Bankruptcy Buzz Bugs Beazer

Shares fell sharply Wednesday amid rumors the homebuilder would file, which it called "scurrilous and unfounded"

Beazer Homes USA (BZH) shares skidded on Aug. 1 on market speculation that the homebuilder might file for bankruptcy. Beazer refuted the rumors in a statement: "We have become aware of rumors circulating in the market about Beazer Homes' liquidity and a prospective bankruptcy filing. We do not know where these scurrilous and unfounded rumors started."

Beazer shares dropped 18% to $11.48 on Aug. 1. Earlier in the session, the stock sank to a new 52-week low of $8.10, down more than 42%. The news dragged other homebuilders lower too, with the S&P Homebuilding index falling 2.4%.

Investors are increasingly worried that subprime mortgage defaults could spread to higher-quality loans, and in turn hurt financial companies, consumer spending and the U.S. economy. On July 31, shares of American Home Mortgage Investment (AHM), which issues prime and Alt-A home loans, plunged 90% to $1.04 on news that its financial backers will not extend any more money and some have demanded their money back. American Home Mortgage said in the past two days it failed to deliver as much as $800 million in mortgages promised to home buyers. The lender said it may have to sell off its assets, and some analysts say the company is likely to file for bankruptcy.

The same day, two Bear Stearns (BSC) hedge funds heavily invested in mortgage securities backed by subprime loans filed for bankruptcy protection.

As for Beazer, it has its own set of troubles along with the housing slump. The company is being investigated by the government about its lending practices in its mortgage-origination business (see, 3/27/07, "Feds Are Investigating Homebuilder Beazer"). In June, Beazer announced that it dismissed its chief accounting officer over attempts to destroy documents (see, 6/28/07, "Building Woes for Beazer"). The Securities and Exchange Commission is also investigating possible violations of U.S. securities laws.

Beazer is trying to shore up its finances. Last week, the company entered into a new, four-year $500 million revolving credit facility. That replaced its existing $1 billion facility and was designed to ease any concerns investors had about the company's liquidity. The new facility can be expanded to $1 billion, under certain conditions.

Tom Smith, an equity analyst at Standard & Poor's, upgraded his opinion on Beazer shares to sell from strong sell on valuation -- given that the stock is trading at a historical low price-to-book value of about 0.3. "While we believe BZH faces the same market challenges as other homebuilders in a housing market slump, we note that it also faces an SEC investigation of its mortgage origination practices, which may hurt investor confidence, in our view," he said in an Aug. 1 note. Smith cut his 12-month target price to $10 from $13, "based on his updated price-to-book analysis of these volatile shares."

Beazer is more exposed to the subprime mess because about 40% of its homes are sold to first-time owners and move-up buyers that tend to need more financing, Smith says. The company also has a higher debt profile than peers, he says.

Smith projects that Beazer's revenue will decline 40% and that it will lose $6.50 per share (including significant inventory charges) in its fiscal year 2007 ending in September. In a research report, he notes that in its most recent quarter, the company took about $182.5 million in pretax charges for inventory impairments and the abandonment of options to buy land. "We expect average selling prices for homes to trend down over the next 12 months, creating a risk of further inventory write-downs," he wrote.

Smith believes that Beazer is not close to filing bankruptcy given its new credit line and trends in its latest earnings report released last week. What would press them into that situation is if the company has "several more quarters with inventory writedowns as big or bigger than its recent quarter," Smith says. He expects more writedowns for Beazer, but at a lesser rate. "This is a big wide open field for estimates because we don't know" how much lower home prices and sales will fall, he admits.

Meanwhile, JP Morgan analyst Michael Rehaut also dismissed the Beazer bankruptcy speculation, according to an S&P MarketScope report. Rehault says that the company remains on track to be cash flow positive in the fourth quarter, and also cited Beazer's new revolving credit facility. The analyst expects the stock to rebound relative to the rest of the homebuilding group over the next few days, but kept his underweight rating on the shares.

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