Q1 2023 Meritage Homes Corporation Earnings Call
Greetings and welcome to the Meritage homes first quarter 2023 analyst call.
At this time all participants are in a listen only mode. A question and answer session will follow the formal presentation.
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It is now my pleasure to introduce your host Emily to Donald Vice President of Investor Relations and ESG. Thank you you may begin.
Thank you operator, good morning, and welcome to our analyst call to discuss our first quarter 2023 results. We issued a press release yesterday. After the market close you can find it along with our slides we'll refer to during this call on our website at investors that Meredith Trump Dot com.
Or by selecting the Investor Relations link at the bottom of our homepage.
We prefer to fly to caution you that our statements during this call as well as in the earnings release and accompanying slides contain forward looking statements.
Those and any other projections represent the current opinions of management, which are subject to change at any time, and we assume no obligation to update them.
Any forward looking statements are inherently uncertain are actual results may be materially different than our expectation due to a wide variety of risk factors, which we have identified and listed on this slide as well as in our earnings release and most recent filings with the Securities and Exchange Commission, specifically our 2022.
Annual report on Form 10-K, which contains a more detailed discussion of those risks. We've also provided a reconciliation of certain non-GAAP financial measures referred to in our press release as compared to their closest related GAAP measures.
With us today to discuss our results are Steve Hilton Executive Chairman Phillipe, Lord CEO and he left varies that executive Vice President and CFO of Meritage homes, We expect today's call to last about an hour and a replay will be available on our website within approximately two hours. After we conclude the call and will remain active through.
May 11.
Now I'll turn it over to Mr. Hilton, Steve. Thank you Emily welcome to everyone participating on our call I'll start with a brief discussion about what we're seeing in the market and provide an overview of recent company milestones.
We'll cover our strategy quarterly performance he will provide a financial overview of the first quarter and forward looking guidance.
In the first quarter of 2023, we leaned into our spec strategy and achieved a net sales pace a little bit more per month.
Offering our move in ready inventory at the right mix of lower pricing and incentives.
We also successfully manage backend production generally our highest first quarter closings of 2897 homes with home building revenue of $1 3 billion Boes.
Both of which slightly exceeded the prior year.
Home closing gross margin for the quarter was 22, 4%, which combined with the SG&A of 10, 3% led to diluted EPS of $3. It did before.
The start of the spring selling season has been stronger than anticipated despite ongoing economic uncertainty the regional banking turmoil and get Julien continuing volatility in interest rates.
We saw demand begin to stabilize as buyers starting to achieve.
To acclimate to a 67% mortgage interest rates as the new normal.
The true storage of readily available new new inventory, coupled with extremely limited resale inventory persisted throughout the U S. In the first quarter and does not show any material signs of loosening in the near term.
We expect this continuing housing under supply as well as favorable demographics of the millennial and move down buyer will provide a strong inventory runway for strong long term runway I'm, sorry for future home buying demand.
Now on to slide four.
It gives me great Pride you announced the Meritage is now a top five builder in the United States based on home closings in 2022 miles.
A milestone as a result of our focus on affordable entry level homes, and our spec building strategy combined with our team's consistent exceptional performance.
This quarter. We were also recognized as one of the most admired homebuilder by Fortune magazine.
Based on feedback from executives and board and the board of directors regarding customer satisfaction employee engagement and development innovation, social responsibility and financial strength.
We are honored to join other best in class organizations on this list.
Additionally, we became a 10 time recipient of the U S. U S. EPA energy star partner of the year sustained Excellence Award.
Given our long standing commitment starting in 2009, you bought 100% energy efficient homes.
This included over 112000, Meritage energy Star certified homes.
We are proud to be an innovator in the sustainability space.
These achievements are aligned with our corporate values and further our goal to continue to grow our responsibility responsible corporate stewardship.
With that I'll now turn it over to Felipe thank.
Thank you Steve.
I believe our Q1 results were a testament to our strategy, which includes our focus on the most affordable segments of the market building specs and our streamline operations.
We achieved our success successful quarter by addressing the portion of the housing market buyers with the greatest need for homes as life events are not necessitate a change in dwell into that.
Further differentiating our product by operating homes that are moving ready affordable, perhaps surprisingly more value, we upgraded finishes and energy efficient components and automation suite allow us to be attractive alternative to available retail inventory.
Slide five.
Given our team's strong execution during the first quarter of 2023, a Q1 closing of 2897 cost was 1% greater than prior year and.
Entry level homes comprised 84% of closings compared to 86% in the prior year.
Our sales orders of $3487. This quarter were up 93% sequentially from the fourth quarter of 2022, while down 10% compared to last year's challenging comps, which resulted from a 14% decline in average absorption pace from four nine to four point to net sales per month that was partially offset by.
4% growth in average community count.
And two level homes comprised 87% of orders compared to 83% in the prior year.
Our cancellation rate for the first quarter 2023, a 15% moderated sequentially from 39% in the fourth quarter of 2022 and was in line with our historical averages.
We exceeded our target for store sales objectives of three to four per month in the first quarter of 2023 due to the available of move in ready homes, which is the most preferred types of inventory for first time homebuyers and a combination of price cuts mortgage rate lock and baidu and other incentives as customized to the customer expectation in Egypt.
Muse.
We have seen a slight increase in our ASP as is visible in our Q1 orders the sequential quarterly ASP increase in orders is due to three factors first we started to pull back on incentives this quarter to the tune of about eight to $10000 per home.
We also started to test our markets and small price increases and geography, where supply is particularly tight and prices are more elastic.
In addition to mix.
In addition, the mix slightly impacting our results as well.
For order ASP was also impacted by the higher ASP on cancellations that quarter from earlier 2022 sales, which also decreased our Q4 orders AFP as the number of your core is a net a S. P.
Now moving to slide six regional level trends.
Meredith and it builds over the balanced geographic footprint between east Central and West regions, all of our regions achieved or exceeded our sales pace target in the first quarter of 2023.
The highest regional absorption pace of $4 five per month in the first quarter occurred in our West region. This market regained the most sales momentum and we were able to find the right market clearing price in late 2022.
Arizona the average absorption pace of $5 two per month was the highest year over year decline in Asps onwards was also the largest reflecting the magnitude of the pricing reset in this market.
Our central region, which is comprised of our Texas markets and an absorption pace of $4 four from us in the first quarter of 2023, most community and greater availability of completed specs translated into a sequential improvement in sales pace for taxes.
We believe the pro business environment and in migration trends in Texas will continue to positively impact homebuyer demand in the future.
The east regions average resort pace was three eight per month during the quarter.
Economies remained resilient and demand was still strongest region, although our available supply of completed specs in Georgia, and the Carolinas impacted our absorptions there as we work to ramp up production in our new communities.
We are now focused on maintaining three to four net sales per month for the remainder of the year.
Turning to slide that we manage our starts on a per community basis to align with our sales pace. We have the flexibility to increase more slowly start to keep our targeted four to six months supply effects on the ground.
We started nearly 2500 homes in the first quarter accelerating from approximately 2100 homes in the fourth quarter of 2022, but down from 4000 in the first quarter of 'twenty versus first quarter point in play here.
We ended the period with nearly 3900 spec homes in inventory, which was down 21% sequentially from the artificially higher fourth quarter due to the high level of cancellations.
This represented 13 nine specs per community, which was slightly lower by supply of specs and our goal as we sold homes at a faster pace than anticipated during the quarter.
We expect to continue to be a matter of spec starts to align with increased demand were experienced in all of our markets.
Of the 2897 home closings this quarter, 87% came from previously starting inventory up from 80% in the prior year, 25% of total specs were completed at March 31, 2023, increasing from 61, 16% at year end, which is closer to our normal run rate of one third and what we believe.
It is needed to capture today's buyer.
At 45% of homes closed this quarter were sold during the quarter, we improved our backlog conversion rate from 50% last year to 87% this quarter and achieved our targeted backlog conversion rate of at least 80%.
While we don't expect to hit 80% conversion rate consistently until supply chain and labor constraint issues are resolved. We do believe our operating model is the largest conversion rate on a normalized basis.
The high backlog conversion rate resulted in our ending backlog of approximately $3900 during.
During the first quarter of 2023, our sight deposit grew by approximately one week sequentially from Q4, primarily primarily from finance rates, but were still approximately six weeks longer than our pre COVID-19 averages.
And trade and a supplier generally have not caught up with the industry will have a backlog, but we continue to lean on these long term relationships.
Starting to see a path to better cycle times and the back half of this year rich.
<unk> cycled the companywide initiative for us in 2023 and will continue to provide quarterly updates on our progress.
Even as we increase our community count, 4% year over year, and 3% sequentially from the fourth quarter to $2 78 as of March 31, 2023, R&D community Count was lower than we expected. We opened 27, new communities this quarter, but the continued transforming issues across the country halted some new community openings further our healthy sales overpaid.
Too early Closeouts, we now anticipate returning 300 communities by year at.
I will now turn it over to helix provide additional analysis of our financial results.
Thank you Felipe.
I'll provide a quick update on DSR in the first quarter of 2023, <unk> primarily occurred in Arizona and remained in a normalized mid single digit range as a percentage of total orders, we continue to gain traction with our institutional partners. As we believe rentals are an important component in the housing equation. We are committee.
It to providing high quality, new built inventory for the space I'd like to turn to slide eight and cover our Q1 financial results in a little bit more detail.
I think revenue slightly increased to $1 3 billion in the first quarter of 2023, driven by higher home closing volume is asps held steady with prior year.
Clothing gross margin declined 790 bps to 22, 4% in the first quarter of 2023 from 33% in the prior year due primarily to price concessions and incentives as well as continued elevated direct costs are you said mortgage rate locks and buy downs did not bigger.
The impact on gross margins until the back half of 2020 two.
Although we expect incentives will continue to remain elevated in 2023. They are starting to moderate today's buyer is no a lot longer looking for a 4% interest rate in order to qualify and the limited available inventory is allowing us to start to increase pricing for new and existing home inventory supply are litigated.
Elevated direct costs reflect the construction environment is mid to late 2022 and their clothing at this quarter do not yet include recent coffee.
We are focused on companywide rebid efforts to return our labor and material costs back to pre COVID-19 levels, while the lumber savings will start to materialize at the end of 2023 and into 2024, we're also looking to be cost.
Cost increases we have absorbed over the last two years.
Exclusive of lumber, we have captured about $20000 screen, so far which is approximately 8% to 10% labor and material costs. However, as demand improves we are seeing stickiness in costs, particularly labor.
<unk> seen some savings outside of lumber progress has been slower than expected and we don't anticipate additional direct cost savings to impact 2023 clothing is we only have a few more months to start spec that can close this year.
G&A leverage in the first quarter of 2023 with 10, 3% compared to eight 5% in the first quarter of 2022.
The increase was primarily due to broker commissions and advertising costs running above the low run rates experienced in 'twenty. Since 2020, although we have started to pull back on some of these initiatives as well where demand is strongest east cost reflects the current sales environment, which may remain choppy in 2023.
Increase in general and administrative expenses, including severance related costs and higher spend on technology and insurance.
The first quarter effective income tax rate was 26% in 2023 compared to 24% in 2022 2023 rate benefited from energy tax credits and qualifying homes at the higher $2500 per home rate in effect this year.
Credit didn't begin until Q3 in 2022.
Overall, the lower gross margin and overhead leverage in the current quarter, partially offset by the favorable tax rate led to a 39% year over year decline in first quarter 2023 diluted EPS to $3 and 54 turning to slide nine.
The health of our balance sheet remains a top priority in today's uncertain environment, we had nothing drawn on our credit facility and our net debt to cap was four 5% at March 31, 2023, we generated $96 million of free cash flow this quarter and had $957 million of cash at quarter end.
The strong liquidity, our disciplined growth and the Max net debt cap ceiling target in 'twenty, you have plenty of room to stay agile balancing internal investments with return of capital to shareholders, Our land acquisition and development spend totaled $310 million this quarter.
With our one 5 billion full year land spend goal instead.
In February we announced our inaugural quarterly cash dividend of 27 cents per share, which total approximately $10 million this quarter.
We're happy to announce this new channel for Meritage to return value to shareholders and it's our intent to issue quarterly cash dividends going forward with annual per shares that <unk>.
Additionally, we repurchased over 93000 shares for $10 million in the first quarter over $234 million remain available to repurchase under our authorization program as of March 31 2023.
In addition to our objective of neutralizing annual dilution from new equity issuance and we will continue to be opportunistic with our share buybacks. Looking ahead, we believe that our operating strategy and strong liquidity position us to continue driving growth by buying new land and reinvesting in our business, while also having cashless.
My long term value return for our shareholders.
Onto slide 10.
When it comes to land acquisition, we pulled back on spend in the second half of 2022 as we assess the changing market dynamics.
Given recent momentum in the market, probably about 1700 gross new lots under control this quarter, a total of approximately 60900 lots owned or controlled at quarter end compared to approximately 75100 told a lot at March 31, 2022, and you added this quarter represented.
Estimated 17 future communities all of which are for entry level product.
We ended the first quarter of 2023 with 4.3 year supply of lots, which is in line with our target of four to five years about 75% of our total lot inventory at March 31, 2023, with owned and 25% with the option and the prior year, we had a 65% owned inventory and if 30.
5% option lot position.
The rebalancing of our landmark all of you in the last few quarters has elevated our split of owned versus option lot. Although we don't ascribe to a target for this metric, we believe that being nimble and ready to transact quickly on land opportunities.
I returned and resulted in a higher percentage of lots owned currently and our historical run rate.
Finally, turning to slide 11.
Looking to Q2, we expect closings to be between 2800 3100 units with corresponding revenue of one point to two to 1.36 billion, we expect margin to trend around 22% our tax rate to also be around 22% EPS to land between $3 15 and $3.
65 cents.
We will continue to monitor stabilization of homebuilding conditions and expect to provide full year guidance on our next quarterly call with that I'll turn it back over to Felipe.
Thank you Viva.
To summarize on slide 12, we believe that our first quarter results continue to reflect our focus on pace over price and our commitment to our spec inventory both of which position us well to capitalize on buyer demand and continue to gain market share.
We found the market in Q1, we will continue to keep a close watch on sales pace and will adjust if necessary to maintain our three to four net sales for muscle as you start to pull back on incentives and increase prices.
Having our operations validated we had the available back or near completed homes in backlog to achieve strong first quarter 2023 backlog conversion rate.
Keeping up with starts as a priority priority. So that we can maintain our available home inventory to meet market demand.
Cycle times normalized we expect a higher inventory parts will lead to backlog conversion in the 80, 80% plus we also believe our disciplined growth and strong balance sheet will enable us to continue growing the business. While also returning value to shareholders with that I will now turn the call over to the operator for instructions on the Q&A operator.
Thank you we will now be conducting a question and answer session.
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And our first question comes from Stephen Kim with Evercore ISI. Please state your question.
Yeah. Thanks, very much guys Felipe I just wanted to make sure that I heard you that the backlog turnover can remain in the 80 plus percent range without you know I wanted to make sure that that was sort of something that you expect you could sustain you know quarter after quarter and then also when you talk about the starts.
At what point do you expect starts to match or exceed your order pace. What do you expect that in Q2 or or do you expect maybe later this year.
Yeah. So our goal is to come.
<unk> is to achieve an 80% plus backlog conversion rates.
We'll see how the supply chain.
It stabilizes along the way that's an important input for us to maintain that so.
So we're not ready to say that we're going to hit that every single quarter, just yet until we see that stability.
And then as it relates to our starts matching our sales you will absolutely start to see that in Q2 going forward Q1. It was a little slower primarily because we got a bunch of cancellations. We were clearing out and also we re getting our cost. So we were getting our cost re bid before we started these new homes at lower cost with <unk>.
That was really.
Really important in order to in order to achieve the margins for the year.
Yeah, that's really clear thanks, so much.
Now with respect to the cancellations impact into the order a S. P. Because it's kind of a net order a S. P. I got that but can you quantify that for you like you know what was that impact from this cancellation dynamic.
Dynamic and then kind of related to that.
You know within the incentives that you're offering you know buy downs and one what's the average mortgage rate that your buyer is.
Is receiving it is there a way to sort of talk about that the actual you know rate that they are actually getting when they close.
Yeah. So once we kind of net all of the.
By down there right around five and a half media piccolo isn't that right around five and a half since not everybody likes when people use the money.
In a different way in the capacity probably around five and a half without the lending on the mortgage side and then as far as breaking down the components at the E. S. P. So we mentioned it was a pretty material pullback part of it actually is a is the rate buy down.
He said 10000 just to quote.
In the map.
Kind of walk through you also had some price increases maybe that's like another percentage point mix always drive a little bit of it if you kind of shake it all out the piece that relates to the cancellations is maybe about a third to half.
The A&P increase that you're seeing.
Okay.
That's really helpful. Thanks, so much.
Thanks.
Our next question comes from Truman Patterson with Wolfe Research. Please state your question.
Hey, good morning, everyone. Thanks for taking my questions lot of color in your commentary.
Big picture you know in the market we've seen a good acceptance of your product at your price point.
I'm, hoping you could give just a little bit clear color.
On the absorptions that declined a bit sequentially through the quarter, what was it really a function of liquidating our available spec are for sale or was it kind of the intentional decision to push price a little bit.
Absorptions were already hitting the high end or above your kind of three to four.
Target range and is that you know we'll call it three and a half of a pretty per months, a pretty good range that you're seeing here in <unk>.
Yeah. So.
I think what's happening here with your question is Youre looking for a monthly sales trends, which.
It really don't make any sense. We gave you a January number because we were trying to give you an indication that the spring selling season was stronger.
To expect to say that our sales declined throughout the quarter. It's actually an inaccurate statement. We just had different cost along the way we had a weaker January last year versus a stronger February March so our absorption pace actually was pretty steady and consistent.
Throughout the throughout the quarter.
We have plenty of specs to salaries, we roll into Q3 everywhere or sorry, Q2 everywhere.
And we've just been pulling back on pricing, because probably because the market's strong not because our absorption pace is too strong so.
It's really neither of the two variables that you're thinking up our pace has actually been pretty consistent throughout the entire Q1.
Oh, Oh, Okay gotcha, so perhaps it was just some community closeout or or noise intra quarter with our numbers.
And then so Gila.
I wanted to make sure that I heard you correctly.
Incentives were reduced by about 9000 per home.
Sequentially.
You pushed pricing about 1% during the quarter.
And then I believe you made the comment that you were able to reduce costs in the 20000 dollar range.
When do you think all of that will really hit your P&L or have you already started to realize some of that in your P&L I think on the cost side you made the comment that you know a portion of this wont really hit until late 'twenty three so I'm trying to just understand some of the moving parts there.
Sure.
So they don't align exactly.
In the period to when they're going to come through the financials.
You mentioned, 45% of our sales in Q1.
Sold and closed in the same quarter. So some of that pickup that youre seeing in the sales side and on the revenue side are going to be visible in Q2.
The savings that we're having on lumber and other direct costs won't be visible until probably Q4, so it's a little bit of a staggered timelines as kind of a difference between effect, though theres an adult to order those areas, where the timing doesn't sync up quite quite as nicely backed by year end.
Sure.
Gotcha, Okay. So just for clarity that kind of 20000 and lower cost that's kind of on the come in the back part of the year.
Yeah, it's coming I mean, it's it's not all on one day right. It's the iterative process you go back and you get a little bit more and a little bit more and a little bit more I said, it's going to start to flow through and in some amount through the financials, but the full impact wont be until the N V. That's correct.
As we said before.
We were bidding our costs here over the last 120 days, where we saw some really meaningful results.
Now going to push out quite a bit it starts here over the next quarter and a half, which we hope to close this year. If we can achieve the cycle times almost.
So those would you see those savings occur in the Q4 closings as long as everything remaining equal right. The incentive environment. Many of the same and all the other variables are the same.
Perfect. Thank you all for your time.
Thank you.
Our next question comes from Alan Ratner with Zelman and Associates. Please state your question.
Hey, guys. Good morning, Thanks for all the detail.
Your first question and I apologize for beating the dead horse here, but the monthly cadence was something I was a little confused on as well. So again, just hoping for some clarification I understand the comps that you referenced but I believe on last quarter's call. You said January sales space was four and a half per month and you came in at $4 two for the quarter. So it does imply a little.
A deceleration in February and March and still at very healthy levels. So I think what we're just trying to get a handle on is what is that deceleration just a function of you hitting your sales pace targets and maybe some availability of supply or do you think there was maybe a very subtle reaction to the price increases that you pushed through yet.
Still at a very strong pace.
Yeah I mean.
It is a dead horse I, just I don't really look at our business that way.
Trying to get for per store four to five first dor, sometimes III, depending on the community and we're achieving that.
We really didn't feel any slowdown in February and March.
But we didn't we didn't deal anybody we didnt have a situation, where we didnt have specs to sell in every community.
We didn't feel like people buyers were pulling back because we had changed our incentive structure.
It felt pretty much the same to us from our perspective and I would tell you April feels the same as well we feel like we're on track to achieve that goal of you know in that four plus sales per store, which I mean, whether it's four two or four or 4.3.
<unk> is our goal.
I mean, we're like.
We say, we're pricing things that are really finite level here I mean, it was like torrential rain downpour in California is actually doing fairly well spread pretty much all of February and March. So it's not a pullback. It's just some weather patterns affecting comparability period over period for the sales team feels really good.
And no change in April and.
And we have community inflection.
Maybe in some communities, where we have quite a bit of cancellations. We found the clearing point, we sold a bunch of houses in January .
More than we thought and we have less specs in those communities, but it will tick up we're talking community by community.
Overall, the market feels 100% the same.
Makes sense appreciate the added commentary there.
Secondly, on the SG&A and I apologize if I missed some some detail on that but I was just hoping to get a little bit more commentary. So your SG&A expenses were up about 180 basis points year over year on a pretty flattish revenue number and I know you mentioned I believe higher co broker expenses, but I might be wrong on that can you.
Just talk through a little bit your expectations on the SG&A side going forward and if there were any kind of temporary items in there related to community growth or anything that should subside.
Sure. So we don't give out any guidance, where we can we can maybe just add a little bit of color here does that commission rates that you're seeing come through in Q1 is what we sold some of it is what we saw in the current quarter, but some of it until we sold half.
They did sell during a pretty rough Q4, where we had to really add a lot of steps to the axon Commission. So you're seeing a higher commission rate for sure do likewise.
In the last couple of years, but even above historical level, there's going to be some reset there.
Back to normal now, we're not scared to push on that pedal again, if the sales pace doesn't do what we'd like for it to do but right now, but that's achieving above target, we're definitely going to see some pullback in our level of advertising marketing and commission. So it can be.
Some benefit that will come from back in the back half of the year on the G&A side, we specifically called out three items one of them is severance, but you didn't quantify but that's not something that you would expect will continue in future periods, and then a little bit of noise from a technology and insurance and those are all is they're all recur.
The items, maybe not all the same extent, but it's something that we should be able to better leverage our.
If you go through the rest of the year.
I appreciate that thanks, guys.
Our next question comes from Mike Rehaut with Jpmorgan. Please state your question.
Thanks, Good morning, everyone.
The first question.
Just wanted to also make sure I'm understanding it right on.
Can you talk about sales pace of three to four for the rest of the year.
That would imply maybe like roughly like a 5% decline sequentially from <unk>, whereas historically <unk> and <unk> are pretty similar.
In terms of sales pace. So just wanted to understand if that's how we should interpret that.
And.
Because obviously you know things are running pretty solid and if you are expecting a little bit of a sequential decline in sales pace.
Should we also be expecting on average you know continued improvement in in price.
To drive that sales pace, a little bit lower.
So the way I would answer that question is because.
We ought to stop sort of looking at these year over year comps you got to remember.
The first quarter of last year, we were still metering sales. We had achieved almost five net sales per store, we probably could have done six or seven at that time.
And then as we rolled into.
Q2, it felt pretty strong for us all the way through May it wasn't until June that things started to slow down and then obviously Q3 and Q4 were pretty rough so the year over year comps are going to be a little bit.
Hard to explain again the day, we're trying to achieve three to four net sales per store for in our entry level communities and three at our one one of your communities right now most of our communities are entry level. So we're trying to achieve pretty much four per month, along the way we do expect.
It will probably be some seasonality here.
As we go throughout the year, we'll see.
It depends on how tight the resale market stays and what interest rates do but we're just we're just trying to get a you know a form that sales per store in our entry level three and what have you.
That's where that growth comes from.
So I'm not sure if I'm answering your question I'll, let <unk> jump in here as well, but that's kind of how we're looking at it Mike when we first three or four that's our goal right. So the point is that we're not going to let it fall below three to four it's not that we're targeting three to four if the market can get us some more and if we have specs itself. Obviously, we sold 4.2 right there.
Or does it just wrapped up so we're not.
Going to arbitrarily force the market to be lower but we're not going to let it drop below that because that's where we think that we operate most efficiently I think maybe that's how.
You can interpret that comment as far as pushing on pricing fully back incentives absolutely right right now we're not seeing it impact.
Our absorptions pace, if it does impact our absorption space. That's a discussion that we always have and certainly by cheaper price and Harvey sacrificing margin and at what point do you want a question on the price.
At the pace, it's not it's not linear right. It does have a job doesn't translate magically into the same the same reduction and you end up with the same net profitability. So we're looking at that on a community by community basis, but yes, you should expect to see the impact of some of the current revenue increases flow through.
Please don't interpret that to mean that we're trying to get back into that three to four we just don't want to fall below this to be a floor right and you know based on what we're feeling today.
I think you know.
We do feel like there is price elasticity, we can push prices and lower incentives as we move through the spring.
If we see historical seasonality, which I expect us to see we'll have to bring back some incentives in the back half of the year, which is pretty traditional and typical.
And and are selling year. So we'll just have to see and is this just assumes.
So everything stayed static as it relates to interest rates and other macro macro context.
Right No no that's.
That all makes sense and I appreciate the color I understand it's been a long call on sales pace here. So I appreciate that.
Also just looking at the <unk> gross margin guide.
You know I was hoping just to get a summary, theres been a lot of numbers thrown around in terms of.
Lower incentives reduced construction costs.
As it relates to <unk> specifically.
I would think that some of the reduced incentive levels as they came as they progressed throughout <unk>.
Q you know if you had the Fuller impact is as you got towards the end of the first quarter, but that might be an incremental tailwind to margins in the second quarter, what we're kind of the offsets to that and.
And you know again as you look into the back half what would be incremental to Q in terms of the positives and negatives.
I mean, our QQ specs that were selling are still homes that we started last year.
So a lot of cost savings that we discussed are in those specs.
We pulled back from the guidance, but you also have.
Some mixed stuff going on there between the regions I think we're going to get more out of the west and we're getting out of the east in Q2. So there's some of the regional influences. There. So it's just it's kind of all of that.
We probably do have loans that are closing in Q2 that have less incentives and higher prices.
But they also have different cost structures and then there's mix.
What's driving that.
We didn't pull back materially or our actual performance in the quarter was 22, 4% gross margin.
We got it at around 22 high skills as gains in our guidance and we're not anticipating a pull back in if our trend holds true at least short term you know we sold 45% of our closings in the same quarter, we may not have as much visibility as to what that incentives market.
We need over the next two and a half months now it could be nothing could be improving.
But he has actually said with limited visibility we wanted to make sure that any more guidance numbers that were not attainable.
Well, we can still sell homes for a couple more weeks this quarter and are included in the same quarter.
Great. Thanks, so much guys best of luck on the upcoming quarter.
Our next question comes from John Lovallo with UBS. Please state your question.
Good morning, guys. Thank you for taking my questions as well. The first one is heal on on the last call I think you had talked about.
Turning to capital to shareholders.
A number of different initiatives that you guys were considering I know you guys came out with a dividend, which is encouraging and you talked a little bit about share buybacks today, but how should we think about your just overall.
Thoughts on capital allocation at this point is there an opportunity do you think to get a little bit more aggressive on the buyback front.
So thank.
Thank you for recognizing the dividend is the first first of all I ever in our history.
We're listening right I think that's the important takeaway. We're hearing are what the shareholders are asking pointed to return of capital and we thought that was a great way to show our commitment with our cash balances are as high as they are definitely makes sense for a return of capital component to be an ongoing section of our capital planning you can definitely expect.
Our dividend and share buybacks continue to be.
Part of our overall analysis as far as just general share buyback I think we mentioned it we're always looking to take out dilution right. We don't want it to our shareholders and opportunistic is exactly what you mean opportunistic right we want to make sure they were pretty high there.
Casting is where we're at.
Most accretive so if there's opportunities to get back into the market and buy incremental shares that would be definitely where we certainly shown that it's something that we're comfortable doing every year since 2018 right. They certainly have a track record of that it's just kind of managing.
Managing the expectation on the capital front with our initiatives to continue to grow the company at a normalized pace.
Understood. Okay. Thank you and then you know what it's always interesting just looking at slide six is that the West Division or segment has the highest absorption but has the lowest percentage of entry level communities can you maybe just talk about some of the dynamics that are going down there that's driving that.
Speak a lot of it is just.
California.
Don't really classified California as entry level so.
But most of our entry level positions throughout the West region are in Arizona.
Washington, Colorado, and California, which makes up the rest of the west.
That's really kind of kind of what's driving it.
As it relates to <unk>.
What we classify as entry level cost wise versus not.
We're also really aggressive if you recall in Q4, we mentioned that in Arizona was a tough market for us for a couple of quarters and really high.
Aggressively reduced pricing to try to find that market starting to find some success in Arizona and in starting to increase pricing there, but there was a pretty material drop I think it might be.
Scripted remark.
Arizona individually had the largest drop in in that.
S T.
Got it thank you guys.
Our next question comes from Dan Oppenheim with Credit Suisse. Please state your question.
Thanks, very much I was wondering about the community count.
<unk> talked before in terms of holdings to me openings too to rebid and get some savings there and then I was just talking about with communities coming on later in the year getting back to 300 I'm wondering if there's anything you can do in terms of those that were halted in terms of accelerating and bringing them back and just where things are in terms that are real.
Yes, I think mostly anything that was slowed.
Due to the rebuilding effort is now sort of back on track and.
We're opening those back up.
I think the bigger issue has been the transformer issue, which is national news out there we have a lot of communities that were scheduled to open up.
Late in Q1 into Q2 that are now being delayed based on the lead times that we're being told for our Transformers.
And then just a little bit of some communities that saw much stronger sales in Q1, and we expect to see them in Q2 than we were predicting as we set up our our budget.
That are closing out earlier, but the bigger the biggest issue as it relates to not achieving 300 communities earlier is the transformer issue.
Great and then in terms of margins, which we've talked about for the second quarter than those comments you made in terms of.
Having some ability to push pricing here.
Would you say that your expectation now is that to.
<unk> that end up being sort of the.
The bottom four for margins here in the year given that you're in.
Back half of the year, you didn't get the benefit on the cost side, plus we were talking about sort of pushing price on orders should that could then closed in the back half of the year.
Yeah, we're just not prepared to give out margin guidance right now with so many things moving in different directions, we have a lot of communities opening up that Iran basis.
Impact closings in the back half of this year, we'll have to see how stable the pricing and incentive environment stay as we move into some seasonal the seasonality of the summer in the back half of the year and that you know, although we saw some meaningful cost savings.
We're still seeing some challenges on the backend trades with labor.
Finishing the finishes with all.
All that moving around it's just it's just really hard to say right now which is why we're you know we're waiting until we get Q2 and the back before we give out full year guidance, which we're going to do.
Great. Thanks very much.
Our next question comes from Carl Reichardt with BTG. Please go ahead.
Thanks, everybody.
You asked about what counts with just drop it's you know as you've walked from a lot of options I'm, assuming those are options on laci intended to self develop pillar and I'm just curious.
Now that things are beginning to pick up again, how easy it is to go back to those potential sellers and start talking again about the potential for restarting a take down can you just give me a little bit of color on on on how those deals you dropped my might look now that things are improving.
Yeah, I'll take that one.
And dawn.
We're.
Like in the east.
I don't think prices or land prices are changing at all in fact, they they might be getting more expensive. We don't really dropped a lot of stuff back there because everything sort of still makes sense in the market was still strong in.
We were expecting a big pricing reset as you move from east to West Texas.
Again, depending on the market I think seeing a little bit more opportunity in Houston and Austin.
Where maybe you can reset terms not sure about pricing, but maybe you get better terms.
And then as you move to the West we've definitely seen some land prices contract.
Some opportunities have hit the market that were under contract that we can now secure at a lower cost.
Necessarily the deals we were tracking most of the stuff that we walked away from the west was really long term stuff that wasn't going to help us out for a couple of years anyway. So those deals.
Those dollars are pretty patient, but.
But we have seen some deals that were more near term.
That we've been able to.
Get into that another builder dropped at a lower basis.
Great. Thank you Felipe and then again you know what.
You're getting you guys yourself dibella would make Q1, a lot relative to options, but once you get the house to whip stage. It turns in a hurry do you have an overall sort of target internally for for inventory terms turns over time to leap and if so what is it.
Yeah, it's two and a half three year, we think that we should be building houses and a 120 days, we were doing that before COVID-19 hit.
And when we can do that.
Our whole business looks completely different that's one of the reasons. Our SG&A is going a little bit sideways now is because our cycle times are too long when you were in entry level spec builder.
Got to be able to build homes faster. So the goal is to build them at a 120 days, we can turn our assets two and a half times a year and we can basically start homes in August even into September sometimes and close in the same year, where we're making some progress there. It's just too early but I'm hopeful with what we're seeing that this year, we might even be able to get.
To a place where we actually do start some homes in August and some of our divisions and closing this year.
Your wit turns at two and a half but then your land turns would be what you would hang onto dirt two to three years is that the thinking.
Yeah, we I mean, it depends on what type of land, you're talking about because we entitled a lot of land in but when we close.
A project that's shovel ready.
We hope to turn in three to four years.
Thanks, so much I appreciate it.
Our next question comes from Alex Barron with housing Research Center. Please state your question.
Yeah. Thanks.
Obviously your.
Your leverage has gone down significantly.
I'm just kind of curious if you know.
What the strategic thinking is going forward.
With regards to that are you guys just kind of on a.
Hold mode till you find opportunities or is this more going to be the norm in terms of the way you plan to operate or how are you thinking about leverage going forward.
Well, we're not really happy with where it's at I mean, a lot of it is just coming off the really really high margins and really high absorptions.
And then dealing with what happened in Q4.
So our goal is to absolutely be below 10, but I think long term as we're building homes back to in a 128 2100 50 day cycle time, I would hope you would get closer to nine.
You know, it's all about leverage for us so those incremental sales and and.
And the cycle times, when we can close closed homes faster and more efficient.
Operating model.
Is when we are when.
When we when we when we are operating at our full kind of full efficiency and maybe you have a lot to comment as well yeah cause believe recovering leverage on SG&A, if you're talking about that leverage yeah, well I happen to love.
Same comment as Billy I know, it's not the right number right now, but we ended up with a lot of cash right. When the market was turning a little bit. So we pulled back on on land. If you remember in 2020 to our original guidance was that we were.
Gonna have $2 billion and we're about half a billion short of that.
He had spend everything you wanted to I thought that you would have looked different. So you can expect to see us reinvest in the business more.
The market kind of hold steady and stabilizes. It is our expectation to reinvest back into the business. Both in the form of land and new community and then of course, there's communities need way so you'll see it in inventory in all category, if the market doesn't stabilize and we end up.
Building the caching there even further there's definitely going to have to be some something that whether it's data or a return of capital to shareholders, but right now we can't today and we're going to give it another quarter to see if he has stabilized and started to reinvest back in marriage, Hey, Alex This is Steve.
It's a good place to be isn't it.
That's wonderful.
Yeah, I I actually I'm surprised the market isn't giving you a better multiple given that you have.
Such a conservative position.
Yeah.
Mhm anyway, we read what you wrote you are spot on.
I think it will come.
You know I have another question. So you know at the end of 2020 before.
Everybody knew all these supply chain issues with something you know builders, we're happy to take orders.
And everybody's backlog grew and all that stuff and then everybody sort of ran into the supply constraints of the industry.
I'm curious you know it if we were to see a ramp up in activity again, let's say interest rates drop or whatever you know our people just.
Suddenly feel like I should buy a home now before prices go back up.
How easily do you think it is for you guys to expand your capacity into 2024 or do you feel like the industry is already somewhat.
It doesn't have that much capacity left for you guys to grow significantly.
Well I think in the starts are off dramatically.
They could be down 25, 30, 35% versus last year.
I think.
In the short term I think we could ramp up our business pretty well I think there's some there's some capacity out there you might not see cycle times contract as fast as you'd like but I do think the classes there.
There is not the capacity to do what.
It has been done over the last three years. It clearly broke it feels somewhat finite now if some of this multifamily starts slowed down which I think it will there could be some more capacity that flows into the residential space.
So so there could be excess capacity from these other spaces, but it feels pretty finite and it doesn't feel like anything with salt over the last few days or a few years.
That would suggest we could go back in and support the type of growth.
We saw during Covid.
But I think again with our strategy you know we're in the best position to go get it if.
As we continue to build stacks you know focus on three main production steady cadence.
We'll be in the frontline and now we're top five builder.
We have different trades that are.
I'm willing to give us more capacity than before.
Alright, well best of luck.
Yes.
So I think we'll take one more question operator, thank you.
And that last question comes from Susan Mcclary with Goldman Sachs. Please state your question.
Thank you thanks for taking the question.
There's some of your peers have talked about opportunities that could present themselves. If some of your smaller builders start to see stress from tighter lending standards given the size of the business today and the operating strategy that you have are there things that would be of interest to you and all of those different than what they were historically.
Brickley.
No I think they would be interesting to US you know at the end of the day when.
When we think about how we can grow our business.
And where and when you take.
Other capital allocation opportunities off the table, whether it's buying shares back or increasing dividends or paying topped out and whatnot.
There's really three things we look at right, we can do big M&A.
That's the most risky and from our perspective.
Really kind of the lowest ranking of the opportunities. We can do small company M&A, especially in the areas. We want to be that's that's very attractive and I do think that we'll see some stress here and there'll be some opportunities that we're looking at and then we can just reinvest keep investing in our team, which which is what we've been doing.
Over the last seven years and got us a top five builder status.
So we still have opportunities to do that were not top five market share in every single market that we're in.
And that's number one priority because we have a lot of conviction in our team and a lot of conviction in our strategy.
Secondary to that would be to buy something smaller that fits within our geographical footprint that we're trying to accomplish and complements our business.
Okay and are there geographies that you're targeting or that you're thinking about getting into.
There are geographies that we want to get bigger in like Texas and Florida.
And then there are other geographies that we're currently not in that are on a short list as we want to leverage our business outside of the current geographies that we're looking at constantly and just picking the right time. We you know we went in to a couple of new markets over the last three years Coastal Carolina Myrtle Beach, that's too bad.
Tactic.
We're jumping into Jacksonville, that's doing great.
Starting to enter Salt Lake City. So we are increasing the geographies that we're really continuing to diversify our footprint.
Okay. Thank you for the color and good luck with everything.
Thank you thank.
Thank you operator, I'd like to thank everyone, who joined the call today for Arca team for their continued interest in Marriott homes. We hope you all a great day and a great rest of your week. Thank you Goodbye.
Thank you. This concludes today's call all parties may disconnect.