Hovnanian Enterprises, Inc. (HOV) Q1 2014 Earnings Report, Transcript and Summary

Good morning and thank you for joining us today for the Hovnanian Enterprises Fiscal 2014 First Quarter Earnings Conference Call. An archive of the webcast will be available after the completion of the call and run for 12 months. This conference is being recorded for rebroadcast and all participants are currently in a listen-only mode. Management will make some opening remarks about the first quarter's results and then open the line for questions. The company will also be webcasting a slide presentation, along with the opening comments from management. The slides are available on the investor's page of the company's website at www.khov.com. Those listeners, who would like to follow along, should log onto the website at this time. Before we begin, I would like to turn the call over to your host for today, Jeff O'Keefe, Vice President, Investor Relations. Jeff, please go ahead.

Thank you. Before we get started, I would like to quickly read through our forward-looking statements. All statements in this conference call that are not historical facts should be considered as forward-looking statements. Such statements involve known and unknown risks, uncertainties and other factors that may cause actual results, performance or achievements of the company to be materially different from any future results, performance or achievements expressed or implied by the forward-looking statements. Although we believe that our plans, intentions and expectations reflected in or suggested by such forward-looking statements are reasonable, we can give no assurance that such plans, intentions or expectations will be achieved. Such risks, uncertainties and other factors include but are not limited to changes in general and local economic, industry and business conditions and impacts of the sustained homebuilding downturn; adverse weather and other environmental conditions and natural disasters; changes in market conditions and seasonality of the company's business; changes in home prices and sales activity in the markets where the company builds homes; government regulation, including regulations concerning development of land, the homebuilding, sales and customer financing processes, tax laws and the environment; fluctuations in interest rates and the availability of mortgage financing; shortages in and price fluctuations of raw materials and labor; the availability and cost of suitable land and improved lots; levels of competition; availability of financing to the company; utility shortages and outages or rate fluctuations; levels of indebtedness and restrictions on the company's operations and activities imposed by the agreements governing the company's outstanding indebtedness; the company's sources of liquidity; changes in credit ratings; availability of net operating loss carryforwards; operations through joint ventures with third parties; product liability litigation, warranty claims and claims made by mortgage investors; successful identification and integration of acquisitions; significant influence of the company's controlling stockholders; changes in tax laws affecting the after-tax costs of owning a home; geopolitical risks, terrorist acts and other acts of war; and other factors described in detail on the company's annual report on the Form 10-K for the fiscal year ended October 31, 2013 and subsequent filings with the Securities and Exchange Commission. Except as otherwise required by applicable securities laws, we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, changed circumstances or any other reason. Now I'll turn the call over to Ara Hovnanian, our Chairman, President and Chief Executive Officer.

Thanks Jeff and thank you all for participating in this morning's call, to review the results of our first quarter ended January 14. Joining me today from the company are Larry Sorsby, Executive Vice President and CFO; Brad O'Connor, Vice President, Chief Accounting Officer and Corporate Controller; David Valiaveedan, Vice President of Finance and Treasurer; and Jeff O'Keefe, Vice President of Investor Relations. Let's start with Slide number 3; this slide, highlighting our key operating metrics, shows the results for our first quarter were mixed. In the upper left hand quadrant, you can see that we had slightly higher revenues during the first quarter 2014 than we did last year, but due to a shortfall in our deliveries, revenues did not grow as much as we had anticipated. The shortfall in deliveries was caused by numerous factors. First, we were impacted by a slower than anticipated sales pace that continued through the fall and early winter. Second, extreme cold weather, including ice and snowstorms across many of our operations delayed construction. Third, construction labor shortages in many of our markets have extended the construction cycles, and that caused us to miss certain first quarter deliveries; and finally, with only 60 days notice, our primary national cabinet supplier shut down distribution in Houston, Dallas and Phoenix, markets that represented about a third of our deliveries. The cabinet supplier also served numerous other builders, which caused replacement cabinets from other distributors to be late as well, especially in Houston, our largest market. This interruption of cabinet supply caused us a few further delays and deliveries; clearly, it was a challenging beginning of the new year. Moving to the upper right hand quadrant, our homebuilding gross margin improved a 180 basis points from last year's first quarter. Looking at the lower left hand portion of the slide, you can see that our interest as a percentage of total revenues, improved year-over-year. We were pleased with the improvements we had in these two metrics. Our SG&A ratio can also be seen in the lower left hand quadrant of this slide. Seasonally, the first quarter is our slowest delivery quarter, and is the toughest quarter in which to leverage our fixed SG&A costs. Last year, we positioned the company, so we could grow both our community count and our revenues. To prepare for that growth, we increased staffing levels by 13% over the past year, related to our increased community count and delivery volume increases. However, the shortfall in the first quarter revenues caused our SG&A ratio to be high. Although, our total SG&A dollars declined sequentially from the fourth quarter of 2013, our SG&A percentage of revenues increased year-over-year. We are optimistic, that as we start generating deliveries from our new communities and increase revenues in our stronger seasonal quarters, we will be able to return our SG&A ratio to more normalized levels. Finally, in the lower right hand quadrant, you can see that our year-over-year backlog dollars increased 11.4% to $904 million in this year's first quarter from $812 million last year. This increase in backlog, combined with the slight growth in revenues in the first quarter, gives us the confidence that we will be able to grow our total revenue for fiscal 2014. Moving on to net contracts on Slide 5, the dollar value of net contracts in the first quarter of fiscal 2014 at $456 million, just missed last year's level of $463 million. For the first quarter of 2014, the number of net contracts decreased slightly to 1,202 from 1,344 in last year's first quarter, although our average sales price continue to grow. On Slide 5, we show that the dollar amount of net contracts per month over the past three years. Starting on the left hand side of this slide, we circle the months of January through June, when we saw strong year-over-year increases in the dollar amount of net contracts in 2013. Unfortunately, that trend reversed itself during the months of July through September, which we've highlighted in red. Things began to improve again in October, which matched the previous year, and in November, which exceeded the previous year, we highlighted these months in green, but the volatility continued with December through February, showing negative comparisons, and we circled that in red. We are taking steps to increase our sales pace during the spring selling season, in order to further improve our revenues in this year, and we will discuss that more fully in a moment. Let me take a step back here and put this recent volatility of our sales pace into historical perspective. On Slide 6, we show the seasonally adjusted annual rate of new home sales during the recovery of last major housing downturn in 1991. After a difficult 1991, new home sales appear to pick up at the beginning of 1992, but then fell off again during the spring season, although it picked back up again the summer, and then to decline again the first few months of 1993. The recovery finally gained steady momentum after that. You can look back at other recovery cycles and find similar choppy trends. The point we are making, is that the road to recovery is often choppy, and we believe the same sort of uneven recovery is what we have experienced since late last summer. On Slide 7, in our effort to be completely granular and transparent, we show our weekly net contracts since the beginning of the year. As is typical, you can see that our weekly net contract started off slowly in the month of January, with only 71 net contracts in the first week. We then gradually ramped up throughout the month of January. As is typical seasonally, the month of February was much stronger than January. Our typical seasonal pattern would be for March to be stronger than February, and April to be stronger than March, and in fact, April is typically the best month of not only the spring selling season, but of the full year. Slide 8 shows net contracts per community on a monthly basis compared to the previous year. The good news is that sales, both on a net contract per community and on an absolute basis, did pick up sequentially from December to January to February, although the seasonal pickup is typically expected. What was a bit disappointing was that our sales level did not reach the same levels we saw, leading up to last year's spring selling season, which was a resounding success. As indicated by the declines in the NAHB Sentiment Index and in the U.S. housing starts reported two weeks ago, the homebuilding industry's recovery has been choppy during the past few months. This was evident in the declines in net contracts per community reported by the Public Homebuilders that reported their December quarter-end results. On Slide 9, we show how our year-to-year change in net contracts per community for the three months ended in December stacked up against our peers. Here you see that we are right in the middle of the pack, but unfortunately, most of the pack had negative comparisons, with the median reporting at 9.7% quarterly decline in contracts per community. Looking at this from a slightly different perspective, on Slide 10, we look at net contracts per community for our company and our peers for the trailing 12 months. Once again, we are in the middle of our pack, averaging 29.6 contracts per community. We assume that everyone is a little disappointed with the sales pace at this point in the recovery. Turning to Slide 11, in response to the choppier sales, we launched a national sales campaign we call Big Deal Days this past weekend. This campaign is focused primarily on started unsold homes, which we refer to as quick move-in homes. We are not increasing incentives on all homes, or even on all homes in any particular community for that matter. What we are doing is, doing minor adjustments on incentives during the month of March on select homes, in order to achieve a little increased sales activity. We are doing this primarily through additional incentives on started unsold homes, and on other specific lots in certain communities. The additional incentives on these homes average in the range of 1% to 2% of the sales price of the home. As we discussed on our third and fourth quarter conference calls, we feel that the industry, including our company has been quite aggressive in raising home prices in many communities last year, and possibly, contributed to a slower sales base after. We are optimistic that the little adjustments we are making will spur buyers that were on the fence to go out and buy some of our homes. Over the long term, we continue to believe that household formations, the primary driver of housing demand, will gradually return to normalized levels, and ultimately lead to increased demand for new homes. When you combine that, with the record low levels of housing starts across the nation over the past few years, we remain convinced that we are still in the early stages of the housing recovery, and that we are experiencing, as a temporary bump in the industry's recovery. Slide 12 shows continuation of the positive trend in our consolidated community count. For each of the past five quarters, our consolidated community count grew sequentially. During the trailing 12 months, we opened 95 communities, but closed out 77 older ones. Our local teams are working hard, so that we can open approximately 115 communities this fiscal year. While it's difficult to predict when certain communities will close out, and thus the net community count, we are projecting a solid community count growth this year. Our land spend this quarter was $182 million, the highest for any quarter in our previous five years. As you can see, on Slide 13, beginning in the second half of 2012, the number of net additions to our lot count have exceeded the number of deliveries by 7,600 lots. The plan for each of those new communities is to get them open for sale as soon as possible, depending on land development permits and final housing designs. For the first quarter of 2014, we added 1,600 net additional lots, which exceeded our 1,138 total quarterly deliveries, in spite of the fact that about 1,500 lots did not survive the scrutiny of our due diligence process. The 1,500 lots we walked away from during the first quarter is reflective of the discipline we exercise, when we underwrite land, based on the then current home prices, and the then current home selling paces, to achieve a 20% plus IRR. Typically, we have a 90-day due diligence process after signing a letter of intent to purchase land. If during the due diligence process, a property doesn't meet our criteria, we don't go forward with the land purchase. Our land acquisition departments remain busy throughout the country, and we expect to continue to grow our land position. Last quarter had an unusually high fall out rate. We remain underinvested relative to our excess cash balances and our target, to hope to get fully invested in the coming quarters. As we move forward, our focus continues to be to find new land opportunities that make sense at the current sales pace, and sales prices, grow our top line, further leverage our fixed costs and achieve higher levels of sustainable profitability. I will now turn over to Larry Sorsby, our Executive Vice President and CFO.

Thanks Ara. Let me start with a discussion about our gross margin trends. Slide 14 shows that we have reported year-over-year improvements in gross margin for the past eight quarters, including reporting 18.8% for the first quarter this year, up 180 basis points compared to the 17% gross margin reported during last year's first quarter. However, our first quarter gross margin percentage has declined sequentially from 22.6% in the fourth quarter of 2013. A similar sequential decline occurred in the first quarter of 2013 as well. These sequential declines are primarily the result of spreading certain fixed overhead costs over lower seasonal revenues that typically occur during our first quarter. On Slide 15, we show the breakout for the components of our gross margin for both the fourth quarter of 2013 and the first quarter of 2014. Sequential quarterly deliveries excluding unconsolidated joint ventures fell by 36% from 1,608 deliveries during our fourth quarter to 1,036 in our first quarter. Although our direct margin declined by 140 basis points, the largest driver of the 380 basis points sequential decline in our gross margin, is that we are spreading certain fixed and direct overhead costs, primarily consistent of fixed period costs, such as construction overheads, service costs and property taxes, over lower delivery volumes. This increase in indirect overheads as a percent of revenues caused our gross margins to decline by approximately 240 basis points. As our delivery volume increases in the remaining quarters of 2014, indirect overheads as a percentage of homebuilding revenue should come down, and our gross margin percentage should increase. Even though our gross margin increased year-over-year during the first quarter of fiscal 2014, assuming no changes in current market conditions, we expect our gross margin for our full fiscal 2014 year to be similar to the 20.1% we reported for all of fiscal 2013. Turning to Slide 16; today, we find ourselves at the crossroads of having heavily invested in future deliveries from new communities, but not yet reaping the full sales and delivery volume from these new communities. During the first quarter of fiscal 2014, our total SG&A dollars decreased sequentially to $60 million compared to $63 million during the fourth quarter of fiscal 2013. However, total SG&A in the first quarter of 2014 is up from $49 million during the first quarter of fiscal 2013. Although we expect our total SG&A dollars to increase in fiscal 2014, we anticipate that our SG&A as a percent of total revenues during 2014 will be similar to the 11.9% we have reported for all of fiscal 2013. On Slide 17, we show our annual total SG&A ratio as a percentage of total revenues. We consider approximately 10% as a normalized SG&A ratio. As we continue to generate revenue growth, we expect to be able to leverage our fixed SG&A expenses further, and get this ratio back to a normalized level. Although we had given directional guidance for gross margins and total SG&A, given the slow start to the spring selling season, we believe that it is too early in the year to provide profitability guidance for the full year. We still believe that this is the right time to be aggressive on controlling new land parcels. On Slide 18, we show that since January 2009, we have controlled 35,500 lots and 562 communities. At January 31, 2014, there are still about 23,200 of those newly controlled lots remaining at attractive land values for our future deliveries. The right hand side of this slide shows that there were 3,100 total gross additions during the first quarter of 2014, and that we walked away from about 1,500 newly identified lots. These walkaways, which occur primarily during the due diligence period, resulted in $664,000 of walkaway charges for the quarter. The net result for the first quarter was that our total lots purchased or controlled since January 2009, increased by about, 1,600 sequentially form the first quarter of fiscal 2013. Turning now to Slide 19, you will see our owned and optioned land position broken out by publicly reported segments. At the end of the first quarter, 89% of our option lots are newly identified lots. Excluding mothballed lots, 80% of our total lots are newly identified lots. Our investment and land option deposits was $73 million at January 31, 2014, with $71 in cash deposits and $2 million of deposits being held by letters of credit. Additionally, we have another $12 million invested in predevelopment expenses. Turning now to Slide 20; we show our mothballed lots broken out by geographic segment. In total, we have about 6,500 mothballed lots, within 50 communities that were mothballed as of January 31, 2014. The book value at the end of the first quarter for these remaining mothballed lots was $116 million net of an impairment balance of $431 million. We are carrying these mothballed lots at 21% of their original value. Since 2009, we have unmothballed approximately 3,600 lots within 50 communities. As home prices continue to rise, we expect to unmothball additional communities, as we move forward. Every quarter, we review each of our mothballed communities to see if they are ready to be put back into production. The combination of our 23,200 remaining newly identified lots and the 6,500 mothballed lots provides us approximately 29,700 lots at very attractive land values for our future deliveries. Looking at all of our consolidated communities in the aggregate, including mothballed communities, we have an inventory book value of $1.2 billion, net of $611 million of impairments. We recorded those impairments on 85 of our communities. With the properties that had been impaired, we are carrying them at 20% of their pre-impaired value. Another area of discussion for the quarter is related to our current deferred tax asset valuation allowance. At the end of the first quarter of fiscal 2014, the valuation allowance in the aggregate was $934 million. Our valuation allowance is a very significant asset, not currently reflected on our balance sheet, and we have taken numerous steps to protect it. We expect to be able to reverse this allowance, after we generate consecutive years of profitability, and continue to reject solid profitability going forward. We were profitable for our full 2013 fiscal year. Provided we are profitable once again in fiscal 2014, we are optimistic that we could reverse the vast majority of our valuation allowance in the fourth quarter of fiscal 2014. When the reversal does occur, it will be added back to our shareholders' equity, further strengthening our balance sheet. We ended the first quarter with a total shareholders' deficit of $456 million. If you add back the total valuation allowance, as we have done on Slide 21, then our shareholders' equity will be a positive $478 million. While we have no intentions of issuing equity any time soon, we could issue approximately $120 million of additional shares of Hovnanian common stock for cash, without limiting our ability to utilize our net operating losses. Let me reiterate, that the tax asset valuation allowance is for GAAP purposes only. For tax purposes, our tax assets may be carried forward for 20 years from the current, and we expect to utilize those tax loss carryforwards, as we generate profits in the future. We will not have to pay federal income taxes on approximately $2 billion of future pre-tax profits. Now let me update you on our mortgage operations. Turning to Slide 22, you can see that the credit quality of our mortgage customers continues to remain strong, with average FICO scores of 742. For the first quarter of fiscal 2014, our mortgage company captured 67% of our non-cash home buying customers. Turning to Slide 23, we show a breakout of all the various loan types originated by our mortgage operations for the first quarter of fiscal 2014, compared to all of fiscal 2013. As our percentage of FHA loans continues to decline, the percentage of conforming conventional originations continues to increase. Now I will turn into our debt maturity ladder, which can be found on Slide 24. In January 2014, we did $150 million bond offering, which included refinancing $21 million of our 6.25 notes due in 2015, and pushing them out to 2019. The red bars on this slide represent our unsecured debt. We have a lot of runway in front of us before any material levels of debt come due. We believe that we have the ability today, to refinance all of the unsecured debt that matures between 2015 and 2017. However, we don't like the high costs associated with the make-whole provision on those bonds. So we are more likely to not refinance or pay off those bonds, until we are closer to their maturity dates. As seen on Slide 25, our strong liquidity position, combined with our strategy of utilizing lot option contracts, land banking arrangements, and non-recourse property specific financings clearly demonstrates we have the ability to grow further. Even after we spent $182 million on land and land development during the first quarter, we ended the first quarter of fiscal 2014 with $339 million in liquidity, which includes about $51 million undrawn on our $75 million unsecured revolving line of credit. We ended the quarter above the $245 million upper end of our target liquidity range of $170 million to $245 million. We feel good about our liquidity position, and if we find sufficient new land parcels that meet our underwriting hurdle rates, we would remain comfortable, even if liquidity was at the lower end of our target range. Finally, over the past couple of years, we have been explaining to investors that we believe we would be able to increase our inventory turn over rate, which would allow us to grow the company, even if we did not increase our capital position. On Slide 26, you can clearly see the progress we have made on this front during the past year. The first bar shows our inventory turnover rate to 2.1 times in fiscal 2002 before the boom and the bust of the industry. The next three bars indicate our turnover rates during fiscal 2011, 2012 and 2013. We increased our inventory rate from 1.1 times in 2011, to 1.4 times in 2012. Looking at the right hand side of the slide, you will see that for fiscal 2013, our inventory turnover rate increased further to 1.7 times. We believe our historical turnover rates in excess of two times will be achievable again in the future. Despite the slowdown in the trajectory of the homebuilding industry's recovery, we are pleased with our position as we enter the spring selling season. We continue to see land acquisition opportunities that make solid economic returns and opportunity to grow our top line, while producing respectable gross margins and bottom line returns. 2014 should be another significant step in our recovery. That concludes our formal remarks, and we'd be happy to open it up for Q&A now.

(Operator Instructions). And your first question comes from the line of Nishu Sood with Deutsche Bank. Please proceed.

Thanks, and thanks for the details in the presentation. I wanted to ask about the incentives that you have rolled out here recently in March. I was just thinking about your approach here. You are doing it just on homes, which are already under construction, as opposed to more broadly. I was just wondering, given your generally decentralized operating structure, and since you are just targeting homes that are already under construction, why go with a national approach as opposed to something more local, and especially also, considering the weather would have affected some parts of the country more than others? What were you seeing in the market that led you to go with a national overall approach, as to a more targeted approach?

Well, first of all, it was a little bit of a combination; because, while it’s a national campaign, each local market really determined what was appropriate and where incentives were appropriate. So for example, in Houston, which has been an extremely strong market, and we've been slightly below our level of ready-to-deliver homes, there wasn't much and very few homes had any selective incentives, and other markets where we had more opportunities, they were more aggressive. So it was really left to the local markets. The reason we decided just to make it a national campaign is, it just creates a little bit more energy and excitement, and we thought it would be a better thing to do. It's limited in time, it's only for a month. It's limited on the number of homes and locations, but we still feel like its creating a little extra excitement, and should give us a little catalyst for extra sales energy.

In addition to that, it's going to generate traffic. That excitement will generate traffic and bring people in, that may not have otherwise come into the community, and if they don't like one of our homes that already started and unsold, or the other selected lots that we are doing extra incentives on, they will likely buy a To-Be-Built, which will increase sales activity as well.

Got it. That's helpful. And thinking about the margin impact, I mean, I obviously wanted to get your thoughts on what impact you think this might have on gross margins going forward. I was also curious on the gross margins, in the first quarter, and you have that very helpful slide, I think it was number 15, where you factored out the indirect overheads. There seemed to be some erosion in the margin, even factoring out the indirect overhead. So given that the incentives that you are discussing here, only really begin to take hold after the quarter, I was also wondering what led to the erosion in margins in the quarter, factoring out indirect overheads?

Factoring out indirects, the direct margin did decline -- I think that's more of a fact of mix, both geographic mix and product mix that happened to occur on the quarter. We tried to give you some guidance for the full year that we thought that, based on current market conditions, which includes the incentives that we are offering and big deal days that margins for the full year are going to be very similar to last year's levels. So I don't have to give you much better guidance than that.

So you are assuming that, in other words, that there will be a pretty substantial pickup in gross margins as the year goes on?

Pick up over the first quarter actual, yes.

Got it. Okay. Great. Thanks a lot.

And your next question comes from the line of Michael Rehaut with JP Morgan. Please proceed.

Good morning. This is actually Jason Marcus in for Mike. First question is, I was wondering if you could talk about the progression during the quarter, and kind of what you saw across the different buyer segments. How did the trends in the move up segment compared to active adult and second home? And if you could discuss that with regards to the pricing and incentives that you saw during the quarter, that would be helpful?

Overall, I can't say that we saw any pronounced trend or differentiation between the segments. In general though, the theme we and other builders have been talking about for the last couple of years that the first time homebuyer has not been as present as in the past. That theme really continues, just given the qualification challenges, they have not jumped into the market as much as they have in the past. Other than that, I don't think, we have seen any discernible shifts.

Okay. And then next question is that, you talked about December, January and February orders being below what the company was expecting. Can you talk about what the expectations were for that period?

We would have expected that the trajectory that the industry recovery was having on contracts per community being better year-over-year would have continued; and in fact, since last July, we have seen contracts per community for ourselves and for our peers, on average, to show slight declines. So what has been a little bit surprising since late last summer.

Okay. Thanks.

If you look at our historical contracts per community on an annual basis, you'd see we're still -- although last year was -- and the early part of 2013 was a good solid improvement, we are still well below historical averages. So if you look at, I believe it was Slide number 8, we were expecting each month to continue to improve to get as closer to the historical norms.

And your next question comes from the line of Dan Oppenheim with Credit Suisse. Please proceed.

Thanks very much. Is there any chance you can talk about the -- you could talk away walking from 1,500 nearly identified lots? I am wondering if that -- any region in terms of where those were occurring, and if so, just what you're seeing in the markets in terms of just driving that?

Well first, I just want to clarify, because it is often confused, the difference between walking away in due diligence and walking away from options that have been around and in place for a long period of time. The ladder occurred in the depths of the downturn in the 2009, 2010, 2011 that was not the case here. These were just properties that were put into contract, and kicked out during the due diligence phase. So very different kind of environment, and really kicked out for all kinds of reasons, either estimates that changed, regarding land development costs, as we dug deeper into due diligence or permit issues or other issues like that. I can't say off the top of my head, any one particular geography, I am not sure Jeff, do you happen to have any of that data in front of you?

We just took a quick peek, and it's fairly evenly spread. We saw it in most segments, with the exception of maybe the west, where we really didn't have a lot of land purchase activity in the quarters leading up to our first quarter. So I don't think you could point a finger at any particular geography and say it was worse or better than the others.

Okay. So presumably, some of it was just based on the change in terms of what you are saying, in terms of the expectations though, correct?

Some was may be based on the change, some as I said, was just based on information that we learned during the due diligence investigations.

Okay. And then secondly, wondering in terms of the cabinets, has that been resolved now? Have you switched suppliers?

It has been resolved. Ironically again, Houston was the largest market affected. We moved first to a second manufacturer, only to find out, believe it or not, a month later, they also discontinued distribution in that area. So that caused a mad scramble from [indiscernible] for another time. But at this point, the single sources supplier has been substituted with three different suppliers. So we think we have that under control.

I'd say Houston probably still -- is just causing delays in the construction cycle times. Cabinets are still challenged here I think on the other two markets, we have got it well under control.

Any reason for this distribution leaving the market?

I really, I am not certain of their rationale.

Rest of the [Indiscernible], you can ask them.

Thanks.

And your next question comes from the line of Ivy Zelman with Zelman & Associates. Please proceed. Ivy Zelman - Zelman & Associates: Thank you. Good afternoon guys. I am just trying to square a few of the other builders' commentary with the strength that they are seeing with respect to traffic and a pick up in sales activity, predominantly in the cultural markets. We are hearing that Texas remains very strong, and Houston particularly and also South Florida. So can you help us walk around your markets? I know the mid-Atlantic had been hit hard by the winter. But maybe just take us through the different markets and where you are seeing may be, better activity versus others, because it does seem like a bit of a dichotomy from what most of the other builders reported with their fourth quarter earnings when they talked about January and into February?

Okay. Sure. Well, we concur Houston in particular, is probably one of the strongest markets in the country that we are seeing. Just super strong demand, enough sales ahead, our challenge there is more on the production side, and labor and as we discussed a little bit of material shortages. In Florida, we also are experiencing, in South Florida, particularly Southeast Florida, very strong demand in pricing. Less so in Tampa, which has just been a little less robust and Orlando has been a little bit in between those two. The Northern climates are the one that were really been affected from DC, both Virginia-Maryland, Delaware, the Northeast, New Jersey, Pennsylvania, Chicago, Ohio, Minneapolis, those markets definitely felt the weather, both in terms of sales activity and production. The Phoenix market had no weather constraints. I just think that market we felt, that it shot ahead of itself and just taking a little bit of an adjustment, and many of the builders are having to adjust the big price increases that we enjoyed during the year, back just a little bit. And California is generally very strong depending on the area, it's just that we don't have enough communities out in that area and we are trying to rectify that.

And Ivy I'd also point out, looking at Slide 9 again, if we restacked our -- much for December quarter end, and on the net contract for community, we were right in the middle of the pack, down 9.2%. So I guess the intelligence you are talking about is January and February, and clearly we are seeing a typical kind of sequential improvement in January and February, and first week of March was good as well. We don't have an apples-to-apples comparison to our peers there, but we are seeing a sequential improvement. We just like to see it sequentially stronger. Ivy Zelman - Zelman & Associates: Okay guys. Thank you.

(Operator Instructions). And your next question comes from the line of David Goldberg with UBS. Please proceed.

Thanks. Good morning everybody. My first question, I want to make sure I kind of understand, I guess it’s a little bit of a theoretical question, but I look at Slide 22 and the credit quality of buyers, and some of the pause that may be seeing from buyers in the market and the comment about may be having to put some incentives on standing inventory? And I guess my question is a little bit of a theoretical one, which is, do you think that the pool of buyers -- is it that the pool of buyers? Is this just a sticker shock where prices have gone up, year-over-year rates are up, they want to come back a little bit? And so there is a bit of sticker shock for buyers that are going to communities today, or do you think the credit quality of the buyer pool is deteriorating, because it's not growing as quickly as sales are going out the door? I mean, I know it’s a little bit theoretical, but I look at average LTBs ticked up a little bit, and a fraction -- CLTV has picked up a little bit, [indiscernible] is just picking up a little bit. Is there something there with the credit quality, or its just sticker shock at this point?

I believe that it’s the former, not the latter. I don't think that the credit quality has deteriorated of our customers? I mean it’s a challenge to get through, but the underwriting criteria hadn't materially changed in the past year, one way or other, and I don't think people's credits all of a sudden worse. I think its just an impact of the U.S. economy is not as strong as perhaps it has been in periods of other recoveries, and you combine that with, may be the industry was too aggressive and pushing prices in 2013 too fast. So that there is some sticker shock out there. But I wouldn't draw the conclusion that its credit quality at the consumer.

Thank you. That's very helpful. Then just to follow-up, I wanted to ask about providing incentives and you guys have, obviously so much experience in the industry. I was wondering if you could give us an idea about, are you concerned at all that if you started doing limited incentives, then the builder X down the street has to kind of do incentives to compete with you when we get into a bit of a circular reference? Or is it, you guys are going to put some incentives, and again, very-very small incentives out there, and then if buyers come back and say, well builder X is going to do X times, 10% above X or whatever the number is, you say we are not going to do that, that's not interesting to us. Is it the potential circular reference, or is this --?

Remember on a localized basis, incentives are adjusted, added, etcetera, all the time; and we all adjust to what competitors do around the corner, across the street, etcetera all the time. It just doesn't rise to the attention, unless you talk about it or unless you make it a national campaign. Last month, Toll Brothers had their successful national sales campaign, and I don't think their campaign during and they have lasted the entire month of February. I don't think it made dramatic changes in how the competition reacted. There is, I believe was selective as well, and the market just adjusts to it, just like it does in the local market, when everybody doesn't hear about it.

That's very helpful. Thank you.

And your next question comes from the line of Brendan Lynch with Sidoti. Please proceed.

Hi. Good morning guys.

Good morning.

My question is on the labor constraints. In your press release, you suggested that some of the decline in deliveries was attributable to labor constraints, and I just wanted to get a little more color on that?

It varies from market to market, but I'd say in general, as the market has been recovering and starts have been rising year-over-year, the shortage in labor is just extending building cycle. So if we were on a schedule to build homes, let's say in 2013 or 2014 weeks, that might have extended by a few weeks, and in some cases, it obviously varies by product type and it varies by market. But a few week extension can cause you to miss deliveries for any given month, or certainly any given quarter. We'd expect the cycle times to gravitate back to normal. But in general, I'd say there is little stress still on the labor front.

And is there any particular region that is particularly constrained, or is it just kind of general throughout the country?

I'd say the hottest markets feel it more, and may be Houston feels it more than others, number one, it has been quite strong, and number two, on top of that, they have got a strong oil industry and they are paying some -- industry is paying some significant dollars for everything from truck drivers to different types of manual labor, and those are candidates that would have been potentials for the construction pool. So maybe, Houston is feeling it a little bit more, but it has been somewhat broad based around the country.

Okay great. Thanks for the color Ara.

And there are no further questions. I will now turn the call back over to Ara for further remarks.

Great. Well thank you very much. We are obviously not pleased that we didn't deliver better results, but look forward to the spring selling season unfolding, and delivering some better news in subsequent quarters. Thank you.