Q2 2026 Smith Douglas Homes Corp Earnings Call
Speaker #1: If you would like to ask a question, please press *1 to raise your hand. To withdraw your question, press *1 again. I will now hand the conference over to Joseph Thomas, Senior Vice President, Accounting and Finance.
Speaker #1: ahead.
Speaker #2: Good morning, and welcome to the earnings Homes. We issued a press release this morning outlining our results for the second quarter of 2026, which we will discuss on today's call and which can be found on our website at investors.smithduglas.com or by selecting the Investor Relations link at the bottom of our homepage.
Speaker #2: Good morning, and welcome to the earnings Homes. We issued a press release this morning outlining our results for the second quarter of 2026, which we will discuss on today's call and which can be found on our website at investors.smithduglas.com or by selecting the Investor Relations link at the bottom of our homepage. note this call will be simultaneously webcast on the Investor Relations section of our website.
Speaker #2: financial and operating goals and performance, are forward-looking Please statements. Actual results could differ materially from such statements due to known and unknown risks, uncertainties, and other important factors, as detailed in the company's SEC filings.
Speaker #2: Except as required by law, the Company undertakes no duty to update these forward-looking statements. Additionally, reconciliations of non-GAAP financial measures discussed on this call to the most comparable GAAP measures can be found in our press release located on our website and in our SEC filings.
Speaker #2: Hosting the call this morning are Greg Bennett, the company's CEO and Vice Chairman, and Russ Devendorf, our Executive Vice President and CFO. I'd now like to turn the call over to Greg.
Speaker #3: Good morning, and thank you for joining us today for a review of our business results for the second quarter of 2026 and an update on industry conditions and our company's outlook.
Speaker #3: Smith Douglas Homes continued to make progress towards our goal of becoming a large-scale builder in the Southeastern and Southern United States, posting strong year-over-year growth in both net new home orders and home closings in the second quarter.
Speaker #3: We generated 273 million in home closing revenue for the quarter, representing a 22% increase over the second quarter of 2025, on $839 home closings and an average sales price on closed homes of $325,000.
Speaker #3: Home closing gross margin for the quarter averaged 17.6% on a GAAP basis. Our 18.7% when you exclude the impact of 3.1 million of inventory impairments included in the cost of home closings.
Speaker #3: Our pre-tax profit came in at $1.9 million for the quarter. Our 9.5 million when adjusting for impairments and lot auction contract abandonment charges. Overall, our company executed well in the quarter against the home-building backdrop that continues to be marked by uncertainty and affordability challenges for new home buyers.
Speaker #3: Despite this uncertainty, we were able to post net new home order growth of 32% on a year-over-year basis for the quarter, for a total of $970 net new home orders.
Speaker #3: As our team did an excellent job working with buyers to find the right combination of price, personalization, and value to keep our production-oriented building model running smoothly.
Speaker #3: We saw consistent traffic and a relatively stable sales pace throughout the quarter, averaging roughly 3 sales per community per month, which we maintained through a targeted use of sales incentives.
Speaker #3: Our construction cycle time for homes closed averaged 55 days, as we continued to emphasize construction efficiency across our homebuilding platform. This remains a key component of our returns.
Speaker #3: Focused business model and one we feel differentiates our company from the competition. Not only does this discipline allow us to work through our community's efficiently, but it also shortens the time between sale and close, which helps reduce the possibility of cancellations.
Speaker #3: We continued to expand our presence across our markets. We grew quarter-end community count by 20% on a year-over-year basis to 110 active communities. Home-building is a business of scale.
Speaker #3: And we know higher volume will lead to better expense leverage over time. At the same time, we remain disciplined on our land acquisition front by adhering to our underwriting standards and walking from deals that do not meet those standards.
Speaker #3: We maintain this balance through our land lot strategy which allows us to control the pipeline of lots through options and land banking agreements. While also providing us downside risk protection.
Speaker #3: At the end of the second quarter, we had a total of 22,319 unstarted controlled lots with only 3% of those lots owned on our balance sheet.
Speaker #3: As we turn our focus to the back half of the year, we feel cautiously optimistic about the state of the home-building industry and our company's positioning.
Speaker #3: The U.S. consumer has proven to be resilient in the face of rising rates and macroeconomic uncertainty, while building conditions continue to be favorable. We see better discipline from builders in terms of spec inventory and through selective and targeted financial incentives to buyers we continue to be able to compete well against existing home market.
Speaker #3: As a result, I remain confident in our long-term outlook for Smith Douglas Homes. Finally, I want to once again recognize and thank our team members for their continued dedication and hard work.
Speaker #3: Their commitment to serving our customers, executing our strategy, and adapting to a dynamic operating environment has been instrumental to our success. On behalf of the entire leadership team, I want to express our sincere appreciation for everything they do.
Speaker #3: Now I'll turn the call over to Russ, who will provide more detail on our financial results this quarter and give an update on our outlook.
Speaker #4: Thanks, Greg, and good morning. I'll highlight our results for the second quarter and then conclude my remarks with an update on our balance sheet, capital allocation priorities, and outlook for the third quarter.
Speaker #4: We finished the second quarter with $273 million in revenue on 839 closings, with closings up 25% from the year-ago period and an average sales price of $325,000.
Speaker #4: Our home closing gross margin was 17.6% on a GAAP basis and adjusted home closing gross margin was 19%, which excludes capitalized interest and inventory impairments.
Speaker #4: Our margins continue to reflect the use of incentives and targeted pricing adjustments to support affordability and maintain sales pace. During the quarter, closing costs, price discounts, and the cost of forward commitments totaled $780 basis points, which compared to $480 basis points in the year-ago period and $730 basis points sequentially from the first quarter.
Speaker #4: Selling general and administrative expenses for the quarter were $41.9 million, or approximately $15.4% of revenue, up 7.2 million compared to the same period last year and down slightly as a percent of revenue.
Speaker #4: The increase primarily reflected higher sales commissions and advertising costs associated with higher closings, and the investments related to our Dallas-Fort Worth and Alabama Gulf Coast expansions.
Speaker #4: Pre-tax income for the quarter was $1.9 million, resulting in net income of $1.8 million, or $0.03 per diluted share. Our second quarter results included $3.1 million of inventory impairment charges and cost of home closings, and $4.5 million of lot option contract abandonment charges and other expense.
Speaker #4: Adjusted EBITDA which we believe provides a clean, apples-to-apples view of our operating performance as it excludes share-based payment expense inventory impairments and lot option contract abandonment charges, among other items, was $13.4 million, or $4.9% of revenue, compared to $19.8 million, or $8.8% of revenue, in the same period last year.
Speaker #4: Given the nature of our upsea organizational structure, our reporting net income reflects the allocation of earnings between Smith Douglas Homes Corp. and the non-controlling interests of Smith Douglas Holdings LLC.
Speaker #4: Because a significant portion of our earnings is attributable to LLC members and not taxed at the corporate level, the income tax impact reflected in our financial statements can differ from more traditional C corporations.
Speaker #4: For that reason, we also present adjusted net income, which assumes a blended federal and state effective tax rate of 26.9% as if we operated as a fully public C corporation, which we believe provides a more meaningful comparison to peers.
Speaker #4: For the quarter, adjusted net income was $1.4 million, compared to $12.9 million in the same period last year. Turning to orders, we generated 970 net new home orders during the quarter, an increase of 32% versus the year-ago period.
Speaker #4: Year-to-date, we have generated 1,951 net new home orders, up 30% from the prior year period. We ended the quarter with 1,000 homes in backlog, up 17% from the year-ago period, with a contract value of $322.1 million and an average sales price of $322,000.
Speaker #4: In addition to backlog, we also had 74 home reservations at the end of the quarter. These reservations allow our buyers to take advantage of buying a build-to-order home while also benefiting from a guaranteed mortgage rate when they close.
Speaker #4: We expect most of these reservations to convert to new home orders in the third quarter. Turning to the balance sheet, we remain focused on preserving financial flexibility while continuing to invest in our growth.
Speaker #4: We ended the quarter with $14.2 million of cash and $66 million of total debt. Our $325 million unsecured revolving credit facility had $63 million of outstanding borrowings and $0.8 million of letters of credit at quarter end.
Speaker #4: Our debt-to-book capitalization was 13.2%, and net debt-to-net-book capitalization was 10.7%, compared with 9% and 6.6%, respectively, at year-end 2025. Net debt was $51.8 million at quarter end.
Speaker #4: Importantly, our balance sheet has continued to improve as we scale operations, even in this difficult housing environment. Despite increasing active communities by 20%, from 92 at the end of the second quarter of 2025 to 110 at the end of this quarter, and growing our closings 25%, our total debt was down 11%, and on a per-community basis, total debt declined 25%, while real estate inventory per community declined 14% from a year ago.
Speaker #4: These metrics highlight the efficiency of our business model and ability to effectively manage our balance sheet while at the same time growing our business.
Speaker #4: Our land light strategy remains a core component of this performance. At quarter end, we controlled $23,527 lots, including 1,208 homes under construction, 664 owned lots, and 21,655 option lots.
Speaker #4: By relying primarily on third-party lot developers and option agreements, we can align lot delivery with demand maintain flexibility and deploy capital efficiently. As Greg previously mentioned, our pace over price philosophy continues to guide how we manage the business.
Speaker #4: In the current environment, our focus remains on maintaining absorption and inventory turns even if that requires some pressure on margins in the short term.
Speaker #4: We believe maintaining sales pace allows us to preserve market share, generate cash flow, continue investing in our community pipeline, which ultimately drives scale and stronger returns over the full housing cycle.
Speaker #4: Our capital allocation priorities remain unchanged. We will continue to prioritize investing in our land pipeline and community growth while maintaining a conservative balance sheet, and we will remain opportunistic with share repurchases.
Speaker #4: During the second quarter, we repurchased $312,351 shares of Class A common stock for $4.4 million. Including repurchases completed in the first quarter, we have repurchased approximately $10.1 million of stock through June 30th.
Speaker #4: We believe these repurchases represent an attractive and disciplined use of capital while preserving the financial flexibility to support our long-term growth strategy. Looking ahead, we remain encouraged by the strength of our order growth, the expansion of our community base, and the improving efficiency of our land light model, while recognizing that demand remains sensitive to mortgage rates, affordability, and consumer confidence.
Speaker #4: For the third quarter, we currently expect closings between $825 and $900 homes, average sales price between $315,000 and $320,000, and gross margin between 16% and 16.5%.
Speaker #4: Given the continued variability in demand conditions, we are not providing full-year guidance at this time. While the primary risk to our outlook remains tied to macroeconomic conditions, including mortgage rates, consumer confidence, employment trends, and the potential need for continued pricing adjustments and incentives, we believe our affordable product offering, land light strategy, disciplined operating model, and growing community base positions us well to continue gaining market share over time.
Speaker #4: With that, I'll turn the call over to the operator for instructions on Q&A.
Speaker #1: Good morning.
Speaker #2: We will now begin the question and answer session. Please limit yourself to one question and one follow-up. If you would like to ask a question, please press *1 to raise your hand.
Speaker #2: To withdraw your question, press *1 again. We ask that you pick up your handset when asking a question to allow for optimum sound quality.
Speaker #2: If you are muted locally, please remember to unmute your device. Please stand by while we compile the Q&A roster. Your first question comes from the line of Mike Dull with RBC Capital Markets.
Speaker #2: Mike, your line is open. Please go ahead.
Speaker #3: Good morning. Thanks for taking my questions. Greg and also Russell, I want to start with I mean, Greg, you expressed cautious optimism and a steady sales pace through the quarter.
Speaker #3: Can you give us an update on how July and the beginning of August has trended, and trying to square that a little within your gross margin guide is down meaningfully sequentially, so how much is kind of the you've had to lean back into incentives as rates have gone back up, but you're maybe you're still encouraged that you're at least seeing a demand response to that?
Speaker #3: I'm just trying to better understand that in the context of what's a pretty big step down in gross margins.
Speaker #5: Yeah. Mike, thanks. We pretty much June, July, has stayed pretty much the same. That one caveat is we have leaned back in a little more on forwards and some rate purchases as the rate has gone back up.
Speaker #5: So we just continue to underwrite everything they're current environment. So if we look forward, if we have to continue this, if rates are continuing to stay elevated, the macro is not giving us any indication of a lot of consumer change here in the near term.
Speaker #5: So we just continue like I said, cautiously, optimistic, demand's there. It's just solving affordability. And we continue to push for our pace. And as you see with the numbers, we've been able to hold our pace pretty steady.
Speaker #3: Okay, got it. So, yeah, I guess if I'm hearing that, then it's—again, you're, at least—even if you're leaning in or incentives are ebbing and flowing, you're at least finding demand when you lean in.
Speaker #3: Which, yes, that's encouraging. Russ, then maybe just as a follow-up, more specifically, when you think about that gross margin guide, can you help us kind of bucket out the step down from 18.7x charges to the 16.5?
Speaker #3: How much of that is related to incentives? How much is other costs dynamics, either express labor or land? Help us understand that bridge a little bit more.
Speaker #4: Yeah. It should when we look it backlog and as Greg said, we were leaning more into pace as we have really the first half of the year.
Speaker #4: I would tell you it's just more of our continued use of incentives and discounting to match pace. With as a land light builder, kind of takedown, we really focused in the first half of the year on trying to get one sale per community per week really in that kind of just matches the takedowns in the majority of our option contracts.
Speaker #4: And so it's really just a function of kind of adjusting price and payment through those use of incentives, closing costs, forward commitments, to get that pace.
Speaker #4: So that's what I would tell you without I don't have the exact numbers in front of me, but that's really going to be the driver of the margin compression.
Speaker #4: And then hopefully, we're like Greg said, we're cautiously optimistic that we're finding an opportunity to maybe kind of keep margin steady from here. And maybe pull back a little bit on incentives going forward and start to work on pricing and see if we can claw back some margin.
Speaker #4: We're hearing some of our competitors—I think if you've listened to the other conference calls—a lot of builders are reducing inventories or specs and leaning against increasing incentives.
Speaker #4: So hopefully, as an industry, we're kind of finding bottom.
Speaker #3: Yeah. And Russ, maybe just one quick last one from me, just to follow up on that last point. I mean, you guys have kind of your pace focused, and you try to be balanced around things, but with that focus.
Speaker #3: So when you think about everyone's trying to get a better balance, maybe on spec versus build to order, how do you how are you evolving your strategy on the ground right now as we look at the second half?
Speaker #4: Yeah. We've always been built to order focused. I mean, pre-sales is our number one priority, Greg, if you want to touch.
Speaker #5: Yeah. Mike, I think I mean, to give you numbers, we're about 70/30. We look at it more so around because of the way we work, buyers maybe have credit challenge or time constraints that we may so we focus on getting the home sold by drywall.
Speaker #5: That allows that house to still close on its intended close date when we started it. So, there's a few buyers that we do through reservations.
Speaker #5: But if you look at all that, end of the day, everything's sold by drywall at about 70%. And those are what we look at as the pre-sales because there's a certain amount with our buyer, there's a certain amount of attention to the approvals that we need to work through and qualifying on the front end.
Speaker #4: Yeah. The one thing I would add, we still give our buyers the ability to personalize their homes even after we start the home. So up until that drywall stage, like Greg mentioned, they still have the opportunity to select certain options in that home so it allows for additional personalization, which I think is pretty unique, especially at our price point, giving buyers up until that point of drywall to create the home that they want.
Speaker #4: And those as you know, the margin on those options come in at a pretty good at a pretty good number for us. So anything we can do to give our buyers that opportunity to select their own options, creates more margin opportunity for us, and it also creates a stickier buyer because it's the home that they've had the ability to make choices.
Speaker #3: Okay. All right. Thanks for the details.
Speaker #4: Sure.
Speaker #1: Your next question comes from the line of Natalie Kalasiker with Selman and Associates. Natalie, your line is open. Please go ahead.
Speaker #2: Hey, good morning. And nice job on the quarter. So direct construction cost reduction was something that popped up a lot on this past earnings season.
Speaker #2: So, curious to see—have you seen any, are you seeing actually continued reductions in costs, or have you maybe kind of reached the end of it?
Speaker #2: Curious to see if you've seen that offsetting any part of your incentives spend.
Speaker #5: Yeah. I think that but yeah, we've seen we're two and a half, three percent year over year cost is our hard cost savings are there.
Speaker #5: So yeah, for sure that helps. With fuel prices, there's fuel surcharges and other things that are starting to creep back into the equation. But yeah, we have seen savings in cost.
Speaker #2: Okay. Thank you. And also some other builders, I guess, mentioned using tools like a higher share of arms to kind of manage that incentive spend.
Speaker #2: So I know you brought it up in your previous call, but is that something that you've been pushing more just to try and manage your incentive spend?
Speaker #4: No. We haven't gone back into the arms this quarter. What we've been using is still kind of the fixed rate where we've bought forward just a fixed rate incentive.
Speaker #4: And towards the end of the quarter, into the third quarter, we've started to pull back on the rate incentive and are really trying to focus on just using the 6% that's allowable for closing costs and spot buydowns. We think that from a base pricing standpoint, in most of our communities and markets, we're already priced on the low end of the market and offer a really good value.
Speaker #4: At our pricing. And it seemed to it hasn't seemed to have slowed our pace, which is good. So as I mentioned on the last question, we're slowly pulling back on incentives to see if we can recapture some of that margin.
Speaker #2: All right. Thank you.
Speaker #1: Your next question comes from the line of Sam Reed with Wells Fargo. Sam, your line is open. Please go ahead.
Speaker #6: Thanks so much, guys. So another question on growth margin here. Wanted to just ask about the impairments and any senses to how widespread those were and then can you just remind us your underwriting standards margins versus returns?
Speaker #6: We'd just love a refresher on that.
Speaker #4: Sure. Yeah. We obviously like every builder should be, we go through our impairment testing quarterly and we first look at where our backlog margin is sitting.
Speaker #4: And that's kind of your first indicator. And so, we do a thorough scrub of backlog, and then we'll run cash flows where we have some where those margins are, say, mid- to high-single digits, and then we'll do the cash flow.
Speaker #4: And so again, we're it is what it is, right? It is a subjective. I will say this for anybody that's been in home building and doing this for a while.
Speaker #4: I mean, the testing is subjective. I think that's why you probably across the builder landscape might see some that are taking more than others, but it's a pretty subjective process.
Speaker #4: But I think we're pretty consistent on how we look at things. But is it widespread? No, I think we took it in maybe three communities.
Speaker #4: Three communities this quarter. And then we took a couple of abandonment charges where it made sense. Again, I think the nice thing is is having a strong balance sheet like we do.
Speaker #4: The accounting does not drive any decision. We make everything we do is based on economics. Is it a good deal for the business? And so we're fortunate just the way we manage the business that everything we look at is from an economic standpoint, not from an accounting standpoint.
Speaker #4: So hopefully that answers your question.
Speaker #5: No. Very helpful.
Speaker #6: Let's switch gears to another line item of the P&L. I just want to quickly touch on third-party broker commissions. Remind me what our broker commission rate is.
Speaker #6: Sitting today, and talk through any broker attached dynamics. I know some of your peers have selectively stepped up broker commissions in some markets as a sales incentive, just curious if you're seeing anything similar.
Speaker #4: No. We're still seeing kind of it depends on the market. Two and a half to three percent is the commission that we're paying to outside brokers.
Speaker #4: We haven't run any special deals or opportunities. So we've been pretty consistent. And then I think the co-broker the is about, what, 80%? Mid high 70s.
Speaker #4: So it's remained for us. That's pretty consistent with where we've been running for a while.
Speaker #6: All helpful, guys. I'll pass it on.
Speaker #4: Thanks, Sam.
Speaker #1: Your next question comes from the line of Rafe Jadroshich with Bank of America. Rafe, your line is open. Please go ahead.
Speaker #2: Hi. You have been on with that. Thanks for making my question. How to follow up on the BTO commentary? Is that 70/30 mix that gave also the long-term target?
Speaker #2: And what is the margin difference between a home sold pre-drival and a quick move in? Thank you.
Speaker #4: Yeah. Our long-term target would obviously be 100%, right? That's the ultimate goal is to get everything sold by drywall. And certainly, without a doubt, everything sold before we hit CO, right?
Speaker #4: But if you look historically—so, if you go back pre-COVID—that pre-sale, which I would say is pre-sale before we hit the drywall stage, was about 90%.
Speaker #4: So as Greg said, we're about 70%. So we're inching closer to where we want to be, but we're not there yet. And again, that's really is the kind of environment we're in.
Speaker #4: And I think the fact that we're competing with a lot of builders that have specs out there and the use of incentives and forward commitments really applies to more QMIs, quick move-ins.
Speaker #4: And so that's what we're battling against. But we've always been—we've never pushed a spec strategy. We're always a build-to-order, pre-sale. It's just the environment we're in has kind of pushed those percentages down from where we would like to be.
Speaker #4: And then from a pre-sale versus spec true spec, I'd say what, about 100 basis points difference in margin. 150, 100, 150 basis points of margin.
Speaker #5: True. Yeah. 200.
Speaker #4: Yeah. It varies. It'll vary by division. And then we've seen it compress a little bit but it's normally when you go historically, it was probably more of a 300 basis point.
Speaker #4: Difference pre-sale versus spec. And now it's about 150, 200, so.
Speaker #2: Okay. That's super helpful color.
Speaker #4: Depends on where it is. Yeah. Great.
Speaker #2: Thank you.
Speaker #4: Anything else?
Speaker #2: Yeah. I had a quick follow-up also on the 3Q growth margin guidance. What do you have embedded for different cost leader costs and lot costs for the upcoming quarter?
Speaker #5: Could you repeat that, Victoria? You cut out a little. We couldn't hear you.
Speaker #2: Oh, sorry. I just had a follow-up also in the 3Q gross margin guidance. Can you give any color on what you have embedded in terms of sticking brick costs, labor, and lot costs?
Speaker #4: Yeah. I don't have the numbers in front of us. We can follow up. But I would tell you my guess is lot costs and sticking sticks and bricks are probably fairly consistent from where we are.
Speaker #4: That probably has the least amount of variability from quarter to quarter. So what's probably sitting in backlog, as I mentioned before, it's going to mostly come from incentives.
Speaker #4: Discount incentives and closing costs are probably the drivers there. And again, it's if you think about it because the first half of the year, we really were leaning into pace.
Speaker #4: And so the way that we're getting pace is really by utilizing those discounts and you saw this quarter what closed versus prior quarter sequentially, the incentives were up 50 basis points.
Speaker #4: And so my guess is third quarter, the incentives the total of all those incentives are probably going to also be up. And that's the driver of the margin compression.
Speaker #4: The last thing I would add is we're usually is hopefully you all have gotten to know us over the last two and a half years of being public.
Speaker #4: We're pretty conservative. We I think we've had a pattern of beating our guidance. And we hope to keep it that way. So we're usually pretty conservative.
Speaker #4: But again, we felt comfortable with the 16 to 16.5 percent. Hopefully, when we come in, there might be an opportunity to do a little bit better.
Speaker #4: But because we're in such an environment where you've got specs and you're continuing to discount and we are pushing pace, who knows what we're going to have to or want to do towards the in these last couple of months to continue to move some of those specs through the system, so.
Speaker #1: Your next question comes from the line of Paul Szybelski with Wolf Research. Paul, your line is open. Please go ahead.
Speaker #3: Thanks. Good morning. I guess appreciating your comments that the incentive environment seems to be a little bit better so far in 3Q and the gross margin guide of 16 and a quarter.
Speaker #3: Is there any sort of floor you would hope gross margin at?
Speaker #4: Yeah. We talk about that a lot internally. I tell you first, our overriding goal is always going to be pace versus price. But yeah, we definitely have conversations about what level does it start to make sense?
Speaker #4: And a lot of times, it's going to be on a division by division or really a community by community basis. Currently, our SG&A sits around 15%, let's just say.
Speaker #4: So when gross margin so if you wanted a number, I'd tell you 15%, that's when we start saying, okay, what other levers could we or should we pull?
Speaker #4: Because look, 15% growth, 15% SG&A, you'd be at a zero net. So that's probably the floor. Look, nobody wants to build for practice. But we also recognize right?
Speaker #4: We also recognize the need for us to continue to scale our business, right? That's in a declining rate environment or a declining the housing environment we're in with Mark, you've got top-line margin compression.
Speaker #4: Scale is probably the best lever to pull to continue to generate positive returns. And so we feel like it was great when we went public and we raised capital.
Speaker #4: And that capital was used to scale the business. The unfortunate thing is like six months later, we've entered into one of the toughest housing environments at least I've seen, certainly GFC and even prior to that.
Speaker #4: But yeah, we'll continue to focus on what we can control.
Speaker #3: Okay. Any opportunity to work down that SG&A expense ratio, outside of just leverage?
Speaker #4: Yeah. Yeah. No, absolutely. I mean, we're looking at that every single day. Greg and I, talk to the DPs last week and for the back half of the year, it's like no dollar is too small to save.
Speaker #4: And we're looking at SG&A every day. We're quite frankly, we said, "Hey, no more new hires unless it's really a variable head that's going to support field operations like sales and construction." This is not a time to start layering on any additional overhead.
Speaker #4: We're looking at reducing any non-essential costs, whether it's travel, meetings, or anything of the like. So, yeah, that's always a huge focus, and we're always trying to pull those levers.
Speaker #3: Okay. And just to sneak one more in, we've got mortgage rates here at the year-to-date high. Are you seeing any acceleration or pressure on your move-down or active adult buyers that have a home to sell in this environment?
Speaker #4: Do you see any? No more than what we've seen historically. We do take a number of contingencies and a our specs or our result of those contingencies that we took.
Speaker #4: And then the buyers just didn't get either their deal fell out or didn't something happened in that process. So yeah, we are seeing that.
Speaker #3: Okay. Okay. I appreciate it. Thank you.
Speaker #4: Yep.
Speaker #1: Your next question comes from the line of Ryan Gilbert with BTIG. Ryan, your line is open. Please go ahead.
Speaker #5: Hi. Thanks. Good morning, guys. And thanks for taking my questions. I have another one on gross margin for you. And did the 2Q 26 guide and does the 3Q 26 guide contemplate any inventory impairments or include an allowance for the potential for inventory impairments?
Speaker #4: No. No. We never forecast impairments. If we did, then we probably would have take we would have not probably. We would have already taken the impairment.
Speaker #4: So no, we don't assume future impairments.
Speaker #5: Okay. Yeah. That's what I figured. I'm just trying to understand the differential here between the guide and.
Speaker #4: Yep. Sure.
Speaker #5: Okay. step-down and your commentary around wanting to keep incentives at that 6% level, I'm assuming that base price cuts are playing an increasing role here.
Speaker #5: Can you just talk about either base price cuts or opening communities at ASPs below underwriting and how that's impacting gross margin?
Speaker #4: Yeah. Absolutely. Are taking base price cuts where it's warranted. And again, it is a community by community analysis. Because some communities, we're actually seeing opportunities to raise prices.
Speaker #4: And so we are I mean, we're not pushing it to a point where it shuts down sales or slows pace. But we are definitely looking on a community by community basis where we can take price increases and then obviously we are continuing to discount where we've got inventory or the pace isn't where we'd like it.
Speaker #4: We're traditionally, when you look at our communities, I'd tell you on average, we're probably the biggest value when you look across the competitive market and the competitive communities.
Speaker #4: We always when we underwrite we're always trying to underwrite to about 10 grand below any of our at least 10 grand below the lowest competitor so that there's obviously more people that can afford our homes than anybody else because of that price, right?
Speaker #4: We always say price is the ultimate amenity. And so having that low price is key. So we've been pushing on that. But again, we're trying to really look at our incentives and seeing what's the optimal use of incentives and where can we pull back to then kind of recapture or at least maintain margin as it's clearly we've seen some compression.
Speaker #4: But I think we're going on about two years of what's been a really tough environment from a sales and pace and margin compression perspective.
Speaker #4: And hopefully, as we've heard from other builders that we're starting to find we're hopefully we're starting to find a little bit of a bottom here and we can all start to recapture a little bit of profits.
Speaker #5: Got it. And so that the 4% year-over-year decline in average order price, how much of that is a function of base price cuts to try and find the market versus geographic or product mix or value engineering?
Speaker #4: It's mostly just trying to find the market. Our average and I'll do it in a it's a little bit of obviously mix. I mean, because we have open a couple of new geographies.
Speaker #4: You've got Greenville in there closing homes. You've got Dallas closing homes. So but again, our product is the same across the entire footprint. So I would tell you it's mostly on price and then the key that we look at is what's the average square foot of the house?
Speaker #4: And it's within 50 to 100 square feet of the same. So it's not like we're really changing product that much or the mix is that different.
Speaker #4: So it's really the incentive.
Speaker #5: Okay. Got it. And then as you shift back more towards BTO, I think just looking at 2023 and '24 backlog conversion rates and the 60 to 70 percent range, should we expect backlog conversions to trend back to that level as you kind of normalize the BTO versus spec mix in the business?
Speaker #4: It should. And just to be clear, we never really—we never moved away from BTO. It was just a function of the market and the demand environment.
Speaker #4: And so it's I'd tell you and I'll give a lot of credit to our sales folks, but it is really hard to know that you're setting the right price in a declining market, right?
Speaker #4: You really don't know until it's in the rearview mirror. So I'd tell you last year and kind of into the beginning of this year, you always I'd tell you probably most builders would say you're always kind of playing catch-up because you're kind of looking in the rearview and saying, "Well, shoot, we didn't move pace fast enough.
Speaker #4: So I guess we didn't cut prices quick enough." And I think we did a really good job in the first half of the year matching pace or exceeding pace on our sales versus starts.
Speaker #4: So yeah, I would tell you given the way we've executed and the environment, I think yes. I think we'll get back to a more I'm hopeful that we're going to start getting back to a more normal kind of conversion and backlog going forward.
Speaker #5: Okay. Got it. And then last one for me, just on M&A or strategic opportunities. As you work to continue to build scale in your markets, are you seeing opportunities to execute some tuck-in M&A?
Speaker #5: How does the pipeline look? What's the level of willingness on the part of some of these other builders to sell?
Speaker #4: Yeah, there's activity. We're seeing there's usually a consistent flow of packages. The environment is such that it's unfortunate. I think some of the smaller, not as well-capitalized builders—it's been a struggle.
Speaker #4: And so that's where you usually see the bigger builders, the ones that have a balance sheet, take this opportunity to grow market share. And so as you know from the way we operate, I mean, we're looking to scale up the business, but we're very thoughtful about how we go about it because we're absolutely it's important to protect kind of the way we operate.
Speaker #4: Our team strategy and so the deal has to make sense. So we're always looking. We're certainly exploring new possible markets for maybe a greenfield opportunity, but yeah, there's some deals out there that we'll take a look at packages.
Speaker #4: And if it makes sense, to expand. And again, we're really focused on just building out the Southeast and Central—maybe creeping up a little bit into the Midwest—but that's kind of our sweet spot if we were to do anything.
Speaker #5: Okay. Great. Thanks so much.
Speaker #1: As a reminder, if you would like to ask a question, please press star one to raise your hand. Your next question comes from the line of Jay McKinless with Citizens.
Speaker #1: Jay, your line is open. Please go ahead.
Speaker #2: Hey. Good morning, everyone. Greg, I wanted to go back to the comment you made about maybe spec competitive spec inventories coming down a little bit.
Speaker #2: Is that kind of widespread across all Smith Douglas geographies, or are there some areas where you're seeing even less competition than you were before?
Speaker #3: Jay, I think we're seeing it across all of our geographies that there's less inventory. I would say there appears to be an increase, though, in resale activity and resale homes on the market, but I think new home.
Speaker #3: Specs have slowed a bit.
Speaker #2: Okay. That's great to hear. And then I guess good to see growth in backlog for both of the segments, but maybe on an individual MSA basis, so there's some MSAs that stood out this quarter in terms of being able to grow orders and then there's some that maybe lagged relative to the overall average.
Speaker #4: Yeah. We've seen pretty consistent demand across all the markets. I would say one bright spot for me that has been very interesting to see is the Houston and Dallas markets for us, the amount of presale as a percentage is probably higher there than any markets we're in.
Speaker #4: Our message of personalization and ability to for buyers to do that is resonated and been embraced and our spec levels there at all-time lows and obviously Dallas new market, but Houston.
Speaker #4: For sure.
Speaker #2: Okay. That's great. And then just one more if you look at the backlog right now, Russ, where would you say that incentive percentage is relative to the I think you said 780 basis points for the second quarter.
Speaker #4: Yeah. We were second quarter. What we closed was 780. Again, without seeing the numbers, I'm going to tell you it's probably a little bit higher than that just again, given our guide of the 16 to 16 and a half, which we hope is going to be a little bit better.
Speaker #4: But that's where we see the margin compression coming from. It's in those it's in the incentives. And that's a combination of price discounts closing costs and forward commitments.
Speaker #4: And then again, we have been also reducing base price. So it's going to be a combination of price reductions and those things. So it's not really on the cost side or and I can't imagine it's really the land cost that's shifting that much between quarters, right?
Speaker #4: So it's really going to be driven by the incentives and the top line revenue.
Speaker #2: Got it. And then the last question I had, actually, just kind of sticking on land cost—with all the M&A dislocation, whatever you want to call it, in the industry this year, are you all seeing some opportunities to maybe buy land a little bit cheaper? Or are some of these sellers being maybe a little more reasonable on what they think the land is worth?
Speaker #4: We've seen some, but it's not as widespread as you would think. It's still a lot of the land sellers are still thinking their lands at top of market and which is evident by a couple of those abandonments that we showed that we try hard to work through every deal and going to work through every deal.
Speaker #4: But at a certain point, you can't. And so but we are seeing a lot of easing on terms probably more so than price. Which at the end of the day is a savings.
Speaker #4: So yeah, I'd say it's probably 50/50 in the market right now.
Speaker #2: Okay. Great. Appreciate it, guys. Thanks.
Speaker #3: Thanks, Jake.
Speaker #1: We have reached the end of our Q&A session. I will now turn the call back to Greg for closing remarks.
Speaker #3: Thank you, everyone, for joining us for our Q2 results. Again, I just want to add a thank you to all our team members and the Smith Douglas Homes family for all you do for us. Thanks again.
