Q3 2024 Meritage Homes Corp Earnings Call
Speaker Change: Greetings and welcome to the Meritage Homes 3rd Quarter 2024 Analyst Call. At this time, all participants are in a listen-only mode.
Speaker Change: If anyone should require operator assistance, please press star zero on your telephone keypad.
Speaker Change: A question and answer session will follow the formal presentation. You may be placed into question queue at any time by pressing star 1 on your telephone keypad.
Speaker Change: As a reminder, this conference is being recorded. It's now my pleasure to turn the call over to Emily Tadano, Vice President of Investor Relations at ESG. Please go ahead, Emily.
Emily Tadano: Thank you, operator. Good morning and welcome to our analyst call to discuss our third quarter 2024 results.
Emily Tadano: We issued the press release yesterday after the market closed. You can find it, along with the slides we'll refer to during this call, on our website at investors.marriagehomes.com or by selecting the Investor Relations link at the bottom of our homepage.
Emily Tadano: Please refer to slide 2 cautioning you that our statements during this call as well as in the earnings release and accompanying slides contain forward-looking statements
Emily Tadano: 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.
Emily Tadano: Our actual results may be materially different than our expectations due to a wide variety of risk factors.
Emily Tadano: 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 2023 annual report on Form 10-K and subsequent 10-Qs.
Emily Tadano: We've also provided a reconciliation of certain non-GAAP financial measures, referred to in our earnings release as compared to their closest related GAAP measures.
Speaker Change: With us today to discuss our results are Steve Hilton, Executive Chairman, Phillippe Lord, CEO, and Hilla Sferruzza, Executive Vice President and CFO of Meritage Homes.
Speaker Change: We expect today's call to last about an hour. A replay will be available on our website later today. I'll now turn it over to Mr. Hilton. Steve? Thank you, Emily. Welcome to everyone listening in on our call.
Speaker Change: I'll start by touching on what we're experiencing in the market today and cover some of our recent company news.
Speaker Change: will share a little more information about the Gulf Coast acquisition we announced this morning and then highlight how our new strategic pivot is reflecting in our quarterly performance. And Hilla will provide a financial overview of the third quarter and forward-looking guidance.
Speaker Change: Let me kick this off by welcoming our newest board member, Aaron Lance, to the Meritage family. We look forward to your insights, particularly in technology and financial services.
Speaker Change: And for anyone that missed our release earlier this month, we also announced our continuation of the declassification process of our board of directors. We are proud to be able to continue to take on corporate governance initiatives that align with our shareholders.
Speaker Change: with what our shareholders have told us is most important to them. Now let's turn to our Q3 results. Q3 was another strong quarter for Meritage, where we again demonstrated that our strategy focused on affordable, move-in-ready homes is resonating with homebuyers.
Speaker Change: Our rate buydowns in July and August and the pullback in mortgage rates in September all contributed to order volume that slightly outpaced traditional seasonality.
Speaker Change: Our company record backlog conversion of 145% this quarter generated 3,942 home deliveries and home closing revenue of $1.6 billion.
Speaker Change: Our 60-day closing commitment is gaining momentum across all our communities and was the driver behind our increasing backlog conversion rates.
Speaker Change: Home Closing Goals Margin for the quarter was 24.8% which combined with SG&A leverage of 9.9% resulted in diluted EPS of $5.34.
Speaker Change: As of September 30th, 2024, we increased our book value per share 15% year-over-year to $139.02 and generated a return on equity of 17.2%.
Speaker Change: Now on to slide four for some recent acknowledgement of our corporate citizenship.
Speaker Change: We received EPA's 2024 Indoor Air Plus Leader Award for the fourth year in a row for building homes that are designed to promote safer, healthier, and more comfortable indoor environments.
Speaker Change: by participating in the Indoor Air Plus program and offering enhanced indoor air quality protections.
Speaker Change: As a result of our workplace culture and employee engagement, we were honored to earn the Great Place to Work certification for a second consecutive year.
Speaker Change: We also made the 2024 Fortune Best Workplaces in Instruction list and Best Workplaces for Women list, as well as Arizona's Most Admired Companies for 2024.
Speaker Change: In August, we published our fourth annual ESG report, which also encompasses our task force on climate-related financial disclosures.
Speaker Change: I encourage everyone to read it and learn more about our efforts and progress related to sustainability and social initiatives.
Speaker Change: And with that, I'll now turn it over to Phillippe.
Phillippe Lord: Thank you Steve. I'll address our acquisition press release first, as you are guessing that is top of mind for everyone.
Phillippe Lord: This morning we announce the completed acquisition of the assets of Elliott Homes.
Phillippe Lord: a prominent private builder operating in the Gulf Coast.
Phillippe Lord: This marks our first acquisitions in 2014, and is a great strategic fit for Meritage, given the strength of the Gulf Coast markets in Mississippi, Alabama, and the Florida panhandle, and the alignment on affordability and product geared toward the first-time homebuyer.
Phillippe Lord: We are excited to be working with owner Brandon Elliott and the opportunities we see in this underserved part of the country. With a supply of over 5,500 lots, we expect to generate meaningful volume from this new division in 2025 and beyond.
Speaker Change: Now turning to slide 5, our sales order for the third quarter were 3,512 homes with 92% of the volume coming from NC-level homes.
Speaker Change: Quarters were slightly up 1% year over year, with both average commute count and absorption pace relatively consistent across both third quarter periods of 2024 and 2023. This quarter's cancellation rate was 10%, remaining below our historical average in the mid-teens.
Speaker Change: ASP on orders this quarter of $406,000 was down 6% from prior year due to geographic and product mix shift as well as increased financing incentive costs.
Speaker Change: Third quarter 2024 ending community count was 278 compared to 287 at June 30, 2024, and 272 at September 30, 2023.
Speaker Change: We brought 20 new communities online this quarter, bringing our total year-to-day openings to 90. While we were expecting to end the quarter with a higher community count, stronger demand than anticipated resulted in some early closeouts, and the timing of some community openings slipped in talks over.
Speaker Change: With the Elliot Acquisition, we should be comfortably about 300 stores at December 31, 2024, and a further double-digit year-over-year increase by the end of 2025 to help us achieve our 20,000-unit goal in approximately three years.
Speaker Change: As we are in the final days of October, I can also provide some high-level commentary on what we are seeing so far in Q4. Despite rates remaining volatile, we are seeing demand hold relatively steady, with October's performance falling fairly in line with September.
Speaker Change: Moving to the regional level trends of slide 6. The central region comprised of our Texas markets had the highest regional average absorption base of 4.6 per month and an average quarterly backbone conversion rate that has exceeded our minimum target of 125% for the last four quarters.
Speaker Change: with approximately 35% completed stack inventory in this region. We believe our product and price points will continue to allow us to gain market share.
Speaker Change: The West region experienced the largest year-over-year growth and average absorption pace to 4.2 per month in Q3, from 3.6 in the third quarter of 2023. We are continuing to see strength in one of our largest markets, Arizona, with attractive product at the right price points.
Speaker Change: Before I dive into the East Region results, I wanted to comment on the recent devastation from Hurricanes Helene and Milton.
Speaker Change: Our hearts go out to those who were impacted by storm damage and power outages in Florida and the Carolinas. We are happy to report that all of our employees are safe and accounted for.
Speaker Change: While our September closings were not materially effective, we were unable to facilitate sales for several days. In October, so far, we have had minor damage to some of our communities, and the power outages and gas shortages early in the month have caused some minor construction delays.
Speaker Change: We anticipate temporary labor dislocation as trade availability is diverted to hurricane repairs in the interim, and some short-term impact to sales as potential customers recover from the hurricane.
Speaker Change: In the third quarter of 2024, the East Region had an average absorption pace of 3.8 net sales per month, in line with traditional seasonality, as the Florida markets are closer to a return to historical levels of resale inventory.
Speaker Change: Overall, we do expect markets to return to a more balanced new home versus resale equilibrium in the future, with some of our submarkets already experiencing increased competition from existing home inventory.
Speaker Change: It was with this expectation in mind that we embarked on our strategic evolution to bring our homes to a near-completion stage before we start the sales process, so we can meet a similar closing timeline as existing resale.
Speaker Change: We believe our targeted market segments of entry-level and first-move-up homes remains under-supplied even with the increase in retail listings, and that our product continues to be attractive.
Speaker Change: We also have a competitive advantage related to affordability, as unlike existing home sellers, we can offer financing incentives.
Speaker Change: We are confident that our strategy allows us to target the largest piece of the potential homebuyer pool by effectively competing against resale inventory, which we believe will help us continue to grow our market share even as existing home inventory reenters the market.
Speaker Change: Now turning to slide 7.
Speaker Change: With our high backlog conversion rate, we view our specs and backlog in the aggregate when we look at optimal levels for our targeted closings, as we know about the first four to six weeks of orders will become inter-quarter closings under our new strategy.
Speaker Change: We believe our approximate 9,000 specs and background units at September 30, 2024 are the right level of inventory as we move into the last quarter of the year.
Speaker Change: We started nearly 3,800 homes in the third quarter of 2024. Although our start volume was down 5% year-over-year and 12% sequentially from Q2, our average start pace was in line with our sales pace and traditional seasonality.
Speaker Change: We had nearly 6,800 spec homes in inventory as of September 30, 2024, up 38% from about 4,900 specs as of September 30, 2023.
Speaker Change: This represented 24 specs per community this quarter, with our targeted four to six months applied as we build up more mature specs to ensure we have the right inventory to meet our 60-day closing ready commitment.
Speaker Change: Of our home closings this quarter, 97% came from previously started inventory, up from 89% in the prior year. 33% of total specs were completed as of September 30, 2024. The first time since early 2009, we are at our target of one-third move-in ready homes.
Speaker Change: With nearly 45% of this quarter closings also still within the quarter, our new backlog continues to climb potentially from about 3,600 as of September 30, 2023, to approximately 2,300 homes as of September 30, 2024.
Speaker Change: We expect this trend to stabilize once we continually are delivering homes within 60 days in all of our communities.
Speaker Change: Before I turn it over to Hilla, I do want to address what is likely going to be one of the Q&A topics, which is the volatile mortgage rate environment as mortgage rates have continued to elevate through most of October.
Speaker Change: Our commentary is the same as it has been since the start of COVID in early 2020.
Speaker Change: We are an agile organization that quickly interprets market cues and adjusts accordingly. Our expansion into the Top 5 Home Builder spot two years ago has allowed us to cost-effectively focus on delivering quick-turning, move-in-ready homes while generating outside profits and gaining market share.
Speaker Change: With our commitment to growth, we have been and will continue to offer financial incentives including rate buy-downs for as long as they are deemed to be a helpful sales tool as we look to solve for affordable payments for our buyers and maintain our sales pace.
Speaker Change: We believe that homes in our target price point are undersupplied in the U.S. and the demand is strong at the right monthly payment. While we do expect rates to be elevated for the near term, anticipating the continuation of heavier usage of interest rate buydowns.
Speaker Change: We also believe that with the influx of Millennials and Gen Zers entering the home buying market, demand will remain consistent and solid.
Speaker Change: I'll now turn it over to Hilla to walk through our financial results. Hilla?
Hilla Sferruzza: Thank you, Phillippe. Let's turn to slide 8 and cover our Q3 results in more detail.
Hilla Sferruzza: We generated $1.6 billion of home closing revenue this quarter, which was a 2% year-over-year decrease with 8% higher home closing volume being fully offset by a 9% decrease in ASPM closings due to product and geographic mix.
Hilla Sferruzza: Third quarter 2024 closing ASP also reflected higher utilization of financing incentives compared to both prior year and sequentially from Q2.
Hilla Sferruzza: Home closing gross margin of 24.8% decreased 190 BPS in the third quarter of 2024 from 26.7% in the prior year.
Hilla Sferruzza: Our 2024 margins reflected higher lot costs as anticipated, the increased utilization of financing incentives, and slightly lower leverage on fixed costs on lower home closing revenue, all of which were partially offset by lower direct costs and shorter cycle times.
Hilla Sferruzza: Our cycle times improved about 7 days from Q2 to Q3 to around 125 calendar days. We are nearly back to our target of about 120 calendar day cycle times, which would allow us to turn our WIP inventory three times a year.
Hilla Sferruzza: Labor capacity remained consistent during the quarter, but given some temporary disruptions to trade availability related to the aftermath of the hurricane that Phillippe mentioned, Q4 cycle time may be impacted in certain parts of the country.
Hilla Sferruzza: We have been able to reduce direct costs on a per-square-foot basis each quarter since Q1 of last year as a result of dedicated efforts by our purchasing team, our streamlined operations, which allow us to capture volume discounts from our national vendors, and a general increased capacity in most supply chains.
Hilla Sferruzza: On a year-over-year basis, our margins reflect about 4% lower cost per square foot this quarter versus 2023. As we have commented on in the past,
Hilla Sferruzza: While still above historical levels, land development cost increases have been stabilizing over the last several quarters. As a reminder, we have already turned over the majority of our communities from pre-COVID land, so the growth impact from higher lot costs will be less material in 2025 and beyond.
Hilla Sferruzza: SG&A is a percentage of third quarter 2024 home closing revenue of 9.9 percent, improved from 10.1 percent in the third quarter of 2023, due primarily to lower performance-based compensation costs.
Hilla Sferruzza: It's important to note that this quarter, total commissions as a percentage of home closing revenue were flat year over year again.
Hilla Sferruzza: Specifically, external commission rates were the same as Q3 2023, despite our higher co-growth participation, as our strategic relationships reduced the need for ad hoc bonuses and incentives.
Hilla Sferruzza: We remain excited and engaged to deepen our relationship with the broker community, which is proving to be a differentiator for us. We expect commissions as a percentage of home closing revenue to remain relatively steady for the rest of the year.
Hilla Sferruzza: For full year 2024, we continue to forecast SG&E guidance of 10% or under. Longer term, we are targeting a 9.5 SG&E percentage of home closing revenue as we grow our existing markets and leverage our overhead platform to reach our 20,000-unit milestone.
Hilla Sferruzza: The financial services profit of $3.1 million included $3 million of write-offs related to rate lock online costs in the third quarter of 2024. The financial services profit of $5.7 million in the third quarter of 2023 had no such write-offs.
Hilla Sferruzza: The third quarter's effective income tax rate was 21.6% this year, compared to 22.4% for the third quarter of 2023, both periods benefited from energy tax credits on qualifying homes under the Inflation Reduction Act.
Hilla Sferruzza: Overall, lower home closing revenue and gross profit led to an 11% year-over-year decrease in the third quarter of 2024 diluted EPS to $5.34 from $5.98 in 2023.
Hilla Sferruzza: Looking at our year-to-date results, we are proud of what we've been able to accomplish in a volatile market and attribute these successes to our scale and strategic focus on delivering affordable, quick, move-in-ready homes. On a year-over-year basis, order for the first nine months of 2024 exceeded last year by 10%, or just over 1,000 units.
Hilla Sferruzza: Closings were up 15% as our backlog conversion hit triple digits in all quarters, and our home closing revenue increased 7% to $4.7 billion.
Hilla Sferruzza: We had an 80th improvement in home closing gross margin to 25.5% from improved cycle times and cost reductions, and our SG&A as a percentage of home closing revenue improved to 9.8%.
Hilla Sferruzza: All in, we exceeded our long-term targets on every metric so far this year, generating a net earning increase of 14% to $613.5 million, with $16.72 in diluted EPS.
Hilla Sferruzza: Before we move on to the balance sheet, I want to cover our Q3 2024 customer's credit metrics.
Hilla Sferruzza: As expected, our bio-profile remained relatively consistent with our historical averages, with FICO scores in the 730s, ATIs around 4142, and LTVs still in the mid-80s.
Hilla Sferruzza: As about 80% of our home closings in Q3 had some sort of financing incentive, that number is consistent with our mortgage company capture rate. On to slide 9.
Hilla Sferruzza: Our capital allocation is focused on both organic growth and shareholder returns to enhance shareholder value.
Hilla Sferruzza: This quarter, we continued to accelerate our investment in business by spending about $659 million on land acquisition and development, which was up 23% from prior year. On a year-to-date basis, our land spend has totaled $1.7 billion.
Hilla Sferruzza: We are on track for full year 2024 land spend of $2 to $2.5 billion, and continue to expect our go-forward annual spend to be similar.
Hilla Sferruzza: As we nearly tripled our quarterly cash dividend on a year-over-year basis to $0.75 per share in 2024 from $0.27 per share in 2023, our cash dividend totaled $27.1 million in the third quarter this year and $81.6 million on a year-to-date basis.
Hilla Sferruzza: We repurchased $30 million of shares in Q3 to catch up on our systematic plan of $15 million per quarter. To date in 2024, we have spent $85.9 million on share buybacks, repurchasing 1.4% of our shares outstanding at December 31, 2024.
Hilla Sferruzza: Turning to slide 10.
Hilla Sferruzza: Even though the land market has been constrained, as public and private builders alike are growing their land portfolio, we were able to secure and put nearly 7,800 net new lots under control this quarter, representing an estimated 48 future communities.
Hilla Sferruzza: In the third quarter of 2023, we put approximately 5,000 net new lots under control. We continue to find land in our geographies and although the competition is tight, we are still able to make deals pencil with our underwriting standards, assuming today's ASPs and costs.
Speaker Change: As Philippe mentioned earlier, since our Elliott Home transaction closed in October, those incremental lots are not yet reflected in our numbers.
Speaker Change: As of September 30, 2024, we overcontrolled a total of about 74,800 lots, equating to a 4.8-year supply, in line with our target of four to five years. We also had nearly 41,600 lots that were still undergoing diligence at the end of the third quarter.
Speaker Change: While our cash position remains high, we are actively sourcing off-balance sheet land financing to allow us to accelerate growth in our land portfolio without overtaxing our balance sheet. We continue to view off-balance sheet financing as a vehicle for incremental growth as we work towards our 20,000 unit milestone.
Speaker Change: To help offset the gross margin headwind from off-book land, these supplemental communities will deliver additional closings, which will generate improved leverage of fixed costs in both gross margin and SG&A.
Speaker Change: About 64% of our total lot inventory at September 30, 2024 was owned and 36% was optioned, compared to prior year where we had a 74% owned inventory and a 26% option lot position.
Speaker Change: We owned 66% and auctioned 34% of our lots at June 30, 2024.
Speaker Change: Before we share our guidance, we would like to take a moment and describe our guidance methodology. Historically, we have had visibility in our backlog to several quarters of closings, so our revenue, margin, and to a great extent EPS were all fairly known. With our strategic shift, our backlog at any quarter end doesn't reflect even a full quarter's closings.
Speaker Change: that result in a high variability and offered financing incentives, our ability to model margins in EPS on homes that are not yet sold is somewhat limited beyond the current quarter.
Speaker Change: While we do believe that our strategy of focusing on pace over price will result in our ability to control the volume of desired sales and closings, the mix and profitability associated with such homes is a fairly wide range.
Speaker Change: Therefore, starting this quarter, we will continue to provide our regular guidance for the subsequent quarter, including ranges for closing units, revenue, margin, EPS, and other guidance. Thank you.
Speaker Change: and Tax Rates. But we will guide to full year closing units and home closing revenue only to avoid continuous revisions that may cause uncertainty around our financial performance. And with that, I'll direct you to Slide 11 for our guidance. Thank you.
Speaker Change: Home Closing Revenue of $1.5 to $1.59 billion Home Closing Gross Margin of $22.5 to $23.5% An Effective Tax Rate of about 22.5% And Diluted EPS in the range of $4.10 to $4.60
Speaker Change: For full year 2025, we're anticipating closings of $16,500 to $17,000.
Speaker Change: 17,500 units and $6.7 to $7.1 billion in home closing revenue, both of which include the Elliott Homes acquisition.
Speaker Change: This implies a double-digit year-over-year growth at the midpoint of our Q4 2024 and full year 2025 guidance. With that, I'll turn it back over to Phillippe.
Phillippe Lord: Thank you, Hilla. To summarize on slide 12, our solid third quarter 24 financial forums demonstrated that our strategic evolution resulting in quick-turning, move-in-ready homes drove strength in our absorption pace and helps us maintain elevated home-closing gross margins.
Phillippe Lord: Although the mortgage rate market remains choppy short-term, we believe that the expectation of lower rates over the next several quarters and the ongoing culmination of favorable demographics and an undersupply of homes will be constructive for homebuyer demand and will enable us to keep growing our market share.
Phillippe Lord: With that, I will now turn the call over to the operator for instructions on the Q&A. Operator?
Speaker Change: Thank you. We will now be conducting a question and answer session. If you would like to be placed into question queue, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue.
Speaker Change: If you'd like to remove your question from the queue, please press star 2. We ask that you please ask one question and one follow-up, then return to the queue. And that's star 1 to be placed in the question queue.
Speaker Change: Our first question today is coming from Stephen Kim from Evercore ISI. Your line is now live.
Stephen Kim: Yeah, thanks a lot guys. Appreciate all the caller.
Stephen Kim: Yeah, there are a lot of questions here, but I'll just basically start with the production side of the equation. I mean, things have really changed over the last year or so. I remember a time when you were, you know, hesitant to think you could do a backlog turn greater than 80 percent, and now it looks like you're guiding at the high end to maybe even double that in your fourth quarter. So I wanted to talk to you a little bit about...
Stephen Kim: What your long-term targets are
Stephen Kim: for Backlog Turns, number of specs per community. I think you shared that your historical cycle time was 120 days. I wanted to know whether you were anticipating that that could go lower. So just basically to understand how you're thinking about what the modeling would look like for Backlog Turns and your spec levels and how you're going to run your business going forward.
Speaker Change: Yeah, thanks Steven. Appreciate the questions.
Speaker Change: I would say that the earlier long-term targets we put out recently this year, we targeted sort of 125% backlog conversion. But obviously, we also indicated to you that we were going to study our business during that time. It's specifically under the shift to holding homes later in the sale process.
Speaker Change: do a 60-day move-in guarantee for our customers.
Speaker Change: With that change, we have been operating closer to 145% over the last few quarters.
Speaker Change: So we're still evaluating this, but I think...
Speaker Change: Where we are is probably where we're going to end up. So, we're targeting something north of 125% at this point. Obviously, that can be impacted by cycle times.
Speaker Change: Our cycle times are almost where we would like them to be, where we're turning assets three times a year. We're at about 125 days. We can get that down a little bit more.
Hilton: Hilton, Hilla Sferruzza, Emily Tadano, Phillippe Lord
Hilton: We feel like we're pretty much there. We want four to six months of spec inventory considering we're converting 145% of our backlog, so we should be converting a third of those each quarter every single time and restarting those.
Hilton: So we always like to have a third of our specs moving ready, a third of our specs right behind that, and then have a third of our specs right behind that. I think we're pretty much there.
Hilton: If our cycle time can continue to improve and stabilize, we obviously can carry less bets because the cycle time allows us to do so. But I would say this quarter, it's pretty much within the range of where we're going to be as we think about our long-term targets on a go-forward basis.
Speaker Change: Okay, when you mean this quarter, Philippe, you mean 3Q or you mean 4Q?
Speaker Change: Q3. Q3. Gotcha. Our Q3 results. Now as you look at our Q4 guidance, we're guiding to something relatively similar.
Speaker Change: That's great. Okay
and many more. Thank you for joining us. We look forward to seeing you again soon.
Thank you, Stephen. So just a little bit of color on Elliot.
Speaker Change: We did not acquire any whip.
Speaker Change: So, we will have no purchase price adjustments for the material write-down that you have in WIP. We are going to be starting units in Q4. I know we're in Q4, so we're going to be starting units shortly. We expect to benefit from those closings towards the end of Q1, so you will start to see the performance of the assets that we acquire. They will all be newly started assets and no acquired WIP.
Speaker Change: all in the margins.
Speaker Change: on the acquired assets should be coming in at or north of our current.
Speaker Change: But it's going to be something a little bit south of that, but not materially south of that. So that's our long-term trend for the Gulf Coast, the new Gulf Coast Division. As far as our off-balance sheet land...
Speaker Change: I know we keep promising that we'll discuss it. It's something that's going to be finalized here internally in the next two to three days. So, you should be hearing from us about the off-balance sheet structure, something fairly material. We will be disclosing on our January earnings call.
Speaker Change: But it's going to be finalized in the next few days. So, meaning it won't go into effect until 1Q, or will it actually go into effect in 4Q? We just won't know about it until January.
Yeah, it'll go into effect in 4Q. It will be part of our 4Q numbers. It's going to be an incremental growth, so it's not something that's going to happen on day one. So the start of the relationship will begin in Q4. You will see evidence of it in our Q4 numbers, and then it will grow beyond that.
Speaker Change: Gotcha. Okay, great. Well, looking forward to hearing more about that, and thanks very much for all the color, guys.
Speaker Change: Thank you.
Speaker Change: Thank you. Next question today is coming from Alan Ratner from Zellman & Associates. Your line is now live.
Alan Ratner: Hey guys, good morning. Thanks for all the detail and a nice job in the quarter.
Alan Ratner: First question on gross margin. You know, you guys have been pretty transparent about your expectation for margins to kind of normalize.
closer to 22 1⁄2 to 23 1⁄2.
It looks like, based on your 4Q guide, that you expect to get within that range this upcoming quarter. At the same time, I know there's a lot of moving pieces on a quarterly basis. I know there's some fixed costs associated with your COGS. I know incentives obviously play a pretty big part in that as well.
Alan Ratner: So I'm just curious if you can kind of parse through the guide for, you know, roughly 200 basis points of sequential pressure on margin.
How much of that is higher incentive levels? How much of that is mixed? And, you know, should we anticipate if incentives remain elevated? Is there a possibility, at least in the near term, you might dip a little bit below that normalized range?
Speaker Change: So, thanks for the question, Alan. I think.
Speaker Change: when we guided...
Speaker Change: a couple quarters ago to what we thought the long-term range was going to be.
for incentives even in what we're seeing, even in what we saw in our Q3 results, which is what, which is the lion's share of the pullback, the material, the material decline from the current quarter to the next quarter is all anticipated increased utilization of incentives. I think we're all waiting with bated breath to see when the rates will come down and there'll be a positive impact. So I don't know that we're forecasting another further pullback in incentives. I think as we head into the spring selling season, hopefully, the tides will turn and head in the other direction. So our long-term margin, I don't think, is at risk of coming in lower. I'm not sure we're anticipating currently for quarters to fall in below that. But again, we'll be actively monitoring the interest rate markets.
and adjusting accordingly, I think we've said this several times.
Oh, I think it was. That was on your end, Patrick. I think that it's issues.
sorry yeah I think that what's happening in the market today is just manifesting itself and our financial statements quicker than some of our peers because of our quick backlog conversion so what we've been alluding to and seeing in our sales volume that's coming through our P&L I think our peers are seeing it a couple quarters later but it's a general industry trend
Speaker Change: Thank you. Next question today is coming from Michael Reho from J.P. Morgan. Your line is now live.
Hi, thanks. Good morning, everyone. Thanks for taking my questions.
We wanted to delve in, you know, I think you kind of already alluded to this, Hilla, but around the cadence of incentives throughout the quarter. It sounds like it ended at a high note, and that's what you're further projecting into the fourth quarter. I was hoping if you could just remind us where incentives are as a percent of sales price.
and how that compares to, you know, normal levels, let's say pre-COVID.
Yeah, they're definitely running north of pre-COVID. Pre-COVID, it was anywhere between 3% and 6%, depending on the nature of the market. Right now, they're running a couple hundred bits above that. So there's definitely increased incentives today from a normal market, which is why we're comfortable that on a long-term basis, our gross margin targets are still correct because we do expect a pullback in the utilization of financing incentives long-term. We're not modeling that right now. The current dynamics in the interest rate environment don't allow us to model that, although we're hopeful that'll happen sometime in 2025. So the guidance that you're seeing from us is at the current exit interest rate utilization, not even so much as of September 30, but current.
Speaker Change: Okay, that's helpful.
I guess secondly, we'd love to get your thoughts around, you know, from a market perspective and certainly as it relates to you guys as a company as well.
The availability of finished lots came up yesterday on a competitor call that perhaps on some levels across markets,
supply challenges are becoming a little more pronounced.
And that gives you access to a good amount of lots in a new area. But bigger picture, you know, how would you characterize, particularly given, you know,
Speaker Change: the emergence of maybe some additional land banking venues and partners. How do you characterize the availability of finished lots across your footprint? Has it gone up or down over the last couple of years? I'll stop there.
Thank you for the question. Yeah, I mean...
It's gone down over the last decade. I mean, so we haven't seen finished lots for 10 years. We self-develop almost 90% of everything we do.
The 10% of what we get that's finished is usually opportunistic in some way and we've been doing that for some time
and we certainly don't see in the pattern that changing anytime soon, it's not, it's only increasing. I think the finish locks that are available in the market are often heavily bid on and you often have to pay a price that really doesn't hurdle.
Speaker Change: Joe, because if a developer goes out there and puts a watch on the ground, they're expecting...
Speaker Change: Retail plus plus plus so
Speaker Change: I would say the availability of finished lots is few and far between, except within M&A.
Obviously, a lot of M&A is happening out there on private buildings because they actually have finished lot inventory that you can get on today. Elliott Homes certainly has some of those that's available to us. So I would characterize the availability of finished lots as...
Speaker Change: Scarce Beyond Scarce.
and I don't see that changing any time soon. Just to clarify, that's always been our expectation, right? Our four to five year supply of lots assumes it's going to take us a year to two for development and then three-ish years to sell through the community. So I don't know that it's any different for us than what we've been modeling, as Phillippe said, for the last decade.
Speaker Change: Thank you. Bye.
One last quick one, if I could squeeze it in.
Hilla, you mentioned that, uh, Elliot...
Speaker Change: You can take the 5,500 divided by 5, maybe it's a little south of that, but you know, let's say that's closer to like 1,000 lots, or closings rather, that could add to your 25.
Speaker Change: That's a 7% growth roughly off of, you know, your 24. And I think even before that, we were kind of looking for 10%-ish type volume growth. So should we just be adding that?
to the normal 10% and, you know, I mean, is it out of bounds to think that you could be doing a 15% plus closings growth next year?
Yeah, I'm not sure that we're guiding to 15% closing closing growth. We gave our guidance that includes the Elliott numbers That's 5,500 lot is a long-term run rate. So I'm not I'm not intimating that we're going to be in the thousand unit Range in in year one the numbers that we have are inclusive of the Elliott transaction their their component of that is not
So I think that the growth that you're seeing is primarily organic at that midpoint, that 17,000 units is primarily organic.
Okay, great. Thanks so much.
Speaker Change: Thank you.
Thank you. Next question today is coming from Trevor Allison from Wolf Research. Your line is now live.
Hi, good morning. Thank you for taking my questions.
Trevor Allison: One to follow up on the 4Q Margin Guide, if we look back over the past several years,
Trevor Allison: You've consistently outperformed the top end of your margin guidance range. I think that was true in 3Q as well. And then, as you alluded to, 4Q assumes a notable step down here sequentially. Can you talk about the degree of conservatism that's built into that guide? And then, what would you need to see happen for the bottom end of your 4Q guidance range to come into play?
Yeah, so I think as you look at the past
You know eight quarters where you have identified that we've outperformed
A lot of that was
Trevor Allison: 1MU to Entry-Level Builder and then from Entry-Level to All-Spec and from All-Spec to
Now, as you look at the last quarter in our guidance, we indicated to everybody that our margins were going to be down, and we slightly outperformed, but a lot of that just came in the form of a higher backlog conversion and a little bit less of utilization of rate locks.
So I think we're getting much much tighter and I would say as we sit here in October We don't think there's a lot of conservatism in our four key guide that being said I think rates would have to go higher and then they currently are for us to perform below that midpoint
Trevor Allison: which I currently don't feel like they're doing. We have another maybe two or three weeks of sales that will close in Q4.
and as we look out and see what sales we're procuring today we don't see our financing costs going up. So I feel confident in our midpoint for 4Q.
Can you talk about, in the third quarter, how demand responded when you did see rates decline pretty quickly in the second half of that quarter? And then others have talked about non-rate impacts to current demand conditions, things like the election. What is your expectation for demand in the spring if we don't get a move lower in rates, they can stay pretty consistent to where they're at, but we have some of the other noise, such as the election behind us?
Yeah, thanks again, Trevor.
So, much like we said in the previous guidance, we felt like
The back half of this year was going to be a more difficult sales environment because of the election because
What rates were going to potentially do because of for the first time in many years we experienced true seasonality and All of that has materialized I think the only thing that has become more material has just been what rates have done after the Fed cut
The sales environment is extremely elastic to rates.
If you look at our third quarter orders, September was our best month in a meaningful way because rates came down after the rate cut and we saw increased demand environment. As rates have elevated through October, we've seen the demand moderate from September.
So, it is very, very, very elastic.
Speaker Change: Gaffey said
We're guiding to 17,000 units next year, which is significant growth over where we currently sit.
We're assuming four point net sales per month to do there based on our community count growth. So we're extremely confident about the demand environment. We think there are a lot of folks out there that want to buy a home. What we lack confidence in is just exactly what the cost of that demand is going to be in the form of financing and incentives.
Speaker Change: Yeah, makes sense. Appreciate all the color and good luck moving forward.
Speaker Change: Thank you.
Thank you. Next question is coming from John Lovallo from UBS. Your line is now live.
Hi, good morning guys. Thank you for taking my questions as well. The first one is just to follow up on
One of the last comments you made I thought earlier in the presentation you guys may have indicated that October
was similar to September from an order standpoint. September seemed like it was pretty good. So, I mean, is the order pace relatively consistent just at a higher incentive level? Or, you know, what's kind of the right way to think about the pace that you're seeing so far in September?
Yeah, you're thinking about it the right way, which is why we're guiding to our fourth quarter margins. The demand is there. We feel very confident that we're able to go secure the pace, and we are a pace-driven business.
So we feel confident we can go get our four month or so at the margins that we got it to because we have the financing incentives to go get there. So the demand environment remains extremely constructive.
It's the financing and incentive environment that is continuing to be volatile, and just the cost and the expectation of consumers as it relates to incentive and financing to procure the sale.
Speaker Change: Makes sense and then you know I think I think you answered this but I just want to make sure that I'm understanding it correctly. You guys maintain the sort of the the long-term trend margin outlook and so does that imply that if rates in fact do come down and who knows if they do and when they do but that you would take the you know the foot off the gas on the incentives and capture more margin is that is that the right way to think about that?
a hundred percent as long as we're getting our pace right and so there's a lot of things that move around in margins it's not just financing especially as you start to look out in future quarters
We have newer vintage land coming on, etc., etc. So our long-term targets are based on our long-term underwriting, the efficiency that we've been able to create in our new operating model, our backlog conversion, our leverage, etc.
But what can obviously move the needle positively or negatively on that is the incentive environment.
It's not just solving the payment for the customer, but it's also what our competitors are doing in the environment.
If rates go down, that would, I think, provide potentially a tailwind.
for margins, if rates stay high and even go higher, that could potentially present a headwind. Now, there are a lot of other things we can do to preserve margin in that environment. We can navigate our cost structure a little bit differently. We can do things with pricing, et cetera. So, I don't want to say that.
Speaker Change: We're completely vulnerable to this, but yeah, lower rates provide a tailwind, higher rates provide a headwind. Yeah, Phillippe mentioned it correctly. I don't think that we're guiding to, I don't think it needs to be modeling once we have a couple more Fed announcements of rate cuts that the margins are going to increase. That's also going to increase the availability of resale inventory, which will impact the ability to push pricing. So there's forces in both directions. I think we're fairly comfortable with our long-term margin guidance at this time. Doesn't mean that we're not going to be a little bit above, a little bit below all around that based on what's happening quarter to quarter, but I think we're comfortable long-term with that market, with that margin range.
Yep, understood. Thank you guys.
Speaker Change: Thank you.
Thank you. Next question today is coming from Carl Reichardt from BTIG. Your line is now live.
Thanks everybody. I wanted to ask a little bit about Elliot to sort of broad more broadly So the 20,000 unit goal you've got within three years. I mean you'll be 17 next year at the midpoint
Speaker Change: Does that presume any additional acquisitions?
My thinking has been now that you've got the actual production model really dialed in...
Speaker Change: Are you thinking more about trying to gain share within the markets you already are entering new, since Elliott is really a very new and different market for you? So, is it really an opportunistic deal, Phillippe, or is this something that we could say sets a new direction for you for new geographies or doing more acquisitions to help get to that 20,000 unit goal?
Yeah, actually Elliot was a very strategic deal for us. We've been looking at these markets for a while They fit in nicely with our overall strategy to provide affordable housing
Speaker Change: These markets are benefitting from a lack of affordability regionally in the states that are around here. They still provide a great quality of life. They are attractive to first-time homebuyers, move-down and first-move-up. And the economies are actually really, really strong. So we've been thinking about getting into these markets organically or through M&A.
Speaker Change: Elliot Holmes was a great opportunity for us to partner with a
a great gentleman who has built a phenomenal franchise in those markets so that we can go more quickly.
and scale from there. So it was it was very much a strategic fit. As I said before, plan A is always to increase our market share organically in the markets we are. We are a top five builder across most of our markets. We think as a first time entry-level spec builder we should be a top three builder.
Speaker Change: But we also have a number of markets that we have identified as strategic fits to our operating strategy and to our consumer segment strategy.
Speaker Change: that we are looking at organically going into or acquiring a builder that would allow us to strategically enter that market at the right price.
So, it's always been both of those and we're going to deploy our capital appropriately as long as it's a good return to shareholder value.
and, you know, we'll go from there. That being said, we don't have anything currently...
out there from an M&A standpoint that is actionable.
Speaker Change: We're looking at things, but we have a lot of growth planned organically for our existing markets. When we got it in June to 20,000 units on our investor calls, it was assuming all organic. So anything that we're doing now is incremental.
Speaker Change: Alright, thanks Hila. And then just one thing, I think you said about $2.5 billion in spend or matched spend in 2025 on land and development versus 2024. Is your split between new land versus development likely to be similar to what it was in 2024 too?
Speaker Change: On a go-forward basis, yeah, probably a little bit heavier on land development. We've spent a lot of dollars acquiring land. As Phillippe mentioned, about 90% of everything we acquire we self-develop. So there's quite a bit of dollars going out the door on development. I think that the relative ratio between development and acquisition in 24 is fairly consistent on a go-forward basis.
Speaker Change: All right. I appreciate it. Thanks, Hilla. Thanks, Phillippe.
Speaker Change: Thank you.
Thank you. Next question today is coming from Susan McClory from Goldman Sachs, your line is out of line.
Thank you. Good morning, everyone.
Susan McClory: My first question is on stick and brick costs. We've seen lumber inflate in the last several weeks, or just wood products in general, actually. Can you talk a bit about what you're seeing there, thoughts on the potential that that path continues for that input cost? And then how does this strategy allow you to effectively price the homes as we do perhaps get some volatility in some of these core commodities?
Speaker Change: Yeah, so...
You're right, lumber has kicked up a bit.
Stabilizing and supply chains kind of returning back to normal levels. We're not seeing the variability in that today. We do have lumber locks that secure, you know, the most volatile and biggest individual component of the home. So we do have some straight lining there, but for the most part we're not seeing tremendous movement like we had in direct, you know, the last maybe three or four years.
I don't think we have any guidance yet on capital allocations for 2025 and targets for shareholder return. We can definitely share those on our Q4 earnings call.
Okay, thank you. Good luck with everything.
Speaker Change: Thank you.
Thank you. Next question today is coming from Alex Barron from Housing Research Center. Your line is now live.
Yeah, thanks guys and great job on the quarter. I wanted to ask about Elliot just to understand, so these existing communities, whatever homes are underway under construction and backlog, basically those are going to...
Speaker Change: The previous owners are keeping and finishing those out, and anything new is going to accrue to your benefit. Is that how it's going to play out?
Yeah, but the only nuance is their existing communities were buying the remaining lots within the existing communities.
and we'll start our homes.
Speaker Change: on those, but anything that is under construction in the existing community's models and sold with.
okay but I'm saying you guys are keeping all the team right like every every salesperson and builders and all that stuff is is now working for you yeah we don't have that we don't have an operations in the Gulf Coast so the Elliott team is joining our team and we look forward to building a great great company down there
Speaker Change: Okay now I was briefly looking at their website and looks like their price points are pretty low. I mean some homes are even as low as
$170,000. Are you guys planning on, you know, continuing along those same price points? And if so, what's allowing that? Is the land just cheaper in those markets than in other markets?
Speaker Change: Yeah, we love it. The lower, the better. More affordability for the folks, so.
As we currently sit here today, we plan to continue operating in the price points and the submarkets that they're in.
To answer your question, they had some of the best margins.
we've ever seen from private builders. So they've executed a very profitable business.
there, and you can get the land on the ground.
Speaker Change: to achieve that affordability.
You know, some of the low-low stuff is kind of some unique stuff that they were building. We're probably not going to continue too much with that. But their core operating model is a 30 and 40 wide product.
Got it. Well, best of luck, guys. Thanks.
Speaker Change: Thank you
Thank you. Next question is coming from Jay McCandless from Wedbush Securities. Your line is now live.
Jay McCandless: Hey, thanks for taking my questions. Actually, Alex stole most of the ones I had on Elliot, but did want to ask...
were some of your competitors talked about.
The cost of these mortgage rate buy-downs is increasing.
Speaker Change: and wanted to ask if that ratio of 25 bps of mortgage rate, you know, nominal rate, is still costing about a hundred basis points of gross margin or is that ratio increased now with some of the rate volatility we're seeing?
Speaker Change: Yeah, we have a slightly different structure on our rate lock, so I'm not sure that there's any rule of thumb that you can use for that. The costs are staying elevated, although we've changed our offerings a little bit. So the per-home amount is not materially different, but the utilization, how many folks are using them and meeting the rate lock, or I shouldn't even say meeting, I should say wanting the rate lock due to psychological fear about buying at a certain time in the market, that percentage is increasing.
Thank you for joining us.
And then the other question I had, and I jumped on a bit late so I apologize, but how many communities is Elliott anticipated to add and did you give any guidance for fiscal 25 community count growth?
Speaker Change: Yeah, we did guide that we would finish comfortably over 300 to end this year, including the Elliott.
Speaker Change: Holmes Acquisition. We also guided to double-digit growth for next year over that number.
so that's what we provided in our in our release.
and then we're still evaluating exactly how many on a go-forward communities we're going to have with Elliott Homes. We want to make sure we understand not only which ones are going to be active but how long they're going to be active before we give a final count on that and we'll be prepared to do that in our next release.
Okay, great. Thank you. I appreciate it.
Thank you. I think operator that was the last question, correct? It sure was. Over to you for any further closing comments.
Thank you. I'd like to thank everyone who joined us call today for your continued interest in Mary's Homes. We hope you have a great rest of your day and a great rest of the week and go Dodgers!
Speaker Change: Thank you. That does conclude today's teleconference and webcast. You may disconnect your line at this time and have a wonderful day. We thank you for your participation today.