KB HOME
10990 Wilshire Boulevard
Los Angeles, California 90024
(310) 231-4000

 

 

March 5, 2008

 

Dear Fellow Stockholder:

 

Your officers and directors join me in inviting you to attend the 2008 Annual Meeting of Stockholders of KB Home at 9:00 a.m. Pacific Daylight Time on April 3, 2008 at our headquarters in Los Angeles, California.

 

The expected items of business for the meeting are described in detail in the attached Notice of 2008 Annual Meeting of Stockholders and Proxy Statement. We also will discuss our 2007 results and our plans for the future.

 

We look forward to seeing you on April 3.

 

Sincerely,

 

 

Jeffrey T. Mezger

President and Chief Executive Officer

 

Notice of 2008 Annual Meeting of Stockholders

 

 

By Order of The Board of Directors,

 

 

 

Wendy C. Shiba
Executive Vice President, General Counsel and
Corporate Secretary

 

Los Angeles, California
March 5, 2008

 

Table of Contents

 

 

 

KB HOME
10990 Wilshire Boulevard
Los Angeles, California 90024

 

Proxy Statement
for the
2008 Annual Meeting of Stockholders

 

To Be Held April 3, 2008

 

 

 

 

 

 

 

Your Board of Directors is furnishing this Proxy Statement to you to solicit your proxy to be voted at our 2008 Annual Meeting of Stockholders. The Annual Meeting is scheduled for Thursday, April 3, 2008, at the time and place and for the purposes set forth in the accompanying Notice of 2008 Annual Meeting of Stockholders. We anticipate that the mailing of this Proxy Statement to stockholders will commence on or about March 6, 2008.

 

You are cordially invited to attend the Annual Meeting. Please note that you may be asked to present photo identification and be subject to a security check, and that no cameras, recording equipment, electronic devices, large bags, briefcases or packages will be permitted in the Annual Meeting. Also, due to space constraints, you may be accompanied by only one guest. Parking is available at the garage for the meeting location, which is accessed from Veteran Avenue.

 

Only holders of record of the 77,420,742 shares of our common stock outstanding at the close of business on February 14, 2008 are entitled to vote at the Annual Meeting. Each holder of our common stock is entitled to one vote for each share held. Our Grantor Stock Ownership Trust, established to assist us in meeting certain of our obligations to employees under our employee benefit plans, held 12,155,082 shares of our common stock for voting purposes as of February 14, 2008. These shares will be voted by the trustee of the Grantor Stock Ownership Trust in accordance with instructions received from employees who participate in certain of our employee benefit plans. There is no right to cumulative voting.

 

If your shares of our common stock are registered directly in your name with our transfer agent, Mellon Investor Services LLC, you are considered the “holder of record” of those shares. If your shares are held in a stock brokerage account or by a financial institution or other holder of record, you are considered the beneficial owner of those shares held in “street name.”

 

If you are a beneficial owner, you have the right to instruct your broker, financial institution or other holder of record on how to vote your shares of our common stock by using the voting instruction card you received from them or by following their particular telephone and/or Internet voting instructions.

 

If you are a holder of record, you may vote the proxy card you received by mail, by telephone or via the Internet, as described below:

 

Mail.  Please promptly complete and return your proxy card in the postage-paid envelope provided.

 

Telephone.  Please call the toll-free telephone number listed on your proxy card. Telephone voting procedures have been established to verify your identity, to allow you to provide proxy voting instructions and to confirm that your instructions were accurately recorded. Please have your proxy card available when you call.

 

Internet.  Please visit the Internet web site address listed on your proxy card. As with telephone voting, Internet voting procedures have been established to verify your identity and to confirm your voting instructions. Please have your proxy card available when you visit the Internet web site address.

 

Telephone and Internet voting will be available to holders of record 24 hours each day until 11:59 p.m. Eastern Daylight Time on April 2, 2008. If you use the toll-free telephone number or the Internet to provide your proxy voting instructions, you do not need to mail in your proxy card.

 

Revoking Your Proxy Vote.  If you are a holder of record, you may revoke your proxy voting instructions made by mail, by telephone or via the Internet at any time before the exercise of those instructions at the Annual Meeting. To do so, you must send a revocation in writing to us in care of the Corporate Secretary, KB Home, 10990 Wilshire Boulevard, Los Angeles, California 90024.

 

If you are a beneficial owner, you may submit new voting instructions by contacting your broker, financial institution or other holder of record. You may also vote in person at the Annual Meeting as described in the next paragraph.

 

Voting In Person at the Annual Meeting.  Whether you are a holder of record or a beneficial owner, you may vote in person at the Annual Meeting, even if you have previously provided proxy voting instructions by mail, by telephone or via the Internet. If you are a holder of record, you may also be represented by another person at the Annual Meeting by executing a proper proxy designating that person. If you are a beneficial owner of shares of our common stock, you must obtain a legal proxy from your broker, financial institution or other holder of record and present it with your ballot to be able to vote in person at the Annual Meeting.

 

Under the laws of the State of Delaware, where we are incorporated, stockholders may take action at the Annual Meeting by voting their shares of our common stock as described above, provided a quorum is present. At least a majority of the outstanding shares of our common stock entitled to vote must be present or represented at the Annual Meeting to establish a quorum. Abstentions and “broker non-votes” are counted as present and entitled to vote for purposes of establishing a quorum.

 

A “broker non-vote” arises when a broker, financial institution or other holder of record does not receive instructions from a beneficial owner and does not have the discretionary authority to vote on a particular item. Per current New York Stock Exchange rules, brokers have discretionary authority to vote on the election of directors and on the ratification of the appointment of our independent registered public accounting firm. Brokers do not, however, have discretionary authority to vote on the stockholder proposals in this Proxy Statement. Accordingly, broker non-votes will not be considered entitled to vote for those proposals and will have no effect on the outcome.

 

All shares of our common stock represented by valid proxies received pursuant to this solicitation and not revoked will be voted at the Annual Meeting in accordance with the proxy instructions given.

Because a proxy confers discretionary authority to vote on other matters that may properly come before the Annual Meeting, shares of our common stock represented by valid proxies will be voted in accordance with the judgment of Jeffrey T. Mezger, President and Chief Executive Officer, and Wendy C. Shiba, Executive Vice President, General Counsel and Corporate Secretary, who are the persons named as proxies on the proxy cards for the Annual Meeting, or their duly authorized designees.

 

Where no instruction is made on a signed proxy card with respect to any item submitted to a vote at the Annual Meeting, the shares of our common stock represented by the proxy card will be voted (a) for the election as directors of the three individuals named under the heading “Election of Directors” on pages 13-15 below, (b) for the ratification of the appointment of Ernst & Young LLP as our independent registered public accounting firm for our fiscal year ending November 30, 2008, as discussed on page 16 below, and (c) against the two stockholder proposals in this Proxy Statement, if properly presented at the Annual Meeting, which are discussed on pages 17-21 below.

 

Election of Directors.  Per our Bylaws, each director nominee must receive a majority of votes cast in favor to be elected to the Board of Directors (i.e., the votes cast for a nominee’s election must exceed the votes cast against the nominee’s election). You may vote “for” all director nominees or you may vote “against” or “abstain” with respect to one or more of the director nominees. Shares of our common stock that are not present or represented at the Annual Meeting and abstentions will not affect the outcome of the election of directors.

 

Other Proposals in this Proxy Statement.  The affirmative vote of a majority of the shares of our common stock present or represented at the Annual Meeting and entitled to vote is required to ratify the appointment of Ernst & Young LLP as our independent registered public accounting firm for our fiscal year ending November 30, 2008 and to approve each of the stockholder proposals in this Proxy Statement, if properly presented at the Annual Meeting. You may vote “for,” “against,” or “abstain” with respect to any of these proposals. Abstentions will have the same effect as an “against” vote.

 

Yes. The accompanying Notice of 2008 Annual Meeting of Stockholders, this Proxy Statement, the Annual Report on Form 10-K for the fiscal year ended November 30, 2007 and a sample proxy card may be viewed, printed or downloaded from http://www.kbhome.com/investor/proxy.

 

We will pay the entire cost of soliciting proxies. In addition to use of the mail, proxies may be solicited by our officers, directors and other employees by telephone, facsimile, email or personal solicitation, and no additional compensation will be paid to such individuals. We will, if requested, reimburse banks, brokerage houses and other custodians, nominees and certain fiduciaries for their reasonable expenses incurred in mailing proxy material to their principals. We have hired Georgeson Inc., a professional soliciting organization, to assist us in proxy solicitation and in distributing proxy materials to institutions, brokerage houses, custodians, nominees and other fiduciaries. For these services, we will pay Georgeson a fee of $8,500, plus reimbursement for out-of-pocket expenses.

 

A representative of our transfer agent, Mellon Investor Services LLC, will count the votes and act as an independent inspector of election for the Annual Meeting. Ms. Shiba will also act as an inspector of election.

 

 

 

 

The Board of Directors (“Board”) is elected by our stockholders to oversee the management of our business and to assure that the long-term interests of our stockholders are being served.

 

We believe that our directors should possess the highest personal and professional ethics, integrity, judgment and values, and be committed to representing the long-term interests of our stockholders. Directors should also have an inquisitive and objective perspective, and be able and willing to dedicate the time necessary to Board and Board Committee service.

 

The Nominating and Corporate Governance Committee of the Board (“Nominating/Governance Committee”) regularly assesses the skills and characteristics of current and potential directors in view of the perceived needs of the Board at the time an assessment is made and may consider the following attributes, among others:

 

 

We believe that a substantial majority of our directors should be independent. A director qualifies as independent unless the Board determines that he or she has a material relationship with us based on all relevant facts and circumstances. The Board makes independence determinations annually based on information supplied by directors and other sources, and on the prior review and recommendation of the Nominating/Governance Committee.

 

The Board’s independence determinations are guided by certain categorical standards contained in our Corporate Governance Principles. These standards are consistent with New York Stock Exchange listing standards, the national securities exchange on which our common stock is listed.

 

The Board has determined that all non-employee directors who served during our 2007 fiscal year and all current director nominees are independent under the Board’s director independence standards. Accordingly, Messrs. Stephen F. Bollenbach, Ronald W. Burkle, Timothy W. Finchem, Kenneth M. Jastrow, II, James A. Johnson, J. Terrence Lanni, Michael G. McCaffery, Leslie Moonves, and Luis G. Nogales and Ms. Melissa Lora are independent. Dr. Ray R. Irani, who served on the Board until November 1, 2007, was also independent. In addition, the Board has determined that all of the Board Committees are entirely composed of independent directors.

 

In making its independence determinations, the Board considered various transactions for goods and services that we entered into during our 2007 fiscal year with firms or organizations at which some of our non-employee directors served as executive officers. In each case, the transactions were in the ordinary course of our business and the business of the counterpart firm or organization and fell well within the categorical independence standards

contained in our Corporate Governance Principles. In no case was a non-employee director deemed to have a direct or indirect material interest in the transactions. There were no transactions in which any of our non-employee directors participated in an individual capacity. The specific goods and services consisted of: hotel rooms obtained in connection with business travel and at standard market rates (Mr. Bollenbach (who served as Chief Executive Officer of Hilton Hotels Corporation through October 2007) and Mr. Lanni (who serves as Chief Executive Officer of MGM MIRAGE)); radio and billboard advertising expenditures at market rates to promote our business (Mr. Moonves (who serves as Chief Executive Officer of CBS Corporation)); building materials purchased at market prices (for which we received standard purchase rebates) for use in our homebuilding operations (Mr. Jastrow (who served as Chief Executive Officer of Temple-Inland Inc. through December 2007)); and event fees at market rates paid in connection with business-related activities (Mr. Finchem (who serves as Commissioner of the PGA TOUR)).

 

 

In addition to containing our director independence standards, our Corporate Governance Principles provide the framework within which we conduct our business and pursue our strategic goals. The Nominating/Governance Committee regularly reviews our Corporate Governance Principles, and the full Board approves changes as it deems appropriate. Our Corporate Governance Principles are available on our website at http://www.kbhome.com/investor/corporategovernance.

 

 

We expect all of our directors and employees to follow the highest ethical standards when representing KB Home and our interests. To this end, all employees, including our senior executive management, and our directors must abide by our Ethics Policy. The Audit and Compliance Committee of the Board (“Audit Committee”) regularly reviews our Ethics Policy, and the full Board approves changes as it deems appropriate. The Board approved amendments to our Ethics Policy that became effective as of September 17, 2007. The Ethics Policy is available on our website at http://www.kbhome.com/investor/corporategovernance.

 

 

The Board held 10 meetings in our 2007 fiscal year. As of the date of this Proxy Statement, the Board has 11 members. In our 2007 fiscal year, each of our directors attended at least 75% of the aggregate number of meetings of the Board and the Board Committees on which he or she served. All directors are expected to attend our annual meetings of stockholders. All directors who were serving at the time attended our 2007 Annual Meeting of Stockholders, which was held on April 5, 2007.

 

 

The Board has three standing Board Committees: Audit; Management Development and Compensation (“Compensation Committee”); and Nominating/Governance. Each standing Board Committee assists the Board in fulfilling its responsibilities, as described below. The Board has adopted a charter for each standing Board Committee. Each charter is available on our website at http://www.kbhome.com/investor/corporategovernance.

 

The chart below shows the members of the standing Board Committees as of the date of this Proxy Statement and the number of meetings each Board Committee held during our 2007 fiscal year. Mr. Bollenbach, the Non-Executive Chairman of the Board, serves as an ex officio member of each standing Board Committee. Mr. Mezger, a

director and our President and Chief Executive Officer (“CEO”), does not serve on any of the standing Board Committees.

 

 

Audit and Compliance Committee.  The Audit Committee represents and assists the Board in fulfilling its responsibilities for oversight of our:

 

 

The Audit Committee also oversees the preparation of a report for inclusion in our annual proxy statements and is charged with the duties and responsibilities listed in its charter. The Audit Committee’s report is included in this Proxy Statement on page 54 below. The Audit Committee is a separately designated standing audit committee as defined in Section 3(a)(58)(A) of the Securities Exchange Act of 1934.

 

The Board has determined that each current member of the Audit Committee is independent under our Corporate Governance Principles, New York Stock Exchange listing standards and Securities and Exchange Commission rules. The Board has also determined that each current member of the Audit Committee is financially literate under New York Stock Exchange listing standards, and that Ms. Lora, an independent director, qualifies as an “audit committee financial expert” under Securities and Exchange Commission rules.

 

Management Development and Compensation Committee.  The Compensation Committee represents and assists the Board with respect to:

 

 

 

The Compensation Committee oversees the preparation of the compensation discussion and analysis to be included in our annual proxy statements, recommends to the Board whether to so include the compensation discussion and analysis, and provides an accompanying report to be included in our annual proxy statements. The compensation discussion and analysis for this Proxy Statement is provided under the heading “Compensation Discussion and Analysis” on pages 25-35 below. The Compensation Committee’s accompanying report is on page 25 below. The Compensation Committee is also charged with the duties and responsibilities listed in its charter.

 

The Board has determined that each current Compensation Committee member is independent under our Corporate Governance Principles and New York Stock Exchange listing standards, is a “non-employee director” under Securities and Exchange Commission rules and is an “outside director” under Internal Revenue Code Section 162(m).

 

Overview of Executive Officer and Non-Employee Director Compensation Processes and Procedures.  Under our Bylaws, the Board has the authority to fix the compensation of our executive officers and non-employee directors. The Board has delegated this authority to the Compensation Committee to the extent provided in the Compensation Committee’s charter. In accordance with its charter, the Compensation Committee annually reviews and approves the goals and objectives relevant to our CEO’s compensation, evaluates his performance in light of those goals and objectives, and, either as a committee or together with the other independent directors (as directed by the Board), determines and approves our CEO’s incentive compensation based on the evaluation. The Compensation Committee also evaluates, in conjunction with our CEO, the performance of his direct reports and other senior executives, and reviews and approves their compensation.

 

The Compensation Committee exercises the Board’s authority with respect to our employee compensation and benefits plans (including our employee equity compensation plans) and policies, except to the extent that the Board, in its discretion, reserves its authority. This includes the authority to select eligible participants, recommend and approve grants and awards, set performance targets and other award eligibility criteria, approve an aggregate incentive pool for any annual or long-term incentive awards, interpret the plans’ terms, delegate certain responsibilities and adopt or modify as necessary any rules and procedures to implement the plans, including any rules and procedures that condition the approval of grants and awards. The Compensation Committee also periodically reviews our compensation and benefit plans and, from time to time, will recommend to the Board new plans or modifications to existing plans. The Compensation Committee’s exercise of this authority, including specific considerations applied and determinations made, with respect to the compensation and benefits awarded to our named executive officers under our plans is discussed under the heading “Compensation Discussion and Analysis” on pages 25-35 below.

 

The Compensation Committee, from time to time, reviews and makes recommendations to the Board regarding non-employee director compensation consistent with the goals of recruiting the highest caliber directors to serve on the Board, aligning directors’ and stockholders’ interests, and fairly paying directors for the work required to serve stockholder interests given our size, scope and complexity of operations.

 

In carrying out its duties with respect to executive officer and non-employee director compensation, the Compensation Committee seeks assistance from our management and an outside compensation consultant it has engaged directly, Semler Brossy Consulting Group LLC (“Semler Brossy”), as further described under the heading “Compensation Discussion and Analysis” on pages 25-35 below. Under its charter, the Compensation Committee may delegate to a subcommittee or to our management any duties and responsibilities as the Compensation Committee deems to be appropriate and in our best interests. However, under our Equity-Based Award Grant Policy, as further described on page 35 below, the Compensation Committee cannot delegate to our management the authority to grant equity-based awards.

Compensation Committee Interlocks and Insider Participation.  Messrs. Lanni and Nogales served on the Compensation Committee throughout our 2007 fiscal year. Messrs. Finchem and McCaffery each joined the Compensation Committee on April 5, 2007 and served through the remainder of our 2007 fiscal year. Dr. Irani served as the Chair of the Compensation Committee from the beginning of our 2007 fiscal year until April 5, 2007, and then served as a Compensation Committee member until November 1, 2007, when he resigned from the Board. No member of the Compensation Committee during our 2007 fiscal year was part of a “compensation committee interlock” as described under Securities and Exchange Commission rules. In addition, none of our executive officers served as a director or member of the compensation committee of another entity that would constitute a “compensation committee interlock.”

 

Nominating and Corporate Governance Committee.  The Nominating/Governance Committee represents and assists the Board in fulfilling its responsibilities by:

 

 

The Nominating/Governance Committee also reviews and makes recommendations to the Board on proposed changes to our Restated Certificate of Incorporation and Bylaws, periodically assesses and recommends action with respect to our stockholder rights plan and other stockholder protections, reviews and approves or ratifies (as applicable) transactions in which we participate and in which certain related parties have a material interest (as further discussed under the heading “Certain Relationships and Related Party Transactions” on page 56 below), and is charged with the other duties and responsibilities listed in its charter.

 

The Board has determined that each current member of the Nominating/Governance Committee is independent under our Corporate Governance Principles and New York Stock Exchange listing standards.

 

The Nominating/Governance Committee is responsible for identifying and evaluating director candidates on the Board’s behalf. Director candidates may come to the attention of the Nominating/Governance Committee through current Board members or other persons. Candidates are evaluated at regular or special meetings of the Nominating/Governance Committee, and may be considered at any point during the year. The general qualifications for director candidates are described under the heading “Director Qualifications” on page 4 above.

 

The Nominating/Governance Committee has retained professional search firms from time to time to assist it with recruiting potential director candidates to the Board based on criteria the Nominating/Governance Committee provides to the firm. These firms help identify, evaluate and select director candidates and are typically paid an agreed upon fee plus expenses for their work. A professional search firm helped recruit Mr. Bollenbach to the Board in 2007.

 

Any security holder may recommend a director candidate for the Nominating/Governance Committee’s consideration by submitting the candidate’s name and qualifications to us in care of the Corporate Secretary at the address listed under the heading “Communications with the Board” on the next page. The Nominating/Governance Committee will consider director candidates recommended by a security holder in the same manner as it considers any other recommended candidates.

 

As part of the Board’s regularly scheduled meetings, the non-employee directors meet in executive session. Any non-employee director can request additional executive sessions. Mr. Bollenbach, the Non-Executive Chairman of the Board, is responsible for scheduling and chairing the executive sessions.

 

Any interested party may write to the Board or to any of the non-employee directors in care of our Corporate Secretary at KB Home, 10990 Wilshire Boulevard, Los Angeles, California 90024. The Corporate Secretary or the Assistant Corporate Secretary reviews all such written correspondence promptly upon receipt and will forward it, as they determine is appropriate, to a Board Committee Chair, an individual director and/or the Chairman of the Board. Directors who receive such correspondence determine, individually or with other directors and/or our management, whether and how to respond.

 

Overview.  The Board sets non-employee director compensation based on recommendations from the Compensation Committee. The Compensation Committee has retained Semler Brossy to assist it with designing our compensation and benefit programs, including our non-employee director compensation program. Non-employee director compensation is currently provided under our 2003 Non-Employee Directors Stock Plan (“Director Plan”). Mr. Mezger is not paid for his service as a director.

 

Under the Director Plan, each non-employee director is entitled to receive an $80,000 cash retainer paid in $20,000 quarterly installments during a Director Year (the period between our annual meetings of stockholders) and 4,000 stock units that are granted on the date of each annual meeting of stockholders. Each of the Chairs of the Compensation Committee and the Nominating/Governance Committee is entitled to an additional retainer of 600 stock units. The Chair of the Audit Committee is entitled to an additional retainer of 1,000 stock units. A non-employee director who joins the Board or who becomes a Board Committee Chair during a Director Year is entitled to a pro-rated amount of the applicable compensation provided under the Director Plan based on the time remaining in the Director Year.

 

To promote greater alignment of non-employee director and stockholder interests, the Director Plan allows each non-employee director to elect to receive his or her Director Plan cash retainer in stock units or stock options, and to elect to receive his or her stock unit grant (or Board Committee Chair stock unit retainer grant, if applicable) in stock options. If a non-employee director elects to receive the Director Plan cash retainer in stock units, the director is granted an amount equal to the shares of our common stock that can be purchased with 120% of the retainer’s value based on the common stock’s grant date closing price. The additional incentive over the retainer’s cash value is intended to induce non-employee directors to elect stock units. If a non-employee director elects to the receive the Director Plan cash retainer in stock options, the stock options are granted in an amount equal to approximately four times the shares of our common stock that can be purchased with the retainer’s value based on the common stock’s grant date closing price. In the Board’s judgment, the four-to-one ratio represents an appropriate trade-off for selecting stock options in lieu of cash. If a non-employee director elects to receive any stock unit grants in stock options, the director is granted an amount equal to four times the number of stock units, reflecting what the Board believes is an appropriate trade-off for the greater potential volatility in the value of a stock option over time.

 

Director Plan Stock Units.  Each stock unit provides a right to receive the fair market value of a share of our common stock and a cash dividend equivalent payment at the same time and in the same amount as any cash dividend paid on our common stock. Based on each non-employee director’s election, Director Plan stock units will be paid out in cash only, with the amount paid equal to the aggregate stock units held multiplied by our common stock’s closing price on the last business day before the payment date. Director Plan stock units are paid out when a non-employee director leaves the Board.

 

Director Plan Stock Options.  If elected, all Director Plan stock options are granted to non-employee directors on the date of our annual meetings of stockholders with an exercise price equal to our common stock’s closing price on that date. The stock options are fully vested when granted and have a 15-year term. A non-employee director cannot exercise Director Plan stock options until the earlier of (a) the director’s acquisition and continued ownership of at least 10,000 shares of our common stock and/or Director Plan stock units and (b) the date the director leaves the Board. Director Plan stock options must be exercised within one year of the date a non-employee director leaves the Board. Based on each non-employee director’s election, Director Plan stock options will be paid

out in cash only, with the amount paid equal to the positive difference between a stock option’s exercise price and the closing price of our common stock on the applicable exercise date. Accordingly, Director Plan stock options are equivalent in nature to stock appreciation rights.

 

Chairman Retainer and One-Time Service Payments.  In recognition of his additional responsibilities and service to the Board, Mr. Bollenbach, the Non-Executive Chairman of the Board, is entitled to receive an additional annual retainer of $300,000. Mr. Bollenbach may keep any Chairman retainer payment he receives if he is removed from the Board without cause. Also, in 2007 the Board approved a one-time $50,000 cash bonus payment to each member of an Audit Committee subcommittee that directed a review of employee stock option grants (“Review”). This Review is described in our Annual Report on Form 10-K for the fiscal year ended November 30, 2006. The subcommittee members were Messrs. Finchem and McCaffery and Ms. Lora.

 

Expenses.  We pay the non-employee directors’ expenses, including travel, accommodations and meals, associated with attending all Board and Board Committee meetings and each annual meeting of stockholders and any other activities related to our business. They do not receive any additional compensation for attending individual Board or Board Committee meetings or for attending our annual meetings of stockholders.

 

Our 2007 fiscal year non-employee director compensation is provided in the following table.

 

Director Compensation During Fiscal Year 2007

 

 

 

 

 

 

Directors Legacy Program.  We established a Directors Legacy Program in 1995 to recognize our and our directors’ interests in supporting worthy educational institutions and other charitable organizations. In making adjustments to our philanthropic activities, the Board elected in 2007 to close the program to new participants. Messrs. Bollenbach, Lanni and Mezger do not participate in the program. Under the program, we will make a charitable donation on each participating director’s behalf of up to $1,000,000 (up to $500,000 for a participating director who left the Board before January 1, 1999). A participating director may allocate the donation to up to five qualifying institutions or organizations. Directors vest in the full donation in five equal annual installments of $200,000, and therefore must serve on the Board for five consecutive years to donate the maximum amount. Donations are paid directly to designated organizations after a participating director’s death with proceeds from the life insurance policies we maintain on each participating director’s life. Participating directors and their families do not receive any proceeds, compensation or tax savings associated with the program.

 

 

Proposal 1:

 

 

 

At the Annual Meeting, the Board will present as nominees and recommend to stockholders that Messrs. Bollenbach, Finchem and Lanni each be elected as directors to serve for a one-year term ending at our 2009 Annual Meeting of Stockholders. Each nominee is currently a director, has consented to being nominated and has agreed to serve as a director if elected. Messrs. Finchem and Lanni are standing for re-election. Mr. Bollenbach was appointed to the Board subsequent to our 2007 Annual Meeting of Stockholders. Should any of these nominees become unable to serve as a director prior to the Annual Meeting, the persons named as proxies on the proxy cards for the Annual Meeting will, unless otherwise directed, vote for the election of such other person as the Board may recommend in place of such nominee.

 

Mr. Johnson has decided to retire from the Board effective as of the date of the Annual Meeting, when his current term as a director expires. On the date of the Annual Meeting, the Board will have 10 members.

 

Vote Required

 

Under our Bylaws, the election of each director nominee will require a majority of votes cast at the Annual Meeting to be in favor of the nominee (i.e., the votes cast for a nominee’s election must exceed the votes cast against the nominee’s election).

 

Consistent with this director election standard, our Corporate Governance Principles require that each director nominee in an uncontested election at an annual meeting of stockholders receive more votes cast for than against his or her election or re-election in order to be elected or re-elected to the Board. An “uncontested election” is one in which no director candidates on the ballot were nominated by a stockholder in accordance with our Bylaws. This election is an uncontested election.

 

Our Corporate Governance Principles also provide that a director nominee who fails to win election or re-election to the Board in an uncontested election is expected to tender his or her resignation from the Board. If an incumbent director fails to receive the required vote for election or re-election in an uncontested election, the Nominating/Governance Committee will act on an expedited basis to determine whether to accept the director’s resignation and will submit its recommendation for prompt consideration by the Board. The Board expects the director whose resignation is under consideration to abstain from participating in any decision regarding that resignation. The Nominating/Governance Committee and the Board may consider any factors they deem relevant in deciding whether to accept a director’s resignation.

 

Your Board recommends a vote FOR the election to the Board of each of the nominees.

A brief summary of each nominee’s principal occupation, recent professional experience and their directorships at other public companies, if any, is provided below.

 

 

 

 

 

 

Listed below are our other directors who will continue to serve on the Board following the Annual Meeting and their respective principal occupations, business affiliations and other information for at least the past five years.

 

 

 

 

 

 

 

 

 

 

 

 

The Audit Committee has appointed Ernst & Young LLP as our independent registered public accounting firm to audit our consolidated financial statements for our fiscal year ending November 30, 2008. During our 2007 fiscal year, Ernst & Young LLP served as our independent registered public accounting firm and also provided certain other audit-related services. See “Independent Auditor Fees and Services” on page 55 below. Representatives of Ernst & Young LLP are expected to attend the Annual Meeting, be available to respond to appropriate questions and, if they desire, make a statement.

 

Although not required by our Restated Certificate of Incorporation or Bylaws, we are seeking stockholder ratification of Ernst & Young LLP as our independent registered public accounting firm. As we have done in prior years, we are doing so because we believe it is a matter of good corporate governance. If Ernst & Young LLP’s appointment is not ratified, the Audit Committee will reconsider whether to retain Ernst & Young LLP, but still may retain them. Even if the appointment is ratified, the Audit Committee, in its discretion, may change the appointment at any time during the year if it determines that such a change would be in our and our stockholders’ best interests.

 

Vote Required

 

Approval of the ratification of the appointment of Ernst & Young LLP as our independent registered public accounting firm for our fiscal year ending November 30, 2008 requires the affirmative vote of the majority of shares of common stock present or represented, and entitled to vote thereon, at the Annual Meeting.

 

Your Board recommends a vote FOR the ratification of the appointment of Ernst & Young LLP as our independent registered public accounting firm for our fiscal year ending November 30, 2008.

 

 

 

 

The Massachusetts Laborers’ Pension Fund, 14 New England Executive Park, Suite 200, P.O. Box 4000, Burlington, MA 01803-0900, the beneficial owner of 1,340 shares of our common stock, has notified us that it intends to present a proposal at the Annual Meeting. The proposal is set forth below, along with the recommendation of the Board that you vote AGAINST the proposal. We accept no responsibility for the accuracy of the proposal or the proponent’s supporting statement.

 

Stockholder Proposal

 

RESOLVED:  That the shareholders of KB Home (“Company”) request that the Board of Director’s Executive Compensation Committee adopt a Pay for Superior Performance principle by establishing an executive compensation plan for senior executives (“Plan”) that does the following:

 

 

Proponent’s Supporting Statement

 

We feel it is imperative that executive compensation plans for senior executives be designed and implemented to promote long-term corporate value. A critical design feature of a well-conceived executive compensation plan is a close correlation between the level of pay and the level of corporate performance. The pay-for-performance concept has received considerable attention, yet all too often executive pay plans provide generous compensation for average or below average performance. We believe the failure to tie executive compensation to superior corporate performance has fueled the escalation of executive compensation and detracted from the goal of enhancing long-term corporate value. We believe that the Pay for Superior Performance principle presents a straightforward formulation for senior executive incentive compensation that will help establish more rigorous pay for performance features in the Company’s Plan. A strong pay and performance nexus will be established when reasonable incentive compensation target pay levels are established; demanding performance goals related to strategically selected financial performance metrics are set in comparison to peer company performance; and incentive payments are awarded only when median peer performance is exceeded.

 

We believe the Company’s Plan fails to promote the Pay for Superior Performance principle in several important ways. Our analysis of the Company’s executive compensation plan reveals the following features that do not promote the Pay for Superior Performance principle:

 

 

 

We believe a plan designed to reward superior corporate performance relative to peer companies will help moderate executive compensation and focus senior executives on building sustainable long-term corporate value. We urge shareholders to vote FOR our proposal.

 

Recommendation of the Board AGAINST the Proposal

 

Despite the title the proponent gives its compensation “principle,” it does NOT establish a pay-for-performance plan. Accordingly, your Board believes this proposal does not serve the best interests of KB Home or its stockholders and recommends a vote AGAINST it.

 

We share the proponent’s view that executive incentive compensation should appropriately reward performance that creates and sustains enterprise and stockholder value, and believe that this view is reflected in our current executive compensation philosophy and programs. These are discussed in detail below under the heading “Compensation Discussion and Analysis.”

 

However, by requiring us to set incentive compensation targets “at or below peer group median,” we believe implementing this proposal would seriously undermine incentive pay’s role in promoting value creation. We also believe it would severely impair our ability to attract, motivate and retain high-caliber executive talent. Indeed, we cannot conceive how offering to reward someone with just average or below-average pay for delivering above-average results would provide a true incentive for them to come to or stay with us, or motivate them to deliver such results. This is particularly true for exceptional executive talent in a highly competitive market for top-performing individuals.

 

In this respect, the proposal essentially fails to accomplish what its proponent asserts is a “critical design feature of a well-conceived executive compensation plan” — “a close correlation between the level of pay and the level of corporate performance.” In our view, restricting incentive compensation to a level below the level of performance required to earn it does not establish a “close correlation” between pay and performance. Therefore, we think the executive compensation approach in this proposal is clearly not “well-conceived,” even from the view of the proponent’s own standards.

 

We believe that our current executive compensation programs and practices provide primarily performance-based pay consistent with the proponent’s compensation “principle,” while enabling us to remain competitive in attracting, motivating and retaining quality executive talent. For instance, as further discussed in the “Compensation Discussion and Analysis” on pages 25-35 below, 80-to-90 percent of the total compensation paid to our named executive officers is variable and based on their achieving individual and company performance goals. In addition, long-term incentive compensation grants to our named executive officers for the two most recent fiscal years consisted almost entirely of performance-vesting awards. This included a restricted stock grant to the CEO that vests only to the extent that our total stockholder return over a three-year period achieves specified thresholds relative to a peer group, and it may not vest at all if a specified minimum threshold is not achieved. At the same time, we have retained a solid management team that successfully achieved operational, cash flow and other financial objectives in the 2007 fiscal year during an unexpectedly severe downturn in the housing industry.

 

We also believe that the “Compensation Discussion and Analysis” on pages 25-35 below, contains much of the performance-based information the proponent claims is lacking in our disclosures. This includes disclosure of (a) named executive officer total compensation targets, (b) performance target information, (c) the percentage breakdown of long-term incentive compensation components, and (d) the rationale behind the nature and mix of compensation paid to the named executive officers.

Vote Required

 

Approval of this stockholder proposal requires the affirmative vote of the majority of shares of common stock present or represented, and entitled to vote thereon, at the Annual Meeting. However, the proposal is a request to the Board to consider a matter. If the proposal passes, the Board may consider, in its business judgment, whether to take the requested action or not, but it is not legally obligated to do so.

 

Your Board recommends that you vote AGAINST this proposal.

 

 

 

 

The Trowel Trades S&P 500 Index Fund, 1776 Eye Street, N.W., 5th Floor, Washington, D.C. 20006, the beneficial owner of 2,377 shares of our common stock, has notified us that it intends to present a proposal at the Annual Meeting. The proposal is set forth below, along with the recommendation of the Board that you vote AGAINST the proposal. We accept no responsibility for the accuracy of the proposal or the proponent’s supporting statement.

 

Stockholder Proposal

 

RESOLVED:  that the shareholders of KB Home (“the Company”) urge the Board of Directors to seek shareholder approval of future severance agreements with senior executives that provide benefits in an amount exceeding 2.99 times the sum of the executives’ base salary plus bonus. “Future severance agreements” include Employment Agreements containing severance provisions, special retirement provisions and agreements renewing, modifying or extending existing such agreements. “Benefits” include lump-sum cash payments (including payments in lieu of medical and other benefits); the payment of any “gross-up” tax liability; the estimated present value of special retirement provisions; any stock or option awards that are awarded under any severance agreement; any prior stock or option awards as to which the executive’s access is accelerated under the severance agreement; fringe benefits; and consulting fees (including reimbursable expenses) to be paid to the executive.

 

Proponent’s Supporting Statement

 

In our opinion, severance agreements as described in this resolution, commonly known as “golden parachutes”, are excessive in light of the high levels of compensation enjoyed by senior executives at the Company and U.S. corporations in general.

 

The company’s 10-Q statement filed on April 9, 2007, showed the level of shareholder support for this proposal — 54,800,388 shares (85%) voted in favor of it, 9,235,575 shares (14%) opposed it and 352,797 shares abstained.

 

The Company’s 10-Q statement filed on October 10, 2007, stated that in response to this vote, the Company’s Compensation Committee “has adopted an overall executive severance policy for non-change of control situations that it believes is consistent with the spirit of the proposal while still allowing us to remain competitive in the market for executive talent.” (Emphasis supplied.) The statement also reveals that: “Furthermore, the vesting of all equity awards and other long term incentive awards will continue to be governed by the terms of those awards.” (Emphasis supplied.) The statement does not address whether gross up payments for tax liabilities will be paid, although it expresses “concern” over how our proposal defines benefits.

 

We respectfully disagree that these measures are consistent with the spirit of our proposal. The exclusion of severance payments in change of control situations is the most obvious departure. The 2007 proxy statement reveals that if our Chief Executive Officer is terminated following a change in control “he will be entitled to receive 300% of his salary plus 300% of his average annual bonus for the prior three years, but in no event more than $12 million.”

For these reasons, we urge shareholders to vote in favor of this proposal and send the Board of Directors a message that we want meaningful reform of future severance agreements.

 

Recommendation of the Board AGAINST the Proposal

 

Recently, your Board adopted a new severance policy that we believe is substantially consistent with the advisory proposal. This action was taken in response to stockholders’ approval of this advisory proposal at our 2007 Annual Meeting of Stockholders after careful consideration and a review of executive severance policies at peer homebuilding companies and other similarly sized public companies.

 

Severance payments under the new policy would be well below the 2.99 times limit in the advisory proposal: two times base salary and average bonus for top executives, and one times base salary and average bonus for certain other senior executives. Importantly, the “average bonus” amount is limited to the lower of (a) average bonus for the past three fiscal years or (b) three times or two times base salary, depending on seniority. The CEO’s Employment Agreement further limits his severance payment by capping the overall amount at $6 million. If eligible for his severance payment under his Employment Agreement, the CEO is also entitled to receive a cash payment equal to a pro rata portion of his average bonus for the past three fiscal years, with the pro rata amount based on the number of calendar days he served as an employee in the fiscal year in which an eligible termination occurs divided by 365. However, he is not entitled to this cash payment if our pre-tax income for the four fiscal quarters immediately prior to the date his employment terminates, in the aggregate, is negative.

 

This limited severance will not be paid to executives, including the CEO, whose employment we terminate for cause or who leave voluntarily.

 

This new policy applies to all executive employment terminations other than those following a change-in-control, which remain governed by our existing change-in-control severance plan.

 

Severance under the change-in-control plan is limited to two times base salary and average bonus for senior executives and one times base salary and average bonus for other executives, multiples well below the 2.99 times limit in the advisory proposal. “Average bonus” under the change-in-control plan is the average bonus earned for the past three fiscal years.

 

The change-in-control severance plan has a “double-trigger,” ensuring that severance is not paid unless both of the following occur: (a) there is a change-in-control and (b) within 18 months following that change-in-control, an executive’s employment is terminated other than for cause or disability or the executive voluntarily leaves for good reason.

 

The CEO’s Employment Agreement has a more restrictive double trigger for change-in-control severance. Severance is paid only if, as part of a change-in-control, the CEO’s employment is terminated at the request of the other party or as part of the merger or similar agreement effecting the change in control. If this more restrictive double trigger occurs, the CEO would be eligible to receive a severance payment under this agreement equal to three times his base salary and average annual bonus, with the overall payment capped at $12 million.

 

These severance arrangements would not affect any rights that our executives may have under other benefit plans, including retirement, long-term incentive and stock plans. This is perhaps the main difference between our current severance arrangements and the type of policy outlined in the advisory proposal. If an executive’s employment is terminated without cause, and if the executive’s severance payment plus the value of the executive’s other rights under our benefit plans exceeds the advisory proposal’s 2.99 times cap, the advisory proposal’s policy would require us to obtain stockholder approval in order to pay the executive amounts the executive had earned or was otherwise entitled to under these plans, including stock plans already approved by stockholders. This potentially punitive policy would devalue these benefits for all of our executives because the benefits they earned through their service to us could be forfeited anytime without any fault on their part. This severe result is much more restrictive than the typical severance arrangements offered by other companies that compete with us for executive talent and would therefore hamper our efforts to recruit and retain top-quality employees. Perversely, the advisory proposal would

probably require us to increase executive compensation in order to offset the higher forfeiture risk of the advisory proposal’s policy.

 

Our severance arrangements are discussed in more detail in this Proxy Statement under the heading “Employment Agreements and Potential Payments upon Termination of Employment or Change in Control” on pages 44-47 below and these arrangements are filed with our periodic reports to the SEC.

 

We have listened to our stockholders, carefully considered these issues and believe the combination of the new severance policy and the existing change-in-control severance policy represents a thoughtful and responsible approach to severance arrangements.

 

Vote Required

 

Approval of this stockholder proposal requires the affirmative vote of the majority of shares of common stock present or represented, and entitled to vote thereon, at the Annual Meeting. However, the proposal is a request to the Board to consider a matter. If the proposal passes, the Board may consider, in its business judgment, whether to take the requested action or not, but it is not legally obligated to do so.

 

Your Board recommends that you vote AGAINST this proposal.

 

 

 

The following table lists, as of February 25, 2008, the beneficial ownership of our common stock by each director and each of the executive officers named in the “Summary Compensation Table” on page 35 below, and by all current directors and executive officers as a group. Except as stated in footnote (c) to the table, beneficial ownership is direct and each director and executive officer has sole voting and investment power over his or her shares.

 

The non-employee directors’ equity-based holdings under the Director Plan are set forth on page 12 above and are not reflected in the table below.

 

 

 

 

The information below shows each person or entity known to us as of February 25, 2008 to be the beneficial owner of more than five percent of our common stock:

 

 

 

 

 

 

We have established stock ownership requirements for our non-employee directors and senior management to better align their interests with those of our stockholders. Our Corporate Governance Principles require each of our non-employee directors to own at least 5,000 shares of our common stock or common stock equivalents within three years of joining the Board. Our Executive Stock Ownership Policy applies to members of our senior management team and requires executives at various levels to own a number of shares whose value is equivalent to a range of one-to-five times base salary. Executives are expected to demonstrate meaningful progress toward satisfying their applicable requirement and to comply fully within five years of becoming subject to the policy, or be subject to consequences for non-compliance. The policy, as it pertains to our named executive officers, is discussed in additional detail under the heading “Equity Stock Ownership Policy” on page 34 below.

 

 

The Management Development and Compensation Committee of the Board of Directors has reviewed and discussed the following “Compensation Discussion and Analysis” with KB Home management. Based on this review and discussion, the Management Development and Compensation Committee recommended to the Board of Directors that the “Compensation Discussion and Analysis” be included in this Proxy Statement.

 

Management Development and Compensation Committee

 

J. Terrence Lanni, Chairman

Timothy W. Finchem

Michael G. McCaffery

Luis G. Nogales

 

We believe our KBnxt operational business model provides us with a distinct competitive advantage over other homebuilders. This disciplined, fact-based and process-driven approach to homebuilding, founded on a constant and systematic assessment of consumer preferences and market opportunities, is designed to generate operational efficiencies and return on investment for our business.

 

We also believe that our success depends on our having a talented and dedicated workforce. Therefore, our compensation and benefit programs aim to attract, motivate and retain the best people and to maximize, through an appropriate investment of resources, their contributions in creating enterprise and stockholder value. To accomplish these goals, we design our compensation and benefit arrangements to appropriately reward the contributions our people make, taking into account the following: their specific roles, responsibilities, experience and skill sets; individual performance; the market rate for comparable jobs; the existing business environment; and our overall financial and operational results. We believe our linking the compensation and benefits we provide to contributions that enhance enterprise and stockholder value establishes a clear alignment between the interests of our employees and our stockholders. We also promote an alignment of employee and stockholder interests by paying a greater proportion of variable (i.e., performance-based) cash and equity-based compensation to our employees as their specific duties and responsibilities increase.

 

The above goals and considerations provide the basis for our executive compensation philosophy and the specific compensation and benefit arrangements we have with our named executive officers (“NEOs”). Short- and long-term NEO compensation is based primarily on each NEO’s individual performance in achieving meaningful financial and/or operational objectives and metrics that create and sustain enterprise and stockholder value. NEO compensation and benefits are also based on our overall financial results and on our judgment of what we believe is necessary to attract, motivate and retain high caliber individuals in a highly competitive market for senior executive talent. In keeping with our focus of aligning our compensation arrangements with stockholder interests, a significant proportion of NEO compensation is variable and equity-based in nature.

 

Executive Compensation Oversight.  The Compensation Committee, with support from our management and outside advisors, oversees our executive compensation and benefit programs, including the specific compensation and benefit arrangements we have with our NEOs. The Compensation Committee evaluates and, as necessary, adjusts these compensation and benefit arrangements to ensure consistency with our compensation and benefit programs’ goals.

Compensation Committee Role.  In addition to providing general oversight, the Compensation Committee annually reviews and approves goals and objectives for our CEO, evaluates our CEO’s performance in light of those goals and objectives, and determines and approves our CEO’s compensation based on that performance evaluation, as discussed under the heading “Overview of Executive Officer and Non-Employee Director Compensation Processes and Procedures” on page 7 above. The Compensation Committee also reviews and approves the compensation of the other NEOs.

 

Compensation Committee Consultant Role.  Semler Brossy Consulting Group LLC serves as the Compensation Committee’s independent compensation consultant, providing advice and perspective to the Compensation Committee on executive and non-employee director compensation and benefits. Under the Compensation Committee’s charter, and to maintain its independence and avoid any conflict of interests, Semler Brossy may not work for our management unless the Compensation Committee pre-approves any such work, including fees.

 

CEO and Management’s Role.  The Compensation Committee frequently asks for input and support from our management, including our CEO, our Senior Vice President, Human Resources and our Executive Vice President, General Counsel and Secretary and their respective staffs, particularly regarding compensation and benefit plan design and implementation, feedback from employees, and compliance and disclosure requirements. At the request of the Compensation Committee, the CEO reviews and discusses the compensation of the other NEOs and makes recommendations to the Compensation Committee as to annual base salary and short- and long-term incentive compensation awards. Our management is responsible for implementing our compensation and benefit programs under the Compensation Committee’s oversight. Our management has recently retained a compensation consultant, Towers Perrin, for the purpose of providing compensation and benefits related information, analysis and support.

 

The following discussion provides additional information and analysis regarding our executive compensation and benefits program and the specific compensation and benefit arrangements we have with our NEOs.

 

 

 

 

Mix of Compensation Elements.  For our NEOs, we maintain a mix of market-competitive fixed compensation and benefits coupled with variable incentive pay that depends on individual and company performance. As a result, the compensation paid to each NEO can vary from the compensation paid to other NEOs in a given year and from the compensation paid to the same NEO in other years depending on individual performance evaluations and our results of operations. Individual performance evaluations are conducted as part of an annual merit and salary review process that the Compensation Committee oversees.

 

The Compensation Committee uses it own judgment when establishing the mix of compensation elements it approves for our NEOs in any given year, taking into account individual and company performance and market survey data, rather than following a set formula or a specific percentage allocation to each element. Consistent with our focus on aligning our compensation arrangements with stockholder interests, the Compensation Committee has generally weighted NEO and other senior executive compensation significantly toward variable, performance-based short-term and long-term vehicles.

 

Reflecting the Compensation Committee’s approach, over the past several years, approximately 90% of the CEO’s and 80% of other senior executives’ compensation has been variable and based on individual and company performance. In our 2007 fiscal year, approximately 95% of the CEO’s and 85% of other senior executives’ compensation was variable and based on performance because we granted a greater-than-usual number of long-term incentive grants, as further discussed under the heading “CEO and Other NEO Compensation Decisions” on pages 29-33 below.

 

Short-term variable compensation consists of cash incentives and is used to reward performance in attaining current-year objectives. Long-term variable compensation consists of equity-based awards and is used to reward performance in achieving multi-year strategic objectives and to motivate and retain executives. To reflect the CEO’s key role in setting and executing long-term business strategies, the Compensation Committee has generally awarded the CEO a higher proportion of long-term incentives when compared to the other NEOs.

 

Our management has prepared tally sheets for the Compensation Committee that set forth the mix of existing NEO compensation components. The Compensation Committee used the tally sheets in making decisions with respect to the compensation components.

 

 

In 2007, we faced challenging market conditions of unusual severity. Several factors weighed on the entire housing industry, including a persistent oversupply of new and resale homes available for sale that reached historically high levels, increased foreclosure activity, heightened competition for home sales, reduced home affordability, turmoil in

the mortgage and credit markets, and decreased consumer confidence in purchasing homes. These are discussed in greater detail in our Annual Report on Form 10-K for the fiscal year ended November 30, 2007.

 

The Compensation Committee established annual incentive compensation objectives for our NEOs and other senior executives shortly after the beginning of our 2007 fiscal year that were generally designed to further the following business and financial objectives in alignment with the strategic priorities we had set for the year: (a) enhance our balance sheet; (b) improve our gross and pre-tax margins; (c) adjust our strategies to align with the market environment; (d) optimize our land pipeline and reduce our inventory; and (e) execute our KBnxt operational business model.

 

Given the difficult business environment, our strategic priorities for 2007 were to solidify our financial position and to reposition our business consistent with the disciplines of our KBnxt operational business model. Based on these priorities, we focused on generating cash flow during the year by converting our backlog of sold homes into revenue and strategically converting operating assets into cash, which enabled us to reduce our debt levels. We also reviewed our market positions, community counts and overhead requirements during the year and curtailed our investments where it made financial or strategic sense to do so, including consolidating or exiting underperforming markets. In positioning our business for the future, we intensified our focus on our core customer base by introducing newly designed, smaller, more affordable homes in our active communities at price points calibrated to median income levels to attract these homebuyers, while continuing to invest in our KB Home Studios to provide our homebuyers with a customized approach that we believe uniquely differentiates us from other homebuilders. We also took steps to reengineer our home designs and restructure our supplier and subcontractor relationships to lower production costs and cycle times.

 

These strategic initiatives and the sale of our French operations near the recent market peak in that country yielded tangible results in our 2007 fiscal year, including:

 

 

The specific accomplishments of our NEOs with respect to these objectives are discussed further on pages 29-30 below.

 

 

The Compensation Committee considers survey and peer group data as one factor in setting NEO compensation. This information gives the Compensation Committee a general sense of whether our NEO compensation is reasonable and competitive relative to the compensation paid to executives with similar responsibilities at companies that we consider to be similar to us based on revenues or nature of operations. Although comparisons to compensation levels at other companies are helpful in assessing the overall competitiveness of our compensation program to attract and retain executive talent, the Compensation Committee does not target compensation at any specified level within a general industry or peer group. Other factors the Compensation Committee considers in making NEO compensation decisions include responsibilities unique to our business operations, individual performance and the requirements of our KBnxt operational business model.

 

In 2007, the Compensation Committee considered aggregated survey data for general industry executive compensation published by Towers Perrin, Mercer LLC and Watson Wyatt Data Services for companies with annual revenues ranging from $2 billion to $10 billion. The Compensation Committee considered this survey data because it believes we compete against companies both within and outside our own industry to fill many of our top management positions.

The Compensation Committee also considered data from the public companies listed below, which we consider to be our peer group. Our peer group consists of companies that are engaged, as we are, in high production home building. Our annual revenues approximate the group median.

 

 

The terms of our CEO’s compensation are governed by his Employment Agreement dated February 28, 2007 (“Employment Agreement”). The Compensation Committee and the Board approved the Employment Agreement following Mr. Mezger’s promotion from Executive Vice President and Chief Operating Officer in November 2006. The Employment Agreement was designed to motivate and retain our CEO, who provided critically-needed leadership, strategic direction, and stability by agreeing to assume the role following the abrupt departure of key senior executives and during a period of turbulent business conditions. The Board believes the Employment Agreement provides compensation that is in line with CEO compensation practices in the homebuilding industry.

 

In determining the level of base salary and the short- and long-term incentives provided to our NEOs in 2007, the Compensation Committee balanced our financial and operational results given the existing business environment with individual performance and the need to motivate and retain our executive talent pool.

 

Base Salaries.  Base salary is a fixed element of compensation for our CEO and our other NEOs. The Compensation Committee annually reviews and may approve base salary adjustments based on projected market trends and our performance. Base salaries were also adjusted in 2007 for promotions when they occurred.

 

Our CEO’s Employment Agreement sets his annual base salary at no less than $1,000,000. The Board believes this is appropriate given Mr. Mezger’s lifelong experience in the homebuilding industry and fourteen years with us, including his seven-year tenure as our Chief Operating Officer preceding his promotion to CEO. It also is consistent with the median of CEO base salaries paid by our peer group.

 

Base salaries for the other NEOs reflect a number of factors, including each NEO’s experience and specific role in our business, individual performance evaluations and expectations, our current and expected financial results, equity of salary relative to similar executives who are not NEOs, an assessment of market rates with respect to each NEO’s responsibilities to ensure competitiveness, and our general budgetary guidelines for base salary increases as set by the Compensation Committee. For 2007, the Compensation Committee set annual base salary merit increases for our NEOs other than the CEO of between three and four percent. The Compensation Committee believes these increases represent an appropriate balance between our recent operational results, expected future business conditions and the need to maintain competitive levels of pay to promote retention. Additional one-time base salary increases were provided to Messrs. Cecere and Hollinger in January 2007 in consideration of their respective promotions.

 

Annual Incentives and Discretionary Bonuses.  In 2007, Mr. Mezger was eligible for a performance-based annual incentive award based on a specified percentage of our pre-tax, pre-incentive profit, subject to the discretion of the Compensation Committee to reduce the award to an amount ranging from $0 to $17.5 million based on its subjective assessment of Mr. Mezger’s performance. Since pre-tax, pre-incentive profit was not achieved, Mr. Mezger did not qualify for this performance-based award.

 

In 2007, Mr. Mezger substantially exceeded objectives that the Compensation Committee established for his first year as our CEO: strengthen our balance sheet, improve our customer satisfaction scores, streamline our overhead structure and rebuild our senior executive team. In these areas, under Mr. Mezger’s leadership we: (a) generated $1.2 billion of cash from our operations, reduced year-over-year debt levels by $759 million (26%) and improved our year-over-year ratio of debt to total capital, net of cash, to 31% from 43%; (b) significantly improved our customer satisfaction levels, as measured by J.D. Power and Associates, an independent global

marketing information services firm; (c) achieved year-over-year reductions in overhead expenses (26%) and headcount (39%) and restructured our operations to align with homebuilding market conditions; and (d) streamlined and rebuilt our executive leadership team by realigning our senior operations management under the leadership of three regional executives and hiring the Senior Vice President, Human Resources and the Executive Vice President, General Counsel and Secretary.

 

Based on these accomplishments and his key role and significant work in developing, leading and consummating the sale of our French operations at a price near the market peak in that country, which generated total gross cash proceeds of $807 million, the Compensation Committee approved a discretionary annual bonus for Mr. Mezger of $6 million.

 

In 2007, each of our other NEOs was eligible for an annual incentive based on his individual performance in achieving specified objectives set by the Compensation Committee, up to the following maximum amounts: Mr. Cecere $1,800,000, Mr. Hollinger $875,000, Mr. Barnard $1,250,000 and Mr. Masuda $743,750. However, the Compensation Committee decided, in its discretion, to significantly reduce the actual annual incentive payments to each of these NEOs in light of our 2007 financial results, as discussed below.

 

Messrs. Cecere, Hollinger and Masuda achieved their specified performance objectives of: (a) increasing cash flow by at least $750 million from the sale of our French operations; (b) lowering incurred interest expense, net of interest income, by $35 million while maintaining a debt-to-capital ratio, net of cash, of 45-50% at fiscal year end; (c) generating more than $400 million in free cash flow; and (d) reducing selling, general and administrative expenses to ensure that they did not exceed 13.7% as a percent of housing revenues. Based on their individual performance in achieving these accomplishments, the Compensation Committee approved the following annual incentive payments to these NEOs: Mr. Cecere $400,000, Mr. Hollinger $450,000, and Mr. Masuda $350,000.

 

Mr. Barnard achieved his specified performance objectives of: (a) ensuring 75% of our operating divisions met or exceeded their direct cost reduction goals, resulting in a reduction of more than $50 million of direct costs; (b) developing, expanding and implementing a direct-buy model for building materials, capturing cost reductions; (c) establishing formal, documented and approved market strategies for each operating division; (d) improving the execution of our KBnxt operational business model metrics by 25% from their December 1, 2006 levels; (e) reducing architecture expense by $1 million; and (f) ensuring that 100% of any floor plans and specification levels were consistent with KBnxt operational business model objectives. Based on his individual performance in achieving these accomplishments, the Compensation Committee approved an annual incentive payment to Mr. Barnard of $600,000.

 

In April 2007, the Compensation Committee awarded one-time bonuses of $350,000 to Mr. Hollinger and $100,000 to Mr. Masuda to recognize the additional responsibilities and duties that each assumed in connection with the Review and our leadership transition at the end of 2006.

 

Because Mr. Freed’s employment with us ended in July 2007, he did not receive any annual incentive-based compensation for 2007. Upon his termination of employment, Mr. Freed became entitled to an aggregate payment of $2,702,484 representing incentive compensation he earned in prior years. To comply with Internal Revenue Code Section 409A, this payment was made on February 1, 2008.

 

For our 2008 fiscal year, the Compensation Committee has determined that the payment of annual incentive compensation to our NEOs — excluding Mr. Cecere, who has announced his retirement — will be subject to the achievement of an objective performance goal based on the level of our pre-tax income or loss for the year. For each NEO, the Compensation Committee can, in its discretion, reduce or eliminate the actual annual incentive compensation that the NEO may earn based on its subjective assessment of the NEO’s performance against stated objectives for the year. The Compensation Committee believes this approach appropriately balances current market conditions with the need to retain and motivate our NEOs to achieve sound financial and operational results, while preserving the potential tax deductibility of NEO compensation for our 2008 fiscal year.

 

Long-Term Incentives.  We provide long-term incentive awards to our NEOs to attract and retain high-quality executives and to motivate them to achieve financial and operational performance goals measured over a multi-year

period. These awards consist primarily of grants of equity-based vehicles that are settled in cash or stock and are designed to align NEO and stockholder interests. In 2007, the Compensation Committee, with input from Semler Brossy and our management, established ranges of long-term incentive award values by management level. In establishing these ranges, the Compensation Committee considered the value of other compensation elements, market practices, outstanding grants and potential future realizable values of all long-term incentives. The Compensation Committee determined individual NEO award values within these ranges by considering the NEOs’ current and expected future performance, internal equity by management level and the overall cost of the grants. Individual award values determined the size of the actual grants made to our NEOs based on the closing price of our common stock on the date the awards were granted. These long-term incentive grants are described under the headings “Grant Delayed from 2006” and “October 2007 Grant” below. Our CEO also received long-term incentive awards in 2007 that were established under the terms of his Employment Agreement, as described under the headings “CEO Promotion Grant” and “CEO Employment Agreement Grants” below.

 

Use of SARS and Phantom Shares.  Except for specific grants to our CEO described below, all long-term incentive grants made in 2007 consisted of SARs and phantom shares that are settled in cash only. The Compensation Committee employed these cash-settled vehicles because we have a limited number of shares currently available for grant under our existing stockholder-approved equity compensation plans. The SARs and phantom shares are designed to mirror the attributes of stock options and restricted stock respectively, except that both instruments are settled in cash. Each SAR, if it vests, will provide a cash payment equal to the positive difference, if any, between its grant price and the closing price of our common stock on the exercise date, and will expire on the tenth anniversary of its grant date. Each phantom share, if it vests, will provide a cash payment equal to the closing price of our common stock on the applicable vesting date, plus the cumulative value of all cash dividends or other distributions paid in respect of a share of our common stock from and including its grant date through and including the vesting date.

 

CEO Promotion Grant.  In conjunction with the approval of his Employment Agreement, the Compensation Committee approved a promotional stock option award to our CEO. Due to a blackout necessitated by the Review, however, this award was actually granted in July 2007. The promotional stock option award was in the amount of 325,050 shares.

 

CEO Employment Agreement Grants.  At the same time as it granted the promotional stock option award, the Compensation Committee granted to our CEO a long-term incentive stock option award pursuant to the terms of his Employment Agreement. This award was in the amount of 325,050 shares. The Compensation Committee also granted to our CEO under his Employment Agreement a long-term incentive award of 54,000 performance shares. The performance shares vest based on our total stockholder return (“TSR”) over a three-year period ending November 30, 2009, relative to our peer group (as described on page 29 above) as follows:

 

 

The amount of any cash dividends paid on our common stock during the three-year performance period is equally and contemporaneously paid to our CEO on the 54,000 performance shares. Stock dividends or other non-cash dividends issued on or in respect of our common stock will be equally and contemporaneously issued on or in respect of the performance shares, but will be held in escrow and subject to the restrictions and forfeiture conditions imposed on the performance shares.

 

Grant Delayed from 2006.   Historically, our annual long-term incentive awards have been made in October for the subsequent fiscal year. Due to a blackout necessitated by the Review, the awards that would have been made in October 2006 were delayed until July 2007. At that time, the Compensation Committee granted to our NEOs other than the CEO a combination of SARs and phantom shares, the amounts of which are included in the “Grants

of Plan-Based Awards During Fiscal Year 2007” table on page 37 below. The Compensation Committee set as a performance vesting condition for these SARs and phantom share awards its determination that we achieved positive cash flow from our operations in the second half of our 2007 fiscal year, excluding the effects of the sale of our French operations. In addition, to protect our cash flow, the maximum payout for each SAR is capped at four times the exercise price. If the performance condition is met, the phantom shares will vest in full three years after the grant date and the SARs will vest in equal annual installments over a three-year period.

 

“Over-Cap” Awards Delayed from 2006.   The 2006 fiscal year annual incentive compensation agreements for each of Messrs. Mezger, Cecere and Hollinger limited the amount of their annual incentive award payout for the year that could be paid in cash. The remaining “over-cap” amounts would have been deferred into three-year restricted stock granted in January 2007 when the cash portion was paid. Due to a blackout necessitated by the Review, the “over-cap” grant of restricted stock was delayed until July 2007. The Compensation Committee granted phantom shares in lieu of restricted stock in the following amounts: Mr. Mezger 55,264, Mr. Cecere 15,751, and Mr. Hollinger 1,037. These phantom shares vest in full three years from date of grant.

 

October 2007 Grant.   Our CEO’s Employment Agreement specifies that he is eligible to participate in our equity compensation plans on terms and conditions that are generally applicable to our other senior officers and is eligible to receive equity grants from time to time, in each case at the Compensation Committee’s discretion. Returning to our traditional practice of granting long-term incentive awards in October for the subsequent fiscal year, in October 2007, the Compensation Committee granted to our CEO 137,500 stock options and 412,500 SARs for his 2008 fiscal year long-term incentive award. The Compensation Committee also awarded 2008 fiscal year long-term incentive grants to our other NEOs, consisting of a combination of SARs and phantom shares, the amounts of which are included in the “Grants of Plan-Based Awards During Fiscal Year 2007” table on page 37 below. The Compensation Committee set as a performance vesting condition for these SARs and phantom share awards its determination that we generated cash flow such that the ratio of net debt (total debt less cash) to total capitalization (the sum of net debt and total stockholders’ equity) does not exceed 50% as of August 31, 2008. If the performance condition is met, the phantom shares and SARs will vest in the same manner as the phantom shares and SARs that were granted in July 2007, as described under the heading “Grant Delayed from 2006” on page 31 above.

 

Unit Performance Program.   For several years, our long-term incentives have included performance unit grants under our Unit Performance Program (“UPP”). Each performance unit provides a payout to a recipient only if specific goals set by the Compensation Committee are achieved at the end of a three-year period with respect to the following two performance metrics: (a) our cumulative diluted earnings per share and (b) the average pre-tax return on investment of the operations for which the recipient is responsible. If applicable performance goals are achieved, the value of a performance unit at the end of the three-year performance period depends on the degree to which the performance goals are exceeded and the Compensation Committee’s weighting of the two performance metrics at the time the performance unit is awarded. Recipients must remain employed with us for the entire three-year period to which a performance unit relates to receive a payout.

 

In October 2004, the Compensation Committee granted performance units to each of our NEOs (other than Mr. Barnard) and to other members of our senior management for the fiscal 2005-2007 performance period, which ended on November 30, 2007. The cumulative diluted earnings per share metric determined 75% of the value of these performance units and the average pre-tax return on investment metric determined the remaining 25%. Based on the results for the performance period, our NEOs received the following payouts: Mr. Mezger $97,500, Mr. Cecere $38,500, Mr. Hollinger $33,000, and Mr. Masuda $5,500. Mr. Freed did not receive any payout with respect to these performance units due to the termination of his employment with us in July 2007.

 

The Compensation Committee did not make any new grants of performance units under the UPP in 2006 or 2007. There is one remaining grant of UPP performance units currently in effect, with a performance period ending on November 30, 2008. All current NEOs received performance units under that UPP grant.

 

Benefits.  Most of our benefits are provided to all employees, including our NEOs. During 2007, our NEOs also (a) received a supplemental medical, dental and vision benefit that reimbursed any out-of-pocket health care

expenses that qualify for a tax deduction under Internal Revenue Service guidelines; (b) participated in the KB Home Retirement Plan (except for Mr. Masuda), which is described under the heading “Retirement Programs” below; (c) were provided with a life insurance death benefit payable to their designated beneficiaries (beginning in 2004, only term life insurance, with a $750,000 benefit level, has been made available to incoming eligible executives); and (d) were entitled to participate in an unfunded nonqualified Deferred Compensation Plan, which allows pre-tax contributions of base salary and annual incentive compensation. We provide a dollar-for-dollar match of Deferred Compensation Plan and 401(k) Savings Plan contributions of up to an aggregate amount of six percent of a participant’s base salary. These benefits are offered to attract key executive talent, promote retention and to compensate for contribution limits applicable to our 401(k) Savings Plan. Our 401(k) Savings Plan is available to all full-time employees with a similar dollar-for-dollar match benefit. Messrs. Mezger and Cecere are participants in a program under which they are credited with a specific number of vacation hours that remains fixed throughout their employment with us, regardless of actual vacation time taken. When their employment with us ends, they are entitled to receive a payout of these vacation hours that is based on their then-current annual base salaries. This program is closed to new participants.

 

Perquisites.  Perquisites provided to our NEOs previously included automobile allowances, company-paid automobile fuel cards, and reimbursement of expenses for automobile insurance, annual financial planning and tax preparation services, and one-time estate planning services. These perquisites were discontinued in 2007. Infrequently, family members accompanied NEOs on business trips on an aircraft we owned, subject to seat availability. We did not incur any additional incremental cost in providing this benefit. On a single occasion in 2007, we incurred incremental cost from a personal use of our aircraft. We sold our aircraft in December 2007. From time to time, we also make available to our employees, including our NEOs, for their personal use tickets to certain sporting events that are purchased as a season subscription for business purposes. We do not incur any additional incremental costs with such use. In our 2007 fiscal year, we paid legal expenses our CEO incurred in negotiating his Employment Agreement.

 

 

Employment Agreements and Severance Arrangements.  Mr. Mezger is the only NEO with whom we have an employment agreement. His Employment Agreement provides him with certain severance benefits, discussed under the heading “Employment Agreements and Potential Payments upon Termination of Employment or Change in Control” on pages 44-47 below.

 

Following a review of executive severance policies at peer homebuilding companies and other similarly sized public companies, the Compensation Committee adopted an Executive Severance Plan in 2007 for non-change in control situations. All of our NEOs are currently participants under the plan. The plan provides a specified severance benefit that varies by seniority, as discussed further under the heading “Employment Agreements and Potential Payments upon Termination of Employment or Change in Control” on pages 44-47 below.

 

We also maintain a Change in Control Severance Plan (“CIC Plan”) that provides certain severance benefits on a change in control of us, as discussed further under the heading “Employment Agreements and Potential Payments upon Termination of Employment or Change in Control” on pages 44-47 below. The objectives of the CIC Plan are to: (a) enable and encourage our management to focus its attention on obtaining the best possible deal for our stockholders in a change in control scenario and to make objective evaluations of all possible transactions, without being distracted by the possible impact such transactions may have on job security and benefits, (b) promote management continuity, and (c) provide income protection in the event of involuntary loss of employment.

 

Retirement Programs.  Our 401(k) Savings Plan, a defined contribution plan, is the only program we offer to all full-time employees that provides post-employment benefits. Our NEOs and certain other senior executives also participate in our Deferred Compensation Plan, as discussed above. Details of NEO deferrals under the Deferred Compensation Plan are provided in the “Non-Qualified Deferred Compensation During Fiscal Year 2007” table on page 44 below.

 

We maintain a Retirement Plan for selected executives that is now closed to new participants. Participation has been closed since 2004. The Retirement Plan provides each vested participant with a specific annual dollar amount

for 20 years commencing following the later of (a) the participant’s reaching age 55, (b) the tenth anniversary of the date the participant commenced his or her participation, or (c) the termination of the participant’s employment with us. Mr. Mezger’s original annual benefit amount under the Retirement Plan was $450,000. For the other NEO participants (Mr. Masuda does not participate), the original annual benefit amount under the Retirement Plan was $100,000. For each participant, the annual benefit amount is increased by annual cost-of-living adjustments, starting with the plan year ending November 30, 2006. Vesting generally requires five years of participation and, once vested, the participant is entitled to his or her full benefit. Details of NEO participation in the Retirement Plan are provided in the “Pension Benefits During Fiscal Year 2007” table on page 43 below.

 

Payments Due Upon Termination of Employment and/or a Change in Control.  In addition to the severance arrangements mentioned above, in the event of a change in control of us there is accelerated vesting of any unvested benefits under our Deferred Compensation Plan, our Retirement Plan and certain of our employee benefit plans, including our equity compensation plans. Further discussion of the payments to which our NEOs may be entitled on termination of their employment and/or a change in control of us is provided under the heading “Employment Agreements and Potential Payments upon Termination of Employment or Change in Control” on pages 44-47 below.

 

 

We generally structure our programs with the intent of complying with the requirements of Internal Revenue Code Section 162(m) in order to maintain federal tax deductibility for executive compensation. Section 162(m) generally disallows a tax deduction for compensation over $1 million paid to our highest paid executives unless it is qualifying performance-based compensation. The Compensation Committee considers these tax consequences when determining the mix of compensation paid to our NEOs and other senior executives, and seeks to balance tax deductibility benefits with the need to provide effective compensation packages. Although the Compensation Committee believes that the majority of the potential compensation payable to our NEOs and other senior executives should be based on the achievement of qualified performance-based targets, it will approve compensation that may not be deductible under Section 162(m) where it believes it is in our and our stockholders’ best interests to do so. In 2007, the Compensation Committee believed that it was in our best interests to pay our CEO an annual discretionary bonus, as discussed under the heading “Annual Incentives and Discretionary Bonuses” on pages 29-30 above, even though the payment was not deductible under Section 162(m).

 

 

Equity Stock Ownership Policy.  We have had an executive stock ownership policy since 1998. It is designed to encourage, and has encouraged, our executives to increase their ownership of our common stock over time and to align their interests with our stockholders’ interests. In February 2008, the Compensation Committee amended the policy, as described below. The policy continues to encourage meaningful long-term stock ownership as a key component of our executive compensation program.

 

The policy identifies specific levels of stock ownership that designated executives are expected to achieve, targeted from one-to-five times base salary. The targeted stock ownership levels for our NEOs range from two-to-five times base salary. Designated executives have five years to achieve these ownership levels and must make meaningful progress every year towards the achievement of these ownership levels. Benchmark survey data and multiples of average base salaries per level were used to determine the ownership expected for each position. Share ownership may include shares owned outright by a designated executive, shares owned indirectly through our 401(k) Savings Plan and 60% of unvested restricted stock grants or phantom share rights. Phantom share rights are included due to the limited number of shares currently available for grant under our existing stockholder-approved equity compensation plans. Once required ownership levels are achieved, they must be maintained throughout the executive’s employment. Our policy provides both financial incentives to achieve ownership requirements as well as material consequences for non-compliance or failure to make meaningful progress toward compliance. The Compensation Committee may, from time to time, reevaluate and revise the ownership requirements to account for material changes in stock price. Our NEOs are currently in compliance with the policy or have made meaningful progress towards compliance.

Equity-Based Award Grant Policy.  On February 1, 2007, the Compensation Committee adopted a policy that governs the timing of equity-based awards and establishes certain internal controls over the grant of equity-based awards. The policy is designed to enhance the process by which we grant equity-based awards, including stock options SARs, phantom shares and restricted stock.

 

The policy requires all grants of equity-based awards, and their terms, to be approved by the Compensation Committee (or the Board). The policy does not permit any delegation of the Compensation Committee’s (or the Board’s) granting authority to our management. The grant date of any equity-based award will be the date on which the Compensation Committee met to approve the grant unless a written resolution sets a later date. The exercise price of any stock option award will not be less than the closing price of our common stock on the New York Stock Exchange on the grant date. All equity-based award grants made in 2007 were made in compliance with the policy and were approved at regular Compensation Committee meetings in July and October 2007, as discussed under the heading “Long-Term Incentives” on pages 30-32 above.

 

Recovery of Compensation.  Under his Employment Agreement, our CEO is required to repay certain bonus and incentive- or equity-based compensation he receives if we are required to restate our financial statements as a result of his misconduct, consistent with Section 304 of the Sarbanes-Oxley Act of 2002.