 8,326
2000 7,341
2001 6,033
2002 3,793
2003 1,276
After 2003 205
-------
Total lease commitments $26,974
50
Contingencies
Contingent liabilities may arise from the obligations incurred in the ordinary
course of business, or from the usual obligations of on-site housing producers
for the completion of contracts. Some municipalities require the Company to
issue development bonds or maintain letters of credit to assure completion of
public facilities within a project. Total development bonds at December 31,
1998, were $166,148, and total deposits and letters of credit at December 31,
1998, were $20,130.
On July 31, 1998, Ryland Mortgage Company ("RMC") entered into a Plea
Agreement with the United States Attorney's Office for the Middle District of
Florida to resolve all charges in connection with an indictment previously
brought against RMC (the "Indictment"). The Indictment concerns actions in
1993 related to two of RMC's loan servicing contracts with the Resolution
Trust Corporation ("RTC"). Under the terms of the Plea Agreement, RMC paid
$3.5 million in restitution plus interest, as well as a fine of $4.2 million
and admitted responsibility for two charges of impeding the function of the
RTC.
As a result of the Indictment, the U.S Department of Housing and Urban
Development ("HUD") previously had indicated that it was considering sanctions
against RMC, including possible withdrawal of RMC's right to participate in
the Federal Housing Administration ("FHA") loan program and originate FHA
loans. RMC has entered into an agreement with HUD under which it expects to
be able to continue to originate loans and participate in the FHA loan program
while HUD considers what administrative action, if any, it will take as a
result of the resolution of the Indictment. RMC is continuing its dialogue
with representatives of HUD to reach agreement on its ability to continue to
participate in the FHA loan program. The Company also is exploring
alternative arrangements in the event that RMC is not successful in these
efforts. Termination of RMC's right to participate could be followed by
similar exclusions from the loan programs of other RMC investors. No
assurance can be given regarding the results of these ongoing discussions with
HUD and its possible impact on RMC and its business.
The Company is party to various other legal proceedings generally incidental
to its businesses. Based on evaluation of these other matters and discussions
with counsel, management believes that liabilities to the Company arising from
these other matters will not have a material adverse effect on the financial
condition of the Company.
51
THE RYLAND GROUP, INC. & SUBSIDIARIES
Report of Independent Auditors
Board of Directors and Stockholders
The Ryland Group, Inc.
We have audited the accompanying consolidated balance sheets of The Ryland
Group, Inc. and subsidiaries as of December 31, 1998 and 1997, and the related
consolidated statements of earnings, stockholders' equity and cash flows for
each of the three years in the period ended December 31, 1998. These
financial statements are the resposibility of the Company's management.
Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. These standards require that we plan and perform the audit to
obtain reasonable assurance about whether the finacial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting priciples used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of The Ryland
Group, Inc. and subsidiaries at December 31, 1998 and 1997, and the
consolidated results of their operations and their cash flows for each
of the three years in the period ended December 31, 1998, in conformity
with generally accepted accounting priciples.
/s/ Ernst & Young LLP
Baltimore, Maryland
January 27, 1999
52
THE RYLAND GROUP, INC. & SUBSIDIARIES
Report of Management
Management of the Company is responsible for the integrity and accuracy of
the financial statements and all other annual report information. The
financial statements are prepared in conformity with generally accepted
accounting principles and include amounts based on management's judgements
and estimates.
The accounting systems, which record, summarize and report financial
information, are supported by internal control systems, which are designed
to provide reasonable assurance, at an appropriate cost, that the assets are
safeguarded and that transactions are recorded in accordance with Company
policies and procedures. Proper selection, training and development
of personnel also contribute to the effectiveness of the internal control
systems. These systems are the responsibility of management and are
regularly tested by the Company's internal auditors. The external auditors
also review and test the effectiveness of these systems to the extent they
deem necessary to express and opinion on the cosolidated financial statements.
The Audit Committee of the Board of Directors periodically meets with
management, the internal auditors and the external auditors to review
accounting, auditing and financial matters. Both the internal auditors
and the external auditors have unrestricted access to the Audit Committee.
/s/ Michael D. Mangan
Michael D. Mangan
Executive Vice President
Chief Financial Officer
53
</TABLE>
<TABLE>
<CAPTION>
TRE RYLAND GROUP, INC. & SUBSIDIARIES
Quarterly Financial Data and Common Stock Prices and Dividends
(amounts in thousands,
except per share data) 1998 1997
unaudited Dec. 31 Sept. 30 June 30 March 31 Dec. 31 Sept. 30 June 30 March 31
- ---------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
CONSOLIDATED RESULTS:
Revenues $541,086 $462,246 $425,851 $336,305 $499,062 $421,604 $399,620 $329,520
Earnings before taxes
and extraordinary item 30,335 22,295 14,711 7,817 15,891 11,235 6,451 2,893
Income tax expense 12,783 9,772 5,884 3,127 6,356 4,494 2,581 1,157
--------------------------------------------------------------------------------------
Net earnings before
extraordinary item $ 17,552 12,523 8,827 4,690 9,535 6,741 3,870 1,736
Extraordinary item - loss on
early extinguishment of debt
(net of taxes of $2,217) 0 (3,326) 0 0 0 0 0 0
-------------------------------------------------------------------------------------
Net earnings $ 17,552 $ 9,197 $ 8,827 $ 4,690 $ 9,535 $ 6,741 $ 3,870 $ 1,736
Basic net earnings per
common share $ 1.18 $ 0.61 $ 0.58 $ 0.30 $ 0.64 $ 0.42 $ 0.22 $ 0.08
Diluted net earnings per
common share $ 1.12 $ 0.59 $ 0.57 $ 0.29 $ 0.62 $ 0.41 $ 0.22 $ 0.08
Weighted average common
shares outstanding
Basic 14,691 14,667 14,758 14,713 14,433 14,916 15,684 15,878
Diluted 15,611 15,521 15,599 15,245 15,375 15,907 15,772 16,001
- ----------------------------------------------------------------------------------------------------------------------
54
</TABLE>
<TABLE>
<CAPTION>
COMMON STOCK PRICES AND DIVIDENDS
The Ryland Group, Inc. lists its common shares on the New York Stock Exchange, trading under the symbol RYL. The table below
presents the high and low market prices and dividend information for the Company. The number of common stockholders of record
as of February 18, 1999, was 3,114. (See Note I for dividend restrictions)
Dividends Dividends
Declared Declared
1998 High Low Per Share 1997 High Low Per Share
- -------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C> <C>
First quarter $ 29 13/16 $ 21 1/2 $0.04 First quarter $ 14 $ 11 3/4 $0.15
Second quarter 27 11/16 19 1/2 0.04 Second quarter 14 1/8 11 3/8 0.04
Third quarter 27 5/16 19 3/4 0.04 Third quarter 18 1/2 13 3/4 0.04
Fourth quarter 29 1/8 20 7/8 0.04 Fourth quarter 24 7/8 17 5/8 0.04
- -------------------------------------------------------------------------------------------------------------------------
55
</TABLE>
Exhibit 21 List of Subsidiaries of Registrant
Ryland Mortgage Company (an Ohio Corporation)
M.J. Brock & Sons, Inc. (a Delaware Corporation)
LPS Holdings Corporation (a Maryland Corporation)
56
Exhibit 23 Consent of Independent Auditors
We consent to the incorporation by reference in this Annual Report (Form 10-K)
of The Ryland Group, Inc., of our report dated January 27, 1999, included in
the 1998 Annual Report to the Shareholders of The Ryland Group, Inc.
Our audits also included the financial statement schedule of The Ryland Group,
Inc., listed in Item 14(a). This schedule is the responsibility of the
Company's management. Our responsibility is to express an opinion based on
our audits. In our opinion, the financial statement schedule referred to
above, when considered in relation to the basic financial statements taken as
a whole, presents fairly in all material respects the information set forth
therein.
We also consent to the incorporation by reference in the Registration
Statements (Form S-8 No. 33-32431, Form S-3 No. 33-48071, Form S-3 No. 33-
50933, Form S-8 No. 33-56905, Form S-8 No. 33-56917, Form S-3 No. 333-03791,
Form S-8 No. 333-68397,) of The Ryland Group, Inc., and in the related
Prospectuses of our report dated January 27, 1999, with respect to the
consolidated financial statements incorporated herein by reference, and our
report included in the preceding paragraph with respect to the financial
statement schedule included in this Annual Report (Form 10-K) for the year
ended December 31, 1998.
/s/Ernst & Young LLP
Baltimore, Maryland
March 5, 1999
57
Exhibit 24 Power of Attorney
KNOW ALL MEN BY THESE PRESENTS that the undersigned directors and officers of
The Ryland Group, Inc., a Maryland corporation, constitute and appoint Timothy
J. Geckle and Michael D. Mangan and either of them, the true and lawful agents
and attorneys-in-fact of the undersigned with full power and authority in said
agents and attorneys-in-fact, and in either of them, to sign for the
undersigned in their respective names as directors and officers of The Ryland
Group, Inc., the Annual Report on Form 10-K of The Ryland Group, Inc., for the
fiscal year ended December 31, 1998, to be filed with the Securities and
Exchange Commission under the Securities Exchange Act of 1934. We hereby
confirm all acts taken by such agents and attorneys-in-fact, or either of
them, as herein authorized.
DATED: March 1, 1999
/s/ R. Chad Dreier
-------------------
R. Chad Dreier, Chairman of the Board,
President, and Chief Executive Officer
(Principal Executive Officer)
/s/ James A. Flick, Jr.
-----------------------
James A. Flick, Jr., Director
/s/ Leslie M. Frecon
--------------------
Leslie M. Frecon, Director
/s/ Robert J. Gaw
-------------------
Robert J. Gaw, Director
/s/ Leonard M. Harlan
---------------------
Leonard M. Harlan, Director
/s/ William L. Jews
--------------------
William L. Jews, Director
/s/ William G. Kagler
----------------------
William G. Kagler, Director
/s/ Charlotte St. Martin
------------------------
Charlotte St. Martin, Director
/s/ John O. Wilson
------------------
John O. Wilson, Director
58
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE RYLAND
GROUP INC. FORM 10-K FOR THE PERIOD ENDED 12/31/98 AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS
</LEGEND>
<MULTIPLIER> 1000
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1998
<CASH> 49,784
<SECURITIES> 111,654
<RECEIVABLES> 158,611
<ALLOWANCES> 0
<INVENTORY> 641,762
<CURRENT-ASSETS> 0
<PP&E> 26,818
<DEPRECIATION> 0
<TOTAL-ASSETS> 1,215,398
<CURRENT-LIABILITIES> 0
<BONDS> 311,038
0
417
<COMMON> 14,752
<OTHER-SE> 331,114
<TOTAL-LIABILITY-AND-EQUITY> 1,215,398
<SALES> 1,694,505
<TOTAL-REVENUES> 1,765,488
<CGS> 1,428,763
<TOTAL-COSTS> 1,628,834
<OTHER-EXPENSES> 16,687
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 44,809
<INCOME-PRETAX> 75,158
<INCOME-TAX> 31,566
<INCOME-CONTINUING> 43,592
<DISCONTINUED> 0
<EXTRAORDINARY> (3,326)
<CHANGES> 0
<NET-INCOME> 40,266
<EPS-PRIMARY> 2.67
<EPS-DILUTED> 2.58
</TABLE>
