Ladies and gentlemen, greetings, and welcome to the Tri Pointe Homes Second Quarter 2023 Earnings Conference Call. At this time, all participants are in listen-only mode. A brief question-and-answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star and 0 on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, David Lee. Please go ahead.

Good morning, and welcome to Tri Pointe Homes earnings conference call. Earlier this morning, the company released its financial results for the second quarter of 2023. Documents detailing these results, including a slide deck are available at www.tripointehomes.com through the Astros 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, which 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 differ materially are detailed in the company's SEC filings. Except as required by law, the company undertakes no duty to update these forward-looking statements. Additionally, reconciliations of non-GAAP financial measures discussed on this call to the most comparable GAAP measures can be accessed through Tri Pointe'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 Mamet, the company's Chief Marketing Officer. With that, I will now turn the call over to Doug.

Thank you, David, and good morning to everyone on today's call. During the call today, we will review operating results for the second quarter, 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 second quarter. The increased buyer demand we saw in the first part of the year was even more robust through the second quarter, resulting in absorption pace of 4.5 homes per community per month. Net new home orders were 1,912 for the quarter, which was a 41% increase over the prior year and an 18% increase sequentially from the first quarter. 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 second quarter, we delivered 1,173 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. 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 base 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 fall short of current demand. An important component for that supply-demand equation is a scarcity of resale home…

Thanks, Doug, and good morning. I'm going to highlight some of our results and key financial metrics for the second quarter and then finish my remarks with our expectations and outlook for the third quarter 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 second quarter. We delivered 1,173 homes at an average selling price of $698,000, resulting in home sales revenue of approximately $819 million. Deliveries came in above the high end of our guidance range by 17% and as we were able to take advantage of the strong demand environment and deliver move-in-ready spec homes during the quarter. Gross margin percentage for the quarter was 20.4% and includes project write-downs of $11.5 million or 140 basis points. Adjusted gross margin, which excludes interest, impairments and deposit write-offs, was 24.9% for the second quarter. 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 third quarter in the range of 21% to 22% and expanded further in the fourth quarter to a range of 22% to 23%. For the second quarter, SG&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 cost from the increase in revenue. Finally, net income for the second quarter was $61 million or $0.60 per diluted share. We generated 1,912 net new home orders in the second quarter which was a 41% increase compared to the prior year and an 18% increase sequentially from the first quarter. Our…

In closing, I'd like to reiterate how pleased we are with our results 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 and balance 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 on our opportunities to grow both organically and through potential M&A opportunities. 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 Instructions] The first question comes from the line of Alan Ratner with Zelman & Associates.

Hey, guys, good morning. Thanks for the time. 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. 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 build to order, things like margin differentials and just generally speaking, what your strategy is there going forward? I mean if 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 specs rising here over the next few quarters?

Yes, Alan, 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 -- that's been our strategy. As you go into the advanced deliveries over our end of our guidance for the second quarter, a lot of those homes were started, obviously, in the back half -- and so we went into the year with a fair amount of homes that were nearing completion in spec. So that with the strong demand, we ended up closing more homes as you noted.

Got it. Alan, a little-- Sorry, Alan. A little more color for your question. This is Tom. Typically, we see about a 200 basis point differential in margin on the to be build versus spec. I would note, however, that most of our spec starts seem to get purchased in the middle of the process. So we are still very successful in achieving revenues from personalization homes through our design studio business.

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

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 Tri Point started. So we're pursuing, I would say that's, a, and let's call M&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. 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 think it will 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.

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

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

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 more specs from those divisions and they carry a lower ASP than our than the company average. And so that's all that was. 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's a little bit of that in the mix.

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

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 the mix.

And then, Stephen, on the differential on the spec 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. 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 health.

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 maybe the product types if there is any differential worth calling out? And then regarding your starts, could you just give us a sense for what kind of starts pace we could expect in 3Q?

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, by being mindful of affordability, especially on the industry level we took a measured approach, but the demand, we were able to have good success raising pricing and then the second question, what was your second question again?

Start sales.

We started roughly 2,000 houses in the second 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 2,000 houses as you've seen us do. So it will just depend on demand.

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

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

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

Okay, great. Thank you very much.

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

Hey, good morning guys. Thanks for taking my question. So first, you all have a healthy land bank and it doesn't appear you all pulled back as aggressively as some peers on land development in kind of 2022. Glenn, you mentioned, I believe, $70 million to $80 million new community openings. I'm hoping you can help us through hotel year-end kind of active community count, any metros, regions of outsized growth and the potential to carry that into 2024?

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 bit more towards the Central and East as we're continuing to diversify. 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 down 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.

Got you. Got you. And then just following up on Steve's question, hopefully asked a little bit differently. But with you all raising pricing in 3/4 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 need to give some incremental price adjustments to stimulate demand? And then just a housekeeping question. Did I hear you all say July absorptions were trending in the 3.5% to 4% range?

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 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 gotten smaller and smaller. And I think, overall, the pricing power is pretty broad based.

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

Thanks, Truman.

Thank you. Our next question comes from the line of Carl Reichardt with BTIG.

On share repurchases, I think you bought back $32 million this quarter. It's been a big part of the story for a number of years now reducing the float. But now as businesses begin to improve and you're looking to add dirt supply diversified markets, maybe look at new markets. How do share repurchases fit into the capital allocation plans in the next kind of 2 or 3 years?

It's still part of our playbook, and it's still something we can value and we have our staff 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 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, the share repurchase is still part of the playbook for sure.

I was going to ask about that flu. And then in the release for Tom and for in the release, 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. But are there particular related to inventory turns, margins or that you talk about as charged based on the 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. So maybe, Doug or Tom, you can kind of expand on what you mean by that?

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've focused in on this year is a reduction in our planned library and be more efficient with product and reuse of product, still providing a premium brand experience still providing personalization. But when you 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 type of a number of things that we've been working on over the last couple of years. Tom, do you want to add anything to that?

Yes. I mean, along with those into 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.

Thank you. I appreciate it, thank you so much.

Our next question comes from the line of Joe Alesia with Deutsche Bank.

How are you? Just a quick one for me on the closings guidance, just maybe thinking about the sources of upside and downside to the midpoint of that. Just given the timing of starts in the second quarter, I 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 selling materials? Is it about the demand for your spec inventory? I just kind of talk through the upside and downside to the midpoint?

Yes. Good question. This is Doug. Yes, everything that is going to close this year based on the guide has started. Everything we're starting now is going to close in the first quarter next year. So we feel pretty comfortable across our 15 divisions, providing that guidance, and hopefully, we'll have some upside to it.

Got it. Just thinking about two dynamics ahead beyond this year, it's been 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 land that you own today is going to run through the P&L, how that will impact margins? And maybe what a good benchmark for that return on inventory might be related to the prior question.

Sure, Joe. This is Glenn. There's a lot in there. But on the ASP question, 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 630 range, which compares to our guidance this year for the full year of $690 million to $700 million. And that's where we sit today. Obviously, if price changes, that can impact that, but that's kind of a way. And that kind of, I think, $620 to $630 million is a good benchmark for the next few years based on where we sit today in our community count mix. When you said the ROI return metrics, it depends on the division in the market, but we try to target between 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 the individual divisional level. But that's on that inventory level. What was the other part?

Yes, Joe, 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.

All right. Thanks for all the color.

Our next question comes from the line of Mike Dahl with RBC Capital Markets.

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 the Meramec?

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

Okay. Got it. So ex impairments, it should actually be a bit better than that. That makes sense. Okay. And then the second question, you highlighted a couple of things on cost and square footage, so 9% reduction in costs, 9% 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. 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 within existing communities or markets, you're really tailoring the square footage a bit more on a like-for-like basis?

Yes, Mike, this is Tom. Good questions, and it is very convoluted and hard to pull apart. I said a 9% is inclusive of that square footage reduction as well, and a good portion of that square footage reduction is coming from the geographic mix relative to our emphasis going 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.

Okay. Go ahead. Thanks.

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

Hi, good morning. Thank you. A couple of questions for me on a coming into the year, the goal is 4 weeks of reduction, I believe. Where are you in terms of progress there? Do you see improvement in Q2? I think there's more improvement coming in the back half of the year?

Yes, Tyla, this is Doug. That $6 million to $7 that we indicated does include a 4-week improvement since the end of last year. And we continue to look for further improvements in our start to the 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.

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. 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?

Well, whenever you start up a division, 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 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.

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

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

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

I said 22% to 23% gross margins in the fourth quarter.

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

That's correct.

Okay. 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 that sale made? And how does that compare to where that percentage was at the end of, say, fiscal '22? A – LindaMamet: 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 Pointe Connect, for those that are rate locks about half of that backlog is rate locks. They're at an average rate of 6.125%. And the average points paid on that is approximately 3 points. 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-6s, they seem very happy with that even if market rates are around 7%.

Right. And 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 with this is just trying to find out as you have less people for rate locked, is there a potential gross margin benefit to the company, especially as you look ahead to ‘24.

Yes, there is. Our incentives on orders in the second quarter were approximately 4.3% of homebuilding revenue. And in the last year, rate locks were expensive, forward commitments where expenses. So at the end of the year, it was more like a 6% incentive.

Okay. Okay. Great. Thank you. Appreciate for taking my questions.

Thanks, Jay.

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

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?

[indiscernible] is a very good question. Go ahead, Glenn. I'll follow up.

Okay. Yes, Alex, that's 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.

Doug, where are you going to comment as well?

So I would add on to that is our goal is to increase scale in our 15 divisions. The land opportunities and the capital required to grow scale in the Texas, Carolina market 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. In absorption rates because of our more attainable pricing points will be in the low to mid-3s, we always target 1 sale per month per community, but overall, the mid-3s is a good company goal.

Absorption rate to 4.3, so are you saying it's going to go from 4.3 to the threes?

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.

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.

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

That's correct.

And as you shift towards these lower price 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?

We've traditionally been, 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 our customers to personalize their homes as we go through different cut-offs.

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

This rate, 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 towards financing and half of it towards options because that personalization is still very important to them.

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

Yes, the mortgage rate

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

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

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

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.

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