M.D.C. Holdings, Inc. (MDC) on Q2 2021 Results - Earnings Call Transcript
Operator: Thank you. Good day, ladies and gentlemen, and welcome to M.D.C. Holdings' 2021 Second Quarter Earnings Conference Call. . At this time, for opening remarks, I would like to turn the call to Derek Kimmerle, Director of SEC Reporting.
Derek Kimmerle: Thank you. Good morning, ladies and gentlemen, and welcome to M.D.C Holdings' 2021 second quarter earnings conference call. On the call with me today, I have Larry Mizel, Executive Chairman; David Mandarich, Chief Executive Officer; and Bob Martin, Chief Financial Officer.
Larry Mizel: Thank you for joining us today. As we go over our results for the second quarter of 2021, provide an update on current market conditions, and share our thoughts on the outlook of our company and the industry as a whole. M.D.C. Holdings reported net income of $154 million for the second quarter of 2021, representing an increase of 83% over the second quarter of last year. Home sales revenues grew 54% year-over-year. Thanks to a 43% increase in deliveries and an 8% rise in our average closing price. We posted another quarter of operating margin expansion, driven by further improvement to our homebuilding gross margin and our SG&A leverage. These results are a testament to the continued strength of the housing market, as well as to our ability to execute effectively in spite of the operating challenges facing our industry. Net new orders for the quarter rose 14% year-over-year on a sales pace of 4.8 homes per community per month. Similar to last quarter, our sales efforts were tempered by our objective to maximize pricing and maintain a manageable closing cadence for homes and backlog. We believe this strategy has been effective in generating higher profits for our company, allowing us to close homes at higher prices and at a consistent pace by staying ahead of cost increases.
David Mandarich: Thank you, Larry. Given our favorable outlook for the industry, we have been aggressively in growing our presence in our existing markets, as well as expanding in new ones. We announced last quarter, we entered the Boise market and this quarter we are pleased to announce our expansion into Nashville. Similar to Boise, Nashville has been a popular destination for both companies and people around the country. Given its relative affordability, and overall quality of life, we believe Nashville's growth and need for new housing presents a great opportunity for our company. And we look forward to scaling our operations in this market for years to come. While we remain committed to growing our homebuilding operations in new and existing markets, we are equally focused on improving our return profile. This metric is a key factor in our decision-making process when it comes to underwriting new land deals, allocating capital to our divisions, and setting the appropriate balance between price and pace. In the second quarter of 2021, our return on average equity on a trailing 12-month basis improved 1,170 basis points as compared to the second quarter of last year. A recent expansion of our operating margins and our current backlog should help to drive further improvements to our return profile. Now I'd like to turn it back to Larry for some additional comments.
Larry Mizel: Thank you, David. Another key focus for our company is returning capital to our shareholders. Our annualized cash dividend of a $1.60 per share equates to an approximate yield of 3% based on recent stock price. This is farther way the highest dividend yield in our industry. This payout is supported by our strong balance sheet with a debt to total capital ratio of 37% and over $700 million of cash on hand at the end of the quarter. We believe in a consistent dividend payout is a prudent use of our capital and rewards long-term shareholders over time. To that end, I am proud of our accomplishments in this area. Our dividend program has been consistently in place for more than 25 years and our quarterly dividend has more than doubled over just the past five years. In summary, the second quarter of 2021 provided further evidence that the housing market remains on solid footing. And that M.D.C. Holdings is well-positioned to take advantage of the positive industry dynamics. We were able to sustain a strong order momentum in the quarter, while, successfully implementing price increases. We were able to deliver more homes than we had anticipated despite material shortages and supply chain issues facing our industry. The number of homes and backlog at the end of the quarter was up significantly from the same period last year, putting us in a great position to post solid profitability in the second half of the year. Given our strong results this quarter and record backlog, we're very confident that the future of homebuilding and especially the future of M.D.C. Holdings. With that, I'd like to turn it over to Bob for more in-depth review of the results of this quarter.
Bob Martin: Thanks, Larry, and good morning, everyone. During the second quarter, we generated net income of $154.4 million or $2.11 per diluted share, representing an 83% increase from the second quarter of 2020. Home sale revenues grew 54% year-over-year to $1.37 billion. While gross margin from home sales improved by 290 basis points from the prior year quarter. The growth in home sale revenues and margin expansion resulted in a 121% increase in pre-tax income from our homebuilding operations to $187.5 million. Financial services pre-tax income decreased to $18 million, primarily due to $5 million of gains on equity securities recognized during the prior year quarter. Our mortgage business also experienced a decrease in pre-tax income year-over-year due to increased competition in the primary mortgage market, increased compensation-related costs and a temporary decrease in our capture rate.
Operator: We will now begin the question-and-answer session. . The first question comes from Michael Rehaut with JPMorgan. Please go ahead.
Maggie Wellborn: Hi, this is Maggie on for Mike. Congrats on the quarter.
David Mandarich: Hi, Maggie.
Maggie Wellborn: Hey, congrats on the quarter, and thanks for taking my question. First, just wanted to ask about what you've been seeing into July. I think during the prepared remarks, you pointed the potential to maybe do some seasonality not in the back half of the year, but I'm wondering if you've seen any seasonality kick-in or any slight moderation of demand or if it's remained strong. I mean, obviously it remained strong, but have you seen it start to slow at all?
Bob Martin: You know, Maggie, I think we're pleased with the demand we've seen thus far in July, especially after pushing through significant price increases in the first half of the year to moderate sales. I think it's difficult to predict given what we've done on pricing and the potential for a return to more seasonal patterns to really predict what's going to happen in the back half of the year. Right now, we're more focused on construction to meet the closing targets we have set and on maximizing our profitability per house.
Maggie Wellborn: Got it. Thanks. And second on gross margins, you got into a sequential improvement in 3Q and 4Q as the -- your price has been able to more than offset increased costs. And as you see it probably the highest lumber costs flows through in the back half of this year and you move into 2022 and you maybe start to see those lumber costs kind of pullback and that flows through. Can you talk about the potential basically even maybe further improvement in your gross margins as you – any lift -- get any lift from that?
Bob Martin: Yes. So we commented on Q4, we thought that would be a sequential increase from Q3, in addition to the 23.5% that we pointed to as our estimate for Q3. Then beyond that, I think you're right. I think the highest lumber costs comes through in the back half of this year and then potentially through the P&L. They will potentially start to come down in the first half of next year. So I'll sequel that would be a tailwind for merchant.
Operator: The next question comes from Truman Patterson with Wolfe Research. Please go ahead.
Truman Patterson: Hey, good afternoon, everyone. Thanks for taking my questions. David, I just wanted to start off with a big picture question. You've had a nice tenure in the industry and you've seen a few cycles, demand clearly remains healthy, but I'm just hoping you can help us gauge just how deep you think this buyer pool is versus some of the prior periods. And I'm just hoping you can balance this with whether you think there are any real affordability issues in the market as we move through 2022?
David Mandarich: Truman, that's a great question. This is Larry and I's 45th year. And I think when we take a look at where we're at today, I think this is clearly one of the healthiest, if not the healthiest time we've seen, but one of the things we're seeing is really limited inventories on resale houses across the country, limited new home inventory. We're still seeing plenty of demand. So Truman, I think this is probably one of our better years that we've seen in 45 years. In fact, it could almost be the best one. Bob, do you have anything to comment to that?
Bob Martin: No, David. I think you said it well. Yes.
David Mandarich: Good question, Truman.
Truman Patterson: Thanks for that. Appreciate it. And then just another big picture question here, I don't know if you can relate this to prior cycles or anything, and we're just clearly hearing of supply chain challenges across the Board. You all mentioned it with construction, we're hearing, especially materials, some local muni approval, land development, maybe a little bit of labor. Do you think any of these bottlenecks begin to improve as we move through 2021 and 2022? I'm just hoping you can help us think through some of the items there.
David Mandarich: Well, Truman, clearly it's been a challenge depending on whether it's the -- it's lumber or concrete or pipe or land development issues really across the country, but I'll tell you what's so fabulous about our industry is us and others in our industry have done a great job problem solving whether it's using alternative material or additional labor, it's probably slightly more challenging we've seen with the municipalities, but we're certainly seeing some of the municipalities try and help us builders get some -- getting some houses in the ground for our consumers. Another great question.
Operator: The next question comes from Deepa Raghavan with Wells Fargo. Please go ahead.
Deepa Raghavan: Good afternoon, David and Bob. Thanks for taking my question. Any thoughts on how long you think you can go on with the sales allocation process here and given that cap that you currently are the industry, especially self-imposing and you guys do, how do we think about sales pace near-term versus the 4.8 you did in Q2…
Bob Martin: Yes. I think again, it's a tough question to predict what's going to happen. Again given what we've done on pricing to moderate sales and the potential for a return to more seasonal patterns. I mean, that's typically what we see at this time of year. But we all know it's been a pretty wild ride. So right now we've got more than enough to work on trying to meet our construction targets and maximizing profitability. So that's really our focus.
Deepa Raghavan: Okay. Fair enough. A question on pricing, your backlog prices increased 16%, orders pricing up 23%, pretty healthy. But what are you -- any thoughts on what you're seeing July so far? You said you're pleased to see your July closings pretty nice so far. But any thoughts on what you're seeing in July so far. Is that pricing still trending at 20% plus in July and also are you getting any pushback even from the incremental or the marginal buyer out there? And just curious, any thoughts, how long this healthy pace can continue?
Bob Martin: Yes. And again, I mean, you -- you characterized it correct. We're pleased with what we've seen in July. And again, it's not a market where we're as much focused on sales so much as construction in the back half of the year. Given that we've got supply chain challenges and we have a healthy goal out before us. So that's really where our focus is.
Operator: The next question comes from Ivy Zelman with Zelman & Associates. Please go ahead.
Alan Ratner: Hey guys, it's actually Alan on for Ivy and a nice quarter. Bob or David, obviously it sounds like maybe your focus is shifting a little bit more to completing the backlog versus growing it like you were over the last several quarters. But we did hear from another management team this morning, like they're starting to see anecdotally a little bit of pushback from consumers on the pricing side, given the very strong price appreciation that that's obviously been underway. And this company expects there to be a little bit of an uptick in incentives later in the year as more supply comes across in the industry. So I'm curious if you guys are seeing that in your business at all, and if there's any expectation that perhaps some of the tailwinds that you've seen on margin, obviously lower incentives, lower marketing expenses, lower broker commissions, if any of that, you would expect to reverse course as more supply comes online later in the year?
Bob Martin: Yes. It's a great question. And I guess just to start maybe one way of answering it, as we went through second quarter, we did see that June was lower than the April and May, and that did have the full impact of price increases that were designed to moderate orders. But that's kind of the key word is having the design of moderating orders. Everything you've described some of the tailwinds going away. I don't necessarily think that we're at that point yet. I think we feel really good about where demand is right now. So there really isn't a whole lot for us to read in based upon the information that's out there right now.
Alan Ratner: Got it. That's helpful, Bob. Second question, you guys are back in expansion mode moving into a few new markets. We've also seen a big push towards the build to rent space amongst a lot of your peers. And I'm curious if that's an area you are interested in, if you're currently selling any homes to build to rent or single-family rental operators, and whether that could be an opportunity for you to kind of gain share pretty quickly in some of these newer markets if you were to partner up with some of those operators to start building up your scale.
David Mandarich: This is Dave, and I can answer that question. We really aren't -- we're not selling to investors and we're not going to do build around homes. Right now we feel really good about what we're doing, were to stick to our letting, we love personalization. And so we're not going to go out and do that. Plus right now, you heard earlier, all the supply constraints are everywhere. So we want to make sure we supply material and labor to our $4 billion worth of houses and backlogs when we get it closed.
Operator: The next question comes from Stephen Kim with Evercore ISI. Please go ahead.
Stephen Kim: Hey guys, congratulations on the good results. Yes. I just wanted to say that I don't think the key takeaway from the news this morning was that incentives are rising and sales or prices becoming a problem and I think the stocks are telling us some different. But all that being said, you mentioned that the issue really isn't orders or sales its production and I totally agree. And in that regard, your starts were pretty impressive. I mean, I think correct me if I'm wrong, but I think you started in excess of 3,600 starts this quarter. And over the last 12 months, I think, more than 12,500. And so first of all, I just want to correct, check if those numbers are right.
Bob Martin: I think that's correct, Steve. We had more than 3,600 for Q2.
Stephen Kim: Okay. Yes. And so what's interesting is that, this is a pretty solid pace. Your starts over the last 12 months are basically in excess of the orders that you've taken over the last 12 months. Your starts 36 -- over 3,600. And I -- the reason I'm bringing this up is because, you face a really tough order comp in percentages -- in percentage in the third quarter. And I'm not asking you to predict your orders unnecessarily in 3Q. However, I wanted to make sure that there wasn't a reason to think that your starts were going to decelerate markedly in 3Q or 4Q. And if I -- and I wanted to also then just confirm that it is reasonable to think that your sales pace is going to be aligned with your starts pace generally with a little bit of yes, flex.
Bob Martin: Yes. I think being built to order; we really align our starts with sales generally speaking. So yes, I think that that makes sense.
Stephen Kim: And any reason to think that the starts are going to slow in the back half of the year meaningfully?
Bob Martin: Yes. I mean, we're going to line them up with the sales so --
David Mandarich: Yes. And Steve, I'll just add, I think one of the things we want to make sure we communicate is we're still seeing, I mean, the demand is still there. And I think for the last, I mean, we're seeing demand in every one of our markets. So it really hasn't winded at all, but we're stick to remaining. Then Bob, you might go through what our policy as when we sell a house, how we started.
Bob Martin: Yes. When we abide by a 60-day role, so if we tell our division managers not to sell, if they can't start the house within 60 days, and that's going to be our approach into the foreseeable future.
David Mandarich: And, Steve, we -- and we built the order. Great question though.
Stephen Kim: Yes. First of all, you built --
David Mandarich: We got our numbers.
Stephen Kim: Well, you built the order for sure. And I know you're looking to grow your community count. And so I guess I'm kind of curious as to whether your start it's reasonable to think that your starts will generally grow with your community count. That's your -- basically your production capacity increase as your community count grows. Maybe that's a better way of asking it?
Bob Martin: Yes. I think it's fair to say that, that -- that's the case, when we open up a new subdivision. We're trying to have all the parts in place to make sure that we can support that growth, the superintendent and the sales professionals and people onsite having bid out the project able to get starts from the ground. So that same 60-day discipline applies for new subdivisions as well.
Stephen Kim: Okay,
David Mandarich: Yes. And Steve, just to add on it's -- and it's having good communications and relations with our suppliers, vendors, and subcontractors, which have done a really good job for us.
Stephen Kim: Great. And then, just lastly, on your margin, you mentioned that you peak lumber is probably going to be felt through your P&L in the back half of the year. Just as a benchmarking tool, would you say that lumber in what you're experiencing right now is roughly a 300 basis point headwind or more to your gross margin?
Bob Martin: Yes. I guess it depends what if you're talking about sales or closings or starts, or what have you, I think on probably the sales that we just had in Q2 that definitely could be the case.
Stephen Kim: You mean revenues, you mean closings, right?
Bob Martin: Sales, orders.
Stephen Kim: Oh, orders. Okay, great. Perfect. That actually was what I was hoping for. Okay. Thanks, guys. Appreciate it.
Operator: The next question comes from Alex Barron with Housing Research Center. Please go ahead.
Alex Barron: Yes, thanks guys. I was curious about home prices have gone up quite a bit this year. And I was curious as far as your outlook for new communities that you'll be opening up in the back half and next year. Is your outlook that prices are sustainable or are you guys in some way going to do something to try to make the homes affordable again?
Bob Martin: Well, with good demand as we've described and low supply, I think we do believe that that pricing is sustainable. I think on the same token, we are trying to do what we can to bring price down overall for the company. Whether that be talking about new innovations on house plans that maybe can bring the price down a bit, or if it is changing up our footprint a little bit, when we think about Boise and Nashville, one of the allures of those markets as Dave, they are a little bit more affordable than much of the rest of our footprint. So I think we are tackling affordability in a number of different ways. But we really think this is a great market to support what we've already done in pricing.
David Mandarich: And just add onto that, Alex, it comes down to really mix and you can see in our numbers that we're doing more and more of what we call are affordable work pack , which is seasons or urban duplexes. So, we're adding more of those subdivisions across the country.
Alex Barron: Got it. The other question I had was, seems like most of the builders are shifting towards doing more specs and selling those specs at a later stage in the construction cycle seems you guys have been fairly disciplined to stick to the built to order. So I'm curious how you guys are -- how your thought process is changing given all the supply chain constraints are these things are going to be here a little bit longer. Do you know whether you guys are going to be moving in that direction as well or what's the benefit of sticking with the built to order in your view?
David Mandarich: Well, it's Dave. We're going to stick to the build the order model. We start very few houses that are not sold when we start them. But our whole personalization is so important for our customers, for them to pick out everything. So we feel really good about having a contract with the consumer that's got an earnest money deposit where it's their check and we're not building a bunch of inventory houses without customers.
Operator: . The next question comes from Jay McCanless with Wedbush. Please go ahead.
Jay McCanless: Hey, good morning, guys. David, appreciate the clarity on M.D.C.'s intentions with build for rent, but wanted to find out what type of impact has the surge in demand for single-family rentals had on M.D.C.'s business. Are you guys fighting for a lot of the same land parcels? Is that tightening up availability on subs? Just a little overview would be great.
David Mandarich: I will tell you Jay that we're certainly seeing some of the builders that are looking for land to -- for build to rent that compete with us. And it's -- it's -- we've seen that business model, but we -- quite frankly, it has not -- it's not anything that's concerning to us. Also, we have not any issues with subcontractors of vendors that would compete with that business model.
Operator: This concludes our question-and-answer session. I would like to turn the conference back over to Bob Martin for any closing remarks.
Bob Martin: Thanks to everyone for being on the call today. We look forward to speaking with you again following the reporting of our third quarter earnings.
Operator: This conference has now concluded. Thank you for attending today's presentation. You may now disconnect.
