Q2 2022 LGI Homes Inc Earnings Call
[music].
The conference will begin shortly to raise your hand during Q&A you can.
Good day, ladies and gentlemen, and thank you for standing by welcome to the L. G. I homes 2022 second quarter earnings Conference call. At this time, all participants are in a listen only mode. After the speaker's presentation, there will be a question and answer session.
To ask a question. During this session you will need to press star one one on your telephone at this time I would like to turn the conference over to Mr. Josh Fatter, Sir please begin.
Thank you and good afternoon before we begin I'll remind listeners that this call will contain forward looking statements that include managements views on LTI homes business strategy outlook plans objectives and guidance for 2022.
Such statements reflect management's current expectations and involve assumptions and estimates that are subject to risks and uncertainties that could cause managements expectations to prove to be correct.
You should review our filings with the SEC, including the risk factors and cautionary statements about forward looking statements sections for a discussion of the risks uncertainties and other factors that could cause actual results to differ from those presented today.
All forward looking statements must be considered in light of those related risks and you should not place undue reliance on such statements, which reflect management's viewpoint as of the date of this conference call and are not guarantees of future performance.
Additionally, on today's call, we will discuss non-GAAP financial measures that are not intended to be considered in isolation or as a substitute for financial information presented in accordance with GAAP.
Conciliations of non-GAAP financial measures to the most comparable measures prepared in accordance with GAAP can be found in the press release that we issued this morning and in our quarterly report on Form 10-Q for the quarter ended June 32022 that we expect to file with the SEC later today.
This filing will be accessible on the SEC's website and in the Investor Relations section of our website.
Our hosts today are Eric Lieber, Lj Home's, Chief Executive Officer, and Chairman of the Board and Charles <unk>, Chief Financial Officer, and Treasurer, I'll now turn the call over to Eric. Thanks, Josh Good afternoon, everyone and welcome to our earnings call I'll open with highlights from our second quarter and then Charles will provide details on our financial results.
<unk>.
Finally, I'll provide an update on our performance to date in the third quarter and our outlook for the rest of the year.
I am pleased to share the record results delivered by the <unk> team in the second quarter, continuing our track record of operational excellence and industry leading profitability.
We closed 2027 homes at an average selling price of over $356000, resulting in over $723 million in revenue.
Absorptions for the quarter came in at seven four closings per community per month above our historical second quarter average of seven one.
Houston was our top market with 13 six closings per community per month Charlotte was second look 12, followed by Dallas Fort worth with 11 eight.
Antonio with $10, seven and Tucson rounded out the top five with $10 three congrats.
Congratulations to these teams that out outstanding performance last quarter.
I'm also pleased to announce that in June we had our first closing in the state of Maryland and are now operating in 35 markets across 20 states.
Despite fewer closings compared to last year, our commitment to our systems combined with continued pricing power.
Loud us to deliver our most profitable second quarter ever and we set New company records in every profitability metric, we track, including gross margins EBITDA pre.
Pre tax income and net income.
While the housing market outlook is uncertain, we're confident in our positioning and path going forward.
We entered the remainder of the year with a solid balance sheet and attractive land pipeline, our proven expertise in land development and marketing and the most experienced well trained sales force in the industry.
Regardless of what the market does in the near term LNG is on solid footing and well positioned to succeed now.
Now I will turn the call over to Charles for more details on our financial results.
Thanks, Eric.
During the quarter, we closed 2027 homes.
Of our total closings 146 homes were sold through our wholesale business, representing seven 2% of our total closings.
<unk> to 430 homes or 15, 1% of our total closings in the same quarter last year the.
The year over year decline in wholesale closings was driven by our decision to write fewer wholesale contract in the second half of 2021 when cost inputs were at their most volatile our prioritization of retail sales and the timing of closings.
Revenue in the second quarter was $723 1 million a decline of only eight 6% from last year as the decrease in home closings was offset by a 28, 7% increase in average selling prices to a record 356000.
$719.
Selling prices increased in all of our reportable segments, primarily driven by continued strong demand that enabled us to pass through cost increases.
Gross margin this quarter was a new company record at 32%.
A 500 basis point improvement over the same period last year, and a 300 basis point improvement over our prior record.
The increase resulted from our success at passing through cost increases lower capitalized interest expense and lower lot costs as a percentage of average sales price.
Adjusted gross margin. This quarter was also a new company record at 33, 1%, a 460 basis point improvement over the same period last year, and a 280 basis point improvement over our prior record.
Adjusted gross margin excludes $5 7 million of capitalized interest charged to cost of sales during the quarter and approximately $2 million related to purchase accounting together, representing a 110 basis points.
Combined selling general and administrative expenses for the second quarter were 10% of revenue compared to eight 6% during the same period last year.
And 11, 5% in the first quarter of this year.
Yes.
Selling expenses for the quarter were $43 3 million or 6% of revenue compared to five 7% for the second quarter of 2021.
General and administrative expenses totaled $29 1 million or 4% of revenue compared to two 9% last year.
The 110 basis point increase was driven by lower overall revenue increased overhead and other personnel costs.
EBITDA for the quarter was $169 $1 million or a record setting 23, 4% of revenue of 320 basis point improvement over the same period last year, which was also our previous record.
Adjusted EBITDA was $167 1 million or 23, 1% of revenue of 310 basis point increase from the same period last year and also a new record.
Adjusted EBITDA excludes $4 million of other income and $2 million related to purchase accounting together, representing approximately 30 basis points.
Pre tax net income was $163 million a.
A record setting 22, 5% of revenue and a 370 basis point improvement over the same period last year, which was also our previous record.
Our effective tax rate in the second quarter was 24, 3% compared to 28% last year the.
The increase was primarily due to the exploration of benefits related to the 45 tax credits.
Our second quarter reported net income was $123 4 million or 17, 1% of revenue also a new company record.
Finally.
Earnings in the second quarter were $5 24 per basic share and $5 20 per diluted share both representing year over year increases of 10, 3%.
Second quarter gross orders were 1244 and net orders were 864.
The 57, 3% decrease in net orders was primarily due to last year's strong comp as well as our decision to defer sales to later in the construction process.
Our cancellation rate for the second quarter was 35% compared to 24, 4% last year, primarily due to the moderation in demand experienced in June as mortgage rates increased and some buyers chose to cancel their contracts.
We finished the second quarter with a backlog of 1266 homes, representing over $445 million in value.
As of June 30, our land portfolio consisted of 89984 owned and controlled lots and.
An 18, 5% increase year over year, and a three 5% decrease sequentially.
We added over 4800, new lots to our owned inventory and ended the quarter with 61893 owned lots an increase of 45, 7% year over year and four 8% sequentially.
Of our owned lots 49595 were either raw land or land under development.
And only a third of those lots were in active development.
The remaining $12 298 of our owned lots were finished lots.
Of which 7481 were vacant lots.
During the quarter, we started over 2400 homes and at June 30, we had 4817 completed homes information centers or homes in process.
Excluding information centers, we had just 603 completed homes.
And finally at the end of the quarter, we controlled 28091 lots a decrease of 15, 9% year over year and 17, 8% sequentially.
Sequentially.
Turning to the balance sheet, we ended the quarter with $42 million in cash over $2 $6 billion in real estate inventory and total assets of nearly $2 9 billion.
Total debt at quarter end was $1 2 billion.
Resulting in a debt to capitalization ratio of 43, 3% and a net debt to capitalization ratio of 42, 4%.
We expect our leverage ratio will remain in the range between 35% 45%.
As of June 30, we had total liquidity of $245 7 million.
Consisting of $42 million of cash on hand, and $203 $7 million available to borrow under our credit facility.
In the last year, our shareholders' equity has increased by $228 million to over $1 $5 billion and we delivered a return on equity of 29, 6%.
During the second quarter, we repurchased 417861 shares of our common stock for $37 $4 million and we ended the quarter with $23 3 million shares outstanding.
Since 2020, we have repurchased approximately 12% of our common stock and as of June 30, we had $211 $5 million remaining on our stock repurchase program.
At this point I'll turn the call back over to Eric.
Thanks, Charles as highlighted in our press release, we're adjusting our full year guidance to reflect our current outlook for the rest of 2022.
Any verification of fundings, we expect to report that we closed 470 homes in July .
We now expect to close between 70, 580 300 homes for the full year.
While lower than our original guidance. This new range assumes the closing pace of seven five to eight closings per community per month for the rest of the year, which is in line with our strong performance during the back half of 2019, when we had a similar number of communities.
We continue to experience headwinds on the development side and now expect 100 to 110 active communities at year end.
Additionally, we still expect community count growth of 20%, 30% next year.
Based on our results to date and current backlog, we expect an average selling price between 345 and $360000 for the full year <unk>.
Additionally, we now expect our SG&A expense will range between 10% and 11%.
We maintain our guidance for gross margins in a range between 27, and 29% and adjusted gross margins between 28, five and 35%.
After a two year bill market. Unlike any other in history. The new home market is at a crossroads from a short term perspective homes are more expensive consumer prices are up and moved to curb inflation nearly doubled mortgage rates hover.
However, the longer term outlook reveals a solid foundation for multi year growth.
Demographic trends remain supportive of demand strong labor markets are fueling wage growth tight rental supply is pushing up rents and the inventory of homes available for sale remains historically low.
At <unk>, we're taking a long term view and remain optimistic about our business for several reasons for the first half of the year. We are mainly focused on closing the homes in our backlog now we're back to focusing on sales and closings in our marketing faucet is turned on.
While others may be cutting expenses, we've been increasing our advertising spend with favorable results.
In July alone nearly 20000 people inquired about moving from renting to homeownership or 54% increase over last year. Additionally.
Additionally, our orders have been up for four consecutive months.
These results give us confidence that there is still a large pool of qualified buyers for our homes and we expect these numbers to grow as we connect with more of those target buyers.
We have removed the governor from our sales process for the last few months, we've only sold homes, they're within 60 days of closings.
That was the right decision at the time, given the supply chain disruptions. However.
However, with supply chains now normalizing we are adjusting accordingly this.
This weekend, we will start selling homes that are within 90 days of closing.
These homes will be at a phase of construction, where we can have confidence in our delivery times, a clear view of costs and certainty that we can provide a great experience for our homebuyers.
Prices are normalizing, while we're proud of the 33% adjusted gross margin. We just delivered is not a sustainable expectation and thats not our target moving forward as.
As we bring new communities online, we're offering them at prices that will deliver normalized margins in the 25% to 28% range. Additionally.
Additionally, we're seeing input cost decrease and almost all of our communities, which will enable us to offer homes at monthly payments that are more affordable for our buyers.
Finally, as we rightsize our inventory to meet current levels of demand, we expect to generate additional cash flow that will position us to capitalize on opportunities to accelerate our growth.
To conclude I want to congratulate our employees on a record setting quarter and thank them for their commitment to our continued success.
The days of retail investor demand shifts in housing preferences work from home migration and low interest rates filling sales offices are behind us.
While matters now is an unwavering focus on connecting directly with customers educating.
Educating buyers on the benefits of ownership builder.
Building homes that offer a compelling value compared to running.
And delivering the industry's best customer experience.
LTI homes was built to thrive in challenging markets and we believe our people systems culture, and 100% spec focused model will continue to differentiate our company as we navigate this dynamic period.
We will now open the call for questions.
Ladies and gentlemen, if you have a question or comment at this time. Please press star one one on your telephone keypad again to ask a question. Please press star one one please standby, while we compile the Q&A roster.
Our first question or comment comes from the line Trevor Allinson from Wolfe Research. Your line is open.
Hi, Good morning, Thank you for taking my question.
First question I just wanted to touch on what you had ended with there on your gross margin outlook for the back half of the year.
It sounds like the main driver there is going to be new communities coming online at lower margins are there any other factors that are major drivers of that maybe increased wholesale closings or still higher cost flowing through in the back half of the year, it's going to drive that sequential decrease from Q2 strong level.
Yes, it's a great question. This is Eric I can start I would point to three things talking about our margin guidance and also with the caveat that our gross margin guidance midpoint will be the best year in company history. So still a very strong margin for the year.
But the margin that we just came off our adjusted gross margin on how we price our house 33, 1% in Q2 and 31, 9% year to date is phenomenal.
It really shows how strong the market.
Dynamics were and phenomenal results and I think going forward. The three things I'd point to is one new communities coming online we're pricing at normalized margins, 25% to 28% and we've seen those communities get off to a fast start with more normalized.
Orders and sales pace, which is very positive.
I'd also point to the wholesale business wholesale is only 7% of our closings last quarter, we expect that to get normal probably 10% to 15% of our closings in the back half of the year and then also as we have closed out the pipeline our costs are going down so even in our existing community, we're going to be able to.
Just our pricing to normalized margins. In addition, with the cost coming down and offer a more affordable payment to our customers.
Okay. Great. Thanks, that's very helpful. And then second looking at your option lots. They took a step down sequentially I was hoping to get an update with what youre seeing in the land market in general and then with your option agreements given the slower the slower demand environment have you seen sellers become more willing to negotiate on.
Arms are pricing have you seen any actual price declines and then with your option lots moving lower sequentially have you actually walked away from for many of those option deals.
Yes, I think it's a great question I think what we're seeing the land market is probably consistent with whatever else has been saying I haven't seen a lot of price decreases on land, yet when I say, Lana I mean, raw land or paper lots per se.
But it's early.
I was in Colorado last week.
For our board meeting and spent some time in the field with our acquisitions team and for the first time in a couple of years. We had a couple of finished lot opportunities we were looking at.
There is a lot of developments going on across the United States and we're pretty excited about the potential opportunities that may come about with a more normal market for last couple of years. It's just been an unbelievable market, where all the builders are taking orders everybody to have a phenomenal success or buy them phenomenal margins.
But a lot of the land coming to market a lot of development. That's going on has been financed with more expensive debt more expensive land banking and in those communities come online, we'll see we're starting to see some of those opportunities.
It's early out so I think rather than focusing adderall land, we may see some opportunities for finished lots.
Okay, great. Thanks for taking my questions. Good luck in the next couple of quarters.
Thank you.
Thank you.
Our next question or comment comes from the line of Trevor Allinson from Wolfe Research Mr. Allison Your line is open.
Mr. Allison from Wolfe Research your line is open.
I think we got terrific.
Yes, I guess I'll hop in with one quick one and then we can move on I was just hoping you guys could discuss that.
By geography here your West region was.
Really strong and <unk> got some community count growth there. So I'll just ask one quick one there and I'll hop back out.
Yes, I think I can take this is Eric again, the demand question in general Charles can add to it if he wants to see fat I think demand is consistent.
Across the country and what I mean by that is really our focus on the first half of the year was really focused on our backlog and getting that close we made a decision in March to only sell houses within 60 days of closing.
Because the supply chain challenges challenge, we werent as having great experiences with our customers as we were missing closing dates which is not good for us not good for the customer. So we really focused zero Q2 on closing out our backlog and did not focus on sales because we did not have a lot of finished inventory to sell.
Well within a 60 day period that has started to change in fact, that's one of the things in the in the scripted remarks, we talked about our orders are up four consecutive months, because we are bringing more houses on better within that 60 day period and gave us more inventory to sell and four consecutive months and we are confident.
<unk> will be an increase over July and that will make five consecutive months of order increase also like we talked about in our remarks, we decided.
Decided to with construction and pipeline and supply chain easing starting this weekend, we're going to start selling houses within 90 days of closing and we also think thats going to add to our orders and produce a really good really good solid month of orders as well, so and that's pretty consistent.
<unk> <unk>, what we're seeing and our focus is now entirely shifted it started start selling more houses where and add more available inventory we're.
We're going to spend more money on marketing and we're going to be hiring a lot of salespeople and opening up these new communities at normalized margins. So we're real optimistic about the second half of the year.
Trevor This is Charles I'll, just add specifically to the West Youre correct. It was increasing community count specifically in our Phoenix and Northern California markets.
Alright, thanks, guys.
Thank you.
Our next question or comment comes from the line of Michael Rehaut from Jpmorgan, just a second.
Mr. Rehaut your line is open.
Thank you.
Good afternoon, Thanks for taking my question.
Good afternoon.
I just want to yes.
Circle back and make sure Im understanding the gross margin comments as well.
As it relates to the back half.
You are talking about <unk>.
Opening up new communities, and a 25% to 28% range and just wanted to be.
To be clear that is.
Pre or post interest.
Pretty that's adjusted gross margin.
Okay. So.
So with.
With the guidance that you have pre.
Pre interest currently.
Yes, it looks like.
You'd have to get to around <unk>.
Closer to like two.
28% or less.
That's coming off of the 33.
So it's still at the high end of that range. So number one I just wanted to make sure.
My math is roughly correct.
If it's going to be all of it stepped down in the third quarter or if it could go even below that.
That 48% average in the fourth quarter and how quickly might you see the 25% to 28% range.
Through.
Because obviously there is a certain element of community count turnover.
Yes, I think the only clarification, Mike I'd make is the <unk>.
Adjusted gross margin when we're saying new communities, it's not only new net communities additive community count. It's also a replacement community. So we've got a lot of communities nationwide that are in the process of closing out and then we're bringing in a quote replacement online, which is an additive to community count, but it does have an impact on this gross margin discussion.
Charles can weigh in but I personally think gross margin in the third quarter, probably higher than the fourth quarter, because our backlog percentage gross margin is still really strong and we think that's going to gradually go back to normalization and then we factor that in when we provided the year end range that we did.
Yes, I would just I would agree with Eric's comment that it's likely that the third quarter will be higher than the fourth so we're thinking the step down would likely happen.
In the fourth quarter.
Yes.
Right right Okay.
Also if you kind of run the math on.
The absorption for the back half of the year your comments around.
<unk> seven five to eight.
And getting to a mid point.
<unk>.
Community Count, we just kind of step that up gradually over the next several months.
Even keeping sale closings pace between seven five and eight or even at the lower end of that.
Get you actually towards the higher end of your closings range.
So just curious any thoughts on that.
Yeah.
If there is anything we are missing here because it does seem like.
Based on again a gradual.
Move towards community count getting to the middle of that.
One.
100 to 110 by the end of the year.
Seven eight.
It seems like Youre coming up at the higher end, but just any thoughts.
Yes, I think yes.
My comment on that is really that's why we give ranges anywhere in that seven five to eight a month range in the second half is going to put us in in our guidance range and it really depends a lot of what's going to depend on what happens in economy. The next three or four months.
A lot of it's going to depend on getting these new communities open and where we're at in the range of community Count high end versus low end. So that's still a challenge for us how many houses we can deliver what the supply chain looks like so I hope I have any more comments other than Thats why we gave the range we're confident in our new new closing guidance raise.
<unk>, we had to adjust that down based on where we were and what were seeing on construction and development and sales, but we're confident in being in that range.
Okay.
One last one if I could you gave the 10% to 11% through the SG&A.
For the year.
Is that something that.
All else equal, we should expect going forward into 'twenty three or the.
Market remained.
Soft or youre, not kind of getting the results that you'd want.
Would we see that come up a little bit more or could we see.
Further adjustments on the gross margin side.
Yes, it's a great question, Mike This is Charles.
Not necessarily giving specific guidance on 'twenty, three but I think what we have been talking about as it refers to SG&A is that we generally think that.
Our increase in marketing and advertising is going to return back to normal so we've seen.
Over the last year, and a half or so just the benefits of not having to spend as a bunch of money and so I think I'd I'd break it into the selling portion we are expecting it to increase as a percentage of revenue.
Over time to get back to normal ranges and then the G&A portion in our income statement is generally more fixed.
So I would say depending on where our.
Closings end up in 2023, and how the pace of community Count goes is there is some opportunity for leverage there to offset some of the increase in selling expenses, but I think overall I think we're trending back to this 10 to 11 range.
For the near term.
Right, so selling expenses were.
$70 75 from 2017 to 2019 is that a good reference point.
I don't know that I would go quite necessarily that high but probably the lower end of the range is what I would say.
Great. Thanks.
Thanks, so much I appreciate it.
You bet.
Thank you.
Our next question or comment comes from the line of Jay Mccanless from Wedbush Mr.
Mr. <unk> your line is open.
Hey, good afternoon guys.
Can you remind us on the community growth that youre expecting for fiscal 'twenty three.
The bulk of those communities.
Yes that is a great question, Jay and after the last couple of years is probably the correct answer is I'm not sure but.
We are confident that 2030% number I mean their those communities are just getting delayed they will be there. So we're confident community count is going to grow.
Grow next year.
For modeling purposes, I think an equal amount coming through the year would probably be appropriate.
Okay and that was actually going to be on next question. If you could talk about what type of delays youre seeing on horizontal development and have the supply chain issues gotten any better for that side of the business.
It doesn't seem to be getting any better yet.
Still having challenges electrical transformers as some other supply chain.
Getting the started the development process getting the plants record of getting the necessary approvals from the city. All the engineers are still busy sell supply chain on the development side.
Side I would say is similarly challenged now we do expect that to get better because we believe in other builders have said as well as us probably not doing as much development near term probably adjusting development sizes of the sections for today's normalizing market. So just like on the <unk>.
<unk> side, we do see that improving but we have not seen that yet on the development side.
Okay.
And then on.
This new.
New but going back towards a more historical gross margin range.
Okay.
It would imply I think some pretty steep price cuts maybe to what you had originally intended to bring these communities is that thinking correct.
Thinking correct and how.
How much of it is how much are we talking about one percentage have you marked down what you think your initial base prices are going to be on these communities.
Yes, it's a great question.
I don't think were looking at it as having a lot of price cost J, because we increased prices. So rapidly over the last couple of years of just going back to normal and.
And we have not been focused on price cuts because we haven't had a lot of finished inventory and then I think our reaction is probably similar to a lot of a lot of builders until you have a lot of standing inventory theres not going to be a lot of discussion about price cuts per se.
But that's changing and we are looking at our pricing and <unk>.
<unk> by community basis nationwide and all everybody can tell by our backlog.
And the fact, we've only been selling 60 days in advance we describe it is we do need to normalize our pricing some of our communities.
Had unbelievable gross margins, we were able to increase pricing a lot like in markets like Austin, while markets like Austin, we are not going to be able to keep selling we don't believe that 35% plus gross margins and we've seen some pushback on those type of pricing, we will normalize our pricing, yes, we'll probably be selling or say the same.
Floor plans in the future for less money than we were over the last 24 months, but it's going to be similar to what it was two and three years ago. Because the last couple of years are just they're just going to be an outlier as far as pricing goes I mean, a 33%.
Adjusted gross margin, we are very likely never to post that again in our history is such an outlier in gross margin.
And we're just going back to normal and in a normal market. We believe we are going to thrive and theres going to be create tremendous opportunities for <unk> and we're pretty excited about it.
Got it and then one more quick one.
Interesting that you are starting to see finished lot deals again do you think with the pace of what Youre seeing that you could potentially buy enough of those communities to make up for some of the shortfall.
Youre expecting relative to your previous guidance for this year.
Yes, not necessarily this year, because I mean, even they are just starting to see opportunities I mean closing.
Early when it related in any home closings in 2022, we think it may create opportunities for our community count growth in closings growth in 2023.
Dave a couple of examples but it just really depends on what happens with the industry.
More challenging the industry becomes whether it's a recession whether rates pricing supply chain any of the headwinds that we potentially face as an industry.
Our attitude and what we're talking about internally the more challenging environment. It is.
The more opportunities is going to create for LNG out you have to remember our company and we haven't talked about this in the last couple of years, but we've never lost money in any year, including the greatest downturn anyone's ever seen in <unk>.
We have never taken an inventory impairment in the company history. So if it's a more challenging environment going forward is going to create more opportunities for finished lots. If it is a more normalized market or things.
Really good and rates stay down or whatever the tailwind. Maybe then that's fine as well and Lj will thrive in that market.
Okay sounds great. Thank you.
Youre welcome.
Thank you.
Okay.
Alright.
Our next question or comment comes from the line of Carl Reichardt from BT IAG.
Thereby.
Thanks for taking the questions.
One question I had Eric just on cancellations.
It was up although Youre unit cans were not much.
Did you see an alteration in life books for cancelling over the course of the quarter.
Is it still more affordability related or would you say, it's more sort of psychological and fear of the future, but I just kind of like your take on if thats changed and how it's changed.
Yes, I think for us, it's still primarily affordability related.
Pipeline got gaps very large in Q2 of last year, we've been working on getting that closed out rates are certainly higher not all our customers had rate locks usually were locking the rates. So within 60 90 days of closing so some of that customers just didn't qualify anymore.
Certainly that cancellation rate and we've talked about on calls before we don't think it's as relevant for us as maybe other companies being a spec builder, but we didn't have enough orders either if we had had more orders that cancellation rate would have been normal we did see Carl and I. Appreciate you asking the question I cancellations, we have seen some of our retail investors cancel but.
We've also closed a lot of those homes over the last couple of quarters and first part of the year, which has been very very good for us as a company.
We just think we're going back to a normalized market, where our customers are predominantly going to be.
The customers that are currently paying rent <unk>, we offer an affordable alternative to renting rents are up across the country and we're going back to catering to that customer we sold a lot of houses to investors over the last couple of years.
And we believe that was the right decision.
But in a normal more normal market, we think that we will get back to normal activity as well.
Okay. Thanks, Eric and then Charles.
The line of credit.
We're about I think I got this right, 75% capacity utilization at this point.
If I did this right more typically you're sort of back back of the year third quarter fourth quarter is your peak utilization so I'm.
I'm curious are you planning on being operating cash flow positive fourth quarter can we expect to see it diminishing utilization of the capacity as we move into the next couple of quarters.
Yes, great question Carl So, yes, we had mentioned in the script as we rightsize inventories. So one of the things we're focused on with 4700 units in inventory, we would expect our vertical inventory to work its way down throughout the year.
Also.
Focused on just inventory management in general and keeping.
I on what we need in terms of from an acquisitions and development.
And then we also.
<unk>, what we have available for share repurchases as well, so thats kind of a function that goes into that all keeping in mind, our 35% to 45% target leverage ratio.
So yes, we should generate some positive cash flow based on right sizing the inventory.
And stay within our targeted ranges Charles with the dollars in inventory a little bit stuck in the field, just because things have slowdown because.
It's taken longer to build stuff is that portion you then to divert dollars to finish that inventory as opposed to doing development development spend.
No no I don't think so I think it's balanced between all categories between acquisitions development and vertical construction.
So I think it shifts between whether we have heavily weighted towards complete versus with comes into play we will see that shift continued throughout the throughout the year only having 600 completed homes.
At the end of June we would expect to completed homes to increase getting back to as Eric mentioned kind of a more normal selling cycle, we're selling spec we would expect completed homes to increase.
But the number would come down as kind of supply chain works itself out and then we just look at all of those combined to really see what our targeted inventory number is to make sure. We're managing that accordingly, okay. Alright I appreciate the help thanks, so much guys.
Okay.
Thank you our next question or comment comes from the line of Deepa.
<unk> from Wells Fargo.
Yes.
Sure.
Your line is open good afternoon, everyone. Good.
Good afternoon, everyone. Thanks for taking my question.
Eric can you talk through how you're assessing the.
Demand deterioration at yearend.
Accepting orders collectively.
The way to provide color on demand fallout versus how many you might have turned away within your auto performance.
Talk to this.
Can you talk about traffic trends.
Our communities as well.
Yes, I think it's hard to measure how many we would have sold.
So it's a good question and I think we don't want to.
Diminish that we're in the affordable housing business and with ASC up 27% year over year interest rates higher.
Affordability does matter and rates do matter I think we're we're calling on more of our experience in the business. Because we did believe we do believe is the right decision to turn off sales. If you will make sure that the customer has great experience focus on our backlog, both Scott and getting homes closed and now.
We've closed the majority of our backlog focus on orders. So we're not sure how many we missed but orders have one out for four straight months.
Our confidence in our sales team, we're confident our ability to spend marketing.
Our 20000 people inquired about homeownership in July we now got all kinds of data behind it we know that if we spend dollars on marketing that's going to result in leads we know what percentage of those leads are going to make an appointment show up for their appointment be qualified contracts and close and that's just those are mathematical fan.
<unk> that we've been doing since 2003, and our teams on top of our salespeople have to beyond their game. We have to be trained we have to execute on our systems, but all of that math always works and our guidance and our confidence in our numbers.
That's because of our experience and then been through this before so yes, we're going to be dealing with higher rates or may dealing with higher prices, but we know spending on marketing with a trained sales force works.
And unlike a lot of companies that are cutting back on expenses laying off employees. We are ramping up now is the time to spend more money on marketing I got with our recruiting department before the call and we're hiring to make sure we hit our numbers and hiring to ramp up in staff our existing office do.
Normal capacity and also ramping up hiring to staff all of our communities that are coming online.
Because we are hiring we've got 67 open positions, including 51, new sales positions that were hiring for for our October training class and we add 50 salespeople to the <unk> mix for getting our staffing up to current levels in new communities and that will have an impact.
Okay. Okay.
How many starts does it last.
Quarter.
Right and just over 2400.
And such and cycle is how many days now.
So pushing it.
It depends on the market pushing.
<unk> five to 120.
And there we've seen.
Some relief, but I think we still have some ways to go to get back to a normal construction cycle.
Okay. So it's 2400 kind of.
The starts in order pace lastly that we can.
All near term.
Well I think the way, we think about it deepens.
Four to six months inventory.
Is what we're targeting so I would expect us to start fewer than what we closed in the short run.
And then future starts in the back half of the year will be based on what we think.
Outlook for the next three to six months are going to look like.
So we will we will likely start fewer than what we close in the third quarter as part of right sizing that inventory getting down from.
4700 to say something like 4000 units, which would be.
Six months at an 8000 a year pace so.
So that's how that's how we're thinking about it.
That's very helpful color, thanks, very much and good luck.
Thank you. Thank you.
Thank you.
Our next question or comment comes from the line follow up from Michael Rehaut from Jpmorgan. Your line is open.
Thanks, I appreciate the follow up.
Just wanted to ask.
Actual real more of a technical clarification, but.
The difference between adjusted and reported gross margin guidance is still 150 bps.
And I know that the difference between there is interest amortization in <unk>.
Purchase accounting.
Purchase accounting has been at 30, roughly 30 bps, so you're talking about.
120 bps from interest amortization.
<unk> only been doing about 80 bps, so far in the first half and on a dollar basis, it's been about half as much as a year ago.
Sure.
To get that one 1.2 would be more like one 5% range in the back half and that will be up nicely.
Nicely year over year on a four.
<unk> 40 50 bps.
Few several million dollars year over year on a dollar basis.
Just wanted to be sure if that.
Correct, I mean, I would think all else equal would still be relatively low but not.
Just not sure if we're missing something.
Yeah, Great question, Mike I mean, I think from our guidance standpoint, we used 150 is the range that doesn't necessarily mean, we're seeing specifically that interest and purchase accounting will be 150, I think it will range between 110, we just saw in slightly tick up over the last couple of years.
Caplin in capitalizing interest on development deals a lot of those communities are now coming online. So there is a potential that it will tick up a little bit. We also saw an increase in average sales price.
Fairly fairly rapid increase in average sales price.
Which will.
Kind of minimize the percentages in terms of percentage of revenue.
And then our credit facility is also floating rate.
As well so as interest rates are rising.
We will expect to see.
All things equal slightly higher dollars related to.
Floating rates increasing.
Alright, but.
So maybe increasing a little bit, but if you are at four 5 million or $5 6 million in the first half per quarter.
We shouldnt be doubling that in the back half is that fair.
Yes, I think thats fair somewhere in between.
Great Alright.
Thanks very much appreciate it.
You bet.
Thank you. Our next question or comment comes from the line of Kenneth Zenner from key your line is open.
Good afternoon gentlemen.
Hi, good afternoon.
Jackie so with your with your product mix more tied to first time and obviously you have.
Spec.
Build to order approach can you contrast, your experience or what you are seeing.
Relative to the trade up buyers or anybody that really has to sell.
Their house, given the kind of choke up that we're seeing on the existing side could you just offer us your thoughts on how that that demand dynamic.
Varies within the process that you guys have.
Yeah, Kevin I'll take a shot at the Zurich, if I understand your question. It's really I think we have an advantage focused on the first time homebuyer focusing on that monthly payment.
90% of our 90% plus plus of our customers are currently in a rental situation and what triggers their inquiry about LTI homes and they get our marketing in pieces, whether it's mail or digital and the world. We live in today is their leases expiring or their leases coming up.
Almost.
Exclusively now everybody's rents are increasing in most of our increasing a pretty material amount. So we're confident we're going to have the demand there.
There because we're very pro homeownership, where a lot of the existing customers or existing homeowners and a lot of people probably listening this call or in the same boat. We all have very low fixed rate mortgages on our homes and I think that's a headwind for that for the move up builders, which we don't have to deal with as much dealing with the entry level.
Builder I think is where you are where your question was going.
But affordability does matter and we're still solving for that monthly payment.
Right that was the direction of where I was going and then.
With.
The challenges you faced developing.
<unk> developed more of a young man.
High gross margins are you how do you look at your growth because as these communities come on with.
<unk>, 30% plus gross margins you have a lot of leeway.
To grow and offer price at <unk>.
To attract those renters, how wed are you to kind of the gross margin as you bring on new products. I mean, I think you've talked about 4000 units in inventory at the end of the year.
Are there any other metrics like that.
That you're going to be targeting in terms of the turnover that your margins would be.
Part of the solution to or how should we think about that.
Yes, a little bit of what I talked about earlier, Kevin I think it's a shifting dynamic we were never wanted to talk a lot about price versus pace, but certainly the first half year is all about capturing price.
We had all kinds of unbelievable wait list people wanting waiting in line to buy our houses and every kind of helping on the price list.
And then we kept raising prices and it didn't matter everyone still wants to buy our houses and that was the environment that we've been living in for a lot of the last few years and that has changed now it's about normalized margins.
The pace and I think it's important to know and I think we've done a good job of that.
If everybody looks at our gross margins over time compared to the industry that if youre doing development. If we're spending the upfront capital we are taking the development risk we're taking the timing risk with certainly has been a challenge we have to price the homes accordingly to where we capture both the development profits.
And the homebuilder profit and I think we've done so we don't want to forget that.
But certainly I do think we have an advantage in the pricing and the gross margin when youre doing your own development and we're doing the development where are our expense our debt expense because we are using our credit facility a significant less significantly less than the.
The builders that used land banking and then by the loss from land bankers at a very expensive interest rate. So we do have that advantage as well and Thats why I think youre going to continue to see elevated margins from <unk> compared to the industry.
Thank you very much.
Youre welcome.
Thank you I'm showing no additional questions in the queue at this time I'd like to turn.
The conference back over to management for any closing remarks.
Thank you and thanks to everyone for participating on today's call and for your continued interest in <unk> homes have a great day.
Ladies and gentlemen, thank you for participating in today's conference. This concludes the program you made Graham you may now disconnect and wonderful day speakers standby.
The conference will begin shortly to raise Johan during Q&A you can dial one one.
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