XMEX:KBH KB Home Quarterly Report 10-Q Filing - 8/31/2012

Effective Date 8/31/2012

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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
 FORM 10-Q
 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
For the quarterly period ended August 31, 2012.
or
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934.
For the transition period from [            ] to [            ].
Commission File No. 001-09195
KB HOME
(Exact name of registrant as specified in its charter)
Delaware
95-3666267
(State of incorporation)
(IRS employer identification number)
10990 Wilshire Boulevard
Los Angeles, California 90024
(310) 231-4000
(Address and telephone number of principal executive offices) 
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  ý    No  o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  ý    No  o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
ý
Accelerated filer
o
Non-accelerated filer
o  (Do not check if a smaller reporting company)
Smaller reporting company
o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  o    No  ý
Indicate the number of shares outstanding of each of the issuer’s classes of common stock as of August 31, 2012.
There were 77,129,868 shares of the registrant’s common stock, par value $1.00 per share, outstanding on August 31, 2012. The registrant’s grantor stock ownership trust held an additional 10,826,651 shares of the registrant’s common stock on that date.



KB HOME
FORM 10-Q
INDEX
 

2


PART I. FINANCIAL INFORMATION
Item 1.
Financial Statements
KB HOME
CONSOLIDATED STATEMENTS OF OPERATIONS
(In Thousands, Except Per Share Amounts – Unaudited)
 
 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Total revenues
$
981,914

 
$
835,994

 
$
424,504

 
$
367,316

Homebuilding:
 
 
 
 
 
 
 
Revenues
$
974,055

 
$
829,816

 
$
421,555

 
$
364,532

Construction and land costs
(824,935
)
 
(724,085
)
 
(347,908
)
 
(302,908
)
Selling, general and administrative expenses
(184,938
)
 
(172,310
)
 
(62,780
)
 
(60,185
)
Loss on loan guaranty

 
(37,330
)
 

 

Operating income (loss)
(35,818
)
 
(103,909
)
 
10,867

 
1,439

Interest income
363

 
776

 
117

 
123

Interest expense
(53,815
)
 
(36,902
)
 
(23,060
)
 
(12,342
)
Equity in income (loss) of unconsolidated joint ventures
(37
)
 
(55,865
)
 
278

 
64

Homebuilding pretax loss
(89,307
)
 
(195,900
)
 
(11,798
)
 
(10,716
)
Financial services:
 
 
 
 
 
 
 
Revenues
7,859

 
6,178

 
2,949

 
2,784

Expenses
(2,237
)
 
(2,481
)
 
(709
)
 
(829
)
Equity in income (loss) of unconsolidated joint venture
2,208

 
(376
)
 
2,119

 
(888
)
Financial services pretax income
7,830

 
3,321

 
4,359

 
1,067

Total pretax loss
(81,477
)
 
(192,579
)
 
(7,439
)
 
(9,649
)
Income tax benefit (expense)
14,800

 
(100
)
 
10,700

 

Net income (loss)
$
(66,677
)
 
$
(192,679
)
 
$
3,261

 
$
(9,649
)
Basic earnings (loss) per share
$
(.86
)
 
$
(2.50
)
 
$
.04

 
$
(.13
)
Diluted earnings (loss) per share
$
(.86
)
 
$
(2.50
)
 
$
.04

 
$
(.13
)
Basic average shares outstanding
77,107

 
77,004

 
77,127

 
77,047

Diluted average shares outstanding
77,107

 
77,004

 
77,358

 
77,047

Cash dividends declared per common share
$
.1125

 
$
.1875

 
$
.0250

 
$
.0625

See accompanying notes.

3


KB HOME
CONSOLIDATED BALANCE SHEETS
(In Thousands – Unaudited)
 
 
August 31,
2012
 
November 30,
2011
Assets
 
 
 
Homebuilding:
 
 
 
Cash and cash equivalents
$
420,392

 
$
415,050

Restricted cash
46,113

 
64,481

Receivables
94,832

 
66,179

Inventories
1,769,043

 
1,731,629

Investments in unconsolidated joint ventures
122,155

 
127,926

Other assets
91,149

 
75,104

 
2,543,684

 
2,480,369

Financial services
5,780

 
32,173

Total assets
$
2,549,464

 
$
2,512,542

 
 
 
 
Liabilities and stockholders’ equity
 
 
 
Homebuilding:
 
 
 
Accounts payable
$
103,933

 
$
104,414

Accrued expenses and other liabilities
342,142

 
374,406

Mortgages and notes payable
1,727,679

 
1,583,571

 
2,173,754

 
2,062,391

Financial services
3,269

 
7,494

Common stock
115,171

 
115,171

Paid-in capital
888,701

 
884,190

Retained earnings
444,493

 
519,844

Accumulated other comprehensive loss
(26,152
)
 
(26,152
)
Grantor stock ownership trust, at cost
(117,435
)
 
(118,059
)
Treasury stock, at cost
(932,337
)
 
(932,337
)
Total stockholders’ equity
372,441

 
442,657

Total liabilities and stockholders’ equity
$
2,549,464

 
$
2,512,542

See accompanying notes.

4


KB HOME
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In Thousands – Unaudited)
 
 
Nine Months Ended August 31,
 
2012
 
2011
Cash flows from operating activities:
 
 
 
Net loss
$
(66,677
)
 
$
(192,679
)
Adjustments to reconcile net loss to net cash used in operating activities:
 
 
 
Equity in (income) loss of unconsolidated joint ventures
(2,171
)
 
56,241

Distributions of earnings from unconsolidated joint ventures
3,316

 
6,312

Loss on loan guaranty

 
37,330

Gain on sale of operating property

 
(8,825
)
Amortization of discounts and issuance costs
2,150

 
1,660

Depreciation and amortization
1,147

 
1,636

Provision for deferred income taxes
1,152

 

Loss (gain) on early extinguishment of debt
10,278

 
(3,612
)
Stock-based compensation expense
4,684

 
5,765

Inventory impairments and land option contract abandonments
22,912

 
23,507

Change in assets and liabilities:
 
 
 
Receivables
(4,502
)
 
(10,940
)
Inventories
(10,562
)
 
(177,770
)
Accounts payable, accrued expenses and other liabilities
(31,266
)
 
(46,953
)
Other, net
(6,261
)
 
(1,611
)
Net cash used in operating activities
(75,800
)
 
(309,939
)
Cash flows from investing activities:
 
 
 
Return of investment in (contributions to) unconsolidated joint ventures
2,865

 
(1,974
)
Proceeds from sale of operating property

 
80,600

Purchases of property and equipment, net
(1,052
)
 
(74
)
Net cash provided by investing activities
1,813

 
78,552

Cash flows from financing activities:
 
 
 
Change in restricted cash
18,368

 
2,291

Proceeds from issuance of senior notes
694,831

 

Payment of senior notes issuance costs
(12,195
)
 

Repayment of senior notes
(592,645
)
 
(100,000
)
Payments on mortgages and land contracts due to land sellers and other loans
(21,099
)
 
(86,064
)
Issuance of common stock under employee stock plans
451

 
1,426

Payments of cash dividends
(8,674
)
 
(14,423
)
Net cash provided by (used in) financing activities
79,037

 
(196,770
)
Net increase (decrease) in cash and cash equivalents
5,050

 
(428,157
)
Cash and cash equivalents at beginning of period
418,074

 
908,430

Cash and cash equivalents at end of period
$
423,124

 
$
480,273

See accompanying notes.

5


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)



1.
Basis of Presentation and Significant Accounting Policies
The accompanying unaudited consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and the rules and regulations of the Securities and Exchange Commission (“SEC”). Accordingly, certain information and footnote disclosures normally included in the annual financial statements prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) have been condensed or omitted.
In the opinion of KB Home (the “Company”), the accompanying unaudited consolidated financial statements contain all adjustments (consisting only of normal recurring accruals) necessary to present fairly the Company’s consolidated financial position as of August 31, 2012, the results of its consolidated operations for the three months and nine months ended August 31, 2012 and 2011, and its consolidated cash flows for the nine months ended August 31, 2012 and 2011. The results of consolidated operations for the three months and nine months ended August 31, 2012 are not necessarily indicative of the results to be expected for the full year, due to seasonal variations in operating results and other factors. The consolidated balance sheet at November 30, 2011 has been taken from the audited consolidated financial statements as of that date. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements for the year ended November 30, 2011, which are contained in the Company’s Annual Report on Form 10-K for that period.
Use of Estimates
The accompanying unaudited consolidated financial statements have been prepared in conformity with GAAP and, therefore, include amounts based on informed estimates and judgments of management. Actual results could differ from these estimates.
Cash and Cash Equivalents and Restricted Cash
The Company considers all highly liquid short-term investments purchased with an original maturity of three months or less to be cash equivalents. The Company’s cash equivalents totaled $329.3 million at August 31, 2012 and $212.8 million at November 30, 2011. The majority of the Company’s cash and cash equivalents were invested in money market accounts.
Restricted cash of $46.1 million at August 31, 2012 and $64.5 million at November 30, 2011 consisted of cash deposited with various financial institutions that was required as collateral for the Company’s cash-collateralized letter of credit facilities (the “LOC Facilities”).
Earnings (Loss) Per Share
Basic and diluted earnings (loss) per share were calculated as follows (in thousands, except per share amounts): 
 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Numerator:
 
 
 
 
 
 
 
Net income (loss)
$
(66,677
)
 
$
(192,679
)
 
$
3,261

 
$
(9,649
)
Denominator:
 
 
 
 
 
 
 
Basic average shares outstanding
77,107

 
77,004

 
77,127

 
77,047

Net effect of stock options assumed to be exercised

 

 
231

 

Diluted average shares outstanding
77,107

 
77,004

 
77,358

 
77,047

Basic earnings (loss) per share
$
(.86
)
 
$
(2.50
)
 
$
.04

 
$
(.13
)
Diluted earnings (loss) per share
$
(.86
)
 
$
(2.50
)
 
$
.04

 
$
(.13
)
All outstanding stock options were excluded from the diluted loss per share calculations for the nine months ended August 31, 2012 and the three months and nine months ended August 31, 2011 because the effect of their inclusion would be antidilutive, or would decrease the reported loss per share.

6


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

1.
Basis of Presentation and Significant Accounting Policies (continued)

Comprehensive Income (Loss)
The Company had comprehensive income of $3.3 million for the three months ended August 31, 2012 and a comprehensive loss of $9.6 million for the three months ended August 31, 2011. The Company’s comprehensive loss was $66.7 million for the nine months ended August 31, 2012 and $192.7 million for the nine months ended August 31, 2011. The accumulated balances of other comprehensive loss in the consolidated balance sheets as of August 31, 2012 and November 30, 2011 were comprised solely of adjustments recorded directly to accumulated other comprehensive loss in accordance with Accounting Standards Codification Topic No. 715, “Compensation – Retirement Benefits” (“ASC 715”). ASC 715 requires an employer to recognize the funded status of defined postretirement benefit plans as an asset or liability on the balance sheet and requires any unrecognized prior service costs and actuarial gains/losses to be recognized in accumulated other comprehensive income(loss). 
2.
Stock-Based Compensation
The Company measures and recognizes compensation expense associated with its grants of equity-based awards in accordance with Accounting Standards Codification Topic No. 718, “Compensation — Stock Compensation” (“ASC 718”). ASC 718 requires that public companies measure and recognize compensation expense at an amount equal to the fair value of share-based payments granted under compensation arrangements over the vesting period.
Stock Options
In accordance with ASC 718, the Company estimates the grant-date fair value of its stock options using the Black-Scholes option-pricing model, which takes into account assumptions regarding an expected dividend yield, a risk-free interest rate, an expected volatility factor for the market price of the Company’s common stock and an expected term of the stock options. The following table summarizes the stock options outstanding and stock options exercisable as of August 31, 2012, as well as stock options activity during the nine months then ended:
 
Options
 
Weighted
Average Exercise
Price
Options outstanding at beginning of period
10,160,396

 
$
21.27

Granted
30,000

 
9.08

Exercised

 

Cancelled
(50,946
)
 
12.18

Options outstanding at end of period
10,139,450

 
$
21.28

Options exercisable at end of period
7,286,213

 
$
26.16

As of August 31, 2012, the weighted average remaining contractual life of stock options outstanding and stock options exercisable was 6.6 years and 5.8 years, respectively. There was $2.4 million of total unrecognized compensation cost related to unvested stock option awards as of August 31, 2012. For the three months ended August 31, 2012 and 2011, stock-based compensation expense associated with stock options totaled $1.1 million and $1.5 million, respectively. For the nine months ended August 31, 2012 and 2011, stock-based compensation expense associated with stock options totaled $3.5 million and $4.2 million, respectively. The aggregate intrinsic value of stock options outstanding was $7.9 million at August 31, 2012. Stock options exercisable had no aggregate intrinsic value at August 31, 2012. (The intrinsic value of a stock option is the amount by which the market value of a share of the underlying common stock exceeds the exercise price of the stock option.) 
Other Stock-Based Awards
From time to time, the Company grants restricted common stock, phantom shares and stock appreciation rights (“SARs”) to various employees. In some cases, the Company has granted phantom shares and SARs that can be settled only in cash and are therefore accounted for as liability awards. The Company recognized total compensation expense of $.4 million in the three months ended August 31, 2012 and total compensation income of $.5 million in the three months ended August 31, 2011

7


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

2.
Stock-Based Compensation (continued)

related to restricted common stock and phantom shares. The Company recognized total compensation expense of $1.2 million in the nine months ended August 31, 2012 and $.9 million in the nine months ended August 31, 2011 related to these stock-based awards. 
3.
Segment Information
As of August 31, 2012, the Company had identified five reporting segments, comprised of four homebuilding reporting segments and one financial services reporting segment, within its consolidated operations in accordance with Accounting Standards Codification Topic No. 280, “Segment Reporting.” As of August 31, 2012, the Company’s homebuilding reporting segments conducted ongoing operations in the following states:
West Coast: California
Southwest: Arizona, Nevada and New Mexico
Central: Colorado and Texas
Southeast: Florida, Maryland, North Carolina and Virginia
The Company’s homebuilding reporting segments are engaged in the acquisition and development of land primarily for residential purposes and offer a wide variety of homes that are designed to appeal to first-time, move-up and active adult homebuyers.
The Company’s homebuilding reporting segments were identified based primarily on similarities in economic and geographic characteristics, product types, regulatory environments, methods used to sell and construct homes and land acquisition characteristics. The Company evaluates segment performance primarily based on segment pretax results.
The Company’s financial services reporting segment provides title and insurance services to the Company’s homebuyers in the same markets as the Company’s homebuilding reporting segments. In addition, since the third quarter of 2011, this segment has earned revenues pursuant to the terms of a marketing services agreement with a preferred mortgage lender that offers mortgage banking services, including residential consumer mortgage loan originations, to the Company’s homebuyers who elect to use the lender. The Company’s homebuyers are under no obligation to use the Company’s preferred mortgage lender and may select any lender of their choice to obtain mortgage financing for the purchase of a home. The Company makes available to its homebuyers marketing materials and other information regarding its preferred mortgage lender’s financing options and mortgage loan products, and is compensated solely for the fair market value of these services. Prior to late June 2011, this segment provided mortgage banking services to the Company’s homebuyers indirectly through KBA Mortgage, LLC (“KBA Mortgage”), a former unconsolidated joint venture of a subsidiary of the Company and a subsidiary of Bank of America, N.A., with each partner having had a 50% interest in the joint venture.
The Company’s reporting segments follow the same accounting policies used for the Company’s consolidated financial statements. Operational results of each reporting segment are not necessarily indicative of the results that would have occurred had the segment been an independent, stand-alone entity during the periods presented, nor are they indicative of the results to be expected in future periods.
The following tables present financial information relating to the Company’s reporting segments (in thousands):

8


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

3.
Segment Information (continued)

 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Revenues:
 
 
 
 
 
 
 
West Coast
$
445,123

 
$
354,348

 
$
207,239

 
$
175,434

Southwest
95,127

 
91,411

 
35,634

 
39,479

Central
285,129

 
247,492

 
117,099

 
102,702

Southeast
148,676

 
136,565

 
61,583

 
46,917

Total homebuilding revenues
974,055

 
829,816

 
421,555

 
364,532

Financial services
7,859

 
6,178

 
2,949

 
2,784

Total
$
981,914

 
$
835,994

 
$
424,504

 
$
367,316

 
 
 
 
 
 
 
 
Pretax income (loss):
 
 
 
 
 
 
 
West Coast
$
(29,019
)
 
$
9,927

 
$
4,435

 
$
3,336

Southwest
(10,616
)
 
(113,620
)
 
(3,434
)
 
3,201

Central
(3,152
)
 
(12,389
)
 
986

 
(2,187
)
Southeast
5,494

 
(30,177
)
 
5,174

 
(7,156
)
Corporate and other (a)
(52,014
)
 
(49,641
)
 
(18,959
)
 
(7,910
)
Total homebuilding pretax loss
(89,307
)
 
(195,900
)
 
(11,798
)
 
(10,716
)
Financial services
7,830

 
3,321

 
4,359

 
1,067

Total
$
(81,477
)
 
$
(192,579
)
 
$
(7,439
)
 
$
(9,649
)
 
 
 
 
 
 
 
 
Equity in income (loss) of unconsolidated joint ventures:
 
 
 
 
 
 
 
West Coast
$
(129
)
 
$
50

 
$
(52
)
 
$
67

Southwest
(458
)
 
(55,902
)
 
(241
)
 

Central

 

 

 

Southeast
550

 
(13
)
 
571

 
(3
)
Total
$
(37
)
 
$
(55,865
)
 
$
278

 
$
64

 
 
 
 
 
 
 
 
Inventory impairments:
 
 
 
 
 
 
 
West Coast
$
14,040

 
$
1,679

 
$
933

 
$
328

Southwest
2,135

 
18,715

 

 

Central
1,267

 
51

 

 

Southeast
5,470

 
969

 
5,470

 

Total
$
22,912

 
$
21,414

 
$
6,403

 
$
328

 
(a)Corporate and other includes corporate general and administrative expenses.





9


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

3.
Segment Information (continued)

 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Land option contract abandonments:
 
 
 
 
 
 
 
West Coast
$

 
$
112

 
$

 
$

Southwest

 
296

 

 

Central

 
1,074

 

 
834

Southeast

 
611

 

 

Total
$

 
$
2,093

 
$

 
$
834

 
 
 
 
 
 
 
 
Joint venture impairments:
 
 
 
 
 
 
 
West Coast
$

 
$

 
$

 
$

Southwest

 
53,727

 

 

Central

 

 

 

Southeast

 

 

 

Total
$

 
$
53,727

 
$

 
$

 
August 31,
2012
 
November 30,
2011
Assets:
 
 
 
West Coast
$
1,016,181

 
$
995,888

Southwest
307,363

 
338,586

Central
351,804

 
336,553

Southeast
336,515

 
317,308

Corporate and other
531,821

 
492,034

Total homebuilding assets
2,543,684

 
2,480,369

Financial services
5,780

 
32,173

Total assets
$
2,549,464

 
$
2,512,542

 
 
 
 
Investments in unconsolidated joint ventures:
 
 
 
West Coast
$
38,418

 
$
38,405

Southwest
74,458

 
80,194

Central

 

Southeast
9,279

 
9,327

Total
$
122,155

 
$
127,926

4.
Financial Services
The following tables present financial information relating to the Company’s financial services reporting segment (in thousands):


10


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

4.
Financial Services (continued)

 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Revenues
 
 
 
 
 
 
 
Insurance commissions
$
4,594

 
$
4,392

 
$
1,840

 
$
1,806

Title services
1,535

 
1,329

 
657

 
526

Marketing services fees
1,725

 
450

 
450

 
450

Interest income
5

 
7

 
2

 
2

Total
7,859

 
6,178

 
2,949

 
2,784

Expenses
 
 
 
 
 
 
 
General and administrative
(2,237
)
 
(2,481
)
 
(709
)
 
(829
)
Operating income
5,622

 
3,697

 
2,240

 
1,955

Equity in income (loss) of unconsolidated joint venture
2,208

 
(376
)
 
2,119

 
(888
)
Pretax income
$
7,830

 
$
3,321

 
$
4,359

 
$
1,067

 
August 31,
2012
 
November 30,
2011
Assets
 
 
 
Cash and cash equivalents
$
2,732

 
$
3,024

Receivables (a)
1,344

 
25,495

Investment in unconsolidated joint venture
1,647

 
3,639

Other assets
57

 
15

Total assets
$
5,780

 
$
32,173

Liabilities
 
 
 
Accounts payable and accrued expenses
$
3,269

 
$
7,494

Total liabilities
$
3,269

 
$
7,494

(a)
In December 2011, the Company collected a $23.5 million receivable established in the fourth quarter of 2011 in connection with the wind down of KBA Mortgage’s business operations.
5.
Inventories
Inventories consisted of the following (in thousands): 
 
August 31,
2012
 
November 30,
2011
Homes under construction
$
528,532

 
$
417,304

Land under development
545,423

 
587,582

Land held for future development
695,088

 
726,743

Total
$
1,769,043

 
$
1,731,629


11


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

5.
Inventories (continued)

The Company’s interest costs were as follows (in thousands): 
 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Capitalized interest at beginning of period
$
233,461

 
$
249,966

 
$
235,032

 
$
249,792

Interest incurred (a)
99,552

 
84,489

 
39,532

 
29,090

Interest expensed (a)
(53,815
)
 
(36,902
)
 
(23,060
)
 
(12,342
)
Interest amortized to construction and land costs
(48,909
)
 
(52,746
)
 
(21,215
)
 
(21,733
)
Capitalized interest at end of period (b)
$
230,289

 
$
244,807

 
$
230,289

 
$
244,807

(a)
Amounts for the three months and nine months ended August 31, 2012 include losses on the early extinguishment of debt of $8.3 million and $10.3 million, respectively. Amounts for the nine months ended August 31, 2011 include a $3.6 million gain on the early extinguishment of secured debt.
(b)
Inventory impairment charges are recognized against all inventory costs of a community, such as land, land development, cost of home construction and capitalized interest. Capitalized interest amounts presented in the table reflect the gross amount of capitalized interest as impairment charges recognized are not generally allocated to specific components of inventory.
6.
Inventory Impairments and Land Option Contract Abandonments
Each community or land parcel in the Company’s owned inventory is assessed to determine if indicators of potential impairment exist. Impairment indicators are assessed separately for each community or land parcel on a quarterly basis and include, but are not limited to: significant decreases in sales rates, average selling prices, volume of homes delivered, gross profit margins on homes delivered or projected gross profit margins on homes in backlog or future housing sales; significant increases in budgeted land development and construction costs or cancellation rates; or projected losses on expected future land sales. If indicators of potential impairment exist for a community or land parcel, the identified asset is evaluated for recoverability in accordance with Accounting Standards Codification Topic No. 360, “Property, Plant, and Equipment” (“ASC 360”). The Company evaluated 33 communities or land parcels for recoverability during each of the three-month periods ended August 31, 2012 and 2011. The Company evaluated 109 and 97 communities or land parcels for recoverability during the nine months ended August 31, 2012 and 2011, respectively. Some of the communities or land parcels evaluated during the nine months ended August 31, 2012 and 2011 were evaluated in more than one quarterly period.
When an indicator of potential impairment is identified for a community or land parcel, the Company tests the asset for recoverability by comparing the carrying value of the asset to the undiscounted future net cash flows expected to be generated by the asset. The undiscounted future net cash flows are impacted by then-current conditions and trends in the market in which the asset is located as well as factors known to the Company at the time the cash flows are calculated. With the undiscounted future net cash flows, the Company also considers recent trends in its sales, backlog and cancellation rates, as well as expectations related to the following: product offerings; market supply and demand, including estimated average selling prices and related price appreciation; and land development, construction and overhead costs to be incurred and related cost inflation. With respect to the three months and nine months ended August 31, 2012 and 2011, these expectations reflected the Company’s experience that market conditions for its assets in inventory where impairment indicators were identified have been generally stable in 2011 and 2012, with no significant deterioration or improvement identified as to revenue and cost drivers.
In the Company’s assessments during the first three quarters of 2012, the Company determined that the year-over-year decrease in net orders in the first quarter of 2012 and the modest year-over-year increases in net orders in each of the second and third quarters of 2012 did not reflect a sustained change in market conditions that could prevent recoverability. Rather, the Company considered that the changes reflected residential consumer mortgage loan funding issues arising from a change in the nature of the Company’s relationships with mortgage lenders during the period, mostly in the first half of 2012, when the Company's preferred mortgage lender ceased its forward mortgage banking operations. These issues have been mitigated since the Company began the transition to its new (and present) preferred mortgage lender, who began accepting new mortgage loan applications from the Company's homebuyers on May 1, 2012, which has resulted in more consistent execution and completion

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

6.
Inventory Impairments and Land Option Contract Abandonments (continued)

of residential consumer mortgage loan originations for the Company's homebuyers who choose to use the lender. Compared to the period in the first half of 2012 before May 1, this has improved the quality and stability of the Company's backlog and contributed to a more predictable business flow of converting net orders into home deliveries and revenues. The Company’s year-over-year net order comparison for the first nine months of 2012 was also impacted by a lower number of new home communities open for sales since the beginning of the year from which the Company could generate net orders, rather than an overall decline in market conditions. On a per community basis, the Company's 2012 third quarter net orders increased from the year-earlier quarter. Additionally, the Company's ability to improve its average selling prices for its homes delivered each quarter since the beginning of 2012 has helped the Company maintain and slightly improve its profitability on homes closed. Based on the Company's experience, and taking into account the signs of stability in many markets for new home sales, the Company’s inventory assessments as of August 31, 2012 considered an expected steady, if slightly improved, overall sales pace and average selling price performance for the remainder of 2012 and 2013 relative to the pace and performance in recent quarters.
Given the inherent challenges and uncertainties in forecasting future results, the Company’s inventory assessments at the time they are made take into consideration whether a community or land parcel is active, meaning it is open for sales and/or undergoing development, or whether it is being held for future development. For active communities and land parcels, due to their short-term nature as compared to land held for future development, the Company's inventory assessments generally assume the continuation of then-current market conditions, subject to identifying information suggesting a significant sustained deterioration or improvement, or other changes, in such conditions. These assessments, at the time made, generally anticipate sales rates, average selling prices and costs to continue at or near then-current levels through the affected asset’s estimated remaining life. Land held for future development consists of communities or land parcels where development activity has been suspended or has not yet begun, but is expected to occur in the future. These assets held for future development are located in various submarkets where conditions do not presently support further investment or development, or are subject to a building permit moratorium or regulatory restrictions, or are portions of larger land parcels that the Company plans to build out over several years and/or that have not yet been entitled. Inventory assessments for the Company’s land held for future development consider then-current market conditions as well as subjective forecasts regarding the timing and costs of development and construction and related cost inflation; the product(s) to be offered; and the sales rates and selling prices and related price appreciation of the offered product(s) when an associated community is anticipated to open for sales. The Company evaluates various factors to develop these forecasts, including the availability of and demand for homes and finished lots within the relevant marketplace; historical, current and expected future sales trends for the marketplace; and third-party data, if available. These various estimates, trends, expectations and assumptions used in each of the Company’s inventory assessments are specific to each community or land parcel based on what the Company believes are reasonable forecasts for performance and may vary among communities or land parcels and may vary over time.
The Company records an inventory impairment charge when the carrying value of a real estate asset is greater than the undiscounted future net cash flows the asset is expected to generate. These real estate assets are written down to fair value, which is primarily based on the estimated future net cash flows discounted for inherent risk associated with each such asset. Inputs used in the estimated discounted future net cash flows are specific to each affected community or land parcel and are based on expectations of the Company’s management for each such asset as of the applicable measurement date, including, among others, expectations related to average selling prices and delivery rates. The discount rates used are impacted by the following: the risk-free rate of return; expected risk premium based on estimated land development, construction and delivery timelines; market risk from potential future price erosion; cost uncertainty due to development or construction cost increases; and other risks specific to the asset or conditions in the market in which the asset is located at the time the assessment is made.
The following table summarizes ranges for significant quantitative unobservable inputs the Company utilized in its fair value measurements with respect to the impaired communities or land parcels written down to fair value during the periods presented:
 
 
Nine Months Ended
 
Three Months Ended
Unobservable Input (a)
 
August 31, 2012
 
August 31, 2012
Average selling price
 
$115,200 - $497,900
 
$152,000 - $246,200
Deliveries per month
 
1 - 6
 
2 - 4
Discount rate
 
17% - 20%
 
17% - 20%

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

6.
Inventory Impairments and Land Option Contract Abandonments (continued)

(a)
The ranges of inputs used primarily reflect the underlying variability among the various housing markets where each of the impacted communities or land parcels are located, rather than changes in prevailing market conditions.
Based on the results of its evaluations, the Company recognized inventory impairment charges of $6.4 million in the three months ended August 31, 2012 associated with four communities with a post-impairment fair value of $3.2 million. In the three months ended August 31, 2011, the Company recognized $.3 million of such charges associated with one community with a post-impairment fair value of $1.1 million. In the nine months ended August 31, 2012, the Company recognized inventory impairment charges of $22.9 million associated with 11 communities with a post-impairment fair value of $30.6 million. In the nine months ended August 31, 2011, the Company recognized $21.4 million of such charges associated with nine communities or land parcels with a post-impairment fair value of $29.9 million. These charges in the 2011 period included an $18.1 million adjustment to the fair value of real estate collateral in the Company’s Southwest homebuilding reporting segment that the Company took back on a note receivable.
As of August 31, 2012, the aggregate carrying value of the Company’s inventory that had been impacted by inventory impairment charges was $334.4 million, representing 48 communities and various other land parcels. As of November 30, 2011, the aggregate carrying value of the Company’s inventory that had been impacted by inventory impairment charges was $338.5 million, representing 53 communities and various other land parcels.
The Company’s inventory controlled under land option contracts and other similar contracts is assessed to determine whether it continues to meet the Company’s internal investment and marketing standards. Assessments are made separately for each optioned land parcel on a quarterly basis and are affected by the following factors relative to the market in which the asset is located, among others: current and/or anticipated sales rates, average selling prices and home delivery volume; estimated land development and construction costs; and projected profitability on expected future housing or land sales. When a decision is made not to exercise certain land option contracts and other similar contracts due to market conditions and/or changes in its marketing strategy, the Company writes off the related inventory costs, including non-refundable deposits and pre-acquisition costs. Based on the results of its assessments, the Company recognized no land option contract abandonment charges in the three months or nine months ended August 31, 2012. In the three months ended August 31, 2011, the Company recognized $.8 million of land option contract abandonment charges corresponding to 209 lots. In the nine months ended August 31, 2011, the Company recognized $2.1 million of such charges corresponding to 467 lots. Inventory impairment and land option contract abandonment charges are included in construction and land costs in the Company’s consolidated statements of operations.
The estimated remaining life of each community or land parcel in the Company’s inventory depends on various factors, such as the total number of lots remaining; the expected timeline to acquire and entitle land and develop lots to build homes; the anticipated future sales and cancellation rates; and the expected timeline to build and deliver homes sold. While it is difficult to determine a precise timeframe for any particular inventory asset, the Company estimates its inventory assets’ remaining operating lives under current and expected future market conditions to range generally from one year to in excess of 10 years. Based on current market conditions and anticipated delivery timelines, the Company expects to realize, on an overall basis, the majority of its current inventory balance within five years.
Due to the judgment and assumptions applied in the estimation process with respect to inventory impairments, land option contract abandonments, the remaining operating lives of the Company’s inventory assets and the realization of its inventory balances, actual results could differ substantially from those estimated.
7.    Fair Value Disclosures
Accounting Standards Codification Topic No. 820, “Fair Value Measurements and Disclosures,” provides a framework for measuring the fair value of assets and liabilities under GAAP, and establishes a fair value hierarchy that requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The fair value hierarchy can be summarized as follows:

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

7.    Fair Value Disclosures (continued)

Level 1
 
Fair value determined based on quoted prices in active markets for identical assets or liabilities.
 
 
Level 2
 
Fair value determined using significant observable inputs, such as quoted prices for similar assets or liabilities or quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability, or inputs that are derived principally from or corroborated by observable market data, by correlation or other means.
 
 
Level 3
 
Fair value determined using significant unobservable inputs, such as pricing models, discounted cash flows, or similar techniques.
Fair value measurements are used for inventories on a nonrecurring basis when events and circumstances indicate the carrying value is not recoverable. The following table presents the Company’s assets measured at fair value on a nonrecurring basis during the nine months ended August 31, 2012 and the year ended November 30, 2011 (in thousands): 
 
 
Fair Value
Description
 
Hierarchy
 
August 31, 2012 (a)
 
November 30, 2011 (a)
Long-lived assets held and used
 
Level 2
 
$

 
$
75

Long-lived assets held and used
 
Level 3
 
30,620

 
33,947

Total
 
 
 
$
30,620

 
$
34,022

(a)
Amounts represent the aggregate fair values for communities or land parcels for which the Company recognized inventory impairment charges during the period, as of the date that the fair value measurements were made. The carrying value for these communities or land parcels may have subsequently increased or decreased from the fair value reflected due to activity that has occurred since the measurement date.
In accordance with the provisions of ASC 360, long-lived assets held and used with a carrying value of $53.5 million were written down to their fair value of $30.6 million during the nine months ended August 31, 2012, resulting in inventory impairment charges of $22.9 million. During the year ended November 30, 2011, long-lived assets held and used with a carrying value of $56.7 million were written down to their fair value of $34.0 million, resulting in inventory impairment charges of $22.7 million.
The fair values for the Company’s long-lived assets held and used that were determined using Level 2 inputs were based on an executed contract. The fair values for long-lived assets held and used that were determined using Level 3 inputs were primarily based on the estimated future net cash flows discounted for inherent risk associated with each asset as described in Note 6. Inventory Impairments and Land Option Contract Abandonments. The discount rates used were impacted by the following: the risk-free rate of return; expected risk premium based on estimated land development, construction and delivery timelines; market risk from potential future price erosion; cost uncertainty due to development or construction cost increases; and other risks specific to the asset or conditions in the market in which the asset was located at the time the assessment was made. These factors were specific to each affected community or land parcel and may have varied among communities or land parcels.
The Company’s financial instruments consist of cash and cash equivalents, restricted cash, mortgages and notes receivable, senior notes, and mortgages and land contracts due to land sellers and other loans. Fair value measurements of financial instruments are determined by various market data and other valuation techniques as appropriate. When available, the Company uses quoted market prices in active markets to determine fair value.
The following table presents the fair value hierarchy, carrying values and estimated fair values of the Company’s financial instruments, except those for which the carrying values approximate fair values (in thousands):

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

7.    Fair Value Disclosures (continued)

 
 
 
August 31, 2012
 
November 30, 2011
 
Fair Value
Hierarchy
 
Carrying
Value
 
Estimated
Fair Value
 
Carrying
Value
 
Estimated
Fair Value
Financial Liabilities:
 
 
 
 
 
 
 
 
 
Senior notes due 2014 at 5 3/4%
Level 2
 
$
75,898

 
$
78,439

 
$
249,647

 
$
232,500

Senior notes due 2015 at 5 7/8%
Level 2
 
101,980

 
104,599

 
299,273

 
270,000

Senior notes due 2015 at 6 1/4%
Level 2
 
236,819

 
239,867

 
449,795

 
401,625

Senior notes due 2017 at 9.10%
Level 2
 
261,284

 
290,175

 
260,865

 
235,519

Senior notes due 2018 at 7 1/4%
Level 2
 
299,098

 
306,000

 
299,007

 
251,625

Senior notes due 2020 at 8.00%
Level 2
 
345,090

 
374,500

 

 

Senior notes due 2022 at 7.50%
Level 2
 
350,000

 
363,125

 

 

The carrying values reported for cash and cash equivalents, restricted cash, mortgages and notes receivable, and mortgages and land contracts due to land sellers and other loans approximate fair values.
8.
Variable Interest Entities
The Company participates in joint ventures from time to time that conduct land acquisition, development and/or other homebuilding activities in various markets where its homebuilding operations are located. Its investments in these joint ventures may create a variable interest in a variable interest entity (“VIE”), depending on the contractual terms of the arrangement. The Company analyzes its joint ventures in accordance with Accounting Standards Codification Topic No. 810, “Consolidation” (“ASC 810”), to determine whether they are VIEs and, if so, whether the Company is the primary beneficiary. All of the Company’s joint ventures at August 31, 2012 and November 30, 2011 were determined under the provisions of ASC 810 to be unconsolidated joint ventures and were accounted for under the equity method, either because they were not VIEs or, if they were VIEs, the Company was not the primary beneficiary of the VIEs.
In the ordinary course of its business, the Company enters into land option contracts and other similar contracts to procure rights to purchase land parcels for the construction of homes. The use of such land option contracts and other similar contracts generally allows the Company to reduce the market risks associated with direct land ownership and development, and to reduce the Company’s capital and financial commitments, including interest and other carrying costs. Under such contracts, the Company typically pays a specified option deposit or earnest money deposit in consideration for the right to purchase land in the future, usually at a predetermined price. Under the requirements of ASC 810, certain of these contracts may create a variable interest for the Company, with the land seller being identified as a VIE.
In compliance with ASC 810, the Company analyzes its land option contracts and other similar contracts to determine whether the corresponding land sellers are VIEs and, if so, whether the Company is the primary beneficiary. Although the Company does not have legal title to the underlying land, ASC 810 requires the Company to consolidate a VIE if the Company is determined to be the primary beneficiary. In determining whether it is the primary beneficiary, the Company considers, among other things, whether it has the power to direct the activities of the VIE that most significantly impact the VIE’s economic performance. Such activities would include, among other things, determining or limiting the scope or purpose of the VIE, selling or transferring property owned or controlled by the VIE, or arranging financing for the VIE. The Company also considers whether it has the obligation to absorb losses of the VIE or the right to receive benefits from the VIE. As a result of its analyses, the Company determined that as of August 31, 2012 and November 30, 2011 it was not the primary beneficiary of any VIEs from which it has procured rights to purchase land parcels under land option contracts and other similar contracts.
As of August 31, 2012, the Company had cash deposits totaling $6.4 million associated with land option contracts and other similar contracts that it determined were unconsolidated VIEs, having an aggregate purchase price of $316.9 million, and had cash deposits totaling $22.9 million associated with land option contracts and other similar contracts that the Company determined were not VIEs, having an aggregate purchase price of $282.1 million. As of November 30, 2011, the Company had cash deposits totaling $8.1 million associated with land option contracts and other similar contracts that it determined were unconsolidated VIEs, having an aggregate purchase price of $122.1 million, and had cash deposits totaling $12.8 million associated with land option contracts and other similar contracts that the Company determined were not VIEs, having an

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

8.
Variable Interest Entities (continued)

aggregate purchase price of $223.0 million.
The Company’s exposure to loss related to its land option contracts and other similar contracts with third parties and unconsolidated entities consisted of deposits and pre-acquisition costs, which totaled $29.3 million and $27.1 million, respectively, at August 31, 2012 and $20.9 million and $31.5 million, respectively, at November 30, 2011. These amounts are included in inventories in the Company’s consolidated balance sheets. In addition, the Company had outstanding letters of credit of $.5 million at August 31, 2012 and $1.7 million at November 30, 2011 in lieu of cash deposits under certain land option contracts or other similar contracts.
The Company also evaluates its land option contracts and other similar contracts for financing arrangements in accordance with Accounting Standards Codification Topic No. 470, “Debt” (“ASC 470”), and, as a result of its evaluations, increased inventories, with a corresponding increase to accrued expenses and other liabilities, in its consolidated balance sheets by $20.0 million at August 31, 2012 and $23.9 million at November 30, 2011.
9.
Investments in Unconsolidated Joint Ventures
The Company has investments in unconsolidated joint ventures that conduct land acquisition, development and/or other homebuilding activities in various markets where its homebuilding operations are located. The Company’s partners in these unconsolidated joint ventures are unrelated homebuilders, and/or land developers and other real estate entities, or commercial enterprises. These investments are designed primarily to reduce market and development risks and to increase the number of homesites owned or controlled by the Company. In some instances, participating in unconsolidated joint ventures has enabled the Company to acquire and develop land that it might not otherwise have had access to due to a project’s size, financing needs, duration of development or other circumstances. While the Company considers its participation in unconsolidated joint ventures as potentially beneficial to its homebuilding activities, it does not view such participation as essential and has unwound its participation in a number of unconsolidated joint ventures in the past few years.
The Company typically has obtained rights to purchase portions of the land held by the unconsolidated joint ventures in which it currently participates. When an unconsolidated joint venture sells land to the Company’s homebuilding operations, the Company defers recognition of its share of such unconsolidated joint venture’s earnings until a home sale is closed and title passes to a homebuyer, at which time the Company accounts for those earnings as a reduction of the cost of purchasing the land from the unconsolidated joint venture.
The Company and its unconsolidated joint venture partners make initial and/or ongoing capital contributions to these unconsolidated joint ventures, typically on a pro rata basis equal to their respective equity interests. The obligations to make capital contributions are governed by each such unconsolidated joint venture’s respective operating agreement and related governing documents.
Each unconsolidated joint venture is obligated to maintain financial statements in accordance with GAAP. The Company shares in the profits and losses of these unconsolidated joint ventures generally in accordance with its respective equity interests. In some instances, the Company recognizes profits and losses related to its investment in an unconsolidated joint venture that differ from its equity interest in the unconsolidated joint venture. This may arise from impairments recognized by the Company related to its investment that differ from the recognition of impairments by the unconsolidated joint venture with respect to the unconsolidated joint venture’s assets; differences between the Company’s basis in assets it has transferred to the unconsolidated joint venture and the unconsolidated joint venture’s basis in those assets; the deferral of the unconsolidated joint venture profits from land sales to the Company; or other items.
With respect to the Company’s investments in unconsolidated joint ventures, its equity in loss of unconsolidated joint ventures included no impairment charges for the nine months ended August 31, 2012 and $53.7 million of such charges for the nine months ended August 31, 2011. The impairment charges for the nine months ended August 31, 2011 reflected the write-off of the Company’s remaining investment in South Edge, LLC (“South Edge”). South Edge was a residential development joint venture in the Company’s Southwest homebuilding reporting segment. The Company wrote off its remaining investment in South Edge based on the Company’s determination that South Edge was no longer able to perform its activities as originally intended following a court decision in the first quarter of 2011 to enter an order for relief on a Chapter 11 involuntary bankruptcy petition filed against the joint venture.

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

9.
Investments in Unconsolidated Joint Ventures (continued)

The following table presents information from the combined condensed statements of operations of the Company’s unconsolidated joint ventures (in thousands):
 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Revenues
$
27,859

 
$
230

 
$
27,859

 
$

Construction and land costs
(19,303
)
 
(201
)
 
(19,309
)
 

Other income (expenses), net
(1,189
)
 
(4,505
)
 
(442
)
 
101

Income (loss)
$
7,367

 
$
(4,476
)
 
$
8,108

 
$
101

For the three months and nine months ended August 31, 2012, combined revenues, construction and land costs, and income (loss) from our unconsolidated joint ventures increased from the corresponding year-earlier periods due to a land sale completed by an unconsolidated joint venture in Maryland during the quarter ended August 31, 2012.
The following table presents combined condensed balance sheet information for the Company’s unconsolidated joint ventures (in thousands):
 
August 31,
2012
 
November 30,
2011
Assets
 
 
 
Cash
$
29,057

 
$
8,923

Receivables
8,034

 
19,503

Inventories
347,460

 
368,306

Other assets
872

 
151

Total assets
$
385,423

 
$
396,883

Liabilities and equity
 
 
 
Accounts payable and other liabilities
$
86,927

 
$
96,981

Equity
298,496

 
299,902

Total liabilities and equity
$
385,423

 
$
396,883

The following table presents information relating to the Company’s investments in unconsolidated joint ventures (dollars in thousands).
 
August 31,
2012
 
November 30,
2011
Number of investments in unconsolidated joint ventures (a)
8

 
8

Investments in unconsolidated joint ventures (a)
$
122,155

 
$
127,926

(a)
The Company’s investments in unconsolidated joint ventures as of August 31, 2012 and November 30, 2011 include Inspirada Builders, LLC, an unconsolidated joint venture that was formed in 2011 in connection with the South Edge Plan (as defined below) and in which a wholly owned subsidiary of the Company is a member. As part of the South Edge Plan, land previously owned by South Edge was transferred to Inspirada Builders, LLC in November 2011. The Company anticipates that it will acquire its share of the land from Inspirada Builders, LLC through a future distribution.
The Company’s unconsolidated joint ventures finance land and inventory investments for a project through a variety of arrangements. To finance their respective land acquisition and development activities, certain of the Company’s unconsolidated joint ventures have obtained loans from third-party lenders that are secured by the underlying property and related project

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

9.
Investments in Unconsolidated Joint Ventures (continued)

assets. However, none of the Company’s unconsolidated joint ventures had outstanding debt at August 31, 2012 or November 30, 2011.
In certain instances, the Company and/or its partner(s) in an unconsolidated joint venture have provided completion and/or carve-out guarantees to the unconsolidated joint venture’s lenders. A completion guaranty refers to the physical completion of improvements for a project and/or the obligation to contribute capital to an unconsolidated joint venture to enable it to fund its completion obligations. The Company’s potential responsibility under its completion guarantees, if triggered, is highly dependent on the facts of a particular case. A carve-out guaranty refers to the payment of losses a lender suffers due to certain bad acts or omissions by an unconsolidated joint venture or its partners, such as fraud or misappropriation, or due to environmental liabilities arising with respect to the relevant project. The Company does not believe it currently has exposure with respect to any of its completion or carve-out guarantees.
In the first quarter of 2011, as a result of recording a probable obligation related to a limited several repayment guaranty (the “Springing Guaranty”) that the Company had provided to the administrative agent for the lenders to South Edge, and taking into account accruals it had previously established with respect to its investment in South Edge, the Company recognized a charge of $22.8 million that was reflected as a loss on loan guaranty in its consolidated statements of operations. This charge was in addition to the joint venture impairment charge of $53.7 million to write off the Company’s remaining investment in South Edge. In the second quarter of 2011, in updating the estimate of its probable net payment obligation to reflect the terms of an agreement regarding a proposed consensual plan of reorganization for South Edge (the “South Edge Plan”), the Company recorded an additional loss on loan guaranty of $14.6 million. South Edge underwent and completed a bankruptcy reorganization under the South Edge Plan in 2011.  In connection with a bankruptcy court’s confirmation of the South Edge Plan in November 2011 and the resolution of other matters concerning South Edge, the Company’s obligations under the Springing Guaranty were eliminated in the fourth quarter of 2011.
10.
Other Assets
Other assets consisted of the following (in thousands):
 
August 31,
2012
 
November 30,
2011
Cash surrender value of insurance contracts
$
63,747

 
$
59,718

Debt issuance costs (a)
15,291

 
4,219

Property and equipment, net
7,709

 
7,801

Prepaid expenses
4,402

 
2,214

Net deferred tax assets

 
1,152

Total
$
91,149

 
$
75,104

(a)
The increase in debt issuance costs as of August 31, 2012 compared to November 30, 2011 primarily reflected the costs associated with the Company's issuance of $350.0 million in aggregate principal amount of 8.00% senior notes due 2020 (the “$350 Million 8.00% Senior Notes”) and $350.0 million in aggregate principal amount of 7.50% senior notes due 2022 (the “$350 Million 7.50% Senior Notes”) during the nine months ended August 31, 2012.
11.
Accrued Expenses and Other Liabilities
Accrued expenses and other liabilities consisted of the following (in thousands):

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

11.
Accrued Expenses and Other Liabilities (continued)

 
August 31,
2012
 
November 30,
2011
Construction defect and other litigation liabilities
$
106,503

 
$
101,017

Employee compensation and related benefits
85,366

 
76,960

Warranty liability
47,326

 
67,693

Accrued interest payable
43,585

 
43,129

Liabilities related to inventory not owned
20,043

 
23,903

Real estate and business taxes
6,350

 
10,770

Other
32,969

 
50,934

Total
$
342,142

 
$
374,406

12.
Mortgages and Notes Payable
Mortgages and notes payable consisted of the following (in thousands):  
 
August 31,
2012
 
November 30,
2011
Mortgages and land contracts due to land sellers and other loans
$
57,510

 
$
24,984

Senior notes due 2014 at 5 3/4%
75,898

 
249,647

Senior notes due 2015 at 5 7/8%
101,980

 
299,273

Senior notes due 2015 at 6 1/4%
236,819

 
449,795

Senior notes due 2017 at 9.10%
261,284

 
260,865

Senior notes due 2018 at 7 1/4%
299,098

 
299,007

Senior notes due 2020 at 8.00%
345,090

 

Senior notes due 2022 at 7.50%
350,000

 

Total
$
1,727,679

 
$
1,583,571

The Company maintains the LOC Facilities to provide letters of credit in the ordinary course of operating its business. As of August 31, 2012 and November 30, 2011, $45.2 million and $63.8 million, respectively, of letters of credit were outstanding under the LOC Facilities. The LOC Facilities require the Company to deposit and maintain cash with the issuing financial institutions as collateral for its letters of credit outstanding. The Company may maintain, revise or, if necessary or desirable, enter into additional or expanded letter of credit facilities, or other similar facility arrangements, with the same or other financial institutions.
On February 7, 2012, pursuant to its universal shelf registration statement filed with the SEC on September 20, 2011 (the “2011 Shelf Registration”), the Company issued the $350 Million 8.00% Senior Notes. The $350 Million 8.00% Senior Notes, which are due on March 15, 2020, with interest payable semi-annually, represent senior unsecured obligations of the Company and rank equally in right of payment with all of the Company’s existing and future senior unsecured indebtedness. The $350 Million 8.00% Senior Notes may be redeemed, in whole at any time or from time to time in part, at a price equal to the greater of (a) 100% of their principal amount and (b) the sum of the present values of the remaining scheduled payments of principal and interest discounted to the date of redemption at a defined rate, plus, in each case, accrued and unpaid interest to the applicable redemption date. If a change in control occurs as defined in the instruments governing the $350 Million 8.00% Senior Notes, the Company would be required to offer to purchase the $350 Million 8.00% Senior Notes at 101% of their principal amount, together with all accrued and unpaid interest, if any. The $350 Million 8.00% Senior Notes are unconditionally guaranteed jointly and severally by certain of the Company’s subsidiaries (the “Guarantor Subsidiaries”) on a senior unsecured basis. The Company used substantially all of the net proceeds from the issuance of the $350 Million 8.00% Senior Notes to purchase, pursuant to the terms of tender offers that were initially made on January 19, 2012 (the “January

20


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

12.
Mortgages and Notes Payable (continued)

2012 Tender Offers”), $56.3 million in aggregate principal amount of its 5 3/4 % senior notes due 2014, $130.0 million in aggregate principal amount of its 5 7/8% senior notes due 2015, and $153.7 million in aggregate principal amount of its 6 1/4%  senior notes due 2015. The applicable January 2012 Tender Offers expired on February 15, 2012. The total amount paid to purchase these senior notes was $340.5 million. The Company incurred a loss of $2.0 million in the first quarter of 2012 related to the early redemption of debt due to a premium paid under the January 2012 Tender Offers and the unamortized original issue discount.
On July 31, 2012, pursuant to the 2011 Shelf Registration, the Company issued the $350 Million 7.50% Senior Notes. The $350 Million 7.50% Senior Notes, which are due on September 15, 2022, with interest payable semi-annually, represent senior unsecured obligations of the Company and rank equally in right of payment with all of the Company’s existing and future senior unsecured indebtedness. The $350 Million 7.50% Senior Notes may be redeemed, in whole at any time or from time to time in part, at a price equal to the greater of (a) 100% of their principal amount and (b) the sum of the present values of the remaining scheduled payments of principal and interest discounted to the date of redemption at a defined rate, plus, in each case, accrued and unpaid interest to the applicable redemption date. If a change in control occurs as defined in the instruments governing the $350 Million 7.50% Senior Notes, the Company would be required to offer to purchase the $350 Million 7.50% Senior Notes at 101% of their principal amount, together with all accrued and unpaid interest, if any. The $350 Million 7.50% Senior Notes are unconditionally guaranteed jointly and severally by the Guarantor Subsidiaries on a senior unsecured basis. The Company used $252.2 million of the net proceeds from the issuance of the $350 Million 7.50% Senior Notes to purchase, pursuant to the terms of tender offers that were initially made on July 11, 2012 (the “July 2012 Tender Offers”), $117.7 million in aggregate principal amount of its 5 3/4% senior notes due 2014, $67.8 million in aggregate principal amount of its 5 7/8%  senior notes due 2015, and $59.4 million in aggregate principal amount of its 6 1/4% senior notes due 2015. The applicable July 2012 Tender Offers expired on August 7, 2012. The Company plans to use the remaining net proceeds from the issuance of the $350 Million 7.50% Senior Notes for general corporate purposes. The Company incurred a loss of $8.3 million in the third quarter of 2012 related to the early redemption of debt due to a premium paid under the July 2012 Tender Offers and the unamortized original issue discount.
The indenture governing the Company’s senior notes does not contain any financial maintenance covenants. Subject to specified exceptions, the indenture contains certain restrictive covenants that, among other things, limit the Company’s ability to incur secured indebtedness, or engage in sale-leaseback transactions involving property or assets above a certain specified value. Unlike the Company’s other senior notes, the terms governing the Company’s $265.0 million in aggregate principal amount of 9.10% senior notes due 2017 (the “$265 Million Senior Notes”), the $350 Million 8.00% Senior Notes, and the $350 Million 7.50% Senior Notes contain certain limitations related to mergers, consolidations, and sales of assets.
As of August 31, 2012, the Company was in compliance with the applicable terms of all of its covenants under the Company’s senior notes, the indenture, and mortgages and land contracts due to land sellers and other loans. The Company’s ability to secure future debt financing may depend in part on its ability to remain in such compliance.
Principal payments on senior notes, mortgages and land contracts due to land sellers and other loans are due as follows: 2012 –$1.7 million; 2013$10.1 million; 2014$75.9 million; 2015$384.6 million; 2016$0; and thereafter – $1.26 billion.
13.
Commitments and Contingencies
Commitments and contingencies include typical obligations of homebuilders for the completion of contracts and those incurred in the ordinary course of business.
Warranty. The Company provides a limited warranty on all of its homes. The specific terms and conditions of these limited warranties vary depending upon the market in which the Company does business. The Company generally provides a structural warranty of 10 years, a warranty on electrical, heating, cooling, plumbing and other building systems each varying from two to five years based on geographic market and state law, and a warranty of one year for other components of the home. The Company estimates the costs that may be incurred under each limited warranty and records a liability in the amount of such costs at the time the revenue associated with the sale of each home is recognized. Factors that affect the Company’s warranty liability include the number of homes delivered, historical and anticipated rates of warranty claims, and cost per claim. The Company’s primary assumption in estimating the amounts it accrues for warranty costs is that historical claims experience is a strong indicator of future claims experience. The Company periodically assesses the adequacy of its accrued warranty

21


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

13.
Commitments and Contingencies (continued)

liability, which is included in accrued expenses and other liabilities in its consolidated balance sheets, and adjusts the amount as necessary based on its assessment. The Company’s assessment includes the review of its actual warranty costs incurred to identify trends and changes in its warranty claims experience, and considers the Company’s construction quality and customer service initiatives and outside events. While the Company believes the warranty liability reflected in its consolidated balance sheets to be adequate, unanticipated changes in the legal environment, local weather, land or environmental conditions, quality of materials or methods used in the construction of its homes, or customer service practices could have a significant impact on its actual warranty costs in the future and such amounts could differ from the Company’s current estimates.
The changes in the Company’s warranty liability were as follows (in thousands):
 
Nine Months Ended August 31,
 
Three Months Ended August 31,
 
2012
 
2011
 
2012
 
2011
Balance at beginning of period
$
67,693

 
$
93,988

 
$
50,866

 
$
82,630

Warranties issued
5,263

 
3,236

 
2,290

 
1,255

Payments
(14,609
)
 
(20,483
)
 
(5,906
)
 
(6,012
)
Adjustments (a)
(11,021
)
 
(6,242
)
 
76

 
(7,374
)
Balance at end of period
$
47,326

 
$
70,499

 
$
47,326

 
$
70,499

 
(a)
The Company’s warranty adjustments for the nine months ended August 31, 2012 include $11.2 million of adjustments that were recorded to reflect the Company’s assessment of trends in its overall warranty claims experience on homes previously delivered. The Company's warranty adjustments for the nine months and three months ended August 31, 2011 include $7.4 million of adjustments that also resulted from the Company's assessment of trends in its overall warranty claims experience on homes previously delivered.
The Company’s overall warranty liability of $47.3 million at August 31, 2012 included $3.0 million for estimated remaining repair costs associated with 33 homes that have been identified as containing or suspected of containing allegedly defective drywall manufactured in China. These homes are located in Florida and were primarily delivered in 2006 and 2007. The Company’s overall warranty liability of $67.7 million at November 30, 2011 included $4.8 million for estimated remaining repair costs associated with 87 such identified affected homes. The decrease in the liability for estimated remaining repair costs associated with identified affected homes during the nine months ended August 31, 2012 reflected the lower number of identified affected homes with unresolved repairs at August 31, 2012 compared to November 30, 2011. During the nine months ended August 31, 2012, the Company resolved repairs on 56 identified affected homes and identified two additional affected homes. For these purposes, the Company considers repairs for identified affected homes to be “resolved” when all repairs are complete and all repair costs are fully paid. Repairs for identified affected homes are considered “unresolved” if repairs are not complete and/or there are repair costs remaining to be paid.
During the nine months ended August 31, 2012 and 2011, the Company paid $2.7 million and $11.8 million, respectively, to repair identified affected homes, and estimated its additional repair costs with respect to identified affected homes to be $.9 million and $6.3 million, respectively. Since first identifying affected homes in 2009, the Company has identified a total of 469 affected homes and has resolved repairs on 436 of those homes through August 31, 2012. As of August 31, 2012, the Company has paid $43.2 million of the total estimated repair costs of $46.2 million associated with identified affected homes. The Company believes that it has identified substantially all potentially affected homes and anticipates it will receive only nominal additional claims in future periods.
As of August 31, 2012, the Company has been named as a defendant in 10 lawsuits relating to the allegedly defective drywall material. Seven of these lawsuits are “omnibus” class actions purportedly filed on behalf of numerous homeowners asserting claims for damages against drywall manufacturers, homebuilders and other parties in the supply chain of the allegedly defective drywall material. The Company is also a defendant in two lawsuits brought in Florida state court and one lawsuit brought in Louisiana federal court in each case by individual homeowners. On May 31, 2012, a global settlement of claims relating to the allegedly defective drywall material, including those brought against the Company, was preliminarily approved by the federal court judge overseeing a multidistrict litigation case — In re: Chinese Manufactured Drywall Products Liability Litigation (MDL-2047). A fairness hearing on the preliminary global settlement has been set for November 13, 2012. If the

22


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

13.
Commitments and Contingencies (continued)

global settlement is finally approved and is accepted by all parties in its current form, it will resolve all current claims against the Company and bar any future claims against all participating defendants, including the Company, related to the allegedly defective drywall material. In such an outcome, the Company's total costs arising from the global settlement would not be material to its consolidated financial statements, and it may be entitled to recover certain amounts for repairs it made to homes affected by the allegedly defective drywall material. If any of the plaintiffs in the current lawsuits against the Company opt out of the global settlement, the Company would continue to defend itself in those cases. Given the current stage of the proceedings, the Company has not determined whether the outcome of any such plaintiff's lawsuit would be material to the Company's consolidated financial statements.
The Company intends to seek and is undertaking efforts, including legal proceedings, to obtain reimbursement from various sources, including suppliers and insurers, for the costs it has incurred or expects to incur to investigate and complete repairs and to defend itself in litigation associated with the allegedly defective drywall material. Given uncertainties in the potential outcomes of these efforts, some of which may involve pursuing claims in international forums, the Company has not recorded any amounts for potential future recoveries as of August 31, 2012, except as described below.
In assessing its overall warranty liability, the Company evaluates the costs related to identified homes affected by the allegedly defective drywall material and other home warranty-related items on a combined basis. Based on its assessments, the Company determined that its overall warranty liability at each reporting date was sufficient with respect to the Company’s then-estimated remaining repair costs associated with identified affected homes and its overall warranty obligations on homes delivered. In light of these assessments, the Company did not incur charges in its consolidated statements of operations for the three months and nine months ended August 31, 2012 or August 31, 2011 with respect to repair costs associated with identified affected homes. Additionally, based on the Company’s assessment of trends in its warranty claims experience, the Company recorded favorable warranty adjustments of $11.2 million and $7.4 million as reductions to construction and land costs in its consolidated statements of operations during the nine months ended August 31, 2012 and August 31, 2011, respectively. The overall warranty liability has decreased in part because of the payments the Company has made to resolve repairs on identified affected homes and the Company's belief that it has identified substantially all potentially affected homes, and in part due to the decrease in the number of homes the Company has delivered over the past several years.
The Company has tendered claims with its liability insurance carriers, seeking reimbursement of costs the Company has incurred to make repairs on and to handle claims with respect to previously delivered homes, including homes affected by the allegedly defective drywall material. During the three months ended August 31, 2012, the Company recognized an insurance recovery of $16.5 million as a reduction to construction and land costs in its consolidated statements of operations, representing the probable amount the Company expects to receive from one of its insurance carriers for a portion of the claims the Company tendered to the carrier. The Company expects to receive the cash from this insurance recovery in the fourth quarter of 2012 and has reflected the $16.5 million as a receivable in its consolidated balance sheet at August 31, 2012. During the three months ended May 31, 2012, the Company recognized an insurance recovery of $10.0 million as a reduction to construction and land costs in its consolidated statements of operations, representing an amount the Company received from the insurance carrier for a portion of the claims the Company tendered to the carrier. While its discussions and negotiations with insurance carriers are ongoing, the Company has not recorded amounts for potential future recoveries from the carriers as of August 31, 2012, other than the $16.5 million.
Guarantees. In the normal course of its business, the Company issues certain representations, warranties and guarantees related to its home sales and land sales that may be affected by Accounting Standards Codification Topic No. 460, “Guarantees.” Based on historical evidence, the Company does not believe any potential liability with respect to these representations, warranties or guarantees would be material to its consolidated financial statements.
Insurance. The Company has, and requires the majority of its subcontractors to have, general liability insurance (including construction defect and bodily injury coverage) and workers’ compensation insurance. These insurance policies protect the Company against a portion of its risk of loss from claims related to its homebuilding activities, subject to certain self-insured retentions, deductibles and other coverage limits. In Arizona, California, Colorado and Nevada, the Company’s general liability insurance takes the form of a wrap-up policy, where eligible subcontractors are enrolled as insureds on each project. The Company self-insures a portion of its overall risk through the use of a captive insurance subsidiary. The Company records expenses and liabilities based on the estimated costs required to cover its self-insured retention and deductible amounts under its insurance policies, and the estimated costs of potential claims and claim adjustment expenses that are above its coverage

23


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

13.
Commitments and Contingencies (continued)

limits or that are not covered by its policies. These estimated costs are based on an analysis of the Company’s historical claims experience and include an estimate of construction defect claims incurred but not yet reported. The Company’s estimated liabilities for such items were $93.0 million at August 31, 2012 and $94.9 million at November 30, 2011. These amounts are included in accrued expenses and other liabilities in the Company’s consolidated balance sheets. The Company’s expenses associated with self-insurance totaled $1.2 million for the three months ended August 31, 2012 and $2.1 million for the three months ended August 31, 2011. For the nine months ended August 31, 2012 and 2011, the Company’s expenses associated with self-insurance totaled $5.8 million and $6.7 million, respectively. These expenses were largely offset by contributions from subcontractors participating in the wrap-up policy.
Performance Bonds and Letters of Credit. The Company is often required to provide to various municipalities and other government agencies performance bonds and/or letters of credit to secure the completion of its projects and/or in support of obligations to build community improvements such as roads, sewers, water systems and other utilities, and to support similar development activities by certain of its unconsolidated joint ventures. At August 31, 2012, the Company had $290.9 million of performance bonds and $45.2 million of letters of credit outstanding. At November 30, 2011, the Company had $361.6 million of performance bonds and $63.8 million of letters of credit outstanding. If any such performance bonds or letters of credit are called, the Company would be obligated to reimburse the issuer of the performance bond or letter of credit. The Company does not believe that a material amount of any currently outstanding performance bonds or letters of credit will be called. Performance bonds do not have stated expiration dates. Rather, the Company is released from the performance bonds as the underlying performance is completed. The expiration dates of some letters of credit issued in connection with community improvements coincide with the expected completion dates of the related projects or obligations. Most letters of credit, however, are issued with an initial term of one year and are typically extended on a year-to-year basis until the related performance obligations are completed.
Land Option Contracts. In the ordinary course of its business, the Company enters into land option contracts and other similar contracts to procure rights to purchase land parcels for the construction of homes. At August 31, 2012, the Company had total deposits of $29.8 million, comprised of $29.3 million of cash deposits and $.5 million of letters of credit, to purchase land having an aggregate purchase price of $599.0 million. The Company’s land option contracts and other similar contracts generally do not contain provisions requiring the Company’s specific performance.
14.
Legal Matters
Nevada Development Contract Litigation
On November 4, 2011, the Eighth Judicial District Court, Clark County, Nevada set for trial a consolidated action against KB HOME Nevada Inc., a wholly owned subsidiary of the Company (“KB Nevada”), in a case entitled Las Vegas Development Associates, LLC, Essex Real Estate Partners, LLC, et al. v. KB HOME Nevada Inc. In 2007, Las Vegas Development Associates, LLC (“LVDA”) agreed to purchase from KB Nevada approximately 83 acres of land located near Las Vegas, Nevada. LVDA subsequently assigned its rights to Essex Real Estate Partners, LLC (“Essex”). KB Nevada and Essex entered into a development agreement relating to certain major infrastructure improvements. LVDA’s and Essex’s complaint, initially filed in 2008, alleges that KB Nevada breached the development agreement, and also alleges that KB Nevada fraudulently induced them to enter into the purchase and development agreements. LVDA’s and Essex’s lenders subsequently filed related actions that were consolidated into the LVDA/Essex matter. The consolidated plaintiffs seek rescission of the agreements or a rescissory measure of damages or, in the alternative, compensatory damages of $55 million plus unspecified punitive damages and other damages, and interest charges in excess of $41 million (the “Claimed Damages”). KB Nevada denies the allegations and damages, and believes it has meritorious defenses to the consolidated plaintiffs’ claims. While the ultimate outcome is uncertain — the Company believes it is reasonably possible that the loss in this matter could range from zero to the amount of the Claimed Damages and could be material to the Company’s consolidated financial statements — KB Nevada believes it will be successful in defending against the plaintiffs’ claims and that the plaintiffs will not be awarded rescission or damages. The non-jury trial was set for September 2012, but has been continued until January 2013.
Southern California Project Development Case
On December 27, 2011, the jury in a case entitled Estancia Coastal, LLC v. KB HOME Coastal Inc. et al. returned a verdict against KB HOME Coastal Inc., a wholly owned subsidiary, and the Company for $9.8 million, excluding legal fees and

24


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

14.
Legal Matters (continued)

interest. The case related to a land option contract and a construction agreement between KB HOME Coastal Inc. and the plaintiff. Based on pre-trial analysis, the verdict was not expected, and KB HOME Coastal Inc. and the Company jointly filed a motion for judgment notwithstanding the verdict and a motion for a new trial, which were heard on May 18, 2012. On May 23, 2012, the trial court denied the motions and on June 4, 2012 entered a judgment in favor of the plaintiff in the amount of $9.2 million plus pre-judgment interest of approximately $.9 million. The judgment entered reflects an earlier payment by the Company to the plaintiff of a portion of the jury’s award and does not include legal fees and costs and post-judgment interest. The Company had established an accrual for this matter based on its pre-judgment estimate of the probable loss. However, as a result of the trial court’s decision and probable legal fees and costs award, the Company recorded a charge of $8.8 million in the second quarter of 2012 to increase the accrual for this matter to $11.7 million at August 31, 2012. The charge was included in selling, general and administrative expenses in the Company’s consolidated statement of operations. On September 14, 2012, following a hearing, the trial court awarded legal fees and costs to the plaintiff of approximately $1.4 million. In light of the legal fees and costs awarded on September 14, 2012, the Company continues to believe its accrual at August 31, 2012 reflects the probable outcome of the matter. KB HOME Coastal Inc. and the Company have appealed the entry of judgment. While the ultimate outcome is uncertain, KB HOME Coastal Inc. and the Company believe they will be successful in resolving the matter for an amount less than the judgment.
Other Matters
In addition to the specific proceedings described above, the Company is involved in other litigation and regulatory proceedings incidental to its business that are in various procedural stages. The Company believes that the accruals it has recorded for probable and reasonably estimable losses with respect to these proceedings are adequate and that, as of August 31, 2012, it was not reasonably possible that an additional material loss had been incurred in an amount in excess of the estimated amounts already recognized on the Company’s consolidated financial statements. The Company evaluates its accruals for litigation and regulatory proceedings at least quarterly and, as appropriate, adjusts them to reflect (i) the facts and circumstances known to the Company at the time, including information regarding negotiations, settlements, rulings and other relevant events and developments; (ii) the advice and analyses of counsel; and (iii) the assumptions and judgment of management. Similar factors and considerations are used in establishing new accruals for proceedings as to which losses have become probable and reasonably estimable at the time an evaluation is made. Based on its experience, the Company believes that the amounts that may be claimed or alleged against it in these proceedings are not a meaningful indicator of its potential liability. The outcome of any of these proceedings, including the defense and other litigation-related costs and expenses the Company may incur, however, is inherently uncertain and could differ significantly from the estimate reflected in a related accrual, if made. Therefore, it is possible that the ultimate outcome of any proceeding, if in excess of a related accrual or if no accrual had been made, could be material to the Company’s consolidated financial statements.
15.
Stockholders' Equity
As of August 31, 2012, the Company was authorized to repurchase four million shares of its common stock under a board-approved share repurchase program. The Company did not repurchase any of its common stock under this program in the nine months ended August 31, 2012. The Company has not repurchased common shares pursuant to a common stock repurchase plan for the past several years and any resumption of such stock repurchases will be at the discretion of the Company’s board of directors.
During the three months ended August 31, 2012, the Company’s board of directors declared a cash dividend of $.025 per share of common stock, which was paid on August 16, 2012 to stockholders of record on August 2, 2012. During the three months ended May 31, 2012, the Company's board of directors declared a cash dividend of $.025 per share of common stock, which was paid on May 17, 2012 to stockholders of record on May 3, 2012. During the three months ended February 29, 2012, the Company’s board of directors declared a cash dividend of $.0625 per share of common stock, which was paid on February 16, 2012 to stockholders of record on February 7, 2012. A cash dividend of $.0625 per share of common stock was declared and paid during each of the three months ended February 28, 2011, May 31, 2011 and August 31, 2011.
16.
Recent Accounting Pronouncements
In May 2011, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update No. 2011-04, “Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in GAAP and IFRS” (“ASU

25


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

16.
Recent Accounting Pronouncements (continued)

2011-04”), which changes the wording used to describe the requirements in GAAP for measuring fair value and for disclosing information about fair value measurements in order to improve consistency in the application and description of fair value between GAAP and International Financial Reporting Standards. ASU 2011-04 clarifies how the concepts of highest and best use and valuation premise in a fair value measurement are relevant only when measuring the fair value of nonfinancial assets and are not relevant when measuring the fair value of financial assets or liabilities. In addition, the guidance expanded the disclosures for the unobservable inputs for Level 3 fair value measurements, requiring quantitative information to be disclosed related to (1) the valuation processes used, (2) the sensitivity of recurring fair value measurements to changes in unobservable inputs and the interrelationships between those unobservable inputs, and (3) use of a nonfinancial asset in a way that differs from the asset’s highest and best use. The revised guidance was effective for interim and annual periods beginning after December 15, 2011. The Company’s adoption of this guidance as of March 1, 2012 did not have a material impact on its consolidated financial position or results of operations.
In June 2011, the FASB issued Accounting Standards Update No. 2011-05, “Presentation of Comprehensive Income” (“ASU 2011-05”), which allows an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both instances, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. The amendments in ASU 2011-05 do not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income. However, in December 2011, the FASB issued Accounting Standards Update No. 2011-12, “Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05” (“ASU 2011-12”), which deferred the guidance on whether to require entities to present reclassification adjustments out of accumulated other comprehensive income by component in both the statement where net income is presented and the statement where other comprehensive income is presented for both interim and annual financial statements. ASU 2011-12 reinstated the requirements for the presentation of reclassifications that were in place prior to the issuance of ASU 2011-05 and did not change the effective date for ASU 2011-05. For public entities, the amendments in ASU 2011-05 and ASU 2011-12 are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011, and should be applied retrospectively. The adoption of this guidance concerns disclosure only and will not have an impact on the Company’s consolidated financial position or results of operations.
17.
Income Taxes
The Company’s income tax benefit totaled $10.7 million for the three months ended August 31, 2012. The income tax benefit primarily reflected the resolution of a federal tax audit, which resulted in an income tax benefit of $10.8 million and the realization of $1.1 million of deferred tax assets during the three months ended August 31, 2012. As a result of the resolution of the federal tax audit, the Company received approximately $1.8 million of income tax refunds during the third quarter of 2012, and reflected a receivable of $10.1 million on its consolidated balance sheet as of August 31, 2012. The $10.1 million was received in the fourth quarter of 2012. The Company had no income tax benefit or expense for the three months ended August 31, 2011. For the nine months ended August 31, 2012, the Company’s income tax benefit totaled $14.8 million, compared to income tax expense of $.1 million for the nine months ended August 31, 2011. The income tax benefit for the nine months ended August 31, 2012 primarily resulted from the resolution of the federal tax audit described above and a $4.1 million state income tax refund received in the second quarter in connection with the resolution of a state tax audit. Due to the effects of its deferred tax asset valuation allowance and changes in its unrecognized tax benefits, the Company’s effective tax rates for the three months and nine months ended August 31, 2012 and 2011 are not meaningful items as the Company’s income tax amounts are not directly correlated to the amount of its pretax losses for those periods.
In accordance with Accounting Standards Codification Topic No. 740, “Income Taxes” (“ASC 740”), the Company evaluates its deferred tax assets quarterly to determine if adjustments to the valuation allowance are required. ASC 740 requires that companies assess whether a valuation allowance should be established based on the consideration of all available evidence using a “more likely than not” standard with respect to whether deferred tax assets will be realized. The realization of deferred tax assets depends primarily on the Company’s ability to generate sustained profitability. During the three months ended August 31, 2012, the Company recorded a valuation allowance of $7.1 million against net deferred tax assets generated from the pretax loss for the period and other adjustments due to the resolution of the federal tax audit. During the three months

26


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

17.
Income Taxes (continued)

ended August 31, 2011, the Company recorded a similar valuation allowance of $2.5 million against net deferred tax assets generated from the pretax loss for the period. For the nine months ended August 31, 2012 and 2011, the Company recorded valuation allowances of $35.1 million and $73.3 million, respectively, against the net deferred tax assets generated primarily from the pretax losses for those periods. As a result of the resolution of the federal tax audit described above, the Company had no net deferred tax assets at August 31, 2012, compared to net deferred tax assets of $1.1 million at November 30, 2011. The deferred tax asset valuation allowance increased to $882.9 million at August 31, 2012 from $847.8 million at November 30, 2011, reflecting the $35.1 million valuation allowance recorded during the nine months ended August 31, 2012.
During the three months ended August 31, 2012, the Company had no change in its total gross unrecognized tax benefits. During the nine months ended August 31, 2012, the Company had a net reduction in its total gross unrecognized tax benefits of $.4 million as a result of the current status of federal and state tax audits. The total amount of unrecognized tax benefits, including interest and penalties, that would affect the effective tax rate was $1.4 million as of August 31, 2012. The Company anticipates that total unrecognized tax benefits will decrease by approximately $.2 million during the 12 months from this reporting date due to various state tax filings associated with the resolution of the federal tax audit.
The benefits of the Company’s net operating losses (“NOLs”), built-in losses and tax credits would be reduced or potentially eliminated if the Company experienced an “ownership change” under Internal Revenue Code Section 382 (“Section 382”). Based on the Company’s analysis performed as of August 31, 2012, the Company does not believe it has experienced an ownership change as defined by Section 382, and, therefore, the NOLs, built-in losses and tax credits the Company has generated should not be subject to a Section 382 limitation as of this reporting date.
18.
Supplemental Disclosure to Consolidated Statements of Cash Flows
The following are supplemental disclosures to the consolidated statements of cash flows (in thousands): 
 
Nine Months Ended August 31,
 
2012
 
2011
Summary of cash and cash equivalents at end of period:
 
 
 
Homebuilding
$
420,392

 
$
477,406

Financial services
2,732

 
2,867

Total
$
423,124

 
$
480,273

 
 
Supplemental disclosures of cash flow information:
 
 
 
Interest paid, net of amounts capitalized
$
53,359

 
$
52,251

Income taxes paid
723

 
278

Income taxes refunded
6,217

 
182

 
 
 
 
Supplemental disclosures of noncash activities:
 
 
 
Increase (decrease) in consolidated inventories not owned
$
(3,861
)
 
$
9,596

Acquired property securing note receivable

 
40,000

Cost of inventories acquired through seller financing
53,625

 

19.
Supplemental Guarantor Information

The Company’s obligations to pay principal, premium, if any, and interest under its senior notes are guaranteed on a joint and several basis by the Guarantor Subsidiaries. The guarantees are full and unconditional and the Guarantor Subsidiaries are 100% owned by the Company. The Company has determined that separate, full financial statements of the Guarantor Subsidiaries would not be material to investors and, accordingly, supplemental financial information for the Guarantor Subsidiaries is presented.

27


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

19.
Supplemental Guarantor Information (continued)

The supplemental financial information for the periods presented below reflects the relevant subsidiaries of the Company that were Guarantor Subsidiaries as of and for the respective periods then ended. Accordingly, information for any period presented does not reflect subsequent changes, if any, in the subsidiaries of the Company considered to be Guarantor Subsidiaries.
Condensed Consolidated Statements of Operations
Nine Months Ended August 31, 2012 (in thousands) 
 
KB Home
Corporate
 
Guarantor
Subsidiaries
 
Non-Guarantor
Subsidiaries
 
Consolidating
Adjustments
 
Total
Revenues
$

 
$
585,913

 
$
396,001

 
$

 
$
981,914

Homebuilding:
 
 
 
 
 
 
 
 
 
Revenues
$

 
$
585,913

 
$
388,142

 
$

 
$
974,055

Construction and land costs

 
(492,384
)
 
(332,551
)
 

 
(824,935
)
Selling, general and administrative expenses
(45,480
)
 
(75,652
)
 
(63,806
)
 

 
(184,938
)
Operating income (loss)
(45,480
)
 
17,877

 
(8,215
)
 

 
(35,818
)
Interest income
332

 
5

 
26

 

 
363

Interest expense
37,026

 
(69,599
)
 
(21,242
)
 

 
(53,815
)
Equity in income (loss) of unconsolidated joint ventures

 
(585
)
 
548

 

 
(37
)
Homebuilding pretax loss
(8,122
)
 
(52,302
)
 
(28,883
)
 

 
(89,307
)
Financial services pretax income

 

 
7,830

 

 
7,830

Total pretax loss
(8,122
)
 
(52,302
)
 
(21,053
)
 

 
(81,477
)
Income tax benefit
1,600

 
9,500

 
3,700

 

 
14,800

Equity in net loss of subsidiaries
(60,155
)
 

 

 
60,155

 

Net loss
$
(66,677
)
 
$
(42,802
)
 
$
(17,353
)
 
$
60,155

 
$
(66,677
)


28


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

19.
Supplemental Guarantor Information (continued)

Nine Months Ended August 31, 2011 (in thousands)
 
KB Home
Corporate
 
Guarantor
Subsidiaries
 
Non-Guarantor
Subsidiaries
 
Consolidating
Adjustments
 
Total
Revenues
$

 
$
241,702

 
$
594,292

 
$

 
$
835,994

Homebuilding:
 
 
 
 
 
 
 
 
 
Revenues
$

 
$
241,702

 
$
588,114

 
$

 
$
829,816

Construction and land costs

 
(206,373
)
 
(517,712
)
 

 
(724,085
)
Selling, general and administrative expenses
(39,361
)
 
(23,735
)
 
(109,214
)
 

 
(172,310
)
Loss on loan guaranty

 

 
(37,330
)
 

 
(37,330
)
Operating income (loss)
(39,361
)
 
11,594

 
(76,142
)
 

 
(103,909
)
Interest income
631

 
4

 
141

 

 
776

Interest expense
37,025

 
(35,582
)
 
(38,345
)
 

 
(36,902
)
Equity in loss of unconsolidated joint ventures

 
(5
)
 
(55,860
)
 

 
(55,865
)
Homebuilding pretax loss
(1,705
)
 
(23,989
)
 
(170,206
)
 

 
(195,900
)
Financial services pretax income

 

 
3,321

 

 
3,321

Total pretax loss
(1,705
)
 
(23,989
)
 
(166,885
)
 

 
(192,579
)
Income tax expense

 

 
(100
)
 

 
(100
)
Equity in net loss of subsidiaries
(190,974
)
 

 

 
190,974

 

Net loss
$
(192,679
)
 
$
(23,989
)
 
$
(166,985
)
 
$
190,974

 
$
(192,679
)
 

29


KB HOME
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)

19.
Supplemental Guarantor Information (continued)

Condensed Consolidated Statements of Operations
Three Months Ended August 31, 2012 (in thousands) 
<
 
KB Home
Corporate
 
Guarantor
Subsidiaries
 
Non-Guarantor
Subsidiaries
 
Consolidating
Adjustments
 
Total
Revenues
$

 
$
263,481

 
$
161,023

 
$

 
$
424,504

Homebuilding:
 
 
 
 
 
 
 
 
 
Revenues
$

 
$
263,481

 
$
158,074

 
$

 
$
421,555

Construction and land costs

 
(213,913
)
 
(133,995
)
 

 
(347,908
)
Selling, general and administrative expenses
(16,546
)
 
(24,226
)
 
(22,008
)
 

 
(62,780
)
Operating income (loss)
(16,546
)
 
25,342

 
2,071

 

 
10,867

Interest income
107

 
1

 
9

 

 
117

Interest expense
6,096

 
(22,082
)
 
(7,074
)
 

 
(23,060
)
Equity in income (loss) of unconsolidated joint ventures