D.R. Horton, Inc. (DHI) Earnings Call Transcript & Summary

[Audio Gap] As well. I'm going to start off, though, as I have with other builders, maybe with some more industry-level questions and then drill down into some of the company specifics.

So just to start off, I think one of the questions I've kind of put across most of the companies has been the demand trends and really how to think about the next few quarters as we look into the back half of the calendar year. It's obviously been a very unusual period for the last few quarters in terms of the -- just how -- almost like a light switch, right? Right after COVID hit, the amount of demand that kind of flooded into the industry. The natural question is, for many investors, how should we think about this going forward, particularly as not only are you facing tough comps, but, in addition, COVID might represent a return to normal patterns as people kind of revert to their prior lives, so to speak. So as we think about the back half of the year, the question is, how much seasonality might we expect? And I think one of the things that we focused on, and I'm sure as you guys have talked to and other builders, the idea that, in many instances, you're limiting sales pace today, you're trying to manage that sales pace to production capacity and not trying to get too far ahead from a price cost standpoint. But as a result, you're actually selling to below-market demand. In other words, you could have sold more homes in the last quarter or 2. With that being said, even if there is some seasonality, on a true market level, if you're selling below that, you might not see that normal seasonal drop-off in sales pace into the back half of the year. So very long rambling question. I apologize. I get excited when I'm not on an earnings call, and I don't have to meter it. But again, how to think about the back half related to that seasonality and the fact that even if there is some, you might be able to maintain your pace for the next couple of quarters.

Well, sure. Thank you, Mike. And this is your show, so you can do whatever you want. But thank you, Mike. Thanks to JPMorgan. This conference is always a great conference. We appreciate the time. We appreciate our investors' time here as well, and I still look forward to seeing you all in person, hopefully, at some point in the future. But yes, since it's been a very unusual time over the last year plus, a lot of moving parts that have changed a bit over time, and we were seeing a great housing market prior to COVID. Heading into spring of 2020, we were seeing a great housing market. The light was on very bright. The light got turned off very quickly in mid-March last year. And about the time that our eyes were starting to get adjusted to the dark, the light came right back on again. And as you said, there's been a surge of demand. In some respects, a continuation of a strong market that we already had. But in other respects, there are other factors that play during. And then as we look to post-pandemic, that I think are at play that are, I think, driving demand that ultimately would have come into the new home market but that are continuing to drive demand here. And so it's created some interesting dynamics in the industry. Last year, at this time, in our June quarter, we were seeing strong demand again, but we were in a position where we had a significant number of completed homes and a significant number of specs available for quick move-in. So we were able to sell at a pace that was probably much closer to the demand level in our June quarter and our September quarter last year. We generated sales order growth in our June quarter last year of 38%. Sales orders in our September quarter were 81%. At that point in time, we had about 5,000 completed spec homes. Today, with demand continuing very strong all the way through 2020, well into 2021, we're in a different inventory position. We have fewer than 1,000 completed spec homes, and so we are having to manage our sales order pace to our start pace. Now we have been very pleased with the way we've been able to expand our production capacity. We started homes at a pace between 22,000 and 25,000 each of the last 3 quarters. So we're at a very good pace to deliver -- continue delivering strong growth and believe we can be in position to still deliver double-digit growth in 2022 after growing greater than 30% this year. But it does cause some anomalies on a quarter-to-quarter basis in terms of seasonality. I think we have lost some of the normal seasonality. We saw much more steady sales all through the summer and fall last year than we normally would. And this year, the demand is certainly sustainable at a level to show stronger-than-normal seasonality. However, with us having to manage our sales order pace to production capacity, and we're starting to wait longer in the construction cycle before we will bring homes to sale in order to make sure we've got our costs locked in and, in some respects, to take advantage of the price appreciation in the market today. So our sales order comps the next couple of quarters are tough, we're managing our sales orders. And as I responded to a question on our earnings call here a few weeks ago, our sales orders on a year-over-year basis could be in the flattish range. And by that, I mean that could include us being down on a single-digit percentage basis year-over-year. But even with that, we're still in great position to deliver greater than 30% revenue growth this year and positioning ourselves with inventory and backlog to deliver double-digit growth next year.

Right. No, no, no. Thanks for that, Bill. And I think if you do the math on the start pace that if you had 2Q starts a little bit shy of 24,000, and if you kind of extrapolate that over the next couple of quarters and have orders match that starts pace, you'd actually be looking at some growth in the third quarter and more flattish in the fourth quarter. So is it fair to say that it's really more just about that production capacity? Or is there also an element of, even beyond that, just still, from a backlog management, maybe community count management, GAAP management standpoint, that maybe there is a desire to even keep that production pace maybe a hair less than that 24,000?

No, I think we will keep our starts pace, our production pace probably out of that level and looking to grow that. However, we're still in a transition in managing our sales order pace. So I think we need to see our sales order pace. While we don't guide the sales orders, we can see our sales order pace actually lag that production starts pace for a couple of quarters. As I mentioned, we're holding homes a little bit longer in the construction cycle before we bring them to sale. So as we work through that transition here in Q3 and Q4, I think we could see perhaps our sales order pace being a bit behind our starts space, allow us to build a little bit of inventory, allow us to position ourselves community by community so that we're bringing homes to sale, when we can guarantee the delivery date for customers, which makes for a better customer experience. Also, it's appropriate in a pricing environment like we have today and a cost-inflation environment like we have today to help maintain our margins and our returns. But again, positioning ourselves for very good growth next year.

Great. Great. I think the other area of focus that we've asked a lot of our companies so far is pricing and affordability. And I know that, that's obviously an area that is of extreme focus for D.R. Horton. But when you're talking about first quarter, calendar quarter, home price appreciation on a national level of 10%, 15% year-over-year, how do you think about that dynamic relative to maintaining affordability and trying to not be vulnerable to the extent that there's a 50, 75 bp move in rates, that you're not caught in maybe a similar slowdown that you saw in the back half of '18?

Sure. It's really a community-by-community decision for us, Mike. We don't think about it in national terms. Affordability is very local. And as you've heard us and investors have heard us talk about for a long time now, affordability is key, and it's a big focus of ours. With an average sales price that's still at least $100,000 lower in the majority of our public competition, we're in a very strong position even with the price increases that we have taken. I think you've generally heard us talk about, on a like-for-like basis, price increases that have been around a mid -- slightly higher than that single-digit range, which is probably a little bit less than a lot of our other competitors have talked about. Part of that is just a function of we have a very strong lot position, and we're able to keep those absorptions up and don't have to take quite as much price as some other builders who are trying to meter their sales out even longer than we are because they don't have a finished lot position behind it to replenish and continue to get new phases and new communities on the ground. That being said, we have taken some price. There is cost inflation in the market today. And so we're very cognizant of keeping in mind that interest rates could move. We've continued to start more and more of our smaller floor plans. Our average square footage has come down about 2% to 3% really year-over-year for the last several quarters. Our average square footage today is about 2,100 square feet, so it could certainly continue to tick lower. Generally, most of our buyers are first-time move-up that we think of as buying out of necessity, a life event. They're creating their family. They're getting married. They're having their first or second child. They need more space. And so it's really not a purchase because of an absolute interest rate, it's a purchase because they need the space and how much can they afford. And as prices rise or interest rates rise, it just means they ultimately buy a little bit less house. So those are things that we've always had to manage through. Late calendar '18 is a great example, I think, of D.R. Horton meeting the market faster than any other builder in terms of adjusting our starts, taking out certain things in the home that we could. As home prices are rising, inevitably, you can include more and more or higher-quality features -- higher-priced features in the home. And so we can make some of those adjustments as well as necessary. To date, we have not seen an affordability issue, at least not broad-based. And we would expect, when we do see one, it's probably going to be more regional in nature at first rather than some sort of national slowdown because of an affordability crunch.

So maybe on that as well, you talked about regional in nature and community by community. Kind of related to this, we did have one builder kind of highlight this past earnings season that some of its product has gone above the FHA loan limit. And obviously, that's a regional dynamic. So I'll work off of that last comment you made. And -- but it is an important topic, obviously, traditionally, when you think about entry level, you're targeting mortgage balances that are below that loan limit for the FHA. So I was hoping you could just give us an update or give us a sense of, number one, roughly the portion of the buyers that you have that utilize FHA. And to the extent that -- maybe give us a sense if there's also instances or a rough percentage, if possible, the homes that you do sell today that are above that FHA loan limit and how you're managing that risk per se.

Sure. So most recently, about 1/3, roughly 30%, 31% of our buyers have utilized an FHA loan product. That's really stayed in, I'd call it, 25% to 35% range of our buyers that are utilizing our mortgage company for the last several years. It is a factor in our underwriting. We take a look at if we're going to have floor plans available under the FHA loan limit, the majority of our communities, we would expect to have today and when we were underwriting some level of floor plans that are under the FHA loan limits recognizing that, that is a mortgage product that 1/3 of our buyers, roughly speaking, have been interested in. With home prices rising, I'm sure we have fewer floor plans today available under FHA loan limits, but we would expect across the country, the majority of our communities still have some level of floor plans that a buyer can get in at that price point as necessary.

And as I'm seeing new deals -- improving new deals and our underwriting is still a vast majority of our communities. Even new communities today that we're underwriting in today's environment have floor plans, have the majority of floor plans and typically, even the average sales price for the entire community is below the FHA limit. It's definitely a factor we look at. If it's going to be above, it's a risk factor that we take into account. But still, we're focused on staying below that FHA limit.

Not to be repetitive, but with our average sales price being $100,000 lower than the majority of the other publics, you would expect us to have a much larger component of our business that falls under FHA loan limits than the rest of the public builders.

Right. Right. Maybe just shifting some of the questions. We're maybe about halfway through the time allotted for the presentation here or the fireside chat. I wanted to shift a little bit more company-specific questions. [Operator Instructions] I'll warn the Horton team that the questions have been a little less frequent than last year, and I just take that to mean that I'm asking all the right questions.

Naturally.

I'm sure you are.

So -- and I'm probably going to have to stop saying that same joke because it's getting repetitive for those dialing in.

Well, it's the first time we've heard it.

Right. So I think a core element to your success over the last 2 or 3 years have been in the lot optioning sphere and the ability to create really a massive network of developers, not just Forestar, but other partners in the land supply chain. Your most recent quarter, you had 75% of your land position at lot option -- being lot options. And this was -- I mean it's almost 10 points above a year ago -- more than 10 points above a year ago at 64. And 3 years ago, you were at 52. How should we think about lot optioning going forward, not just as a percentage, and it seems like it continues to go higher, but also just the breadth of the relationships that are out there? I mean what is the -- I mean you keep kind of thinking that the low-hanging fruit has been picked and yet the rate of increase continues to really be significant. So how should we think about that number, that 75% number, directionally over the next year or 2? And what type of opportunities are there out there in the land market as a result?

Sure. Just to address that specifically, to start with, we have been very pleased with the improvement that we've made, the continued ability to increase our option percentage of our pipeline. I would tell you, a few years ago, we probably were not sure we could get to this level. But now that we're here, we do believe we have the incremental ability to continue to increase the option percentage. Further from here, it may bounce a little bit. We have quarters where it dips down a little bit, but we do believe we could push past 75% and wouldn't rule out 80% plus. I think there is a terminal limit there at some point. Obviously, we're nearer to that today than we have in any point. We are always going to maintain some level of owned lots, especially finished lots, in front of us to give us the visibility and the confidence to keep our starts pace up, keep our production capacity going. So with -- I think more important than the option percentage of our pipeline is the supply of our owned lots, the year supply of owned lots. And today, we're about 1.6 years owned supply base on trailing 12 months closings. Obviously, if you look forward with growth, we would -- that's probably a lower supply than that on a forward basis. And that's the lowest we've ever been. Historically, we would operate in the 2- to 3-year supply of owned lots. And so from a capital efficiency standpoint, it's been very important to our company. It's improved -- helped us improve our operating returns dramatically, it's helped us improve our cash flow dynamics dramatically. So it's been an important improvement point for us. But it's something we've been focused on for many years. We identified, many years ago, we felt like the primary constraint on our ability to grow, the primary constraint in the supply chain for builders was the supply of finished lots. The last downturn, the financial crisis really decimated real estate developers and lot developers, in particular. So many companies, guys, local operators who were developing lots in the last cycle went out of business. And the banks and financing sources dried up for them, and they never really came back to the same level that they were before. So years ago, we identified that as a primary constraint, we started working across all of our divisions to establish relationships at the local level with developers, locally, multi-market developers, regional developers and start doing deals with them and work alongside them to help them grow their businesses. And so there's been an effort at the local level, one relationship at a time over many years that has put us in the position to be able to do what we're doing today. Along the way, we identified the issues that there's no large well-capitalized developers, and that led us to the Forestar transaction, which has been obviously a catalyst for us to get to where we are today. Today, Forestar is delivering 16% or 17% of the lots that we're closing homes on, and we expect them to grow to be as much as a 1/3 or maybe even more of that over the next few years. So that's been definitely a catalyst, but they're not the only one, as you mentioned. We do have relationships at the local level across our footprint, and some of those have become quite large in multi-market in and of themselves. And end of the day, it's relationships. End of the day, it's a mutual trust relationship with a developer and a builder. And the developer, in order to grow their business alongside a builder, has to believe that the builder is going to do what they say they're going to do. And so we've been doing that day by day over the last number of years, doing what we said we're going to do, standing by our development partners, helping them out when they need a little help, when they hit a rough patch, but then we're there to -- they're there to support us as well. And so pleased with that, pleased with where we are. I think it sets us up really well in the current market and into the future.

Yes. I mean I remember distinctly a few years ago might have been -- I want to say 4 or 5 years ago, doing a market tour. I think it was in the Mid-Atlantic, Baltimore, Philly with Jessica and Mike Murray. And I was talking to him and say, "What's your number one job right now?" And he was saying, it's developing those land relationships. So I remember that distinctly. I mean on the topic of Forestar, it is one of the questions that we have. Obviously, the progress there has been very strong, I would say, at or above the pace that you've laid out in the last couple of years. When I think about the opportunity for Forestar and a bigger picture question, and I ask this of the management team towards the end of the day, I want to say last night, but is that 4-35-15 a slot.

It's all like night to you.

Yes. It was a long day, but it was a good day yesterday. I mean there's -- to me, it seems like the bigger opportunity potentially is M&A for Forestar rather than organic. I mean they're both huge, but the M&A opportunity potentially linking up with some other larger developers and -- from your perspective, I asked this of Dan, but from your perspective, how do you see the likelihood of M&A for Forestar versus organic growth? Because certainly, you guys talk to and have as good of a relationship with all of those -- that broader network of land developers. And it would seem to me, just like within the homebuilding industry, there have to be management teams, family businesses or whatnot that are looking for exits over the next few years, and Forestar might be that avenue.

Yes. That certainly could be part of the future. I think our base case all along, M&A, you always -- it's opportunistic. When the situation is just right, when the cultures, when the mutual benefits of the transaction are there, it can make for a very positive transaction, but it has to be just right. And so our base case with Forestar is that they'll continue to grow based on the capital base and the access to capital that they have, which they can still grow at a 20-plus percent pace even with that. But certainly, there could be M&A that could make sense for them. It has made sense for us on the homebuilder side from time to time, and there certainly could be some opportunities there, which could either accelerate or just augment what they are doing. And I think in the right situation, we as -- the current majority owner would certainly be supportive of that in the right situation. But it's -- I'd say it's not on the immediate-term horizon and it's not in the immediate-term plans, but should the right opportunity come along, we'll certainly evaluate it very closely.

Right. Okay. Fair enough. Maybe shifting also to capital deployment and share repurchase, it's been an interesting pivot for D.R. Horton over the years and used to be -- follow this industry, I mean, share repurchase was not on the radar screen at all. Last cycle, obviously, was a very different mindset of just plowing in cash flow or even being cash flow negative at parts in the cycle when you're in a growth mode, and we're not certainly close to that type of mindset or dynamic today with positive cash flow for most of the industry. You said on your last call -- and so in the last couple of years, you've kind of moved from share repurchase because trying to keep your share count neutral to maybe declining by 1% or 2% a year. And then on your last call, you said you've reached an inflection point. Going forward, you expect to consistently reduce your share count each year. So any type of quantitative framework to this would be helpful. I think, because in the past, you've said maybe taking down 1%, maybe a little bit more. It seems like it's going to be more of a systematic approach rather than an opportunistic approach. So just curious if I have that right. And from a quantitative standpoint, how should we be thinking about this?

Definitely at an inflection point. This is an important crossroads for us. It's one we've been preparing for, for years in terms of getting our operations up to a scale and to an operational efficiency, generating returns and cash flow to be supportive of a consistent, sustainable share repurchase program. That's really been the key for us. As once we really to it, we want to be able to sustain it over a multiyear period and through cycles. And so we feel like we've gotten to that point. We've incrementally been able to improve it over the last few years. And what we would anticipate and what we're really committing to is that consistent reduction of our share count each and every year. We will quantify the level of reduction on an annual basis. And so for fiscal '21, we've stated and guided to reducing our share count from the beginning of the year to the end of the year by about 1.5%. And so that's our position this year. There certainly could be years where we would do more than that. I would not anticipate ever doing a lot less than that. I would anticipate probably a minimum of at least 1% a year. But certainly, there could be years and situations in which we would choose to do more. We're pleased to be in that position. It's something that we've been focused on from the very beginning, that we wanted to get to that point, but we wanted to make sure we could do it in a sustainable manner, while still having the flexibility, the strong balance sheet, the liquidity to support our business through cycles and still grow our business as well. But -- so it's been a transformation for us how we operated in prior cycles. And I think we're seeing that across more builders as well. So I think this industry is transforming the way it looks at capital allocation, the way it looks at shareholder returns, the way we manage our businesses. And so I think investors should begin to recognize that as well. The return dynamic, I think, also the risk profile of builders is different than it was in the past because of that focus on return to cash flow and shareholder returns balanced with probably a stronger, lower-risk balance sheet and operating platforms.

No, I mean it's certainly a massive shift and change for yourself and for some of the others in the industry as well. But I think kind of committing to a sustainable repurchase program over time can certainly add value. Another area that I think is kind of -- I don't want to say at an inflection point, but more, I guess, kind of focusing on its own. It's at the beginning of a stage, let's say, over the line, it's kind of new for you guys as well, I guess, over the last few years, has been your rental businesses, both single-family and multifamily. I was hoping you could just talk to that for a moment. And in particular, how should we think about these businesses over the next 3 to 5 years as a percent of your balance sheet and also potentially as a percent of your income? I mean right now, you're on track to do over $4 billion of pretax income on your core homebuilding business. So having a few gains on sale doesn't really move the needle per se. So I guess the question is how big could these businesses become. And even if they're return accretive relative to the size of your core business -- I don't want to be blunt, but sort of like, I'm sure you get the question, what's the point as just a percent of your overall portfolio?

Sure. Well, you got to start somewhere. If you're going to add to your portfolio, you do have to start somewhere. And so we've started. I will tell you anything that we choose to do that we choose to do strategically and we start talking about publicly, we will not do that until we have determined that it can be sustainable and scalable. And so what our expectations are for our rental platform, both multifamily and single-family, is that they will grow over the next few years to become a meaningful part of our business. Are they going to be as big as our homebuilding business? Well, of course, not. We've been doing that for 40 years. It's going to take a while before they could be -- really challenge that. But they will be meaningful. They will be a meaningful part of our balance sheet, but they will be, at least, equal return, if not return accretive, and certainly accretive to our overall earnings profile. And so I do expect over the next few years that these businesses will become at a level that they will be noticeable and no one would ask the question whether they're meaningful or not. We like the business. We've been in the multifamily business for the last several years, but just now at a point where we've gotten our operations to a level that we feel like we can begin to scale it up, so we are increasing our community count there, increasing the level of investment on our balance sheet. Still this year, we only expect to deliver a couple of projects and that may be similar next year. But a couple of years out, as we move to '23, I would expect to see more multifamily community deliveries on an annual basis that would start to provide a consistent earnings stream and a consistent visibility to that business that everyone should be able to really count on and model in terms of forward earnings visibility. Our single-family rental business is a little bit earlier. We didn't really start that until the last year or 2. We've only closed one community thus far, but we're very pleased with where we are with that. And we have, I believe, one more, I think, guided for the remainder of this year, but then we'll have a few next year. And again, 2 years out, start to see more of those communities being delivered. But both of these businesses, we see as synergistic with our homebuilding business. We were able to use our new internal capabilities with our rental platform to evaluate land purchases differently, alongside our homebuilding business. We have multifamily capabilities or can do a rental pod in a community that allows us to absorb land more efficiently. And we're also able to leverage our purchasing and our cost advantages and our building materials towards both of those businesses and bring advantages -- cost advantages to the rental platforms that other participants that are building rental communities, whether it be multifamily or single-family, simply don't have. And so we think they're both very good fits synergistic to our businesses on many levels. And I think they're going to be -- we're excited about the opportunity with both of those businesses over the next few years.

Great. Great. That actually does it for this session. We're right at half past the hour. So I wanted to thank you again, Bill and Jessica, for joining us today. Always a pleasure. Really appreciate it. We will continue the conference at 11:40 with our next speaker, which is Taylor Morrison. Thanks again for joining. We'll see you soon.

Thanks, Mike.

Thanks, Mike. Thank you all.