Edgar Filing: PULTEGROUP INC/MI/

Document

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2018

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)

OF THE SECURITIES EXCHANGE ACT OF 1934

Commission File Number 1-9804

PULTEGROUP, INC.

(Exact name of registrant as specified in its charter)



MICHIGAN		38-2766606
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

3350 Peachtree Road NE, Suite 150

Atlanta, Georgia 30326

(Address of principal executive offices) (Zip Code)

Registrant’s telephone number, including area code: (404) 978-6400

Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES [X] NO [ ]

Indicate by check mark 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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). YES [X] NO [ ]

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer”, “accelerated filer”, “smaller reporting company” and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):



Large accelerated filer [X]	Accelerated filer [ ]	Non-accelerated filer [ ]	Smaller reporting company [ ]	Emerging growth company [ ]
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. [ ]

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

YES [ ] NO [X]

Number of common shares outstanding as of October 18, 2018: 280,861,332

PULTEGROUP, INC.

TABLE OF CONTENTS



		Page No.
PART I	FINANCIAL INFORMATION

Item 1	Financial Statements

	Condensed Consolidated Balance Sheets at September 30, 2018 and December 31, 2017	3

	Consolidated Statements of Operations for the three and nine months ended September 30, 2018 and 2017	4

	Consolidated Statements of Comprehensive Income for the three and nine months ended September 30, 2018 and 2017	5

	Consolidated Statements of Shareholders' Equity for the nine months ended September 30, 2018 and 2017	6

	Consolidated Statements of Cash Flows for the nine months ended September 30, 2018 and 2017	7

	Notes to Condensed Consolidated Financial Statements	8

Item 2	Management's Discussion and Analysis of Financial Condition and Results of Operations	33

Item 3	Quantitative and Qualitative Disclosures About Market Risk	48

Item 4	Controls and Procedures	50

PART II	OTHER INFORMATION	50

Item 2	Unregistered Sales of Equity Securities and Use of Proceeds	50

Item 6	Exhibits	51

	Signatures	52

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

PULTEGROUP, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

($000’s omitted)



	September 30, 2018		December 31, 2017
	(Unaudited)		(Note)
ASSETS

Cash and equivalents	$	728,631	$	272,683
Restricted cash	30,381		33,485
Total cash, cash equivalents, and restricted cash	759,012		306,168
House and land inventory	7,489,454		7,147,130
Land held for sale	65,905		68,384
Residential mortgage loans available-for-sale	349,784		570,600
Investments in unconsolidated entities	54,278		62,957
Other assets	797,976		745,123
Intangible assets	130,642		140,992
Deferred tax assets, net	408,029		645,295
	$	10,055,080	$	9,686,649

LIABILITIES AND SHAREHOLDERS’ EQUITY

Liabilities:
Accounts payable	$	465,833	$	393,815
Customer deposits	342,376		250,779
Accrued and other liabilities	1,251,518		1,356,333
Income tax liabilities	10,324		86,925
Financial Services debt	250,733		437,804
Notes payable	3,005,418		3,006,967
	5,326,202		5,532,623
Shareholders' equity	4,728,878		4,154,026
	$	10,055,080	$	9,686,649

Note: The Condensed Consolidated Balance Sheet at December 31, 2017 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by U.S. generally accepted accounting principles for complete financial statements.

See accompanying Notes to Condensed Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS

(000’s omitted, except per share data)

(Unaudited)



	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2018			2017			2018			2017
Revenues:
Homebuilding
Home sale revenues	$	2,572,236		$	2,055,891		$	6,933,888		$	5,606,953
Land sale and other revenues	25,510			28,215			104,971			39,848
	2,597,746			2,084,106			7,038,859			5,646,801
Financial Services	51,620			46,952			150,322			135,995
Total revenues	2,649,366			2,131,058			7,189,181			5,782,796

Homebuilding Cost of Revenues:
Home sale cost of revenues	(1,954,160		)	(1,564,605		)	(5,276,232		)	(4,332,221		)
Land sale cost of revenues	(22,060		)	(25,123		)	(71,791		)	(115,950		)
	(1,976,220		)	(1,589,728		)	(5,348,023		)	(4,448,171		)

Financial Services expenses	(32,213		)	(29,304		)	(96,650		)	(86,150		)
Selling, general, and administrative expenses	(252,757		)	(237,495		)	(719,706		)	(689,974		)
Other expense, net	(3,488		)	(6,282		)	(6,753		)	(28,439		)
Income before income taxes	384,688			268,249			1,018,049			530,062
Income tax expense	(95,153		)	(90,710		)	(233,674		)	(160,255		)
Net income	$	289,535		$	177,539		$	784,375		$	369,807

Per share:
Basic earnings	$	1.01		$	0.59		$	2.72		$	1.18
Diluted earnings	$	1.01		$	0.58		$	2.71		$	1.18
Cash dividends declared	$	0.09		$	0.09		$	0.27		$	0.27

Number of shares used in calculation:
Basic	283,489			298,538			285,127			309,453
Effect of dilutive securities	1,183			1,690			1,301			1,861
Diluted	284,672			300,228			286,428			311,314

See accompanying Notes to Condensed Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

($000’s omitted)

(Unaudited)



	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2018		2017		2018		2017
Net income	$	289,535	$	177,539	$	784,375	$	369,807

Other comprehensive income, net of tax:
Change in value of derivatives	25		20		75		61
Other comprehensive income	25		20		75		61

Comprehensive income	$	289,560	$	177,559	$	784,450	$	369,868

See accompanying Notes to Condensed Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(000's omitted, except per share data)

(Unaudited)



	Common Stock					Additional Paid-in Capital			Accumulated Other Comprehensive Income (Loss)			Retained Earnings			Total
	Shares		$			Additional Paid-in Capital			Accumulated Other Comprehensive Income (Loss)			Retained Earnings			Total
Shareholders' Equity, January 1, 2018	286,752		$	2,868		$	3,171,542		$	(445	)	$	980,061		$	4,154,026
Cumulative effect of accounting change (see Note 1)	—		—			—			—			22,411			22,411
Stock option exercises	514		5			5,457			—			—			5,462
Share issuances, net of cancellations	874		9			3,474			—			—			3,483
Dividends declared	—		—			—			—			(77,673		)	(77,673		)
Share repurchases	(6,073	)	(61		)	(284		)	—			(179,094		)	(179,439		)
Share-based compensation	—		—			16,158			—						16,158
Net income	—		—			—			—			784,375			784,375
Other comprehensive income	—		—			—			75			—			75
Shareholders' Equity, September 30, 2018	282,067		$	2,821		$	3,196,347		$	(370	)	$	1,530,080		$	4,728,878

Shareholders' Equity, January 1, 2017	319,090		$	3,191		$	3,116,490		$	(526	)	$	1,540,208		$	4,659,363
Cumulative effect of accounting change	—		—			(406		)	—			18,643			18,237
Stock option exercises	1,954		20			22,745			—			—			22,765
Share issuances, net of cancellations	741		10			3,555			—			—			3,565
Dividends declared	—		—			—			—			(83,685		)	(83,685		)
Share repurchases	(27,849	)	(281		)	—			—			(665,531		)	(665,812		)
Share-based compensation	—		—			20,784			—			—			20,784
Net income	—		—			—			—			369,807			369,807
Other comprehensive income	—		—			—			61			—			61
Shareholders' Equity, September 30, 2017	293,936		$	2,940		$	3,163,168		$	(465	)	$	1,179,442		$	4,345,085

See accompanying Notes to Condensed Consolidated Financial Statements.

PULTEGROUP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

($000’s omitted)

(Unaudited)



	Nine Months Ended
	September 30,
	2018			2017
Cash flows from operating activities:
Net income	$	784,375		$	369,807
Adjustments to reconcile net income to net cash from operating activities:
Deferred income tax expense	230,335			127,856
Land-related charges	13,973			131,254
Depreciation and amortization	36,717			38,689
Share-based compensation expense	21,521			26,505
Other, net	(3,466		)	(1,438		)
Increase (decrease) in cash due to:
Inventories	(263,734		)	(758,006		)
Residential mortgage loans available-for-sale	218,900			173,148
Other assets	(22,117		)	22,120
Accounts payable, accrued and other liabilities	(1,524		)	122,544
Net cash provided by (used in) operating activities	1,014,980			252,479
Cash flows from investing activities:
Capital expenditures	(46,529		)	(23,548		)
Investments in unconsolidated entities	(1,000		)	(22,007		)
Other investing activities, net	15,545			5,788
Net cash provided by (used in) investing activities	(31,984		)	(39,767		)
Cash flows from financing activities:
Repayments of debt	(82,655		)	(7,001		)
Borrowings under revolving credit facility	1,566,000			971,000
Repayments under revolving credit facility	(1,566,000		)	(888,000		)
Financial Services borrowings (repayments)	(187,071		)	(85,797		)
Debt issuance costs	(8,165		)	—
Stock option exercises	5,462			22,765
Share repurchases	(179,439		)	(665,812		)
Dividends paid	(78,284		)	(86,018		)
Net cash provided by (used in) financing activities	(530,152		)	(738,863		)
Net increase (decrease) in cash, cash equivalents, and restricted cash	452,844			(526,151		)
Cash, cash equivalents, and restricted cash at beginning of period	306,168			723,248
Cash, cash equivalents, and restricted cash at end of period	$	759,012		$	197,097

Supplemental Cash Flow Information:
Interest paid (capitalized), net	$	16,747		$	11,516
Income taxes paid, net	$	88,544		$	17,206

See accompanying Notes to Condensed Consolidated Financial Statements.

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

1. Basis of presentation

PulteGroup, Inc. is one of the largest homebuilders in the United States ("U.S."), and our common shares trade on the New York Stock Exchange under the ticker symbol “PHM”. Unless the context otherwise requires, the terms "PulteGroup", the "Company", "we", "us", and "our" used herein refer to PulteGroup, Inc. and its subsidiaries. While our subsidiaries engage primarily in the homebuilding business, we also engage in mortgage banking operations, conducted through Pulte Mortgage LLC (“Pulte Mortgage”), title services, and insurance brokerage operations.

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("GAAP") for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal, recurring adjustments) considered necessary for a fair presentation have been included. Operating results for the interim periods presented are not necessarily indicative of the results that may be expected for the full year. These financial statements should be read in conjunction with our consolidated financial statements and footnotes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2017.

Use of estimates

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

Reclassifications

Certain prior period amounts have been reclassified to conform to the current year presentation.

Subsequent events

We evaluated subsequent events up until the time the financial statements were filed with the Securities and Exchange Commission (the "SEC").

Other expense, net

Other expense, net consists of the following ($000’s omitted):



	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2018			2017			2018			2017
Write-offs of deposits and pre-acquisition costs	$	(3,136	)	$	(2,680	)	$	(7,398	)	$	(9,397	)
Amortization of intangible assets	(3,450		)	(3,450		)	(10,350		)	(10,350		)
Interest income	1,842			485			3,240			1,917
Interest expense	(152		)	(101		)	(460		)	(371		)
Equity in earnings (loss) of unconsolidated entities (a)	886			415			2,112			(4,154		)
Miscellaneous, net	522			(951		)	6,103			(6,084		)
Total other expense, net	$	(3,488	)	$	(6,282	)	$	(6,753	)	$	(28,439	)


(a)	Includes an $8.0 million impairment of an investment in an unconsolidated entity in the nine months ended September 30, 2017 (see Note 2).

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

Revenue recognition

Home sale revenues - Home sale revenues and related profit are generally recognized when title to and possession of the home are transferred to the buyer at the home closing date. Our performance obligation to deliver the agreed-upon home is generally satisfied in less than one year from the original contract date. Home sale contract assets consist of cash from home closings held in escrow for our benefit, typically for less than five days, which are considered deposits in-transit and classified as cash. Contract liabilities include customer deposit liabilities related to sold but undelivered homes, which totaled $342.4 million and $250.8 million at September 30, 2018 and December 31, 2017, respectively. Substantially all of our home sales are scheduled to close and be recorded to revenue within one year from the date of receiving a customer deposit. See Note 8 for information on warranties and related obligations.

Land sale revenues - We periodically elect to sell parcels of land to third parties in the event such assets no longer fit into our strategic operating plans or are zoned for commercial or other development. Land sales are generally outright sales of specified land parcels with cash consideration due on the closing date, which is generally when performance obligations are satisfied. During the nine months ended September 30, 2018, we closed on a number of land sale transactions that generated gains totaling $28.9 million, as the proceeds from the sales exceeded the cost basis of the land. Substantially all performance obligations related to these transactions were satisfied at closing.

Financial services revenues - Loan origination fees, commitment fees, and certain direct loan origination costs are recognized as incurred. Expected gains and losses from the sale of residential mortgage loans and their related servicing rights are included in the measurement of written loan commitments that are accounted for at fair value through Financial Services revenues at the time of commitment. Subsequent changes in the fair value of these loans are reflected in Financial Services revenues as they occur. Interest income is accrued from the date a mortgage loan is originated until the loan is sold. Mortgage servicing fees represent fees earned for servicing loans for various investors. Servicing fees are based on a contractual percentage of the outstanding principal balance and are credited to income when related mortgage payments are received or the sub-servicing fees are earned.

Revenues associated with our title operations are recognized as closing services are rendered and title insurance policies are issued, both of which generally occur as each home is closed. Insurance brokerage commissions relate to commissions on homeowner and other insurance policies placed with third party carriers through various agency channels. Our performance obligations for policy renewal commissions are satisfied upon issuance of the initial policy, and related contract assets for estimated future renewal commissions are included in other assets and totaled $30.4 million at September 30, 2018. Contract assets totaling $27.7 million were recognized on January 1, 2018, in conjunction with the adoption of Accounting Standards Codification ("ASC") 606, "Revenue from Contracts with Customers" ("ASC 606"). Refer to "New accounting pronouncements" within Note 1 for further discussion.

Earnings per share

Basic earnings per share is computed by dividing income available to common shareholders (the “Numerator”) by the weighted-average number of common shares outstanding, adjusted for unvested shares (the “Denominator”) for the period. Computing diluted earnings per share is similar to computing basic earnings per share, except that the Denominator is increased to include the dilutive effects of stock options, unvested restricted shares, unvested restricted share units, and other potentially dilutive instruments. Any stock options that have an exercise price greater than the average market price are considered to be anti-dilutive and are excluded from the diluted earnings per share calculation.

In accordance with ASC 260 "Earnings Per Share", the two-class method determines earnings per share for each class of common stock and participating securities according to an earnings allocation formula that adjusts the Numerator for dividends or dividend equivalents and participation rights in undistributed earnings. Unvested share-based payment awards that contain non-forfeitable rights to dividends or dividend equivalents are participating securities and, therefore, are included in computing earnings per share pursuant to the two-class method. Our outstanding restricted share awards, restricted share units, and deferred shares are considered participating securities. The following table presents the earnings per common share (000's omitted, except per share data):

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)



	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2018			2017			2018			2017
Numerator:
Net income	$	289,535		$	177,539		$	784,375		$	369,807
Less: earnings distributed to participating securities	(279		)	(294		)	(874		)	(899		)
Less: undistributed earnings allocated to participating securities	(2,871		)	(1,645		)	(7,752		)	(2,837		)
Numerator for basic earnings per share	$	286,385		$	175,600		$	775,749		$	366,071
Add back: undistributed earnings allocated to participating securities	2,871			1,645			7,752			2,837
Less: undistributed earnings reallocated to participating securities	(2,859		)	(1,636		)	(7,724		)	(2,820		)
Numerator for diluted earnings per share	$	286,397		$	175,609		$	775,777		$	366,088

Denominator:
Basic shares outstanding	283,489			298,538			285,127			309,453
Effect of dilutive securities	1,183			1,690			1,301			1,861
Diluted shares outstanding	284,672			300,228			286,428			311,314

Earnings per share:
Basic	$	1.01		$	0.59		$	2.72		$	1.18
Diluted	$	1.01		$	0.58		$	2.71		$	1.18

Residential mortgage loans available-for-sale

Substantially all of the loans originated by us are sold in the secondary mortgage market within a short period of time after origination, generally within 30 days. At September 30, 2018 and December 31, 2017, residential mortgage loans available-for-sale had an aggregate fair value of $349.8 million and $570.6 million, respectively, and an aggregate outstanding principal balance of $341.8 million and $553.5 million, respectively. The net gain (loss) resulting from changes in fair value of these loans totaled $(0.7) million and $0.7 million for the three months ended September 30, 2018 and 2017, respectively, and $(1.0) million and $(3.4) million for the nine months ended September 30, 2018 and 2017, respectively. These changes in fair value were substantially offset by changes in the fair value of corresponding hedging instruments. Net gains from the sale of mortgages were $27.8 million and $27.1 million for the three months ended September 30, 2018 and 2017, respectively, and $83.9 million and $80.1 million for the nine months ended September 30, 2018 and 2017, respectively, and have been included in Financial Services revenues.

Derivative instruments and hedging activities

We are party to interest rate lock commitments ("IRLCs") with customers resulting from our mortgage origination operations. At September 30, 2018 and December 31, 2017, we had aggregate IRLCs of $434.9 million and $210.9 million, respectively, which were originated at interest rates prevailing at the date of commitment. Since we can terminate a loan commitment if the borrower does not comply with the terms of the contract, and some loan commitments may expire without being drawn upon, these commitments do not necessarily represent future cash requirements. We evaluate the creditworthiness of these transactions through our normal credit policies.

We hedge our exposure to interest rate market risk relating to residential mortgage loans available-for-sale and IRLCs using forward contracts on mortgage-backed securities, which are commitments to either purchase or sell a specified financial instrument at a specified future date for a specified price, and whole loan investor commitments, which are obligations of an investor to buy loans at a specified price within a specified time period. Forward contracts on mortgage-backed securities are the predominant derivative financial instruments we use to minimize market risk during the period from the time we extend an interest rate lock to a loan applicant until the time the loan is sold to an investor. At September 30, 2018 and December 31, 2017, we had unexpired forward contracts of $579.0 million and $522.0 million, respectively, and whole loan investor

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

commitments of $171.4 million and $203.1 million, respectively. Changes in the fair value of IRLCs and other derivative financial instruments are recognized in Financial Services revenues, and the fair values are reflected in other assets or other liabilities, as applicable.

There are no credit-risk-related contingent features within our derivative agreements, and counterparty risk is considered minimal. Gains and losses on IRLCs and residential mortgage loans available-for-sale are substantially offset by corresponding gains or losses on forward contracts on mortgage-backed securities and whole loan investor commitments. We are generally not exposed to variability in cash flows of derivative instruments for more than approximately 60 days. The fair values of derivative instruments and their locations in the Condensed Consolidated Balance Sheets are summarized below ($000’s omitted):



	September 30, 2018				December 31, 2017
	Other Assets		Accrued and Other Liabilities		Other Assets		Accrued and Other Liabilities
Interest rate lock commitments	$	10,536	$	1,275	$	5,990	$	407
Forward contracts	2,865		239		432		817
Whole loan commitments	943		326		794		941
	$	14,344	$	1,840	$	7,216	$	2,165

New accounting pronouncements

On January 1, 2018, we adopted ASC 606, which is a comprehensive new revenue recognition model that requires revenue to be recognized in a manner to depict the transfer of goods or services and satisfaction of performance obligations to a customer at an amount that reflects the consideration expected to be received in exchange for those goods or services. We applied the modified retrospective method to contracts that were not completed as of January 1, 2018. Results for reporting periods beginning after January 1, 2018 are presented under ASC 606, while prior period amounts are not adjusted and continue to be reported under the previous accounting standards. We recorded a net increase to opening retained earnings of $22.4 million, net of tax, as of January 1, 2018, due to the cumulative impact of adopting ASC 606, with the impact primarily related to the recognition of contract assets for insurance brokerage commission renewals. There was not a material impact to revenues as a result of applying ASC 606 for the nine months ended September 30, 2018, and there have not been significant changes to our business processes, systems, or internal controls as a result of implementing the standard.

We adopted Accounting Standards Update ("ASU") No. 2016-15, "Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments" ("ASU 2016-15"), as of January 1, 2018, on a retrospective basis. ASU 2016-15 addresses several specific cash flow issues. The adoption of ASU 2016-15 had no effect on our financial statements.

ASC 842, "Leases", becomes effective for us for annual and interim periods beginning January 1, 2019. The standard requires a modified retrospective transition approach for all leases existing at, or entered into after, the date of initial application. While the recognition of right-of-use assets and related liabilities will have a material effect on our consolidated balance sheets, we do not expect a material impact on our consolidated statements of operations or cash flows. We continue to evaluate the full impact of the new standard, including the impact on our business processes, systems, and internal controls.

In June 2016, the Financial Accounting Standards Board ("FASB") issued ASU No. 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments", which changes the impairment model for most financial assets and certain other instruments from an "incurred loss" approach to a new "expected credit loss" methodology. The standard is effective for us for annual and interim periods beginning January 1, 2020, with early adoption permitted, and requires full retrospective application on adoption. We are currently evaluating the impact the standard will have on our financial statements.

In January 2017, the FASB issued ASU No. 2017-04, "Intangibles - Goodwill and Other (Topic 350): Simplifying the Accounting for Goodwill Impairment", which removes the requirement to perform a hypothetical purchase price allocation to measure goodwill impairment. Under the new standard, goodwill impairment will now be determined by evaluating the amount by which a reporting unit’s carrying value exceeds its fair value, not to exceed the carrying amount of goodwill. The standard is effective for us for annual and interim periods beginning January 1, 2020, with early adoption permitted, and applied prospectively. We do not expect the standard to have a material impact on our financial statements.

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

2. Inventory

Major components of inventory were as follows ($000’s omitted):



	September 30, 2018		December 31, 2017
Homes under construction	$	2,992,687	$	2,421,405
Land under development	4,002,007		4,135,814
Raw land	494,760		589,911
	$	7,489,454	$	7,147,130

We capitalize interest cost into inventory during the active development and construction of our communities. In all periods presented, we capitalized all Homebuilding interest costs into inventory because the level of our active inventory exceeded our debt levels. Information related to interest capitalized into inventory is as follows ($000’s omitted):



	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2018			2017			2018			2017
Interest in inventory, beginning of period	$	243,627		$	212,850		$	226,611		$	186,097
Interest capitalized	42,743			46,077			130,474			135,949
Interest expensed	(43,583		)	(36,381		)	(114,298		)	(99,500		)
Interest in inventory, end of period	$	242,787		$	222,546		$	242,787		$	222,546

Land option agreements

We enter into land option agreements in order to procure land for the construction of homes in the future. Pursuant to these land option agreements, we generally provide a deposit to the seller as consideration for the right to purchase land at different times in the future, usually at predetermined prices. Such contracts enable us to defer acquiring portions of properties owned by third parties or unconsolidated entities until we have determined whether and when to exercise our option, which reduces our financial risks associated with long-term land holdings. Option deposits and pre-acquisition costs (such as environmental testing, surveys, engineering, and entitlement costs) are capitalized if the costs are directly identifiable with the land under option, the costs would be capitalized if we owned the land, and acquisition of the property is probable. Such costs are reflected in other assets and are reclassified to inventory upon taking title to the land. We write off deposits and pre-acquisition costs when it becomes probable that we will not go forward with the project or recover the capitalized costs. Such decisions take into consideration changes in local market conditions, the timing of required land purchases, the availability and best use of necessary incremental capital, and other factors. We record any such write-offs of deposits and pre-acquisition costs within other expense, net.

If an entity holding the land under option is a variable interest entity ("VIE"), our deposit represents a variable interest in that entity. No VIEs required consolidation at either September 30, 2018 or December 31, 2017 because we determined that we were not the VIEs' primary beneficiary. Our maximum exposure to loss related to these VIEs is generally limited to our deposits and pre-acquisition costs under the land option agreements.

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

The following provides a summary of our interests in land option agreements as of September 30, 2018 and December 31, 2017 ($000’s omitted):



	September 30, 2018				December 31, 2017
	Deposits and Pre-acquisition Costs		Remaining Purchase Price		Deposits and Pre-acquisition Costs		Remaining Purchase Price
Land options with VIEs	$	85,173	$	1,167,087	$	78,889	$	977,480
Other land options	159,395		1,571,768		129,098		1,485,099
	$	244,568	$	2,738,855	$	207,987	$	2,462,579

Land-related charges

We incurred the following land-related charges in the second quarter of 2017 ($000's omitted):



	Statement of Operations Classification
	Statement of Operations Classification
Net realizable value adjustments ("NRV") - land held for sale	Land sale cost of revenues	$	81,006
Land inventory impairments	Home sale cost of revenues	31,487
Impairments of unconsolidated entities	Other expense, net	8,017
Write-offs of deposits and pre-acquisition costs	Other expense, net	5,063
Total land-related charges		$	125,573

We periodically elect to sell parcels of land to third parties in the event such assets no longer fit into our strategic operating plans or are zoned for commercial or other development. The NRV adjustments outlined above resulted primarily from a plan we announced in May 2017 to sell select non-core and underutilized land parcels following a strategic review of our land portfolio, pursuant to which it was determined that we would sell certain inactive land parcels, representing approximately 17 communities and 4,600 lots. These land parcels were located in diverse geographic areas and no longer fit into our strategic plans. The land parcels identified for sale included: land requiring significant additional development spend that would not yield suitable returns; land in excess of near-term need; and land entitled for certain product types inconsistent with our primary offerings. As a consequence of the change in strategy with respect to the future use of these land parcels, we recorded NRV adjustments totaling $81.0 million relating to inventory with a pre-NRV carrying value of $151.0 million. The estimated fair values of these inactive land parcels held for sale were generally based on comparisons to market comparable transactions, letters of intent, active negotiations with market participants, or similar market-based information supplemented in certain instances by estimated future net cash flows discounted for inherent risk associated with each underlying asset.

Land inventory impairments relate to communities that are either active or that we intend to eventually open and build out. As part of the May 2017 strategic review, we decided to accelerate the monetization of two small communities primarily through a combination of changing the product offerings and lowering the sales prices within the communities. This decision resulted in land impairments of $31.5 million in the second quarter of 2017.

We determine the fair value of a community's inventory, and any related impairments, using a combination of discounted cash flow models and market comparable transactions, where available. These estimated cash flows are significantly impacted by estimates related to expected average selling prices, expected sales paces, expected land development and construction timelines, and anticipated land development, construction, and overhead costs. The assumptions used in the discounted cash flow models are specific to each community, which may be located in a variety of geographic markets, and offer homes at sales prices reflective of the product offering and market. Accordingly, determining the fair value of a community's inventory involves a number of variables, many of which are interrelated.

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)

The table below summarizes certain quantitative unobservable inputs utilized in determining the fair value of the assets for which the impairments were recorded in the second quarter of 2017:



	Range
Average selling price ($000s)		$253	to	$461
Sales pace per quarter (units)		5	to	9
Discount rate		18%	to	25%

Our evaluations for impairments are based on our best estimates of the future cash flows to be generated from our communities. Due to uncertainties in the estimation process, the significant volatility in demand for new housing, the long life cycles of many communities, and potential changes in our strategy related to certain communities, actual results could differ significantly from such estimates.

3. Segment information

Our Homebuilding operations are engaged in the acquisition and development of land primarily for residential purposes within the U.S. and the construction of housing on such land. For reporting purposes, our Homebuilding operations are aggregated into six reportable segments:



Northeast:		Connecticut, Maryland, Massachusetts, New Jersey, New York, Pennsylvania, Virginia
Southeast:		Georgia, North Carolina, South Carolina, Tennessee
Florida:		Florida
Midwest:		Illinois, Indiana, Kentucky, Michigan, Minnesota, Missouri, Ohio
Texas:		Texas
West:		Arizona, California, Nevada, New Mexico, Washington

We also have a reportable segment for our Financial Services operations, which consist principally of mortgage banking and title operations and operate generally in the same markets as the Homebuilding segments.

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)



	Operating Data by Segment ($000’s omitted)
	Three Months Ended						Nine Months Ended
	September 30,						September 30,
	2018			2017			2018			2017
Revenues:
Northeast	$	185,614		$	168,371		$	518,676		$	425,275
Southeast	451,600			393,905			1,271,730			1,104,149
Florida	506,670			338,078			1,311,016			1,015,795
Midwest	412,803			406,126			1,066,775			1,008,617
Texas	347,986			269,997			925,317			793,207
West	693,073			507,629			1,945,345			1,299,758
	2,597,746			2,084,106			7,038,859			5,646,801
Financial Services	51,620			46,952			150,322			135,995
Consolidated revenues	$	2,649,366		$	2,131,058		$	7,189,181		$	5,782,796

Income (loss) before income taxes (a):
Northeast	$	18,938		$	21,046		$	53,408		$	(12,803	)
Southeast	51,920			45,109			146,735			117,749
Florida (b)	73,802			52,191			186,238			132,824
Midwest	52,438			59,636			123,889			115,463
Texas	55,382			42,727			136,777			122,045
West (c)	138,698			75,753			382,317			107,987
Other homebuilding (d)	(26,123		)	(45,999		)	(65,497		)	(103,441		)
	365,055			250,463			963,867			479,824
Financial Services	19,633			17,786			54,182			50,238
Consolidated income before income taxes	$	384,688		$	268,249		$	1,018,049		$	530,062


(a)	Includes land-related charges, as summarized in the table below.


(b)	Florida includes a warranty charge of $12.3 million for the nine months ended September 30, 2017 related to a closed-out community (see Note 8).


(c)	West includes gains of $26.4 million related to two land sale transactions in California in the nine months ended September 30, 2018.

(d)

Other homebuilding includes the amortization of intangible assets and capitalized interest and other items not allocated to the operating segments. Other homebuilding also includes insurance reserve reversals of $37.9 million and $19.8 million for the nine months ended September 30, 2018 and 2017, respectively, and write-offs of $5.3 million and $20.3 million of insurance receivables associated with the resolution of certain insurance matters in the three and nine months ended September 30, 2017, respectively (see Note 8).

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)



	Operating Data by Segment ($000’s omitted)
	Three Months Ended					Nine Months Ended
	September 30,					September 30,
	2018		2017			2018		2017
Land-related charges*:
Northeast	$	1,385	$	1,184		$	3,068	$	51,102
Southeast	663		889			2,394		1,847
Florida	262		109			671		8,862
Midwest	4,960		(393		)	6,078		7,703
Texas	47		51			317		898
West	425		306			786		56,747
Other homebuilding	391		—			659		4,095
	$	8,133	$	2,146		$	13,973	$	131,254


*	Land-related charges include land impairments, net realizable value adjustments on land held for sale, impairments of investments in unconsolidated entities, and write-offs of deposits and pre-acquisition costs for land option contracts we elected not to pursue (see Note 2). Other homebuilding consists primarily of write-offs of capitalized interest related to such land-related charges.

PULTEGROUP, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(UNAUDITED)



	Operating Data by Segment
	($000's omitted)
	September 30, 2018
	Homes Under Construction		Land Under Development		Raw Land		Total Inventory		Total Assets
Northeast	$	339,103	$	256,014	$	84,066	$	679,183	$	809,194
Southeast	497,241		645,915		79,846		1,223,002		1,388,798
Florida	528,092		885,220		73,209		1,486,521		1,632,772
Midwest	366,559		426,349		27,375		820,283		904,671
Texas	333,250		424,500		88,376		846,126		917,529
West	871,553		1,093,490		121,685		2,086,728		2,280,912
Other homebuilding (a)	56,889		270,519		20,203