Hovnanian Enterprises Inc (HOV) 2014 Q2 法說會逐字稿

Good morning and thank you for joining us today on the Hovnanian Enterprises FY14 second quarter earnings conference call. An archive of the Webcast will be available after the completion of the call and run for 12 months. This conference is being recorded for rebroadcast and all participants are currently in a listen-only mode.

Management will make some opening remarks about the second quarter results and then open up the line for questions. The Company will also be Webcasting a slide presentation along with the opening comments from Management. The slides are available on the investors page of the Company's website at www.khov.com. Those listeners who would like to follow along should log on to the website at this time. Before we begin I would like to turn the call over to Jeff O'Keefe, Vice President, Investor Relations. Jeff, please go ahead.

Thank you, Operator and thank you all for participating in this mornings call to review the results for our second quarter ended April 30, 2014.

Before we get started I would like to quickly read through our forward-looking statements. All statements in this conference call that are not historical facts should be considered as forward-looking statements. Such statements involve known and unknown risks and uncertainties and other factors that may cause actual results, performance, or achievements of the Company to be materially different from any future results, performance, or achievements expressed or implied by the forward-looking statements.

Although we believe that our plans, intentions, and expectations reflected in or suggested by such forward-looking statements are reasonable, we can give no assurance that such plans, intentions, or expectations will be achieved. Such risks, uncertainties, and other factors include but are not limited to, changes in general and local economic, industry and business conditions and impacts from the sustained homebuilding downturn.

Adverse weather and other environmental conditions and natural disasters, changes in market conditions and seasonality of the Company's business, changes in home prices and sales activity in the markets where the Company builds homes. Government regulation including regulations concerning development of land, the homebuilding sales and customer financing processes, tax laws and the environment, fluctuations in interest rates and availability of mortgage financing.

Shortages in and price fluctuations of raw materials and labor, the availability and cost of suitable land and improved lots. Levels of competition, availability of financing to the Company. Utility shortages and outages or rate fluctuations. Levels of indebtedness and restrictions on the Company's operations and activities imposed by the agreements governing the Company's outstanding indebtedness. The Company's sources of liquidity, changes in credit ratings, availability of net operating loss carry forwards, operations through joint ventures with third parties.

Product liability litigation, warranty claims and claims made by mortgage investors, successful indemnification and integration of acquisitions. Significant influence of the Company's controlling stockholders, changes in tax laws affecting the after-tax cost of owning a home. Geopolitical risk, terrorists acts and other acts of war and other factors described in detail in the Company's Annual Report on Form 10-K for the Fiscal Year ended October 31, 2013 and subsequent filings with the Securities and Exchange Commission.

Except as otherwise required by applicable securities laws, we undertake no obligation to publicly update or revise any forward-looking statements whether as a result of new information, future events, changed circumstances, or any other reason. Joining me today from the Company are Ara Hovnanian, Chairman, President and CEO; Larry Sorsby, Executive Vice President and CFO; Brad O'Connor, Vice President, Chief Accounting Officer and Controller, and David Valiaveedan, Vice President of Finance and Treasurer.

I'll now turn the call over to Ara. Ara, go ahead.

Thanks, Jeff, and thank you all for participating in this mornings call to review the results of our second quarter ended April 30, 2014. Let's start with slide number 3.

As we show on this slide, most of our operating metrics improved year-over-year. The upper left hand corner of the slide, you can see that our total revenues increased 6% year-over-year from the second quarter of fiscal 2013. Moving to the upper right hand portion of the slide, our gross margin, our homebuilding gross margin increased 130 basis points year-over-year to 20.2%. Continuing clockwise, in the lower left hand, excuse me, lower right hand quadrant, we show that the dollar value of our backlog increased 21% year-over-year. In the lower left hand quadrant, we show that interest as a percentage of total revenues, was flat compared to last year's second quarter. We also show a negative comparison with SG&A ratios increasing this quarter compared to last year.

Let me try to explain what happened with SG&A. Growing the top line is a critical component of our strategy to improving our financial performance. We've invested in that growth, both from a people perspective, with a 16% year-over-year increase in staffing levels and a land perspective, with eight consecutive quarters of growth in total lots controlled.

As we grow community count there's often a lag before we see the efficiency effect growth has on our SG&A ratio. This lag occurs because we incurred SG&A expenses for acquiring, planning, and opening the new communities well before we have any new deliveries or revenues from those new communities. This is especially true as we are buying more undeveloped land. This is the position we find ourselves in today and it's causing our SG&A ratio to be higher than our normal range.

Turning to slide 4, we show a sequential comparison from the first quarter to the second quarter of this year to illustrate the power of growth in revenues. Here you can see that sequentially, as we increased our top line, we leveraged our fixed costs. In the upper left hand corner of the slide, you can see that our total revenues increased 24% sequentially from the first quarter of FY14. The revenue increase was driven by a 19% sequential increase in our deliveries, as well as a 4% increase in average sales price.

Moving to the upper right hand portion of the slide, our homebuilding gross margin increased 140 basis points sequentially during the second quarter to 20.2%. In the lower left hand quadrant, we show that both our total interest and our total SG&A expenses, as a percentage of total revenues, improved sequentially as our total revenues increased. Our interest expense ratio improved from 9% to 8% and our SG&A ratio improved from 17% to 14%.

The results of these improvements can be seen on the lower right hand portion of the slide, where we show the pre-tax loss decreased by $17 million in the second quarter compared to the first. We are optimistic that as we start generating deliveries from our new communities and increase revenues in our stronger third and fourth quarters, we will be able to improve further our SG&A ratio and interest expense ratio in those quarters and over time, return them to more normalized levels.

Moving on to net contracts on slide 5, the dollar value of consolidated net contracts, which we show on the left-hand side of the slide, increased 15% in the second quarter of 2014 to $669 million from $580 million last year. On the right side, we show the dollar value of net contracts, including unconsolidated joint ventures, increased a lower percentage at 1% to $703 million. The number of joint venture communities has been decreasing as the number of our consolidated wholly owned communities has been increasing. The significant increase in our consolidated net contract dollars will allow us to leverage our SG&A costs when these homes are delivered.

While the housing market has improved dramatically overall compared to where it was a couple of years ago, the recent recovery has been a little more choppy. Slide 6 shows the dollar amount of net contracts on a monthly basis with the most recent month shown in blue and the same month a year ago shown in yellow. This slide illustrates the choppiness that we've recently seen in the market. Focusing just on the last three months, the dollar value of net contracts improved year-over-year in March, declined in April, and showed modest improvement in May.

On slide 7 we show net contracts per community for the most recent months in blue again, compared to the same month in the previous year which we show in yellow again. To go all the way back to June of 2013, that month marked the 20th consecutive month of year-over-year increases in net contracts per month. But for the next eight months, July 2013 through February 2014, the year-over-year comparison were negative.

In response to a more sluggish sales pace, we launched a national sales campaign that we've discussed before called, Big Deal Days that was in March of 2014. The campaign was focused primarily on started, but unsold homes. The promotion, together with a better selling environment overall, had a positive effect on our sales, including homes that were not included in the promotion.

The absolute number of net contracts in March of 2014 was 728, which was the highest single month we have had since April of 2008. Additionally, March of 2014 we increased our sales pace to 3.6 net contracts per community, which is the highest net contracts per community for a single month since September of 2007. Needless to say, we were pleased with our results in March.

Unfortunately, that stellar pace turned out to be a one month phenomenon rather than a long term trend, hence my referral to the choppiness. The sales pace during April and May was choppy and the sales pace per community in both months fell short of last years levels. Our results are not dissimilar to the results for the group of publicly traded home builders with March quarter ends. We show this on slide number 8. Here, we've aligned our results for a March quarter end. And you can see that our net contracts per community were down 6%, which is slightly better than the 11% median decline this group of builders experienced. But overall is clearly not a great quarter for anyone in terms of sales pace per community.

However, despite the decline in our sales pace per community, our backlog has grown compared to last year. On slide 9, we show the dollar amount of our backlog, which increased 21% to just over $1 billion from $865 million last year and the backlog units increased 14% year-over-year. On slide 10, we show that our year-over-year growth in backlog units compares well to our peers. Increased community count certainly helped. This increase in our backlog gives us confidence that we will be able to continue to grow our top line this year.

Since late Summer of 2013, our ability to raise prices has moderated. There are a couple of exceptions to this comment. Our best performing market continues to be Houston, Texas, which happens to be our largest market. Another market that's doing well is Silicon Valley in California. The common trait between these two markets is very strong job growth. In Houston, it's driven by the energy industry and Silicon Valley by technology.

We firmly believe that a pick up in the overall US economy, particularly one that is driven by the creation of well paying jobs, will go a long way toward accelerating the recovery of the housing market across the country. Right now, the challenge in Houston and Silicon Valley is not selling houses. It's getting the houses built.

So wrapping up the 2014 Spring selling season. We saw the typical seasonal pick up begin in January, our national sales campaign seemed to shift the peak of the Spring selling season to March instead of April, with March being one of the best months we have seen in years. Then home sales got a bit choppy in April and May. Clearly the first half of the year was behind last years sales pace per community.

However, when we get to July, the year-over-year comparisons get a little easier. We are hopeful that with a little pick up in sales in the second half of the year, we'll be able to get back to a similar sales pace per community that we saw for all of fiscal 2013. Given the slower sales pace per community we are more focused than ever on growing our community count so that we can increase our top line, even in the unlikely event that sales pace doesn't return to normal levels.

Slide 11 shows that our community count increased 11% year-over-year from 177 at the end of the second quarter last year to 196 at the end of the second quarter this year. For the past six quarters, our consolidated community count has grown sequentially. During the trailing 12 months, we opened 95 new communities, but closed out of 76 older ones. We anticipate growing our community count further this year.

Our land spend for the second quarter was $105 million. As you can see on slide 12, beginning in the second half of 2012, the number of net additions to our lot count have exceeded the number of deliveries by 10,900 lots. In the second quarter our net additions totaled 4,600 lots, which is the highest level of net additions during the eight quarters shown on this slide. Our land acquisition teams are working hard across the country so that we can continue to grow our community count this year and beyond and reach our goal of being fully invested.

Taking a step back and looking at the bigger picture, we continue to believe that household formations will be the primary driver of long term housing demand. The creation of well paying jobs will go a long way to getting household formations back to levels associated with the population growth of our country. Given the low levels of total US housing starts, we remain convinced that we are still in the early stages of the housing industry recovery. As such, we are laser focused on identifying new land parcels and growing both our community count and our top line.

I'll now turn it over to Larry Sorsby, our Executive Vice President and CFO.

Thanks, Ara. Let me start with a discussion about our gross margin trends. Slide 13 shows that we've reported year-over-year improvements in gross margin for the past nine quarters. During the second quarter of FY14, we once again achieved gross margin percentages in excess of 20%. With the slower sales pace and the decline in our ability to increase sales prices, the cost pressures we were feeling from trade partners in 2013 has abated. Unfortunately, due to periodic labor shortages in many of our markets and the lingering effect of a harsh winter weather, we have seen our construction cycle times lengthen.

Turning to slide 14 we show our gross margin percentage going back to 2000. If you focus on the left hand part of this slide in 2000 and 2001, neither boom nor bust years, our gross margin was between 20% and 21%. We would consider this to be a normal gross margin range for our Company. Even though our gross margin increased year-over-year during the first half of FY14, assuming no changes in current market conditions, we expect our gross margin for our full FY14 to be similar to the 20.1% we reported in all of fiscal 2013. This takes into account the increased concessions that we offered during our Big Deal Days sales promotion and the sales incentives we continue to offered to across many of our markets.

Turning to slide 15. During the second quarter of FY14, while our sequential SG&A expenses remain stable, our total SG&A expense increased year-over-year to $62 million compared to $52 million in the second quarter of fiscal 2013.

This increase in SG&A expense is partially reflective of the investments we're making to find and purchase new land parcels and grow our community count. We expect these investments will lead to increased revenues, which will allow us to leverage our fixed SG&A costs and generate increased levels of profitability in the future.

Homebuilding SG&A increased $10 million year-over-year during the second quarter of 2014. Approximately half of the increase was due to higher increased advertising cost, higher selling salaries related primarily to increases in the number of sales associates, and increased architectural expenses associated with new home designs.

This portion of the increase is also due to fewer joint venture deliveries, resulting in a corresponding reduction of our joint venture Management fee. Joint venture Management fees are an offset to SG&A expenses so this reduction in Management fees caused our SG&A expenses to increase.

About 25% of the increase was related to higher general staffing levels, which is primarily the result of community count growth. Reflective of a growing and competitive homebuilding market, the remaining 25% of the increase was due to increases in total compensation costs for our associates. Underneath the bars on this graph, you can see that our total SG&A, as a percentage of total revenues, decreased 270 basis points from the first to the second quarter of FY14. We expect further reductions in this ratio in the second half of this fiscal tear.

On slide 16 we show our annual total SG&A ratio as a percentage of total revenues going back to 2000. We consider approximately 10% as a normalized SG&A ratio. As we continue to generate revenue growth, we expect to be able to leverage our fixed SG&A expenses further and get this ratio back to a normalized level. Although we expect our total SG&A dollars to increase in FY14, we anticipate that our SG&A as a percent of total revenues during 2014 will be similar to the 11.9% we reported for all of fiscal 2013.

Despite the fact that we've given directional guidance for gross margins and total SG&A, we believe the market is too choppy to provide specific profitability guidance for the full year. Assuming no deterioration from current market conditions, we expect to be profitable for our full 2014 year. However we anticipate our profitability to be even more back end weighted this year than it was during fiscal 2013.

Turning now to slide 17. You'll see our own and optioned land position broken out by our publicly reported segments. The end of the second quarter 91% of our option lots are newly identified lots. Excluding mothballed lots 83% of our total lots are newly identified lots. Our investment in land option deposits was $73 million at April 30, 2014, with $71 million in cash deposits and $2 million of deposits being held by letters of credit. Additionally we have another $11 million invested in pre-development expenses. We unmothballed 258 lots in two communities in Florida and one community in New Jersey during the second quarter of 2014.

Turning now to slide 18. We show our mothballed lots broken out by geographic segment. In total we have about 6,200 mothballed lots within 47 communities that were mothballed as of April 30, 2014. The book value at the end of the second quarter for these remaining mothballed lots was $106 million net of an impairment balance of $419 million. We are carrying these mothballed lots at 20% of their original value.

Recently, the Water Resource Reform and Development Bill was passed by Congress and is expected to be passed by President Obama later this month. This Bill resolves a building moratorium in Natomas, California related to concerns regarding levees and flooding. Passage of the Bill will ultimately allow us to unmothball and reopen for sale 632 substantially developed lots in our Natomas communities.

Since 2009 we've unmothballed approximately 3,850 lots within 66 communities. Every quarter we review each of our mothballed communities to see if they are ready to be put back into production. As home prices continue to rise, we expect to unmothball additional communities as we move forward Looking at all of our consolidated communities in the aggregate including mothballed communities, we have an inventory book value of $1.3 billion net of $598 million of impairments. We've recorded those impairments on 79 of our communities. For the properties that we have that have been impaired we are carrying them at 20% of their pre-impaired value.

Another area of discussion for the quarter is related to our current deferred tax asset valuation allowance. At the end of the second quarter of FY14, the valuation allowance in the aggregate was $936 million. Our valuation allowance is a very significant asset, not currently reflected on our balance sheet, and we've taken numerous steps to protect it.

We are in the process of reviewing the timing of reversing our valuation allowance under GAAP with our auditors. Based on current assumptions for future periods, we expect to be able reverse all or part of the federal valuation allowance at the end of FY14 with any remaining portion reversed in fiscal 2015. When the reversal does occur it will be added back to our shareholders equity further strengthening our balance sheet.

On slide 19 we show that we ended the second quarter with a total shareholders' deficit of $463 million. If you add back the total valuation allowance, as we've done on this slide, then our shareholders' equity would be a positive $473 million. We believe that we can repair our balance sheet just by returning to profitability and have no intentions of issuing equity any time soon. However, we could issue approximately 120 million additional shares of Hovnanian Common Stock for cash, without limiting our ability to utilize our net operating losses.

Let me reiterate that the tax as evaluation allowance is for GAAP purposes only. For tax purposes, our tax assets may be carried forward for 20 years from occurrence and we expect to utilize those tax loss carry forwards as we generate profits in the future. We will not have to pay federal income taxes on approximately the next $2.1 billion of pretax profits.

Now let me update you on our mortgage operations. Turning to slide 20. You can see that the credit quality of our mortgage customers continues to remain strong with average FICO scores of 747. For the second quarter of FY14, our mortgage Company captured 64% of our non-cash home buying customers.

Turning to slide 21 we show a break out of all of the various loan types originated by our mortgage operations for the second quarter of FY14 compared to all of fiscal 2013. Our percentage of FHA loans was 16% in the second quarter of FY14. And the top right hand portion of this slide we've shown that this is down from a high of 38% FHA originations in fiscal 2010. This decline in FHA is primarily due to increases in FHA mortgage insurance costs. Borrowers have switched away from FHA loans to more affordable Fannie Mae and Freddie Mac conforming loans.

Now turning to our debt maturity ladder which can be found on slide 22. In January 2014 we issued $150 million of bonds, which included refinancing $21 million of our 6.25 notes due in 2015 and pushed their maturity out to 2019. This refinancing was completed during our second quarter.

The red bars on this slide represent unsecured debt. We have a lot of runway in front of us before any material levels of debt come due. We believe that we have the ability today to refinance all of the unsecured debt that matures between 2015 and 2017. However, we don't like the high cost associated with the make-whole provisions on those bonds today so we are more likely to refinance or pay off those bonds until such time as we are closer to the maturity dates.

As seen on slide 23, our strong liquidity position, combined with our strategy of utilizing lot option contracts, land banking arrangements, and non-recourse property specific financings clearly demonstrates that we have the ability to grow further. Even after we spent $105 million on land and land development during our second quarter, we ended the quarter, second quarter of 2014 with $298 million of liquidity which includes about $55 million undrawn on our $75 million unsecured revolving line of credit. We ended the quarter above the $245 million upper end of our target liquidity range of $170 million to $245 million. We feel good about our liquidity position and if we find sufficient new land parcels that meet our underwriting hurdle rates, we remain comfortable even if liquidity was at the lower end of our target range.

Finally, over the past couple of years we've been explaining to investors that we believe we would be able to increase our inventory turnover rate, which would allow us to grow the Company even if we did not increase our capital position. On slide 24, you can see clearly see the progress we've made on this front during the past several years. First bar shows our inventory turnover rates at 2.1 times in fiscal 2002 before the boom and the bust of the industry. The next three bars indicate our turnover rates during fiscal 2011, 2012 & 2013. We increased our inventory rates from 1.1 times in 2011 to 1.4 times in 2012 and further to 1.7 times in 2013.

On the far right hand side of this slide you can see that as a result of ramping up our inventory for future community count growth, the inventory turnover rate for the trailing 12 months at April 2014 was 1.6 times, unchanged from the trailing 12 months one year ago. We believe our historical turnover rates in excess of two times will be achievable again in the future.

We remain focused on controlling more land, opening up more communities, and growing our top line in order to leverage our fixed cost. We believe that we are well positioned to capitalize on opportunities in an improving housing market. And I'll now turn it back to Ara for some brief closing remarks.

Thanks, Larry. We certainly felt the impact of an unusually harsh winter weather in many of our geographies during the beginning of FY14. In addition, the subcontractor shortages that we have spoken about are still prevalent and construction cycle times have lengthened as Larry mentioned earlier. These two factors, combined with a slower sales pace at the end of last year lead to disappointing deliveries in the first half of FY14. Furthermore the higher levels of SG&A dollars, associated with community count growth, combined with the lower delivery levels resulted in a weaker first half of the year than we expected.

However, we had some substantial improvements in many financial metrics in our second quarter.

We are very pleased with the 130 basis point improvements in our gross margin, the 15% growth in dollar value of net contracts and the 21% growth in dollar value of contract backlog. These improvements give us confidence for continued growth in revenues and profitability during the second half of 2014. Looking further into the future, the expected increases in our community count will set us up for continued top line growth and more importantly, will allow us to reach a more critical mass that will return us to a sustainable profitability.

That concludes our formal remarks and we'll be happy to open it up for questions and answers now.

(Operator Instructions)

Your first question comes from the line of David Goldberg with UBS. Please proceed.

Thanks, good morning guys. My first question was on the direct interest expense in the quarter and how we should think about direct interest expense on a go forward basis.

And really the question comes from obviously there's some leverage on this number, but I'm just thinking about the fact that active assets have been going up, inventories been going up faster than debts been going up. Community counts been going up, you've been unmothballing communities.

But it feels like a direct interest expense the absolute dollar level isn't changing very much. And I'm just wondering as we go forward how we should be thinking about that and how that's going to affect the profitability of the business I guess?

I think a couple things impact direct interest and you described them well. I mean it depends on what active inventory we have that we can capitalize interest on.

And as the inventory grows we can capitalize more. But this particular quarter and this year you're seeing that other interest has kind of stayed flat to the prior year because we actually have more interest incurred with the additional debt we issued in January.

So I think over time you should expect to see it go down assuming we continue to grow inventory and have more active communities and don't add any additional interest. In additional to the $150 million of notes we issued in January, we've also added in our non-recourse mortgage balance you'll see on the balance sheet about $30, million which also has interest that has to be expensed or capitalized.

So our interest incurred is going up which is why it's kind of staying flat on the other interest line. But your assumption I think is right that over time, assuming all else stays the same and inventory goes up, we should start to see that number go down.

Thank you and then just as a follow-up, I was wondering if we could talk about cycle times and the commentary that cycle times have extended a little bit. And then reconciling that with the concept that inventory turnover over time is going to go back toward the two times that we were at before the last up cycle.

Should we be thinking about that as you guys think that the kind of move in cycle times is kind of short-term and labor's adjusting so that cycle times will come back down? Or is the inventory turn over the acceleration not going to come more from capital allocation and capital efficiency in terms of land and working capital efficiency?

That's a good question, David. But generally, construction times and cycle times are unusually high right now. And over time, as the subcontractor laborer market balances more, we'd expect construction cycle times to get more normalized.

Without a doubt, potential of decreasing construction cycle times by several weeks or a month would not be odd at all. It would just get us back to normal.

At the same time that construction cycle times should be getting back to normal, we're hoping that sales pace per community also gradually gets back to normal. That's a key driver of inventory as well. And as you see sales pace per community get back to normal levels I think that will definitely help us get back to our more normalized higher inventory turn.

That's really helpful, thank you, Ara, thank you everybody.

Your next question comes from the line of Nishu Sood with Deutsche Bank. Please proceed.

Thank you. First question I wanted to ask was on the gross margin. You had indicated earlier in the quarter that you were launching these national sales promotions including some incentives for example. But your gross margin and I believe some of these incentives were related to spec homes as well.

So the gross margin improved by I think 140 basis points sequentially, which isn't really that far below the sequential gross margin improvement you had last year. So you did give the more cautious guidance on the gross margin for the remainder of the year so I was just wondering how all those pieces fit together. Wouldn't we have seen the impact of the sales promotion and increasing incentives already or is it more of a back half of the year effect?

Well I think you did see some in the second quarter, as you mentioned we did primarily focus this on started unsold inventory and some of those homes did close during the second quarter. But as we mentioned last quarter during the call, they were going to be fairly modest increases in incentives. And even a quarter ago, we told you that we expected to have similar gross margins for the full year of 2014 after taking into account the expected impact of our Big Deal Days, extra incentives.

We're staying true to that projection for the full year even though the first half of the year both quarters both the first quarter and the second quarter were positive compared to the same quarters a year ago. So most of the impact the Big Deal Days will be in the latter half of this fiscal year. But in spite of the slight increase in incentives that'll be coming through for the full year our gross margins we still think are going to be comparable to what we saw for the full FY13 year.

Okay, great and next question I wanted to ask was on the SG&A. You mentioned that the increase was partly related to increasing community counts. If we were to think about SG&A intensity per community, is that changing as we go along here through the recovery as well?

And what I mean by that is is it becoming more expensive to open new communities, as there's more competition, there's more communities being opened generally so to get the attention or to have the right levels of staffing. So is it if we could think of that SG&A intensity, has it been changing as we go along here?

Yes, well first of all, and I alluded to this in my comments, we are seeing more of our new land acquisitions as undeveloped. And that means we do have a little bit more indirect expense with the construction overhead associated with developing those lots.

That being said, if you go back to our normalized SG&A levels at 10% that has probably a more similar percentage of undeveloped lots. We just had a nice period of more developed lots.

But overall, I wouldn't see a dramatic increase in community start up. It just hit us that we had, as you saw from the quarter, we had a particularly large quarter of new net land additions. And it hit us at the same quarter as we had some lower deliveries.

So you just felt the effects more pronounced early in the year. On the whole for the full year we'd expect our SG&A levels to be similar percentage wise to last year and that we expect to make more progress in reducing those in the coming years right after that.

Okay, got it. Thank you.

Your next question comes from the line of Ivy Zelman with Zelman & Associates.

Hi good morning guys, this is Alan on for Ivy. My first question on the order pace. Curious, when you look at the volatility on the monthly results the strong spike in March followed by the choppiness in April and May as you described.

When you compare your results versus some of your competitors and the broader industry, would you say that your monthly order trends you think are fairly indicative of what the broader industry is seeing? Or was there some added volatility as a result of the incentives of sales campaign that you had? And then I have a follow-up on that as well.

This is anecdotal obviously because we don't compare monthly data and not all of our peers give us granular insight as we do. But anecdotally I would say that March was a better environment for most, notwithstanding the fact that we happen to have a promotion, I think it was a stronger sales environment for the industry.

So I'd say in general, everybody's been experiencing the ups and downs of the choppiness of the sales environment.

Okay, my second question on your FHA share, it's continuing to come down quite a bit and was curious if you can comment a little bit on that. Whether that's more a function of buyers choosing to go conforming given the lower cost and the increases we've seen in premiums on FHA over the last several years? Or whether you think that's more mix driven and that buyer simply is no longer active in the market today?

I think that it's purely a function of the increases in the MIP premium you've seen on FHA loans. As FHA costs have increased, its actually become more affordable to do a conforming Fannie or conforming Freddie Mac.

So those buyers that could qualify for Fannie or Freddie have switched to that and we've seen a corresponding increase in our percentages of conforming originations during that same period of time. So I think that it is hugely weighted towards the disadvantaged higher cost of FHA MIP premiums.

And alongside that have you seen any significant changes in underwriting standards or guidelines on the conforming side? Have you seen some easing that's also helped shift that buyer to the conforming market?

Very recently, in recent months we've seen some of the credit overlays being removed and that's been helpful. But it's only been very recent that we've seen that happen.

So I wouldn't give that credit for why people have shifted away from FHA and VA since 2010. But I will say that it's an incremental positive that makes the conforming conventional even more enticing because of the incremental improvements and the ability to qualify borrowers.

Great, thanks a lot.

Your next question comes from the line of Michael Rehaut of JPMorgan.

Good morning, it's actually Jason Marcus in for Mike. First question has to do with traffic trends. I was wondering if you could discuss what you're seeing I guess both in terms of foot traffic and web traffic over the last several months and into May? And if you could also kind of discuss that in regional context as well?

I don't have the regional numbers in front of me, but traffic on a year over year basis has been down a bit this Spring as compared to last Spring. In the vicinity of 8% or something like that less traffic than we saw a year ago on a per community basis.

So we have seen a little slowdown in traffic but our conversion rate contrary has improved. So it's kind of like an offset and I apologize, I just don't have the traffic data by region in front of me.

Okay and then next question, regarding the land market. Could you just give a little bit of color in terms of what you're seeing in terms offer land competition and pricing over the last quarter or so? And how much inflation do you see run through the P&L during the quarter?

I'd say over the last quarter, land pricing has been a little more stable, kind of reflecting fact that the recovery has taken a little smoother path right now. And nonetheless, it remains as it always is a generally competitive market. But from the bigger perspective though, if you look at the previous normal markets, a lot of the competitors are out of the market.

In fact I think if you went back to the Top 50 home builders list from 2005 almost a third are out of business, so that's generally helpful. There are some fewer number of builders out there to compete with, particularly in the private homebuilding sector. But generally speaking, everyone is anxious to refill their pipeline and it's a healthy competitive market on land.

Great, thanks.

Your next question comes from the line of Eli Hackel with Goldman Sachs. Please proceed.

Thanks, good morning. In relation to absorptions, which for most companies have been declining as you pointed out. Do you think the industry is maybe bringing on too many communities too fast if absorptions are still not at normal levels?

I'll take a stab at that and then Ara, you may want to echo in but no I don't believe that that is the case at all. I think that it's logical at this point in the cycle we're still in the very early stages that builders would be trying to increase their community count. It's one of the few things that we can do to directly control our ability to grow.

The other factor is growth and absorptions per community, which is more a function I think of the overall US economy improving, jobs being created. As Ara mentioned earlier in the call, in markets where we're seeing job growth, Silicon Valley, Houston homes are kind of flying off the shelf there. And we certainly have confidence that the US economy is going to continue to grow, create jobs, and we want to have the communities.

So not only do we get growth just because we've increased community count, but also because we'll start to have higher absorptions per community. And the overall positive leverage that's created from increasing sales per community is huge and dramatic from a P&L perspective. And we're very convinced that over time that's going to occur and I suspect that our peers believe that as well.

Just again, putting the overall market into perspective, obviously the market has improved dramatically in terms of total housing starts. We hit a historic low in this nation at this trough at 500,000 starts per year. I mean we haven't seen that since World War II.

It has improved dramatically and we're now close to a million starts per year. And while that's dramatically better than the trough, it's well below average.

Forget about the peak we went through. The average over the last five of the six last decades is about 1.5 million starts. So we're way below average levels of housing production and therefore, there should be pent-up demand. You don't want to be chasing the curve in front of in terms of land purchases.

We've grown our Company over the last 50 plus years and one of the important strategies is as we're in a recovery to make sure we're ahead of the game and the curve in land. That's propelled us as in each of the last housing cycles significantly and we think it's important to position ourselves as this recovery continues to unfold in this cycle as well.

Great and then just one quick one, Larry. You mentioned I think some of the overlays being removed. I was curious maybe more specifically what they were and what do you think is driving that? Was it potentially Mel Watt's speech or what could have been behind those factors?

We talked about this with the Head of our mortgage Company the other day and he kind of cited three or four things that had been loosened. I just don't recall them off the top of my head.

They're not huge changes but they're incremental loosening in credit guidelines. I just don't happen to remember specifically what they were.

Overall though, I think it is fair to say that the current FHFA Director has a more positive attitude toward housing and the need to return to rational lending than his predecessor. And I think that's helpful thing.

I think also what's happened and the reason those credit overlays are getting loosened is that aggregator's, the Wells Fargo's and Chase's of the world who had put those credit overlays in place, have seen their business from the mortgage origination side slow because of the refinance slowing. And therefore, they're hungry for business. I think it's really that as much as anything else has been driving it.

Great, thank you very much.

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

Thanks very much. Was wondering if you would talk a little bit about what you're doing in terms of the plans for opening new communities in success with the recently opened communities given the lower absorption that's occurring right now? Are you doing more in terms of marketing, more in terms of incentives, adjusting prices as you're opening those? I'm just wondering how the results have been in those newly opened communities versus your expectations?

Sure, well first of all I think our advertising has gone up a little bit and that was reflective in our most recent quarter. But in general, our strategy is for all of our land acquisitions to assume the current then current sales pace as well as sales price. So sometimes depending on the lead time, we buy a property assuming sales assumption of three a month and the market, by the time we open is at 3.6 a month and obviously we enjoy that positive variance.

And other times we buy when it's 3.6 and it slows to 3 and we're disappointed with slightly lower returns in that case. But on the whole, I think if we stick to the discipline of using then current absorptions, we can't get too hurt and we're constantly in the market and constantly buying. So correcting to the current market conditions.

Overall, I wouldn't say we're doing anything dramatically different in terms of preparation or incentives in opening.

Great, thank you.

Your next question comes from the line of Adam Rudiger with Wells Fargo Securities. Please proceed.

Adam?

Go to the next questioner?

Your next question comes from the line of Susan Berliner with JPMorgan. Please proceed.

Thank you, good morning.

Good morning Sue.

I wanted to talk about I guess I was hoping to get a little bit more color regionally. And I guess more on the downside which markets are you seeing are a little bit slower?

Because I think regionally for you guys I know you group Arizona and Texas together, so I know Ara you already talked about Houston being really strong. Can you talk about some of the other markets where there continues to be a slowdown?

Yes, so slowdown is going to be a relative term, In Phoenix this has well been discussed in the industry, it got white hot last year or about the first half of the year. It's cooled but I hardly call it slow. It's still a very solid market and we're performing well there.

But it has slowed relative to the white hot environment that we had there last year in the first half of the year. The market that's been a little slower and disappointing has been the Ohio market. Although in recent months, just recently that seems to be picking up a little bit on the per community side.

Other than that, I can't say that there's been a noticeable high and low.

I've mentioned those have been a bit slower and I mentioned Houston and particularly the Silicon Valley part of Northern California as being a little higher. But I don't think there are any other stand outs.

And then just a follow-up I guess with regards to your orders. It looked like the Mid-Atlantic region, the orders were up a lot but I was curious as to why the average price was down? I didn't know if that was mix related.

That's primarily mix related in terms of we have a broad product array it could be just the mix of the types of products that we're opening or it could be the communities themselves or in different areas at different selling prices. I wouldn't read too much into that.

Okay, great. Thanks so much.

Your next question comes from the line of Alex Barron with Housing Research Center. Please proceed.

Thanks. Good morning guys. I wanted to see if you could focus a little bit on your option lots. I notice there was a big jump in the Southeast. Is that in Florida or is that more in the Carolinas? And is there like just a few large communities you guys are looking at or are they just a lot of more average type communities?

We have made a little more progress in the Southeast and it is both a mix of more communities, perhaps a little more size. I haven't really focused on which of the two is driving it a little bit more, but we are definitely focusing on the Southeast area.

That includes both Florida and the Carolinas?

Yes, it does. As well as the coastal areas of Georgia, which we kind of manage the coastal areas of Georgia, North Carolina, and South Carolina from one operation.

Alex we just kind of looked up some of the detail and just eyeballing it, it looks like it's pretty evenly split between the Carolinas and Florida in terms of the option lots we did during the quarter.

Got it and then in terms of going back to the previous question on the orders in the Mid-Atlantic. I mean it seemed like a pretty sizeable jump. Was there any kind of special incentive that was different that you guys threw out there or what do you think drove the huge jump sequentially and year over year?

There wasn't anything special that we did in the Mid Atlantic vis-a-vis Big Deal Days. We did a national campaign and clearly, the campaign was customized for each market but the Mid-Atlantic didn't do anything significantly different than what we saw in other parts of the country.

Okay thanks, Larry.

(Operator Instructions)

Your next question comes from the line of Adam Rudiger.

Can you guys hear me this time?

Yes, we can.

Thank you. Ara, I know in response to one of the earlier questions you suggested that you didn't think your March improvement was so different from the market. But if I look at your monthly orders per community for the year so far that was the only month that you didn't have a double digit decline. So that kind of suggests to me at least that the Big Deal Days was successful.

So I was wondering -- my question was twofold. One, what were the promotions that seemed to work the best? And then two, if that's what drove the improvement in March does that change your guys perspective at all on future promotions this year?

Adam, I'd like to take credit for the really strong March as this great promotion, but I just think it was coincident with a good month in the market. This little choppy environment means there's just good periods and bad periods. And frankly it's hard to correlate what brings a couple of weeks of strong sales.

I tried to look at the news and say oh, well that's why we had a great week this week and then the next week we had a slower week and I try to understand it. It's hard to draw a correlation.

But I'd say we just had good timing of introducing the promotion to a good market. The promotion was not super significant. It was really focused only on specs started unsold, which are generally not a huge part of our sales.

But just really the excitement and electricity if you will of a promotion generates a good buzz in the sales communities, charges up the salespeople. And we had good sales in all of our homes including those that weren't covered by the promotion.

So generally speaking, I don't think we have any immediate plans to repeat a promotion. The last nationwide promotion we did was probably four or five years ago. It was successful then, we decided not to repeat it and we just thought it would be a good time in the market.

Other than these national promotions, each division and even each community decides based on its local environment when to do a particular promotion. And there's typically something ongoing somewhere in the country at any given point in time.

One thing to just kind of reiterate why we believe that it was as much the market in March as anything else, Adam was we actually continued the Big Deal Days promotion into April. And April was down year over year. So I just think as Aria said we generated a lot of excitement both internally with our sales team and externally with prospects and it worked in March to some degree.

But I think we would if you just asked us because we don't see everybody else's monthly results we'd say it's kind of weighted, it was just a good market in March. And we just have a choppy kind of market situation for one month to the next.

Okay that's all I had. Thanks for taking my question.

That concludes our Q&A portion. I would now like to turn the call back over to Mr. Ara Hovnanian for closing remarks. Please proceed.

Well, thank you very much. As we said there were a lot of positive metrics in the quarter and some things we were not as pleased with. But overall we're pleased with the overall market condition. And we look forward to reporting some continued improvements in the quarters to come.

Thank you very much.

This concludes the conference call for today. Thank you for participating and have a nice day. All parties may now disconnect.