Tri Pointe Homes Q2 2023 Earnings Call Transcript

Quartr
Provided by Quartr
July 27, 2023

There are 15 speakers on the call.

Operator

Greetings, and welcome to the TRI Pointe Homes Second Quarter 2023 Earnings Conference Call. At this time, all participants are in a listen only mode. A brief question and answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, David Lee.

Operator

Please go ahead.

Speaker 1

Good morning, and welcome to TRI Pointe Homes' earnings conference call. Earlier this morning, the company released its financial results for the Q2 of 2023. Documents detailing these results, including a slide deck are available at www.tripointhomes.com through the Investors link and under the Events and Presentations tab. Before the call begins, I would like to remind everyone that certain statements made on this call, are not historical facts, including statements concerning future financial and operating performance, are forward looking statements that involve risks and uncertainties. A discussion of risks and uncertainties and other factors that could cause actual results to for forward looking statements.

Speaker 1

Additionally, reconciliations of non GAAP financial measures discussed on this call to the most comparable GAAP measures can be accessed through TRI Point's website and in its SEC filings. Hosting the call today are Doug Bauer, the company's Chief Executive Officer Glenn Keeler, the company's Chief Financial Officer Tom Mitchell, the company's Chief Operating Officer and President and Linda Mamey, the company's Chief Marketing Officer. With that, I will now turn the call over to Doug.

Speaker 2

Thank you, David, and good morning to everyone on today's call. During the call today, we will review operating results for the Q2, provide a market update and discuss key strategic operating drivers. In addition, we will provide an update on our outlook for the rest of the year. We are extremely pleased with our results for the Q2. The increased buyer demand we saw in the 1st part of the year was even more robust through the 2nd quarter, resulting in absorption pace of 4.5 homes per community per month.

Speaker 2

Net new home orders were 1912 for the quarter, which was a 41% increase over the prior year and an 18% increase sequentially from the Q1. As a result of the strong sales success, we are raising our full year delivery guidance and we also expect gross margin expansion into the back half of the year. Glenn will give more detail on our forward looking guidance later in the call. For the Q2, we delivered 1173 homes, which exceeded the high end of our delivery guidance Through a combination of strong market conditions and our move in ready spec home strategy. We opened 17 new communities in the quarter And ended the quarter with 145 active selling communities, which was an 18% increase over the prior year.

Speaker 2

Our focus has always been building communities in core market locations, while executing a diverse and attainable product offering. This philosophy resulted in an average order pace of 6.2 orders per community per month for these new community openings. The new housing market is experiencing strong momentum fueled by multiple factors. Underlying it all is the persistent limited supply of overall housing that falls short of current demand. An important component to that supply demand equation is the scarcity of resale home supply with new home listings with new listings nationwide down 27% from a year ago according to the National Association of Realtors.

Speaker 2

This is due to the significant number of existing homeowners who are not selling as a result of their current mortgage rates, which are well below current levels. As reported by the National Association of Realtors, 85% of borrowers or financed with a mortgage rate below 5%. This unique dynamic has reshaped the demand for new housing, Establishing new construction as a more reliable and consistent source of inventory relative to the resale market. As a result, the industry at large has expanded its market share with newly constructed homes representing 33% of inventory compared to the typical 13% average according to the National Association of Home Builders. This surge in market share for builders coincides with strong structural demographics as household formations continue to outpace new supply.

Speaker 2

With the Gen Z buyer entering the market and millennials reaching their prime home buying years. At the same time, consumers have adjusted to the new normal of mid 6% to low 7% mortgage rates. Along with our healthy sales base this quarter, we were able to increase net pricing At over 70% of our selling communities during the Q2, we achieved this net pricing increase through a combination of lowering incentives And increasing base home prices. We took a measured approach being mindful of the affordability dynamics. It should be noted that our 2nd quarter buyers whose loans were funded through our affiliate mortgage company, TRI Pointe Connect, Benefited from the average mortgage rate of 5.8%, significantly below current market rates.

Speaker 2

Our homebuyers financing with TRI Pointe Connect, representing 78% of our total backlog, Of an average annual household income of $193,000 an average FICO score of 747, 82% loan to value and 41% debt to income ratio. Turning to our key strategic operating initiatives for the year, we have made excellent progress at the halfway point of the year. This is largely due to our talented and hardworking teams who contribute every day to the strong company culture that we are so proud of. As testament to the company's belief that our people are our greatest asset, TRI Pointe has once again been named as a 2023, 2024 Great Place to Work certified company, a designation given to companies for their outstanding workplace culture. One of the key operating drivers for our teams this year has been a focus on reducing costs and cycle times.

Speaker 2

We have seen the supply chain continue to normalize, resulting in less volatility around costs In a more reliable material delivery schedule, through value engineering of existing products, focusing on more efficient new product designs And negotiating with trade partners, we have been able to lower costs on average of 9% since the Q4 of 2022. The average size of our detached homes sold this year is 2,610 Square Feet, a 5% reduction from 2022. Our team has done an excellent job of expanding trade resources and improving build processes to reduce cycle times. These efforts have resulted in a reduction in cycle times with our average start to completion timeframe now running between 6 to 7 months. Another strategic priority is the strength of our balance sheet.

Speaker 2

We ended the quarter with a record low net debt to net capital ratio of 12.1%. This is a testament to our disciplined financial management and our ability to generate strong cash flow. This creates significant financial flexibility to execute our strategic plans, invest in land to grow community account, delever the balance sheet and return cash to our shareholders through stock repurchases. Looking ahead, our strategic focus remains on growing scale within our current markets and market diversification by entering new markets through organic expansion and M and A opportunities. We believe the runway for growth is long term And our strong operating teams, coupled with our balance sheet and liquidity, offer flexibility to pull the right levers to increase shareholder value.

Speaker 2

Now I'd like to turn the call over to Glenn to further discuss the results for the quarter and provide some insight on our outlook for the rest of 2023. Glenn?

Speaker 3

Thanks, Doug, and good morning. I'm going to highlight some of our results key financial metrics for the Q2 and then finish my remarks with our expectations and outlook for the Q3 and full year. At times, I will be referring to certain information from our slide deck, which is posted on our website. Slide 6 of the earnings call deck provides some of the financial and operational highlights from our Q2. We delivered 1173 homes at an average selling price of 698,000 resulting in home sales revenue of approximately $819,000,000 Deliveries came in above the high end of our guidance range by 17% as we were able to take advantage of the strong demand environment and deliver move in ready spec homes during the quarter.

Speaker 3

Gross margin percentage for the quarter was 20.4% and includes project write downs of $11,500,000 or 140 basis points. Adjusted gross margin, which Excludes interest impairments and deposit write offs was 24.9% for the Q2. As Doug mentioned, we have experienced some pricing power in the first half of the year. As a result, we expect to see gross margins in the 3rd quarter in the range of 21% to 22% and expanded further in the 4th quarter to a range of 22% to 23%. For the Q2, SG and A expense as a percentage of home sales revenue was 11.9%, which was an improvement compared to our guidance as a result of the better leverage over our fixed costs from the increase in revenue.

Speaker 3

Finally, net income for the Q2 was 61,000,000 or $0.60 per diluted share. We generated 1912 net new home orders in the 2nd quarter, was a 41% increase compared to the prior year and an 18% increase sequentially from the Q1. Our absorption pace was 4.5 homes per community per month, a 22% increase compared to the prior year. In terms of market color, demand was broad based across our geographic footprint. In the West, the overall absorption pace was 5.0 with all of our markets performing well above normal seasonal levels.

Speaker 3

In the central region, overall absorption pace was 3.9 with our Texas markets of Dallas, Houston and Austin all showing strong demand. In the East, absorption pace was 4.3 led by outsized demand in Charlotte as well as strong momentum in the DC Metro market. So far in July, we have seen continued strong seasonal demand with absorptions running 3.5 to 4 homes per community per month. An update on our community count. We opened 17 new communities during the Q2 and ended the quarter with 145 active selling communities, which was an 18% increase year over year.

Speaker 3

We continue to focus on our new community growth and are still on target to open between 70 80 new communities The full year of 2023. We are in a solid land position with approximately 33,000 lots under control, which provides the foundation for volume and community count growth for the next several years. In addition, with our strong liquidity position, we continue to actively pursue new acquisition opportunities to fuel future growth. Looking at the balance sheet and cash flow, we ended the quarter with approximately $1,700,000,000 in liquidity consisting of $982,000,000 of cash on hand and $695,000,000 available under our unsecured revolving credit facility. Our debt to capital ratio was 32.3% and our net debt to net capital ratio was 12.1%.

Speaker 3

For the Q2, we generated $62,000,000 of positive cash flow from operations, while investing approximately $250,000,000 in land and land development. We repurchased 1,100,000 shares during the quarter at an average price per share of $28.43 for a total aggregate dollar spend of $32,000,000 Now I'd like to summarize our outlook for the Q3 and full year. For the Q3, we anticipate delivering between 1,011 100 homes at an average sales price between 690,700,000. We expect homebuilding gross margin percentage to be in the range of 21% to 22% and anticipate SG and A expense as a percentage of home sales revenue to be in the range of 12% 13%. Lastly, we estimate our effective tax rate for the Q3 to be in the range of 26% to 27%.

Speaker 3

For the full year, we are increasing our delivery guidance to a range of 5,000 to 5,300 homes at an average sales price between 690,700,000. We expect homebuilding gross margin percentage to be in the range of 21.5 percent to 22.5 percent and anticipate SG and A expense as a percentage of home sales revenue to be in the range of 10.5 percent to 11.5 percent. Finally, we estimate our effective tax rate for the full year to be in the range of 26% to 27%. With that, I will turn the call back over to Doug for some closing remarks.

Speaker 2

In closing, I'd like to reiterate how pleased we are with our results in the first half of the year and the underlying strength of the new homebuilding industry. We are optimistic about the strong fundamentals, both in terms of the supply demand imbalance, which promises to continue into the foreseeable future and the positive demographics bringing new homebuyers into the market. We feel confident that our strategic focus on driving increased orders and deliveries, Cost management and improved returns should enable us to navigate any uncertainties in the U. S. Economy, while capitalizing Our opportunities to grow both organically and through potential M and A opportunities.

Speaker 2

With this long term outlook, we are confident that TRI Pointe is well positioned to continue to enhance shareholder value. With that, I'd like to turn it over to the operator for any questions. Thank you.

Operator

Thank you. Ladies and gentlemen, at this time, we will be conducting a question and answer session. Ladies and gentlemen, Our first question comes from the line of Alan Ratner with Zelman and Associates. Please go ahead.

Speaker 4

Hey, guys. Good morning. Thanks for the time and all the details so far. So Great job on the deliveries coming in well ahead of your expectations. It sounds like demand for quick move in homes is Pretty robust right now.

Speaker 4

And I'm curious if you could just give a little bit of details surrounding kind of the mix of your business between spec and built to order, Things like margin differentials and just generally speaking, what your strategy is there going forward? I mean, Demand was as strong as it was this quarter for quick move in homes. Are you accelerating your pace of spec starts? And do you anticipate your share of specs rising here over the next few quarters.

Speaker 2

Yes, it's Doug. Good question. We're always looking to optimize starts based on demand levels. And as you noted and as we noted, demand still Stay strong, seasonally stronger than maybe some seasons, but we do target 65% specs, 35% to be built. So that's been our strategy.

Speaker 2

As you go into the advanced deliveries Over our end of our guidance for the Q2, a lot of those homes were started obviously in the back half of 'twenty two. And so we went into the year with a fair amount of homes that were nearing completion and specs so that With the strong demand, we ended up closing more homes as you noted.

Speaker 3

Got it. Alan, a little

Speaker 5

Sorry, Alan. A little more color per your question. This is Tom. Typically, we see about a 200 basis point Differential in margin on the to be built versus spec. I would note, however, that most of our spec starts Seem to get purchased in the middle of the process.

Speaker 5

So we are still very successful in achieving Revenues from personalization on homes through our Design Studio business.

Speaker 4

Great. Thanks for that color there, Tom. Second question, Doug, you mentioned still looking for New market expansion opportunities, and I know that's been, a message that you've been conveying for a while now. And in the past, you've been Maybe a little frustrated with the lack of opportunities, at least on the M and A front. Just curious with everything going on right now with bank credit Potentially tightening with obviously equity valuations moving higher on the public sphere.

Speaker 4

Are you more optimistic about the prospects of potential M and A opportunities over the next handful of quarters than you have been? Or is the pipeline still looking pretty dry?

Speaker 2

Good question, Alan. We're still seeing some strategic opportunities for growth. At the same time, I would say that our primary focus is looking at organic in a couple of markets that we're currently in the process of Establishing, so more to come on that. Obviously, the organic model is something we know very well. So our TRI Point started.

Speaker 2

So we're pursuing, I would say that's A and let's call M and A, B. As I look at the credit markets and talking to the bankers, I think there's a it's going to take a little bit longer For more opportunities to kind of flush out of the system, there is definitely capital constraints. As you know, all the banks, big money center banks and others are under a lot of pressure raising capital. And so they're very the credit markets are very tight for the less capitalized builders and land developers. That's another area that we're looking at too.

Speaker 2

So but there's it's a little bit of a longer process as you go through And see where the opportunities could land. I frankly think it'll be towards the end of the year going into next year as the credit markets continue to probably slow continue to slow down their credit opportunities for the Small to medium sized builders and land developers.

Speaker 6

Appreciate the thought. Thanks a lot.

Operator

Our next question comes from the line of Stephen Kim with Evercore ISI. Please go ahead.

Speaker 7

Stephen, your line is still open.

Operator

If you could please

Speaker 6

I apologize. I was muted. Sorry about that. So, strong quarter, but this you did have a somewhat lower ASP Pete, and I think we were expecting and I think then you guided on closings. And I was curious if you could just talk about What drove that?

Speaker 6

I assume it was a mix of things that happened to close, maybe more specs or something. And did that weigh on the gross margin? And if it is the spec impact, You mentioned just I think recently to Alan that you know that you typically get a 200 basis point lower margin on specs. But then Tom, you were saying some things that made it seem like maybe right now It's a little better than that. So I just wanted to get some clarity on the differential on spec versus BTO right now.

Speaker 3

Hey, Stephen, it's Glenn. I'll take the first part of your question. The lower ASP in the quarter versus our guide was due to mix. There was a heavier weighting towards Central and East deliveries just by pulling in more specs from those Divisions and they carry a lower ASP than our than the company average. And so that's all That was.

Speaker 3

And then it also did weigh a little bit on the margin like you said, and that was just mix related. Like Doug mentioned, some of those houses were started in the back half of the year, which Carried a higher cost than what we're currently experiencing now. So there was just a little bit of that in the mix.

Speaker 6

What would you quantify that as do you think, Glenn?

Speaker 3

I don't it was slight. So it's not a big difference. I mean, if you take out the impairments, we were only 20 basis Points below the low end of the margin. So that's all it was with the mix.

Speaker 5

And then, Stephen, on the differential on the Back to build to order. The 200 bps is historical. And I think that is Typically, when we're seeing those sales much closer to completion or fully completed units. And right now with increased demand, we are seeing and having that ability to maybe narrow that gap a little bit. Our revenue through our design studio is actually up by about 170 bps from where we were last year at this time.

Speaker 5

So It's positive. Our teams are doing a great job getting people in through the studio and giving them that opportunity to personalize their homes.

Speaker 6

Yes, that's very encouraging and good to hear. So, with respect To the overall pricing environment, you, I think, said that net pricing rose in 70% of your communities. Could you give us a sense for how that may differ across the maybe the product types, If there is any differential worth calling out. And then regarding your Could you just give us a sense for what kind of starts pace we could expect in 3Q?

Speaker 3

So, Stephen, this is Glenn. I'll take the first part. I don't think there was much of a difference between Product segments, if that was your question, between entry level and move up. And so we were able to increase pricing across the board, Honestly being mindful of affordability, especially on the entry levels. We took a measured approach, but with the demand, we were able to have good success raising price.

Speaker 3

And then the second question, what was your second question again?

Speaker 4

Starts.

Speaker 3

Starts phase. We started roughly 2,000 houses in the 2nd quarter approximately. And for us, for starts, we look at it on a community by community basis And it's based on demand in that local market. And so we don't have a specific target, but obviously we have the ability to start 1500 to 2000 houses as you've So it will just depend on demand and communities.

Speaker 5

It seems like normal seasonality relative to starts would be appropriate for you to be thinking about.

Speaker 6

Okay, great. And that implies somewhat lighter starts in 3Q than 2Q, right?

Speaker 5

Yes. As we target and look at seasonality relative to orders and absorption, that's probably correct.

Speaker 8

Yes. Okay,

Speaker 6

great. Thank you very much guys.

Operator

Thank you. Our next question comes from the line of Truman Patterson with Wolfe Research. Please go ahead.

Speaker 9

Hey, good morning guys. Thanks for taking my questions. So first, you Some peers on land development in kind of 2022. Glenn, you mentioned, I believe, 70 to 80 New community openings, I'm hoping you can help us think through potential year end kind of active Unity count, any metros, regions of outsized growth and the potential to carry that into 2024?

Speaker 3

Sure, Truman. That's a good question. So right now, we're forecasting between 155 and 165 active communities by the end of the year. That will obviously depend on demand and orders that we go through for the rest of this year. And the community openings this year were weighted a little More towards the Central and East as we're continuing to diversify.

Speaker 3

We're adding a lot of communities in Texas And the Carolinas and areas like that. And that's why you're seeing the direction of ASP that we've talked about on previous calls go into next year. And it's not because of pricing, it's just because of mix of those more affordable priced markets that we're entering.

Speaker 9

Got you. Got you. And then just following up on Steve's question, hopefully asked a little bit differently, but with are raising pricing in 3 quarters of communities. Any idea on kind of where apples to apples pricing trended through the quarter? And were there any regions or kind of metros where you actually needed to give some incremental Price adjustments to stimulate demand.

Speaker 9

And then just a housekeeping question. Did I hear you all say July absorptions were trending in the 3.5 to 4 range?

Speaker 3

That's correct. 3.5 to 4 range in July so far. And then for the quarter, just this quarter on average, so a big average across all communities, it was about 16,000 Dollars per home or about 2% was the price increase. And that was pretty broad based across the whole geographic area. There's still a few submarkets that are softer where we may be increasing incentives or doing things to move standing inventory, but that's It's gotten smaller and smaller and I think overall the pricing power is pretty broad based.

Speaker 9

Perfect. Thank you all and good luck in the coming quarters.

Speaker 2

Thanks, Truman. Thanks, Truman. Thanks.

Operator

Thank you. Our next question comes from the line of Carl Reichardt with BTIG, please go ahead.

Speaker 10

Thanks. Good morning, guys. On share repurchases, I think you bought back 30 $1,000,000 this quarter has been a big part of the story for a number of years now, reducing the float. But now as business has begun to improve and you're looking to add On dirt supply, diversified markets, maybe look at new markets, how do share repurchases fit into the capital allocation plans in the next quarter 2 or 3 years?

Speaker 3

It's still part of our playbook and it's still something we value and We have our job availability under our authorization. So we're going to continue to be opportunistic with share repurchases. But like you said, Carl, we're also investing in our growth. We have our 24 bonds coming due next year that we're putting ourselves in a position to pay off depending on the market and capital needs. But share repurchases are still part of the playbook for sure.

Speaker 10

Okay. I was going to

Operator

ask about that slot.

Speaker 10

So thank you, Glenn. And then in the release for Tom and for In the release, we talked you talked about operational efficiencies being sort of a large focus here. And I'm trying to Take that from a phrase to sort of specifics. Are there particulars related to inventory turns, margins or that you talk about as Targets based on the kind of operational efficiency improvement you're looking at. I'm just trying to take a big picture concept and try to drive it into numbers somehow.

Speaker 10

So maybe Doug or Tom, you can kind of expand on what you mean by that. Thanks guys.

Speaker 2

Yes. Good question, Karl. I mean, when it comes to inventory turns, our goal is definitely to be at 1.0 or better. So when we look at operational efficiencies across our platform, one of the things that we focused in on this year is A reduction in our plan library and be more efficient with product and reuse of product, Still providing a premium brand experience, still providing personalization, but when you are able to use that product and this is no secret, You know, you become much more efficient not only in cost, but also in cycle time. So that's just kind of a tip of a number of things that we've been working on over the last couple of years.

Speaker 2

Tom, do you want to add anything to that?

Speaker 5

Yes. I mean, along with those inventory turns, Carl, obviously, there's Just a greater focus on improving ROI overall. From the outset of our deal underwriting, we're looking to Structure deals differently to enable that and the teams are really focused on that to maximize our ROI going forward.

Speaker 10

Great. I appreciate it, fellows. Thanks a lot.

Operator

Thank you. Our next question comes from the line of Joe Olesniel with Deutsche Bank. Please go ahead.

Speaker 11

Hi, guys. Good morning. How are you?

Speaker 2

Good morning.

Speaker 11

Yes. Just a quick one for me on the closings guidance. Maybe thinking about the sources of upside and downside to the midpoint of that, just given the timing of starts in the Q2, I'd imagine at this point, what you Start from here is not going to factor into the fiscal year. So is it more about the availability of building materials? Is it about The demand for your spec inventory is just kind of talk through the upside and downside to the midpoint.

Speaker 2

Yes, good question. This is Doug. Yes. Everything that is going to close for this year based on the guide is started. Everything we're starting now is going to close in

Speaker 11

Got it. Just thinking about 2 dynamics ahead beyond this year, it's And a little bit since your Investor Day, where I know you talked about these things, but if you could maybe just give us an update on medium term ASP mix headwinds that you expect from Geographic shifts and buyer segment shifts. And then as you cycle through or as you've now probably cycled through your long term land in California, Understand the margin is going to be a function of the market from here, but assuming maybe a stable market, can you just talk about how the And that you own today is going to run through the P and L, how that will impact margin and maybe what a good benchmark for that return on inventory might be related to the prior question.

Speaker 3

Sure, Joe. This is Glenn. There's a lot in there. But on the ASP question, We're like we've talked about in the past, there is a mix impact due to our diversification, kind of Central and East. And so next year, you could expect an ASP in the 6.30 range, Which compares to our guidance this year for the full year of $690,000,000 to $700,000,000 And that's where we sit today.

Speaker 3

Obviously, If pricing changes, that could impact that, but that's kind of where we're at today. And that kind of I think 620 to 630 is a good benchmark for the next few years based on where we sit today in our community count mix. When you said ROI return metrics, it depends on the Division in the market, but we try to target between a 12% to 15% return on what we call investment, which is kind of your inventory plus your joint venture investments. And I think that tends to lead to really strong returns for the total business. And so that's what we target at Divisional level, but that's on that inventory level.

Speaker 3

What was the other part?

Speaker 5

Yes, Joe, I'll Pipe in on the other question, I think, was related to as we have a stabilized market, what do we expect margins to look like in that environment? And As we've always said, we've historically and currently underwrite our new land acquisition efforts to an 18% to 22% gross margin. And we feel that's appropriate going forward and we're performing in that range right now and feel really good about it.

Speaker 11

All right. Thanks for all the color.

Operator

Thank you. Our next question comes from the line of Mike Dahl with RBC Capital Markets. Please go ahead.

Speaker 7

Morning. Thanks for taking my questions. Hey, Glenn, first question is maybe a clarification on margins. When I kind of plug in your 3Q and 4Q guide, I get closer to the high end of that 21.5% to 22.5%, but I'm also backing out The impairments year to date, are you giving a guide that's inclusive of impairments or exclusive of impairments?

Speaker 3

It was a GAAP guide, so inclusive of the impairment.

Speaker 7

Okay, got it. So ex impairments, it should actually be a bit better than

Speaker 3

That makes sense.

Speaker 7

Okay. And then the second question, you highlighted a couple of things on cost and Square footage, so 9% reduction in cost, 5% reduction in square footage. A couple of questions on this. So is the 9% reduction in cost like for like or is that a combination of the reduced square footage and Then maybe like mid single digit reduction in costs. That's the first part.

Speaker 7

And the second part is when you think about that square footage, How much of that is just the geographic mix that you've already discussed versus

Speaker 6

kind of

Speaker 7

within existing communities or markets You're really tailoring the square footage a bit more on

Speaker 3

a like for like basis.

Speaker 5

Yes, Mike, this is Tom. Good questions and it is very convoluted and hard To pull apart, I'd say the 9% is inclusive of that square footage reduction as well. And a good portion of that square footage is coming from the geographic mix relative to our emphasis of moving into A stronger position in the Texas and the Carolinas, but we are cognizant of trying to maintain Attainable price points in all markets. So as we're underwriting new deals, we are looking at ways to get there and smaller footages is one of those key drivers.

Speaker 7

Okay, got it. Thanks a lot.

Operator

Thank you. Our next question comes from the line of Tyler Bowery with Oppenheimer and Company. Please go ahead.

Speaker 8

Hey, good morning. Thank you. A couple of questions from me on cycle times. Coming into the year, The goal was 4 weeks of reduction, I believe. Where are you in terms of progress there?

Speaker 8

Did you see improvement in Q2? Do you think there's more Improvement coming in the back half of the year?

Speaker 2

Yes, Tyler, this is Doug. That 6 To 7 that we indicated does include a 4 week improvement since the end of the last year and We continue to look for further improvements in our starts second half of the year. We're pushing for another couple of weeks, anywhere from 2 to 4 weeks depending on the product, the division And so forth. So there's always room for improvement in cycle times, especially as we go into the second half of the year.

Speaker 8

Okay. And then in terms of the labor side of things, a number of other builders trying to ramp up their starts. I mean, any change in terms of labor availability? And I'm also interested, there are some markets where you're a little bit larger, you have a little bit larger market share. There are some markets where you're a little bit smaller.

Speaker 8

In those markets where you have a little bit smaller presence, is the labor situation More difficult for you? Is it more challenging to maintain and develop some relationships with the trade partners?

Speaker 2

Well, whenever you start up a division where, for example, Raleigh, where Our scale is still growing. You're going to have a few more challenges to attract and retain the right trade partners. But Labor has always been tight before the pandemic. Our labor force is aging, well before the pandemic Started and but we're still able to scale up with our trade partners, Especially in our 15 divisions, we've got tremendous growth that we're experiencing in the Texas and the Carolinas market, especially the Charlotte market. So as you do scale up, as you said, you do get more trade partners and become more efficient on both costs and cycle times.

Speaker 8

Okay. That's all for me. I'll leave it there. Thank you.

Speaker 2

Thanks.

Operator

Thank you. Our next question comes from the line of Jay McCanless with Wedbush Securities. Please go ahead.

Speaker 12

Hey, good morning, everyone. Glenn, did you give 4Q gross margin guidance in your prepared comments?

Speaker 3

I did. I said 22% to 23% gross margins in the 4th quarter.

Speaker 12

Okay. And that's GAAP, that's including impairments, right?

Speaker 3

That's correct.

Speaker 12

Okay. And the second question I had, can you guys talk about what percentage of the backlog at the end of 2Q Had some mortgage buy downs or anything we had to do like a gross margin negative enhancement or inducement to get Sale made. And how does that compare to where that percentage was at the end of, say, fiscal 2022?

Speaker 13

Sure, Jay. This is Linda. So yes, certainly, we're still finding that financing incentives are very helpful for our customers. Currently in our backlog of customers that are financing with TRI Point Connect, for those that are rate lost about half of our backlog is rate locked. They're at an average rate of 6.125 percent and the average points paid on that is approximately 3 points.

Speaker 13

So that's significantly down from what it was in Q1 and certainly down from the end of 2022, Because we're really finding that our customers are much more comfortable with today's new normal interest rates. If they can get a rate in the mid-60s, they seem very Happy with that, even if market rates are around 7% to 10%.

Speaker 12

Right. And just Thank you for that, Linda. I mean, any idea of where that percentage was at the actual percentage in 1Q and at the end of the year? Where I'm going at this is just trying to find out as you have less people who are rate locked, is there a potential gross margin benefit To the company, especially as you look ahead to 2024?

Speaker 13

Yes, there is. Our incentives on orders in the second quarter were approximately 4 point 3% of homebuilding revenue and end of last year rate locks were expensive, forward commitments were expensive. So at the end of the year, it was more like a 6% incentives.

Speaker 12

Okay. Okay, great. Thank you. Appreciate you taking my questions.

Speaker 2

Thanks, Jay.

Operator

Our next question comes from the line of Alex Barron with Housing Research Center. Please go ahead.

Speaker 14

Good morning, everybody, and great job on the quarter. I wanted to ask about As your pricing comes down, as you indicated, what should we expect in terms of The volume, is it going to grow because your sales pace is going to be higher than it's been at this point? Or is it more based on community count growth To make up for that drop in the ASP.

Speaker 8

Well, Alex, this is Glenn.

Speaker 2

Good question. Go ahead, Glenn. I'll follow-up.

Speaker 3

Okay. Yes, Alex, it is a good question and it is a combination, but Largely, it is made up in volume and community count growth is how we're making up that revenue with hopefully plus some, Obviously, with our expansion into markets like the Carolinas and going deeper into Texas, that should make up for that ASP decrease.

Speaker 14

Doug, were you going to comment as well?

Speaker 2

No, I would add on to that. Our goal is to increase scale in our 15 divisions. The land opportunities and the capital required to Growth scale in the Texas Carolina markets is much more efficient as you understand. So our goal is to get into and maintain a top 5 to 10 market share position. And with that scale, We'll get more efficiencies throughout the organization and absorption rates because of our more attainable pricing points will be In the low to mid-3s, we always target one sale per month per community, but Overall, the mid-three is a good company goal.

Speaker 14

Okay. Yes, because in your Presentation, I think you guys just increased the absorption rate to 4.3. So are you saying it's going to go from 4.3 to the threes?

Speaker 2

No. What I'm indicating is from a planning exercise, we typically plan in the mid-3s as we plan going forward in some of these more attainable price points.

Speaker 14

Okay.

Speaker 13

Alex, Alex, another thing to think about there, Alex, is just normal seasonality. We're seeing a lot more normal seasonality this year. So you do see that higher pace in the spring season.

Speaker 14

Okay. Okay. So it's year to date, it's not full year estimate.

Speaker 2

That's correct. That's

Speaker 14

correct. And as you shift towards these lower priced Homes and stuff, is there going to be also a shift towards more spec homes or is it still going to be a mix like you guys have always done?

Speaker 2

We've traditionally been a well, as you know, in California, you're a spec builder, but our Traditional mix is 65, 35, maybe down to 60 to 65. So that's always been our goal and it still allows MERS to personalize their homes as we go through different cutoffs.

Speaker 14

Got it. And in terms of the incentives, Linda, I think you said the average rate is 6.1%, if I heard you correctly. So are you finding that people don't need a rate in the 5% necessarily purchase them, are you finding you have to write down the rate less than a few months ago?

Speaker 13

That's right, Alex. Absolutely. Customers are just becoming more accustomed to current market interest rates And they're using less of our closing cost incentives towards financing. They might be using half of it towards financing and half of it towards Options because that personalization is still very important to them.

Speaker 3

Got it. Just to

Speaker 2

clarify, Alex. Alex, real quick, you said just clarify, did you say incentives at 6.1%?

Speaker 14

No. Or did you say mortgage rate? The interest rate. Yes, the mortgage rate.

Speaker 2

Yes. Okay. Okay. Yes. Yes.

Speaker 2

Yes. Incentives on orders in Q2 was 4.3%, as Linda mentioned.

Speaker 14

Got it. Okay. Well, glad to hear things are getting progressively better. All right. Thanks so much.

Speaker 3

Thanks, Alex.

Operator

Thank you. As there are no further questions, I would now hand the conference over to Doug Bauer for closing comments.

Speaker 2

Well, thanks everybody for joining us On today's call, we're very pleased with the quarter and looking forward to a very strong finish. So we look forward to chatting with everyone in October. Have a great weekend. Thank you.

Operator

The conference of TRI Pointe Homes has now concluded. Thank you for your participation. You may now disconnect your lines.

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Earnings Conference Call
Tri Pointe Homes Q2 2023
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