LGI Homes, Inc. (LGIH) Q2 2017 Earnings Report, Transcript and Summary

Welcome to LGI Homes Second Quarter 2017 Conference Call. Today's call is being recorded and a replay will be available on the Company's website later today at www.lgihomes.com. We have allocated an hour for prepared remarks and Q&A. [Operator Instructions] At this time, I will turn the call over to Rachel Eaton, Chief Marketing Officer at LGI Homes. Ms. Eaton, you may begin.

Thank you. Welcome to the LGI Homes conference call discussing our results for the second quarter of 2017 and the six months ended June 30, 2017. Today's conference call will contain forward-looking statements that include among other things, statements regarding LGI's business strategy, outlook, plans, objectives and guidance for 2017. All such statements reflect current expectations. However, they do involve assumptions, estimates and other risks and uncertainties that could cause our expectations to prove to be incorrect. You should review our filings with the SEC, including our risk factors and cautionary statements about forward-looking statements section for a discussion of the risks, uncertainties, and other factors that could cause our actual results to differ materially from those anticipated in these forward-looking statements. These forward-looking statements are not guarantees of future performance. You should consider these forward-looking statements in light of the related risks and you should not place undue reliance on these forward-looking statements, which speaks only as of the date of this conference call. Additionally, adjusted gross margins and non-GAAP financial measures will be discussed on this conference call. The presentation of this information is not intended to be considered in isolation or as a substitute for the financial information presented in accordance with GAAP. A reconciliation of adjusted gross margin to gross margins, the most comparable measures prepared in accordance with GAAP is included in the earnings press release that we issued this morning and in our quarterly report on Form 10-Q for the quarter ended June 30, 2017 that we expect to file with the SEC later today. This filing will be accessible on the SEC's website and in the Investor Relations section of our website at www.lgihomes.com. Joining me today are Eric Lipar, LGI Home's Chief Executive Officer; and Charles Merdian, the Company's Chief Financial Officer. With that, I will now turn the call over to Eric.

Thank you, Rachel, and welcome to everyone on this call. We appreciate your continued interest in LGI Homes. During today's call, I will summarize the highlights and results from our record breaking second quarter and year-to-date 2017. Then Charles will follow up to discuss our financial results in more detail. After he is done, we will conclude with comments on what we are seeing for the third quarter and our expectations for the remainder of 2017 before we open the call for questions. First, we would like to thank all of our employees for their hard work, dedication and loyalty to LGI. Because of your outstanding performance, we’re proud to announce that we delivered a very impressive quarter, highlighted by record setting closings, record setting revenues, record setting average sales price, record setting community accounts, record setting net income and record setting earnings per share. For the quarter we closed 1,511 homes generating over $324 million in home sales revenue which represents a 45.6% increase over the second quarter of 2016. Breaking it down let's first look at it highlights from our Texas operations. Compared to results from Huston, San Antonio, Dallas/Fort Worth and Austin, our Texas operations generated 679 closings representing approximately 45% of our total closings for the quarter. These 679 closings represent a 16% year-over-year increase in closings for Texas. In addition the absorption rate in Texas was the strongest across all divisions averaging 9.2 closings per community per month. Our concentration outside of Texas increased during the second quarter making 55% of our closings compared to 48% of our closings in the second quarter of last year. The Southeast division represented 18% of our home closings. The Southwest division represented 17%. The Florida division and the Northwest division represented 4%. As we've discussed on our previous calls, we anticipate our percentage of closings outside of Texas will continue to increase. Highlighting the second quarter was an increase in closings in our Northwest division. This quarter we close 64 homes in this division compared to 11 homes closed in the second quarter of last year which is a 481% year-over-year increase. Companywide absorption for the second quarter average 7.1 closings per community per month, an increase to the second quarter of last year was 6.8 closings for per community per month. Our top five markets for the quarter were Huston leading the way with 9.1 closings per community per month, Dallas/Fort Worth with 9.7, San Antonio with 9.1, Fort Myers with 8.7 and Charlotte with 8.2 closings per community per month. For the past seven years, LGI Homes has been and continued to focus on growth and expansion of our footprint. We ended the second quarter with 71 active selling communities, which is an increase of 15 over the 56 active selling communities that we had at the end of the second quarter last year. These 15 communities spread throughout the nation with two in Huston, Orlando, Nashville and Seattle and one each in Austin, Phoenix, Denver, Jacksonville, Atlanta, Raleigh and Portland. In addition to grow through community count, we're seeing a lot of success with what we’re calling your wholesale business. Over the last 12 to 18 months, we've seen increased interest from the single family rental business to purchase homes from LGI. Our team has been working with these investment groups and identifying mutually beneficial communities where it makes sense across the deliver homes based on available inventory and our land positions. Through these wholesale agreements, we closed seven homes in the first quarter of 2017 and 65 homes in the second quarter of 2017. The 65 homes closed this quarter were spread across 14 communities and five different states. These closings come at a lower gross margin but similar net margins because of the savings we realized on SG&A expense. Although, this quarter our wholesale business made up a small percentage of our 1,511 closings, we're excited about the future opportunities that may come as a result of these relationships. During the second quarter, we continue to execute our strategy of marketing directly to renters living within closed proximity to our communities. Our advertising produced over 100,000 inquiries in the second quarter strengthening our belief that there remains a strong demand from the first time home buyer segment. In addition, our market continued to have strong housing demand drivers, including nationally leading population and employment growth trends, general housing affordability and desirable lifestyle characteristics. With that, I would like to turn the call over to Charles Merdian, our Chief Financial Officer for more in-depth review of our financial results.

Thanks, Eric. Homes sales revenues for the quarter were $324.2 million based on 1,511 homes close, which represents a 45.6% increase over the second quarter of 2016. Sales prices realized from home closed during the second quarter range from 170s to over $600,000, an average $214,545 and 8.7% year-over-year increase. In the second quarter, our approximate average sales prices by division were $206,000 in Texas, $255,000 in our Southwest, $187,000 in our Southeast, $200,000 in Florida and $323,000 in Northwest. Gross margin as a percentage of sales was 26.6% this quarter compared to 26.5% for the same quarter last year. Our adjusted gross margin was 28% this quarter compared to 27.8% for the second quarter of 2016, a 20 basis points increase. Included in this quarter's results was a one-time reimbursement associated with the community development. Excluding this one-time cost our adjusted gross margin would have been 27.2%. Year-to-date gross margin was 26.7% compared to 26.1% last year and adjusted gross margin was 28% compared to 27.3% for the same period in 2016. Adjusted gross margin excludes approximately $4.3 million of capitalized interest charged across the sales during the quarter representing 134 basis points and consistent with previous quarters. Combined, selling, general and administrative expenses for the second quarter were 11.7% of home sales revenues, compared to 12.7% in the prior year. We believe that SG&A will vary quarter to quarter based on home sales revenue and for the full year we expect SG&A as a percentage of revenue to be 20 to 50 basis points lower compared to our 2016 full year results. Selling expenses for the quarter were $24.2 million or 7.5% of home sales revenue compared to $17.9 million or 8% of home sales revenue for the second quarter of 2016, a 50 basis point decrease. The decrease in selling expenses as a percentage of home sales revenue is due to operating leverage realized related to advertising costs. General and administrative expenses were 4.2% of home sales revenues compared to 4.7% for the second quarter of 2016, a 50 basis point decrease. The decrease in general and administrative expenses as a percentage of home sales revenue reflects operating leverage realized from the higher number of homes closed. Pre-tax income for the quarter was $48.6 million or 15% of home sales revenue, an increase of 90 basis points over the same quarter in 2016. As a result of the recently adapted accounting standard, our year-to-date effective tax rate of 32.8% is lower than the statutory rate due to the tax benefit of deductions in excess of compensation cost or wind falls per share based payments. We would expect our effective tax rate for the back half of the year to range between 33.5% and 34.5%. We generated net income in the quarter of $32.2 million or 9.9% of home sales revenue which represents earnings per share of $1.49 per basic share and $1.39 per diluted share. Weighted shares outstanding for calculating diluted earnings per share are impacted by our outstanding convertible notes. In the second quarter of 2017 our average stock price was $33.56 exceeding the conversion price and therefore the convertible notes were determined to be dilutive. This resulted in approximate 1.4 million share increase to the weighted average shares outstanding for the diluted EPS calculation for the quarter. Part of our mission is to deliver an excellent return to our investors. Since our IPO in November of 2013, we've generated over $200 million in earnings and have reinvested it to grow the business and deliver returns on average equity in the mid 20's. As noted in our earnings release, this quarter we saw robust orders. Second quarter growth orders were 2,551 and net orders were 1,969. Ending backlog for the second quarter was 1,545 homes compared to 887 last year and the cancellation rate for the second quarter of 2017 was 22.8%. We ended the second quarter with a portfolio of approximately 32,700 owned and controlled lots and as we mentioned on our prior quarter calls our objective is to build a sufficient number of move-in ready homes to meet our expected closings. At the end of June, we had approximately 3,000 homes complete or in progress compared to 1,600 homes at December 2016 increasing our net dollars invested in production by approximately $125 million year-to-date. In May of this year, we increased our revolving credit facility to $600 million with a $50 million accordion with our second amended and restated credit agreement. At June we have $370 million outstanding under the facility and our borrowing capacity was approximately $154 million. In addition we've $85 million in convertible notes outstanding. Our gross debt to capitalization was approximately 52% and net debt to capitalization was 51%. At this point, I'd like to turn it back over to Eric.

Thanks, Charles. In summary, we had an outstanding quarter and a great first half of the year. Let me provide some guidance and thoughts on what we're seeing thus far in the third quarter and looking ahead into the remainder of the year. The third quarter is off to a great start with 591 closings in July, of 93% from the 306 closings in July of last year. To put this in perspective, in July of 2010, the not so distant past, we closed 18 homes, the 591 closings this year came from 76 active selling communities resulting in a very solid absorption pace averaging just over 7.8 closings per community per month. Based on the strength of our July closings and the continued demand we're seeing from customers wanting to go from a rental situation to home ownership, we're increasing our closing guidance for 2017 for more than 4,700 homes closed to more than 5,000 homes closed. Our community count expanded from 71 at the end of June to 76 at the end of July. These additional communities are located in the Houston, Dallas/Fort Worth, Charlotte and Nashville markets. We're still expecting our community count at year end to be between 75 and 80 communities. We're also continuing our nationwide expansion. We're opening our first community in both the Minneapolis market and the Winston-Salem market for sales in September and expect to have our first closings in the fourth quarter of 2017. The expansion into the Minneapolis market will create our Midwest divisions. We've closed on our first property in the Oklahoma City market. We expect to be open for sales in the second quarter of 2018 with closings during the second half of 2018. The Oklahoma City market will be managed by our leadership team out of Dallas/Fort Worth and be added to our Texas division to form our new central division. Our first project in the State of California has been approved by our Acquisitions Committee. We're scheduled to close on this property in the Sacramento market in the next 60 days with construction starting around the 1st of 2018. We're expecting to have closings in this market in the second half of 2018. As Charles mentioned, our average sales price in the second quarter was nearly flat to the first quarter. We see this continuing in the third and fourth quarters resulting in our average sales price for the year remaining within our previous guidance of $210,000 to $220,000. We expect gross margin for the full year to remain within our historical range of 25% to 27% and adjusted gross margin to be within our historical range of 26.5% to 28.5%. Given our increased closing guidance, similar average sales prices, gross margins, SG&A and taxes within our expected ranges, we are raising our full year basic earnings per share guidance from $4 to $4.50 per share to $4.25 to $4.75 per share. Now, we’ll be happy to take your questions.

Thank you. [Operator Instructions] Our first question comes from the line of Nishu Sood of Deutsche Bank. Your line is open.

So let’s start out with just taking a look at what has changed here, I mean the performance has been fantastic the last couple of months and earlier this year there were some concerns about slowdown in demand and slowdown in absorption pace. And I think July, I was looking back at the numbers is, I think there is only one month in your five year history of public numbers, it’s higher from an absorption pace, so just a real fantastic performance. You had mentioned some issues, Eric, related to just some delays in getting inventories on the ground. So as we take a look back like, what has improved so dramatically to lead us to what you laid out today?

Sure, Nish, this is Eric. I will start and Charles can add to it. First of all, it was a great quarter and the demand is still there. We had a great sales quarter. But I really look back and looking at the first quarter results, we had a strong sales quarter and I think we are pretty clear that the primary reason closings were down in the first quarter was really because of inventory. We closed out some top performing communities. We needed to get some more houses started. We needed to get some development sections on the ground. And we were optimistic that the closings were going to still be there and that’s why we reiterated our guidance at 4,700 closings even though we were down year-on-year. But you are correct as we had a positive outlook on how demand and sales and I think that has continued and even strengthened, And I think the market we are in right now and where we are positioned ourselves as supply is very low out there, demand is as good as it’s ever been for our business as far as customers that are currently in rental situations wanting to get an home ownership. We’ve got the added benefit that races stayed low. So the affordability is there and the monthly payment is there. And we have got some positive things capped in and mortgage availability. I think credit standards we are seeing gradual losing. So we have high demand low supply easier relative financing and low interest rates. That’s a very good environment for LGI to put up really good numbers.

Got it. Now that’s helpful. And then so, if we think about the success you had in the second quarter and obviously extending into July, there are kind of two takes on it, potential takes on it. One might be there was some catch-up from some of the inventory issues in the first quarter and an alternate take might be that now that demand trends that we saw in the second quarter are truly reflective of what the market is giving us. Now, your order trend says that it’s the later. What are your thoughts there? I mean it’s just such a high level or performance or just kind of thinking about how sustainable it might be?

Yes. I think it’s both an issue, I mean I think the high -- the catch up on the inventory really what's made us confident to get the 4,700. And then there are definitely as increased performance on the sales side and that’s why we thought -- we really don't have any choice, but to raise guidance to more than 5,000 because the numbers that 4,700 just don’t make any sense anymore. I can tell you that the demand is continued in August. The month of August, we expect to close more than 500 homes. We closed 383 last month, so we’re looking at a really strong year-over-year comp as well. So, we see that trend continuing more than 5,000 houses -- in that number now. But with the inventory constraints, there still is a finite number of homes that we can close this year. We have some communities that we caught up on inventory and now we’re going to be closed out again before the end of the year this year and we’re going to be waiting for that next section to come on board. So, there is always going to be month-to-month and quarter-to-quarter volatility, but we’re very comfortable at the 5,000 plus number this year.

Got it. And then a question on the SG&A, Charles you mentioned that SG&A is volatile from quarter-to-quarter, but then when you were describing the factors that drove the strong performance. It was a very nice performance in SG&A. When described the factors you basically mentioned I think operating leverage. Operating leverage sounds like it might be sustainable. So how do I reconcile that? Where there are some one-off factors that drove the impressive SG&A performance in 2Q that might reverse in the back half of the year?

Sure. Good question. So I think really it’s driven more so from we have some back half of the year, expenses coming new market expansions, Eric has mentioned the Midwest and California. So that’s going to contribute more in terms of adding additional overhead in the back half of the year than it is in the second quarter. We also have our implementation of our finalization of all of our Sarbanes-Oxley requirements and that’s going to weigh heavier on the back half of the year as well. So, I think we’ll see year-over-year favorable comparisons in both of the third quarter and fourth quarter. But our expectation would not necessarily be the third quarter and fourth quarter would be as favorable as the second quarter was.

Got it. And that might be driven, you had a pretty big jump, nice jump in community count to 76, so that, is that the link there that will probably drive some incremental start up cost? And so it will be higher in the second half?

Yes. I think it’s more so driven on the community accounts that we haven’t yet reported on, more or so that the ones that are in the 76. So, as we get into the fourth quarter and then into 2018, we’re establishing the overhead that we need for the 2018 community accounts in markets that we anticipate to go into, which is really affecting us probably more or so in the third quarter and fourth quarter, this year that you see that lag.

Thank you. Our next question comes from the line of Michael Rehaut of JP Morgan. Your line is open.

Thanks. Good morning everyone. Nice results. First question just wanted to delve into the remaining I guess five months, five or six months of the year four or five months of year with you're saying that you expect August to be over a 500 closings. It seems that you could easily be in the 5,000 to 6,000 range -- I'm sorry, solidly above 5,000. Obviously, your guidance says at least 5,000, but if August is above 500 the math would show that just to hit 5,000. You did need only do about three in the quarter for the last few months. So just want to make sure that -- I don’t think there is anything naturally do think or expect that you wouldn’t be doing at least 400 per month. And given the stronger sales pace with a similar amount of year end communities, just wanted -- was curious about how that affects the opening cadence? And is there any risk to maybe selling out of communities faster than expected?

Your math's pretty close Mike. If we close more than 500 this month, we’re going to do just over 400. There is exactly 500 to hit the 5,000 number. So 400 to 500 a month for the last few months, last year with all September, October and November we're less than August and then really strong December. So there is some inventory strength build into these projections. But when we say more than 5,000, you can assume that it can be greater than that number, but you're right on there is a big difference 400 and 500 closings a month. And we're comfortable in that range, but we're seeing increase demand. It's just a question of getting the houses built and inventory, and then September is looking good. But we still have this very quickly and really focused on completed houses, so it's early -- a little bit early to talk about demand that really going to impact especially in November and December closings.

And just getting to the back half of the question I know it's a little loaded, but in terms of managing the community count again. And if you're raising your closing guidance, but typically it's zero some gain unless you can, you think all of equal maybe you're lowering the community count guidance. So, it seems like you're able to at minimum replenish the communities, if there is any selling out faster. And just kind curious about your ability to continue to grow and feed the beast into next year, maintaining I don't know what the goals for next year. But I would assume it might be at least 15% type of community growth goal. So just you address any of that?

Sure. I'm forced to understand the community count what we want from 71 to 76 communities in July that really is the first month of those new communities having been closings. So they don’t have the five additional communities, we will have the big impacts in 2017. But they will be operational for the full year in 2018, so that's really where our growth is going to come from in 2018 as the communities we've been adding, adding in the back half of the year. And also we mentioned areas like Oklahoma City, areas like Minneapolis, areas like California, and we will additional community kind of growth in those markets because right now there is no communities in that count from Minneapolis, Oklahoma City, California, we're focused on getting something going in the Las Vegas Market and a couple of other ancillary markets. So, most of our community count growth comes from our new markets that we're entering.

Wanted to shift gears to the wholesale business that you referenced earlier in the call and with 65 homes sold to the single family rental companies, it's about 4% of your closings for the quarter. Just wanted to kind of take your pulse on how that kind of fits into your strategy and your broader messaging where typically you're selling to renters themselves with the argument all around home ownership, at the same time their you're kind of allowing a rental element into your communities. So I'm kind of curious on, how that kind of fits with your broader message to your core customer base? And also, as if you have any ability to manage, I assume not, but those homes as they just become rental vehicles, if you have any back end control on the management of those units?

Great question, Mike. First of all, the control, just as that was last when you mentioned. I mean all of our communities that we're selling homes to the on a wholesale basis all have deep restrictions. So they would be held to the same standards as far as maintenance there, as our existing customers would, so we don't anticipate any problems with that issue anymore than we deal with now. And also the concentration of these 65 homes we talked about were spread across 14 communities in five states, so the wholesale companies that we've been doing with really don't want a big concentration of their homes in one community, they like to have them spread out. So, we don't anticipate that that's going to be an issue, they're already in all of our communities we've been selling homes to what we call mom-and-pop investors, one or two here and there for a long time. And there's rentals in our communities nationwide and having customers paying rent or renting house in our communities, we think has no negative impact at all, in fact we know it doesn't, in fact some of these closings are in couple of our top performing communities where we've been selling houses in there in the wholesale business and the sales pace is as strong or stronger. So, we think it's very accretive to company to take advantage and some of our communities where we've longer lot positions, so little less than the gross margin we make up for it in SG&A leverage similar pretax net income metrics, but then you take it to next level and it's very accretive from a return on equity and those metrics and earnings per share as we're shortening the life of any community that we're putting in wholesale investors in.

Well, I guess just last question on this and perhaps I'll get back in the queue, but just distinguishing out this line of thought because you mentioned that you already have in the past sold to mom-and-pop investors. So, there's already been an element of I assume relatively small one, but already been an element of rental within your community. So I was just curious if you have any sense perhaps in your more established markets like Texas for example. What percent of your homes, once communities built out -- what percent of communities units are rental? And just secondly, where you think this wholesales business for your own means what that might represent in a year or two from a percent of closing and if you have like a cap that you would put a ceiling on it?

Yes, I think historically rentals in our communities have been a pretty low percentage and I think that will continue to be there as a low percentage. The wholesale business this year we expect to end the year between 150 and 200 houses so out of more than 5,000 obviously a pretty small percentage, 3% to 4% very similar to this quarter as well. And we think it’s going to remain a small percentage of the LGI Homes business. The biggest challenge we have in doing business on the wholesale there is a lot demand there, the biggest challenge we have as we did not have a lot of finished lot supply or available inventory to sell them because the demand is so good on LGI home side. So, it’s a win-win situation because we obviously wouldn’t sell any houses, that’s not accretive to our shareholders but we have the opportunity in certain cases where we have the inventory to make a deal that’s good for everyone. So we are excited about it it’s going to be a small part of our overall business but certainly beneficial to everyone.

Our next question comes from the line of Stephen East from Wells Fargo.

Thank you. Actually, this is Paul on for Stephen. I guess first, Eric, on the first quarter conference call, you had mentioned you were expecting 450 closings for May, June and July. What drove the variance to the projection? Are we seeing pull forward that may show up in the second half of the year?

I don’t actually think we are going to see pull forward. I think what drove that is while there is some conservatism built in those numbers. We want to make sure that we hit our numbers. We haven’t hit our numbers a few times or given month-to-month positive guidance. So we want to make sure we are hitting that numbers. In the back half of that I mean there is no question demand is strong, so we do not forecast being over 600 in June and 590 in July those are few very strong months. And our teams in the field, our construction team particularly did a really good job of getting the houses built and catching up on some of that inventory that resulted in having the ability to close those extra houses. So the combination of everything, but it don’t think we got to pull forward demand other than just to reiterate the point is there is a finite number of homes that are being closed every month and every quarter and the more homes you close in any given month doesn’t necessarily take away but sometimes it does because we have to work getting inspections on the ground and get more houses built.

Okay. And then switching over to gross margin, I am curious you raised your closing guidance but your gross margin guide the same, so what would be impacting that? And then your gross margin was down sequentially which I believe is the first time that happened in the second quarter since you came probably. So were there any one-time items this quarter that hit the gross margin?

Yes, Paul, this is Charles. I will start and Eric can add. We had mentioned we had the reimbursement of cost coming in that was about an 80 basis point impact, so if you took that down on an adjusted gross margin, we would never have taken down 27.2 play that point. On the wholesale business Eric had mentioned that margins are little lower we thought that is about 40 basis point impact this quarter, so to offsetting the reimbursement. So, I think the wholesale business at roughly 4% to 5% of our business maybe 6% to 8% lower. ASP is going to equate that roughly about 40 basis points, 30 basis points to 50 basis points on the quarter-over-quarter basis lower than we would normally have seen just taking into regular LGI Homes business. I mean we are seeing pressures on both labor and materials, we talked about that last quarter, we expected that to come into play as we have increased our production that’s one of the factors that we have had to manage through which is making sure that what we have an up trades. The trade base expanding, the trade base at sometime that comes in a cost is the next guy behind the first one maybe a little bit more expensive. We feel like that is definitely paid off in terms of building our inventory balances back up that certainly comes into play. And then also the traditional new market entries transitions on a year-over-year basis, we have a lot of movement even though the market community account maybe similar in most of our markets to make up as an individual communities vary quarter-to-quarter and year-to-year, so as it close out communities and move into new ones, the margin profile maybe slightly different in both directions, sometime it’s favorable, sometime it’s unfavorable. So that is certainly a constant in our business that affects the gross margin on our quarter-by-quarter basis.

Okay. And then your lot of account was up in mid teens year-to-date. Should we think that was a good proxy for 2018 community account road?

I think we’ll certainly add commentary on 2018 at some point later, but I think some of it was, we had a relatively light quarter in terms of acquisitions, I mean certainly our volume increasing has helped us from an acquisition standpoint in terms of looking at what opportunities are available because we face our expectations based on current performance. So, I think it’s a little bit more of that maybe the second quarter was a little bit lower in terms of putting deals under contract than maybe as it normally would. So, it’s a little bit more of jump, I think a little bit more of a dramatic jump than we may have otherwise seems historically.

Our next question comes from the line of Jay McCanless of Wedbush. Your line is open.

The question that I had is when I look at the 77% increase in backlog and congrats on that, it’s a great statistic. I’m just wondering if there is a meaningful difference in the cycle times or the projected cycle times for the backlog this year versus last year because the gross number for backlog look so big, it feels like you guys are being maybe two conservative on the guidance. Could you talk me through that?

Jay, this is Eric. I don’t consider it any longer cycle time this quarter. So I’d say, no, no with that. So, hopefully we are being conservative and it’s a great quarter for sales backlog remain strong and we’re optimistic about the second half.

Are there any markets where you’re having more difficulty than just another markets in terms of getting homes completed and out there. I mean as far municipality issues and things of that nature?

Not necessary, the markets are little bit different based on time primarily based on whether we're going to put a basement in and then different inspections and there are longer build times, but nothing unusual compared to historical. As we expanded outside of Texas, there is a greater percentage of our closings coming from outside of Texas now. And generally speaking, all time is longer outside of Texas. So over all I think it has increased, but nothing out of the ordinary going out.

Our next question comes from the line of Carl Reichardt of BTIG LLC. Your line is open.

I wanted to ask you about the gross margin again. Just looking at the bridge, you guys in the press release called out a positive from pricing off course, I am assuming that's ex-mix. And then it applies obviously a negative from construction cost. So can you quantify the basis point impact from pricing and construction cost to get that bridge from the 278 last year to the 272 adjusted this year.

So, on adjusted from 278 to 272, so I mentioned the wholesale business having about a 40 basis points, I think land as a percentage of revenue was similar. So I would say that’s been relatively constant. So the delta or the difference would be primarily related to house cost accelerating at a faster rate than we were able to push pricing.

But you have sort of the sense of the basis point impacts of that, so lands out -- so pricing was positive, but costs were negative. So I'm just trying to get a sense of what the impact would have been in numeric basis.

Sure, I would say somewhere in the 40 to 50 basis points range.

Negative okay, thanks. And then, Eric, if we think about the first quarter and you and I talked a few times about the issues getting lots horizontal and houses vertical. What do you think you will do differently heading into Q1, '18 to ensure that inventories are ready to go? What changes have you made to insure that you will be ready this time around?

Yes, great question. A couple of times we have been talking about with our management teams, we have to make sure we start enough houses in the fourth quarter and just don’t focus on completely costing out the end of the year, make sure we focus on building up inventory to have a strong first quarter as well. From a development side, we've been working with our teams and really looking at the lead times and really looking at how long it takes to get section on the ground and are we building contingency into these forecast, it is now getting any easier in dealing with cities and class and utility providers and getting these developments on the ground ready to go. So I think we can build in some more contingency upon that and then really looking at our continued strong sales and make sure we're forecasting aggressively enough because sales are very strong, and we will be monitoring that as well to make sure we have enough inventory to keep up with this accelerated absorption basis.

Okay, that’s great. Thank you. And then one last question. Just for me, the California expense surprised me a little bit in Sacramento. What made you choose Sacramento as a market? And my assumption is you'll continue to try to have stores there, if the first one goes well. What drove you to that market as opposed to the tailored myriad markets in California you might have looked at?

Yes, it is the specific deal, Carl. Certainly, LGI focused on the first time homebuyers not going to go to Coastal California, and we knew we get to California eventually because our plan is to get to every market of size eventually. And this particular opportunity fits right into our model of how we're going to get California, meaning it was finished last, we're not going to take a development risk. It was in a entry level market and an entry level location for affordability purposes and also has done a option to takedown contract. So, we're taking down finished lots on a quarterly basis to taking out development risk. So the specific deal is really what got us start in California and correctly we plan adding community counts mostly get started.

Our next question comes from the line of Alex Barron of Housing Research Center. Your line is open.

I just curious similar questions maybe I'll ask another way. So your orders are up 64% this quarter and given that you guys generally expect homes in advance. I guess it really sounds like you're being pretty conservative if the building time hasn't really changed I guess for third quarter. Maybe it isn't a question, but just more of a statement. But anyway given that you do expect build and you've seen an acceleration in demand whether that you guys are looking at to, make sure you don't get too -- on the one hand, you want to fall behind on building inventory. On the other hand, how do you monitor that you don't build too much in case demand does kind of pull back a bit?

Good question, Alex. First of all being conservative, you're correct and we want to be conservative, we don't look at that as a negative aspect at all. We want to make sure we're hitting our numbers every quarter, we talked about that at Board of Directors and then also on our yearly guidance, and we'll have another chance to update that when we get back together after the third quarter. And how we make sure of getting how to fund of ourselves is primarily looking at it every week based on the sales coming in, looking at lease, looking at demand in our current offices, making sure our closings are coming through. And as closings increase, we start more, so we've to commit a few months in advance. But because our cycle time is pretty quick than our construction time, we can ramp up pretty quickly if we have the lots and tone it down or dial back pretty quickly as well. The other thing that we could do is really hold the permits in advance and get ready, so if the demand is there and we need to, we can aggressive but we can obviously just hold on the permits for a 30 or 60 days if needed if we see any slowdowns at all.

And definitely interesting to see all the markets you guys are planning to be in, next year I'm assuming you'll continue to look at new potential markets beyond the ones you listed?

Yes, that is correct I mean our expectation with our leadership in the field is we're going to grow as fast as we can handle and as we continue to have success opening up new markets, we continue -- we'll continue to open up new markets past that.

And along those lines, have you guys considered issuing like a bond offering or you don’t think you need it at this time?

Sure, this is Charles. So we are constantly monitoring our capital needs. It’s certainly something that we consider from time-to-time. We are very excited about the success that we had on increasing our credit agreement. So having as I mentioned about $154 million of availability at the end of the quarter is certainly a positive for us. But accessing the high yield market, all the other alternatives that are available to us we certainly monitor on a quarter-to-quarter basis. But feel very good with where we are at today.

Okay. And lastly, these warehouse deals that you guys did on a few communities, have you guys been contemplating or in conversations to do entire communities which we heard that some of the rental companies wanted to essentially build entire community. So wondering that’s something you guys have been contemplating?

We have. We are willing to build anything on a wholesale builds business that makes for our investors. We don’t have any out of entire communities to really build out. So that hasn’t been the focus in our relationships with the wholesale investors. But we are certainly open to that in future.

[Operator Instructions] Our next question comes from the line of Michael Martin of Michael J. Martin Associates. Your line is open.

Thanks for taking my call and congratulations. You mentioned a little while ago you’re growing as fast as you can. What kind of strength with the growth put on your billions of restructuring and get the right people, what’s the leverage there?

Yes, it’s very good question Michael and that’s something we are focused on as part of our culture, constant, never-ending improvement. Training is a big part of it and that’s one of the challenges going forward with all of our growth, as we got a lot of new employees out just over 700 employees now. We have got a lot of new markets, a lot of new managers and a lot of new vice presidents. But the system we have in place, we believe mitigates that risk, a lot of work, a lot of training to be done. But we have systems in place to mitigate that risk. Our President and Chief Operating Officer, Mike Snider, has done a phenomenal job this year. He is committed to travel to every single market and spend a week in the market which is 13 different markets this year, really on the field with the managers. We are still committed to flying every sales person and manager that we hire nationwide through our corporate office for structure training. We have been doing it every quarter since 2003 we still do it. So still here is exactly the same message and we all continue operating on exactly the same process that we always we have.

Great. Has there been any material change in the turnover in the last year?

No, turnover is running same as historical averages. We are always going to have some turnover and the people that leave, we wish them the best, but we are going to focus on the remaining 700 that are still here and train them up on our processes.

Thank you. And we have a follow-up from the line of Michael Rehaut of JP Morgan. Your line is open Michael.

Thanks. Just a quick one, just going back on the wholesale business. You mentioned that it was a across 14 communities in five states?

Correct.

And I was just curious the number of companies that you sold to for those 65. I assume it was in 14 different single family rental companies for those 14 different communities. I was curious if you have a sense of number of those outfits that you’re currently dealing with and how many of them are kind of operating on a cross state or multi state basis with you?

Yes. It’s less than five companies. We did put in the CAGR over this year and we disclose. We did sign a bulk sales agreement to deliver 56 -- excuse me 156 homes through 2017 and the second quarter of 2018. And out of those 156, you closed 62 in the first six months, so that’s a majority of it. But we’re working with a few different companies than we have interest in few more, but we found it’s really better to only focus on a few of the companies because there is a lot of demand out there from that space to get into new homes.

Thank you. And I’m showing no further questions in the queue at this time, sir. I’d like to turn the call back to Eric Lipar, CEO, for closing remarks.

Thanks everyone. We appreciate everyone participating on today’s call and for your continued interest in LGI Homes. Have a great afternoon. Thank you.

Ladies and gentlemen, thank you for participating in today’s conference. You may now disconnect. And have a wonderful day.