Hovnanian Enterprises Inc (HOVNP) 2015 Q3 法說會逐字稿

Good morning and thank you for joining us for the Hovnanian Enterprises FY15 third-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 third-quarter results and then open up the line for questions.

The Company will also be webcasting a slide presentation along with 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, Amanda, and thank you all for participating in this morning's call to review the results for our third quarter, which ended July 31, 2015. All statement on this conference call that are not historical facts should be considered forward-looking statements within the meaning of the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995. Such statements involve known and unknown risks, 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.

Such forward looking statements include, but are not limited to, statements related to the Company's goals and expectations with respect to its financial results for the current or future financial periods, including total revenues, gross margin, selling, general and administrative expense as a percentage of total revenues and adjusted pretax profit, and the illustrative modeling scenarios provided with respect to inventory, inventory turnover, deliveries, home-building revenue, home-building gross margin, SG&A, interest, consolidated pretax earnings, home-building cash, home-building debt, stockholders equity and net debt to capital. Although we believe that any 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. By their nature, forward-looking statements speak only as of the date they are made, are not guarantees of future performance or results, but subject to risks, uncertainties, and assumptions that are difficult to protect or quantify.

Therefore, actual results could differ materially and adversely from those forward-looking statements as a result of a variety of factors. Such risks, uncertainties and other factors include, but are not limited to, changes in general and local economic industry and business conditions and impacts of the sustained home-building downturn; adverse weather and other environmental conditions and natural disasters; 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, changes in market conditions and seasonality of the Company's business; the availability and cost of suitable land and improved lots; shortages in, and price fluctuations of, raw materials and labor; regional and local economic factors, including dependency on certain sectors of the economy; employment levels affecting home prices and sales activity in the markets where the Company builds homes; fluctuations in interest rates and the availability of mortgage financing; changes in tax laws affecting the after-tax costs of owning a home; operations through joint ventures with third parties; government regulation, including regulations concerning development of land, the home-building sales and customer financing processes, tax laws and the environment; product liability litigation; warranty claims and claims made by mortgage investors; levels of competition; availability and terms of financing to the Company; successful identification and integration of acquisition; significant influence of the Company's controlling stockholders; availability of net operating loss carry forwards; utility shortages and outages or rate fluctuations; geopolitical risks, terrorist acts and other acts of war; and certain risks, uncertainties and other factors described in detail in the Company's annual report on Form 10-K for the fiscal year ended October 31, 2014, 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 changes, changed circumstances or another 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 Bachstetter, Vice President, Finance and Treasurer. I'll now turn the call over to Ara. Ara, go ahead.

Thanks, Jeff. Let me get started with our third-quarter results, which can be found on slide 3. The dollar amount of our net contracts increased 20%, while the number of net contracts we signed increased 13%. If you include unconsolidated joint ventures, we had a 28% increase in dollars and a 16% increase in the number of net contracts. Our strong sales base continued in August, when the dollar amount of net contracts increased 15% and the number of net contracts also increased 15% on a consolidated basis and on an -- if you include unconsolidated joint ventures, we had a 19% increase in the number of contracts and a 24% increase in the dollars of contracts in the month of August.

Primarily as a result of geographic and product mix, our average sales price increased from $381,000 during last year's third quarter to $404,000 for the third quarter of this year. Our community count growth continued with a 5% year-over-year increase in the third quarter. We expect even stronger community count growth during our fourth quarter. On top of our community count growth, our pace of contracts per community increased. Our consolidated net contracts per community increased 7% during the third quarter, while net contracts per community, including unconsolidated joint ventures, increased 12%. The dollar amount of our net contract backlog increased 23% to $1.26 billion at the end of the third quarter, compared to $1.03 billion at quarter end last year.

On a less positive note, our total revenues declined 2%. This decline was due to a 4% decrease in deliveries, which was partially offset by a 2% increase in the average sales price. The drop in deliveries corresponds with our poor sales last year, which were adversely impacted by a slower market and by delays in opening new communities. Sales increased this year and as I indicated earlier, during the past few months, our sales environment has improved significantly. This positive sales trend, combined with a strong quarter end contract backlog, bodes well for our expected revenue and profitability growth during 2016.

Consistent with our guidance of sequential improvement in gross margin, our gross margin increased to 17.8% for the third quarter of FY15, up 170 basis points from 16.1% during the second quarter of FY15. However as expected, our FY15 third-quarter gross margin was 350 basis points -- excuse me, 350 basis points lower than our gross margin in the third quarter a year ago. During the third quarter, primarily as a result of lower year-over-year revenues, our total SG&A as a percentage of total revenues increased slightly to 12.6%.

In line with the guidance we provided in our second-quarter conference call, we reported a pretax loss of $10 million during the third quarter of 2015 compared with a pretax profit of $15 million a year ago. However, also consistent with our guidance last quarter, our fourth quarter should be solidly profitable. In addition, each of our quarters in 2016 should show year-over-year improvement, resulting in a breakout year for us in 2016.

Let me go into a little more detail about our gross margin. For all of FY14, our gross margin was 19.9%, which is what we consider a normalized gross margin. On slide 4, we show our quarterly gross margin percentage since 2014. Our quarterly gross margin percentage peaked at 21.3% in the third quarter of FY14 and then trended down for three consecutive quarters. During the third quarter of FY15, we saw our gross margin reverse that downward trend by increasing 170 basis points sequentially from the second quarter of 2015.

As we discussed in last quarter's call, much of the lower margin was attributable to spec homes, which we define as started, unsold homes. It is not unusual for spec homes to be sold with lower gross margins than to-be-built homes, but the increased incentives we offered on second-quarter spec home deliveries were atypical. Much of our third-quarter gross margin improvement was due to both reducing the number of spec homes that we offered and the steps that we took to lower the incentives -- to lower the levels of incentives and concessions offered on the spec homes. As a result, the margin on spec homes during the third quarter of FY15 was 270 basis points better than it was during the second quarter of FY15. The percentage of deliveries from spec homes in the third quarter also decreased to 48% from 52% in this year's second quarter.

We're pleased with the progress we made in reducing the number of spec homes per community over the last three quarters, which you can see on slide 5. Specs per community have fallen to 3.9 at the end of the third quarter, compared to 4.7 at the end of the fourth quarter of 2014. Additionally, we have made strong progress in reducing specs in higher-priced communities where consumers wish to customize their homes and as a result, the distribution of our spec homes is much more in balance today.

Turning to slide number 6, you can see that our SG&A as a percentage of total revenues tweaked up year-over-year during the third quarter of 2015 to 12.6% from 12.2% in last year's third quarter. The majority of this increase was related to a drop off in revenues, while holding our SG&A dollar expenses fairly level. Foreshadowing the SG&A leverage to come in 2016, however, our SG&A dollars only increased 1%, while the dollar value of our net contracts increased 20% and the dollar value of our backlog grew 23%.

On slide 7, we show that our total SG&A annual expense as a percentage of total revenues going all the way back to 2001. We consider 10% a normalized SG&A ratio. Improving the efficiency of our SG&A expenses will continue to be a significant area of focus. As we generate revenue from our expected community count increases, we expect to be able to generate -- to leverage our fixed SG&A expenses further and reduce this ratio back to more normalized levels of 10%. While FY15 has been challenging for us, we're very focused on generating future growth in revenues so that we can gain the efficiencies.

On our second-quarter conference call, we also mentioned that we are focused on improving the results of our weaker divisions. To further this goal, we have brought on a number of new business unit presidents to strengthen our Management team. A few examples include hiring the former COO of Meritage Homes as a Group President over our Arizona and California operations, a former corporate EVP and Regional President with Centex to run our Minnesota division, a former Regional President from a top ten builder to oversee our Florida operations and several other new division presidents, formerly with other top-ten public builders to run some of our other divisions. In total, these gentlemen have many, many years of home-building experience between them, and we are confident that we'll be able to capitalize on their collective experience and improve our operations in their respective markets. It was time for change and we're extremely pleased with the caliber of our new associates.

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

Thanks, Ara. Turning now to our current sales environment, on slide 8 (technical difficulty) dollar amount of our consolidated net contracts per month for each of the past 12 months. The most recent month is shown in blue, the same month of the previous year shown in yellow and we use green arrows pointing up to indicate an increase and down red arrows to indicate a decrease. Our recent sales performance is encouraging. The dollar value of our net contracts for the past five months increased 19% year over year on a consolidated basis and increased 26% on a year-over-year basis when including unconsolidated joint ventures. Driven by the combination of increased community counts, higher average sales prices and, more recently, stronger sales results, 11 of the past 12 months have had year-over-year increases. These year-over-year increases in our sales results will lead to an improving revenue environment in the coming year.

While slide 8 showed the dollar amount of net contracts, slide 9 shows the number of monthly net contracts per community. Over the past few months, there have been more positive than negative year-over-year monthly comparisons, which seems to indicate that the housing recovery is firming up. On slide 10, we tried to put the current sales situation into perspective with a longer-term view. The dark blue bar shows that we averaged 44 net contracts per community, per year from 1997 through 2002, a period at neither boom nor bust times. Then in yellow, we show average net contracts per community bottoming at 21.3 per year in 2011, followed by two years of improvement in 2012 and 2013 at 28.1 and 30.7 per year, respectively.

Surprisingly, we in the home-building industry took a step backwards in sales pace per community in 2014, to 28.4 net contracts per year. Looking at the gray bar it shows the adjusted annual rate for the most recent quarter was 30.5. The run rate of our most recent quarter is now approaching the 30.7 contracts per community level we saw in FY13. This is certainly a step in the right direction and we hope it is a positive trend that will continue as the housing industry recovers.

Houston remains a hot topic within our industry, so I want to provide a brief update on what we're seeing in that market. With an average sales price of $312,000 in Houston, compared to our Company average sales price of $404,000, our primary focus in Houston is on entry and first-time move-up product. As a result, we've not felt any material, adverse impact from the higher price point Houston markets cooling off that some of our peers have spoken about. Turning to slide 11, you can see our quarterly net contracts per community in Houston for 2013, 2014 and 2015. On our last call, we talked about the spring selling season of 2015 having a tough year-over-year comparison to the spring selling season of 2014, when the market was white-hot. We're pleased to report that during the third quarter of 2015, the net contracts per community increased slightly to 6.0 compared with 5.9 in the third quarter of 2014. Not only did we achieve an increase in sales pace per community during the third quarter, but we saw the absolute number of net contracts increase by 8% year over year during the third quarter as well.

Turning to slide 12, it shows some other details of our Houston operation. For the trailing 12 months, Houston accounted for 16% of our home-building revenues. The end of the third quarter, our inventory in Houston was only 10% of our total home-building inventory. So even though 16% of our trailing 12-month home revenues were from Houston, we don't have much in a way of capital tied up in that market. Houston is primarily a market where you control land through option contracts with quarterly finished lot take downs, and therefore it is not as capital intensive at some of our other markets.

To further illustrate this point, as of July 31, 2015, we controlled 3,461 lots in Houston. Almost 50% of those lots are currently optioned, with a deposit of only $5.4 million. This represents an average option deposit of about $3,000 per lot in Houston, compared with our Company average of approximately $6,000 per lot. If the Houston market started to materially deteriorate, we would be able to renegotiate our option contracts or walk away from our option contracts with only a modest expense.

Our owned land position in Houston is relatively short, at about a 17-month supply. The 17-month supply in Houston compares to our Company-wide average supply, excluding mothballed lots, of 31 lots -- 31 months of owned lots in the remainder of our markets. At the end of the third quarter FY15, we had 53 active selling communities in Houston and another 13 communities in planning. In summary, after 12 months of significantly lower oil prices, our sales pace and profitability levels in Houston remain solid. In spite of these positive conditions, we remain cautious about the impact of lower oil prices on the Houston economy and we'll continue to keep a close eye on the market and any further developments we see there.

Moving back to our overall Company, slide 13 shows that our consolidated community count has grown steadily over the past two years. There's a lot of activity that goes into a net increase of 10 communities that we saw in the last year. During the last 12 months, we opened 95 new communities and closed out of 85 older ones. We expect to see continued community count growth as we move forward, including a more meaningful growth in our fourth quarter.

Turning to slide 14, you'll see our owned and optioned land positions broken out by our publicly reported market segments. Our investment in land option deposits was $90 million as of July 31, 2015. Additionally, we have another $14 million invested in pre-development expenses. During the third quarter, we unmothballed 632 home sites in Natomas, California. We anticipate beginning deliveries from Natomas near the end of FY16, but starting in 2017, Natomas will become an even larger contributor to our production levels.

Assuming current market conditions remain steady and a joint venture agreement is finalized, during the fourth quarter we expect to unmothball 278 home sites along the Hudson River waterfront in West New York/New Jersey, where we have previously built thousands of profitable homes. This waterfront location has spectacular views of the New York skyline and is within walking distance to an easy ferry ride for access to the city. We already own the land at this AAA location, which we plan to contribute as our equity in a joint venture, so no additional cash investment for us is required to complete this development. During the life of this community, we expect total home sales of approximately $365 million, along with significant profit contributions. This market continues to be very strong as New York City home prices remain at record levels.

Looking at all of our consolidated communities in the aggregate, including mothballed communities, we have an inventory book value of $1.6 billion net of $549 million of impairments. We've recorded those impairments on 70 of our communities. For the properties that have been impaired, we are carrying them at 22% of their pre-impaired value.

Another area of discussion for the quarter is related to our deferred tax asset valuation allowance. During the fourth quarter of FY14, we reversed $285 million of our deferred tax asset valuation allowance. We will reverse the remaining valuation allowance when we began to generate higher levels of sustained profitability. At the end of the third quarter FY15, our valuation allowance in the aggregate was $642 million. The remaining valuation allowance is a very significant asset not currently reflected on our balance sheet and we've taken numerous steps to protect it. We will not have to pay cash federal income taxes on approximately $2 billion of future pretax earnings.

On slide 15, we show that we ended the third quarter with a total shareholders' deficit of $152 million. If you add back the remaining valuation allowance, as we've done on this slide, then our shareholders' equity would be a positive $490 million. You look at this on a per share basis, it is $3.33 per share, which means at yesterday's closing stock price of $1.96 per share, our stock is trading at a 41% discount to our adjusted tangible book value per share. Over time, we believe that we can repair our balance sheet by returning to higher levels of profitability and have no intentions of issuing equity any time soon.

As seen on slide 16, after spending $130 million on land and land development during our third quarter, we still ended the third quarter with $259 million of liquidity, which includes $210 million of homebuilding cash and cash equivalents, including $2.6 million of restricted cash to collateralized letters of credit and $49 million undrawn under our $75 million unsecured revolving line of credit. We once again ended the quarter in excess of our target liquidity range of $170 million to $245 million.

Recently, there's been some confusion amongst both analysts and investors about the collateral we have securing our 7.25% first lien notes and 9.125% second lien notes due 2020 and the 2% and 5% first lien notes due 2021 and the coverage remaining for the unsecured notes that I would like to clear up. Turning to slide 17, here we start with the collateral for the 7.25% first lien notes and the 9.125% second lien notes, which primarily consist of $166 million of cash and cash equivalents and, based on book value, $800 million of inventory at July 31, 2015. This collateral totals $966 million, compared to an outstanding principal amount of $797 million, for a collateral ratio of 1.21 times. While there is no -- while there is other collateral for these notes, the other collateral is not material.

If you turn to slide 18, here we show the collateral for the 2% and 5% first lien notes due 2021, which primarily includes $44 million of cash and cash equivalents and, based on book value, $147 million of inventory at July 31, 2015. We add to that number the equity interest in our joint ventures, which are not pledged as collateral for the 2% and 5% notes but are owned by entities that are obligors on these notes and not on our other notes, totaling $64 million at July 31, 2015. Together, the collateral and these equity interest total $254 million compared to an outstanding principal amount of $195 million for an asset coverage ratio of 1.3 times.

On slide 19, we show our total assets of $2.5 billion. We subtract from this number our $304 million income tax receivables, including net deferred tax benefits, $109 million of inventory not owned and $136 million of financial services assets held by unrestricted subsidiaries, which leaves us with slightly more than $2 billion of assets that are available to satisfy all our notes. We then subtract the $149 million of outstanding amount of nonrecourse mortgages, the $195 million principal for the 2% and 5% notes and the $797 million of principal for the 7.25% first lien notes and 9.125% second lien notes due 2020. That leaves us with approximately $859 million of assets available to all unsecured notes.

This compares to an outstanding unsecured principal amount of $841 million, which excludes our notes exchangeable into common equity for an asset coverage ratio of 1.02 times. We note that the above discussion is simplified and that it does not take into account other liabilities, including trade payables of our subsidiaries and also met certain immaterial assets pledged to secure existing notes.

I want to spend another minute to explain the collateral coverage of our nonrecourse mortgages. In our 10-Q, we provide the related real property book value of the communities that are securing these loans, which includes land and any other improvements, either land development or vertical construction of homes. At the end of the third quarter, this real property value was $367 million compared to an outstanding loan balance of $133 million on these loans. The total commitment for those loans is $342 million. So, as we continue to build through those communities, there is additional capacity available to fund those expenditures. As we draw more on those loans, the real property value securing these loans will increase. However, there will never be a time when we are 100% drawn on all of the loans simultaneously.

Now, turning to our debt maturity ladder, which can be found on slide 20, the red bars on this slide represent unsecured debt. We have $61 million of debt that comes due on October 15, 2015, and another $173 million that comes due January 15, 2016. Recently, the high-yield market for triple-C credit companies, including Hovnanian, have been difficult. While our preference is to refinance these near-term maturities as they come due, if we're not receptive to the prevailing high-yield rates, we have a number of alternative capital sources we can utilize to ensure we have sufficient liquidity to both pay off these bonds as well as continue to grow our Company.

Turning to slide 21, let me explain some of the liquidity levers we have available. One lever that we can pull is to increase our land banking activity. We can choose to take a higher percentage of new land deals we desire to control to land bankers rather than utilizing our cash to purchase them. Land banking typically reduces our upfront cash required to purchase and develop land by roughly 85% and we still control the land via an option agreement with the land banker. Additionally, because our expected return on the land parcel is significantly higher than the return required by the land banker, these transactions enhance our return on capital as well.

Another land banking option available to us is to take existing land assets that we own and sell them to a land banker and enter into an option agreement to purchase those assets back on a just-in-time basis. We currently have $1.6 billion in inventory. We could take a portion of that inventory, say $250 million worth, sell it to a land banker, put down a modest deposit and we would have more than enough cash on hand to deal with near-term maturities.

Another lever we could utilize is increasing our joint venture activity. This too enhances our liquidity position and our returns on capital as we typically put up 10% to 15% of the required capital and our joint venture partner puts up the remainder. We normally participate pari-passu with our partner, based on our capital contributions up to a modest internal rate of return and then receive an ever-increasing percentage of the project returns generated about that base level. Although historically we've entered joint ventures on our larger, more capital-intensive communities, we could decide to pool a number of smaller communities together into a single JV in order to further enhance our liquidity position.

A third lever we have available is nonrecourse project specific financing. We have been doing an increasing amount of these and we could choose to do even more. Finally, another lever that is available that is that we could increase our use of model sale lease backs. Even though these alternative capital sources are administratively burdensome, each of these levers enhances our returns on capital. These are the same levers that we talked about in 2009 and successfully executed at a point in time when both Hovnanian and the housing market were in a much tougher position that we find ourselves now.

Let me reiterate. While we still prefer to access the high-yield market to refinance our debt, if we deem it too expensive, we believe that the levers outlined above will allow us to pay off near-term debt as it matures and allow us to continue the growth of our business plans contemplated. Because of the financial constraints that we had earlier in the cycle, we had less capital spend on land and therefore we were less aggressive on investing in land than some of their peers. And as a result, our recovery trajectory has been a bit behind our peers as well.

As you can see on the left-hand side of slide 22, recently we have been more aggressively investing in land. Over the past three years, we have gained control of about 10,000 more lots than we actually delivered homes on and our land acquisition teams across the country continue to work hard to identify new land parcels to purchase today. Further emphasizing this investment, on the right-hand side of this slide we show our inventories grew 63% during this same period of time. We know the general timing of when these investments are going to come online as active selling communities. We are finally at the point we will start generating higher levels of revenue from these land investments.

As you can see on slide 23, we grew our inventory faster than all but three of our peers during the past year. This ramp up in our inventory, the 10,000 additional lots we controlled over the past three years, the 23% year-over-year increase we achieved in our contract backlog at July 31, 2015, and the 19% year-over-year increase we've seen in net contract dollars over the past five months, combined together, give us confidence in our ability to increase revenues and profitability during 2016.

Turning to slide 24, I would now like to discuss our expectations for the fourth quarter of FY15. We have refined our guidance and continue to expect to report a strong fourth quarter. Assuming no change in market conditions, we expect to report total revenues of approximately $745 million for the fourth quarter of FY15. We expect our fourth-quarter gross margin for FY15 to be approximately 17.6% and our SG&A as a percentage of total revenues to be approximately 9.5%. Excluding land-related charges, gains or losses on extinguishment of debt and other nonrecurring items such as legal settlements, we expect the pretax profit for the fourth quarter 2015 to be approximately $22 million.

Turning to slide 25, I would now like to discuss our expectations for all of FY16. Again, assuming no changes in market conditions, we expect to report total revenues between $2.7 billion and $3.1 billion for all of FY16. We expect our gross margin for all of FY16 to be between 16.8% and 18%. We expect total SG&A as a percentage of our total revenues for all of FY16 to be between 9.8% and 10.2%. Excluding any land related charges, gains or losses on extinguishment of debt and other nonrecurring items such as legal settlements, we expect the pretax profit for all of FY16 to be between $40 million and $100 million.

Before I turn it back over to Ara to discuss several illustrative financial modeling scenarios, I want to cover some disclosure language regarding those scenarios. Turning to slide 26, Ara will spend the next few minutes outlining several potential illustrative financial modeling scenarios through 2020 that will help you understand our longer-term prospects. These illustrated financial modeling scenarios, which are presented in slide 27, 28 and 29 and the associated appendix in slides 33, 34 and 35, including assumptions upon which they are based as disclosed in slide 32 and our accompanying remarks are integrally related and are intended to be presented and understood together.

Given the forward-looking and longer-term nature of these scenarios, you should keep in mind that the information presented for periods beyond 2016 sets out a range of potential outcomes for future periods and is not presented as Management's current expectations of its financial performance for periods beyond FY16. A wide range of outcomes is possible given the volatile nature of the homebuilding industry and our actual results may differ materially and adversely from those illustrative scenarios due to a variety of factors, including those described in slide 2 and in section entitled Risk Factors in our most recent report on Form 10-K. We do not intend to update these modeling scenarios and/or provide this type of longer-term forward-looking information on a regular basis and undertake no obligation to do so.

The base case scenario we will highlight below assumes no changes in current market conditions. We also provide upside and downside scenarios that do include assumptions about how market conditions may change over the next five years. Again, these assumptions are described in more detail on slide 32. Actual results may be significantly worse than the downside scenario presented or better than the upside scenario. I'll now turn it back to Ara for some closing comments.

Thanks, Larry. One of our key objectives over the next few years, in addition to returning to normalized gross margins, is to continue to grow revenues so that we can achieve operating leverage from both SG&A and interest expense. This would allow us to achieve significantly higher levels of profitability without assuming any changes in market conditions and excluding the potential impact from land related charges, gains or losses from extinguishment of debt or other nonrecurring items, such as legal settlements. To accomplish this goal, we plan to continue to increase our land investments and correspondingly, our deliveries and revenues for the next few years.

After several years of growth, we plan to stop growing revenues and flatten our inventory levels. This would allow us to begin to harvest cash and reduce debt. This strategy would also allow us to shift our focus from growth to repairing our balance sheet. Simultaneously, we expect to continue to benefit from the operating efficiencies, including both a substantially lower SG&A ratio and reduced interest expenses. We continue to believe that we can accomplish our goals of debt reduction and repairing our balance sheet without a dilutive equity offering.

Turning to slide 27, the next series of slides shows you actual results for 2013 and 2014, which are shown in red, our guidance for 2015 and 2016, which are shown in green, and illustrative financial modeling scenarios for 2017 through 2020. All of these data points on slide 27, 28 and 29 are annual, which are plotted at the year on the horizon access. Quarterly data is not presented or implied in any of these charts. For these illustrative financial modeling scenarios, we show a base case, a downside case and then an upside case, the assumptions of which are shown on slide 32.

The first graph in these series shows the growth in our inventory. As you can see in the graph on the upper left-hand quadrant of this slide, we show the upside case with a gray dashed line, the base case with a solid yellow line and the downside case with a solid blue line. Basically, the base case scenario assumes the current environment in terms of pricing and costs remain unchanged, although absorption velocity starts to modestly increase beginning in 2018. Even by 2020, we assume absorptions do not return to normal levels of 44 annual net contracts per active selling community that we average between 1997 and 2002.

As we described in more detail on slide 32, the downside scenario assumes these metrics deteriorate slightly and the upside scenario assumes they improve slightly. Even our upside scenario, which does not assume we get anywhere near the margins -- excuse me, even in the upside scenario, we don't assume we get anywhere near the margins and velocities of the prior bull markets. Looking at this graph, you can also see that the largest growth in our inventory already took place in 2014 and 2015. The assumptions for future inventory growth are very modest.

The next data point we show in the upper right-hand quadrant is inventory turnover calculated using revenues divided by average inventory. This is a critical component of our financial models. As recently as 2013, we had an inventory turnover rate of 2.2 times. Going back to 2002 and 2003, before the boom years, we had inventory turns of 3.0 and 2.6 times. During 2015, as we continue to ramp up our investments in new properties, particularly undeveloped properties, our inventory turnover rate fell to 1.6 times.

We expect our inventory turnover rate to improve in 2016 to 2 times as the big ramp up in inventory in 2014 and 2015 transforms into deliveries. As we reduce our focus on top-line growth beginning in 2018, our base case shows that the inventory turnover returns to the same 2.2 times that we achieved in 2013. Once again, the assumption that our inventory turnover rates return to the normal level we achieved in 2013, that is one of the key drivers of our profitability growth and our balance sheet improvement.

Moving to the lower half of the slide, we show wholly-owned deliveries on the left and homebuilding revenues on the right. Both of these are expected to growth significantly next year as our recent growth in inventories begins to generate annual -- increased annual deliveries. Our base case scenario assumes less aggressive growth in 2017 and 2018. 2019 shows deliveries and revenues holding steady at about 9,000 deliveries and approximately $3.8 billion in revenues. At this point, we would expect to shift our focus to realizing greater efficiencies from our operations instead of additional growth.

Although we have spent significant efforts during the last five years to drive down our costs, such as rolling out a fully integrated IT system, standardizing best practices and rolling out cost-efficient new home designs, we intend to step up our efforts on this front once our energies are shifted from growth to harvesting cash and repairing our balance sheet. We believe this change in focus would allow us to achieve greater levels of efficiency that would enhance our future profitability.

In the upper left-hand quadrant on slide 28, you can see that we've assumed relatively flat gross margins for 2016. During 2017 and 2018, our base case scenarios show us gradually returning to the same 20% normalized gross margins that we achieved in both 2013 and 2014. Even the upside scenarios show us peaking at only 20.5% gross margin, which is dramatically below the 24%-plus gross margins that we achieved in several of our prior, stronger market cycles. It's even below the gross margin that we achieved in our third quarter last year.

In the graph in the upper right-hand quadrant, we show the dollar amount of SG&A expenses. For the most part, total SG&A expenses are shown as increasing in tandem with the growth in revenue that we showed on the previous slide. While the dollar amount of SG&A spend increases considerably in 2016, because much of the infrastructure for that growth was put in place in 2015, we expect to gain the efficiencies in 2016 and have incorporated efficiencies into our scenario for 2017 in beyond. The SG&A expense ratio is shown on the bottom of the horizontal axis. Our guidance reduces SG&A to 10.1% in 2016 and our model shows SG&A returning to our 10% historical normalized level from 2017 through 2020.

We show interest expense in the lower left-hand quadrant. We expect interest expense dollars to increase next year, with a larger amount of previously capitalized interest being expensed as we deliver more homes. This occurs even though our debt levels are not expected to increase. Despite a higher level of interest expense dollars, we expect our ratio of interest expense to revenues to decrease by approximately 130 basis points to 5.9% in 2016. Our various scenarios in 2018 indicate our interest expense would decline more significantly as we harvest cash and start paying down debt. The bottom right-hand quadrant shows scenarios for consolidate pretax earnings for the Company. In the base case scenario, we show that pretax earnings grow from $139 million in 2017 to over $300 million in 2020.

Now that we've shown you a range of potential of illustrative scenarios from a profit point of view over the next five years, slide 29 provide illustrative balance sheet scenarios which demonstrate the material impact these outcomes could have. The upper left hand portion of the slide focuses on liquidity, which remains important. We plan to manage our liquidity level to average about $200 million in 2016 and we've assumed this level of liquidity for periods beyond 2016 for purposes of modeling scenarios also. As our recent investments in land converts to increased dollars -- excuse me increased deliveries and higher levels of revenues, we expect our profitability to grow.

The scenarios assume that we stop growth in 2018, begin to harvest cash and pay down debt. Even the downside scenario shows that we would be in a position to reduce debt and improve our balance sheet. Keep in mind that these -- that in the scenarios, while we would be reporting taxes from a GAAP perspective, we would not be paying Uncle Sam and would get to keep virtually 100% of the pretax income due to our tax loss carry forwards. In the lower left quadrant, you can see how our stockholders' equity would grow in this time horizon to over $1 billion in the base case. In the lower right-hand quadrant, you can see steady reductions in our net debt to total cap ratio, which would get back to more reasonable levels by 2020. Under these scenarios we'd be able to grow our deliveries, revenues and profitabilities to a critical mass by 2018, then harvest cash versus further top-line growth and get our balance sheet into a much improved position.

We're not happy about the step backwards we've taken in 2015. However, we believe the seeds we have been planting have been critical to grow our Company and are going to pay off for us in the future, which is why we're calling for a breakout year in 2016. Due to our inability to invest as aggressively as our peers in the early part of the housing recovery, we're behind the growth and profitability that many others have seen for the past two years. However, our investments are starting to catch up. Over the past few years, we have aggressively invested in growing our land position and we believe we are now on the cusp of achieving meaningful growth of revenues and profitability.

If you focus on inventory growth, which we've already achieved, and you believe we can get our inventory turns back to the 2.2 times levels that we achieved as recently as 2013, then the illustrative scenarios which don't incorporate any improvements in the overall housing market show how the growth of revenues and profitabilities falls into place. Any benefit from an improvement in the housing market would only accelerate the top- and bottom-line growth shown in the base case scenarios. If you analyze each of the components in these scenarios, you'd realize that none of the underlying assumptions are unreasonable in light of our historical performance in prior cycles. Even the upside scenarios utilize assumptions of certain financial metrics that are far more conservative than what we achieved in our previous up cycles.

We were at the very top of the performance metrics for our industry in 2004 and 2005. Clearly, we are still feeling the effects of our aggressive investments in those years, which preceded one of the greatest housing recessions our industry has ever seen. We finally feel like we're in a position to once again deliver solid performance metrics. We look forward to delivering positive results, beginning with the performance of our current fourth quarter and continuing into 2016. That concludes our formal remarks and I'd be happy to turn it over and open up for questions.

Thank you. The Company will now answer questions.

(Operator Instructions)

Andrew Casella, Imperial Capital.

Hi, guys. Thanks for taking the question and thanks for all the color on the balance sheet and the modeling. I guess firstly, I just want to confirm that I'm understand this correctly. Assuming, again, the high-yield markets are not available to you on an economic basis, you are in no way restricted from monetizing the inventory that you guys showed in that slide with the first and second liens and essentially monetizing that and paying off unsecured debt maturities. Is that correct? The land bank or sale lease back?

I think what I said was perfectly accurate. We can land bank any of our owned inventory. We can do joint ventures and all the other capital alternative sources, as I said. I'm not sure what you mean by monetize, but if that's what you mean by monetize, yes, that's correct.

Alright, great, thanks. Just as my follow-up, when we look at land banking today, just curious how -- if it's easy to execute a structure and how large a land baking agreement might be? I know in the past you said you've done work with GSO. I think they had done something up to $400 million. What is the status of that facility? Is that still available and if there's any remaining capacity under that agreement?

We are still doing business with GSO and have additional capacity with them and there's other land bankers out there that we've done business with and want to do more with us. The type of transaction that I illustrated in my comments of taking $250 million or so of our current inventory in taking the land banker, we do not think would be problematic.

If anything, I'd say there are more entrants into the land banking arena, so that continues to be available for us.

Alright. Great. Thanks, guys. I'll get back in the queue.

Nishu Sood, Deutsche Bank.

Thanks and also appreciate all the color and the longer-term information. My first question is about the gross margin trajectory. There was a nice improvement this quarter and Ara, you were mentioning, obviously, the reduction in specs as well as the stronger selling environment. But the 4Q and the next-year guidance doesn't imply any further improvement. With that backdrop, why don't we see further improvement in gross margins even in the next four, five quarters?

Nishu, as we always do we, assume current market conditions remained unchanged when we're making our projections. I think it's safe to say kind of the current run rate of gross margins, what we averaged for the full year of 2015, is a reasonable expectation for 2016. It's just the methodology that we use. If the market improves, obviously there's upside potential.

Our base case does assume the margin slowly goes back after the guidance in the modeling scenarios of 2017 and 2018 start to get it back to the margins that we had in 2013 and 2014.

Got it. So just digging into the a little bit more, sitting back now, now that you've come out of the downdraft in gross margins and they're going up again, you mentioned specs as being a major driver. The specs were only down, I think you said, to 48% of delivery, down from, I think, 52% or 53% last quarter. Wondering if you could just maybe give us a little more numerical detail on the -- how much that was impacting margins and whether that was the main driver of the improvement sequentially in terms of the quarters? And maybe your broader thoughts on the weak selling environment, or what's going to get it back up to 20% as is laid out in the longer-term scenarios?

Well, Nishu, I think we mentioned in the call that the margin on specs improved about 270 basis points sequentially, so you can do the math on the balance there. I'd say the overall margin, virtually all of the public builders reported downward pressure on gross margin in the last couple of quarters compared to the prior year. Part of that was driven by a little bit of a head fake, if you will, in 2013 where the market thought it was recovering and there was a lot of momentum, a lot of pace increase and a lot of price increase. That led to many, including ourselves, get a little more aggressive in land in 2014, but lo and behold, the market took a little bit of a step back in 2014 and the recovery that looked like it was really beginning to roar in 2013 didn't happen, so the margins that came about from land that was purchased in 2014 were a little more disappointing when those deliveries happens.

That is what occurred in 2015. But as we burned through that and as the land market settled a little bit, I think it's reasonable in our illustrative modeling scenarios that they should get back to normal levels that we saw in 2013 and 2014.

Just to reiterate, Nishu, what Ara just said, the reason that margins start to trend upwards in the base case is nothing more than we're burning through some of that land we bought in the latter part of 2013 and into 2014 and as we burn through that, the new stuff that we're doing today are closer to our normalized 20% margin, so it's logical for it to trend that way.

I'll also add that we're slowly burning through some of our older inventory that, while it's been impaired, it does have lower margin contributions, so that should also help in the future.

Thanks, appreciate the color.

Alan Ratner, Zelman and Associates.

Thanks again for all the color and taking the question. I guess on the absorption piece that you assume in the out years, you mentioned you're not really assuming any significant change in conditions but it looks like you haven't provided community count guidance, but it looks like there's probably some absorption improvement embedded in those delivery increases in 2016 and into 2017 and 2018 as well. Is that just a function of where you're underwriting these deals today, similar to the margin, the 20% margin that you're assuming in the out years, or is there some other driver there that brings that absorption level a little bit higher?

In terms of the new communities that we're acquiring, we don't make any assumptions about improvement in market conditions. We take the most recent quarter's kind of absorption and pro forma the land acquisition without absorption in mind and the pace that you're seeing in the model reflects that. With respect to existing owned communities, or controlled communities, we allow our divisions two years out to modestly begin to tweak absorptions a little bit upward back towards normalized, but they don't get to normalized. It's a subsection of the communities out in the future that make that kind of an assumption, Alan, if you understood that.

Got it. I appreciate that. And second question, if you do decide to go down the land banking route and then pursue those transactions in greater scale, I was hoping you can just kind of walk through a little bit of the terms on -- that you're seeing today on land banking. What type of impact would that have on gross margin? I would presume that those deals would generate a lower margin as they flow through on the delivery line. You mentioned the 15% cash down up front. Any info you can give on margin or takedown schedules or price appreciation that we need to bake there would be appreciated?

We don't bake any price appreciation in ever, so that doesn't happen at all. There would be some modest pressure on margins, but it's not as substantive as you might think.

And also, Alan, in general all of our alternative capital sources, as I think we mentioned, land banking as well as joint ventures actually increase our return on investment. So while there's a little pressure on gross margins, and not a lot, as Larry pointed out, it definitely enhances our return on investment.

Got it. Thanks and good luck.

Michael Rehaut, JPMorgan.

Hi. It's actually Jason in for Mike. First question is on community count. I appreciate the guidance on [2015] revenues and profitability, but it would be helpful if you can give some color in terms of how you're thinking about community count in 2016? Do you think that as you grow at a rate that higher than you see in 2015 and if so, could you maybe quantify what you might expect to see?

I think as we've repeatedly stated on prior calls, produce -- predicting community count is a difficult number to predict, because you could actually sell faster and therefore have fewer community counts than you were expecting or you could have regulatory delays and temporarily not have as many communities as you would have expected. So it's not something we're going to give you specific guidance on. As I said in the fourth quarter, we think community count will be a little more meaningful, so that gives you a hint. In 2016, we do expect community count to continue to grow, but what we'd like to really focus you on in terms of a surrogate for community count is that inventory turns and if you buy into the inventory turns being kind of reasonable and rational, which we certainly believe it is, based on our history, it's easy to get to the revenue numbers that we're talking about.

Okay, great. Next question, just on pricing power in general, can you talk a little bit about the overall pricing and incentive environment that you saw during the quarter, how much you think pricing is kind of on a same-store basis for the quarter and then from a regional perspective, where you're seeing most pricing power right now?

I'd say certainly Northern California in the Bay Area is probably the strongest area with pricing power, followed by Southeast Florida. Those are probably two of the strongest markets overall in terms of pricing opportunity and what we've actually experienced. Overall, I wouldn't say pricing power is the big story in terms of current performance right now. It's been more on absorptions and sales pace per community.

Okay. Thank you.

Sam McGovern, Credit Suisse.

Hey, guys. Thanks for taking my questions. Just going back to the liquidity levers, I assume you're going to use some combination to the extent you don't refi of all four that you highlight there. Can you talk about the relative attractiveness, either from gross margin or return on capital standpoint to you guys?

I think all of them have an improvement in return on capital. I think we would probably focus first on land banking, maybe second on joint ventures just from a prioritization perspective. But it is probably ease of implementation rather than driven by impact on margin or return on capital.

To some extent it also varies, depending on the longevity of the asset. Land banking is good for a medium-term property, two or three years. Three- or four-year assets are particularly good for joint ventures, where you can get the multiple in return. And then in certain markets, project-specific financing is more available. It's the cheapest of all three sources, but not necessarily the highest return on capital because it's a little less leverage. So we imply, as you started out on your assumption, we tend to apply a mix of all the different capital types.

Great. Then just in terms of the delivery expectations on the base case that you guys lay out, how does that sort of correlate to consensus estimates that are out there for national housing starts? Is it meaningfully different? I haven't had a lot of time to go through these numbers and see how that maps out.

Go ahead, Ara.

Certainly our guidance for 2016 implies a little more growth than most for the national market. I think that's primarily because as we pointed out, we've had tremendous growth in inventory over the last two years in particular. As we showed on one of the slides, our growth in inventory over the last year has been higher than all but two of our peers. Based on that inventory, then getting the land getting developed, the models being built and actually delivering the homes, I think it's reasonable that our deliveries in this upcoming particular year would be higher than most on consensus for the overall market.

Great, thanks. I'll pass it along.

Thank you. James Finnerty, Citi.

Good afternoon.

Afternoon.

Just wanted to go back to the land banking, just looking back at the initial transaction you did with GSO, where it involves your own land. Could you just explain how the sort of mechanics of it worked? You identified land and land went to GSO and did cash come to you in one quarter, or did it come to you over a number of quarters? If you could identify sort of just how much cash actually transferred back to you in that initial transaction?

I'm not sure I remember the specific of that initial transaction but what happens is, is we identify land that we own and we would show it to the land banker, whether it be GSO or whether it be someone else. They would underwrite it, decide whether they were willing to purchase it from us. If they were willing to purchase it from us, they would give us cash. I think the first one was $100 million, $150 million, something in that (multiple speakers).

$125 million, maybe?

Maybe it was $125. I'm not sure whether we identified $125 million all at once or whether that was spilled over across a few months. It may have crossed quarters. I just don't recall the specifics from that.

Okay.

Or whatever it was.

And then just if we look back historically, where would we see the cash come in on the cash flow statement? Any line item we should look for?

There's actually in the financing section the cash flow statement is financing from land banking. Therefore, ones that we sell to somebody. Obviously, if it's a land bank where we haven't owned the property then it comes or as purchased inventory as we buy the lot.

Excellent.

And we do, do a combination of both where we acquire it first and the land banker buys it from us and in other cases, while it's under our contract, the land banker buys it directly. It really just depends on the details of timing and approvals.

In more recent years, it's been the latter which is we'll find land we're interested in purchasing. We will take it to the land baker. They'll purchase it and grant as an option and we only show it on our books as we take down those lost on a just-in-time basis. There was some initially that we did that was off are balance sheet and it might of been a transaction or two later, but it's a minimal part of what we've done to date.

Right, but just to address your upcoming maturities, I think you would need to theoretically do one involving your land in order to generate the cash up front, I would imagine?

Yes that's correct and again it's something we've certainly done many times in the past.

Got you. A separate question, just back to the community count growth in 2016. I know you're not going to give specific guidance, but it's been growing around a 5% clip. What should we expect in 2016? That it is going to be higher than that, or same, or just anything?

(Multiple speakers) Same question that was asked a moment ago. Good try but we, like almost every public builder, hate to try and forecast community counts into the future, just because there are so many factors out of our control. Suffice it to say, as Larry pointed out last time this was asked, the real focus should be on inventory growth, which we've already got a ton behind us in 2014 and 2015 and then inventory turnover. I'd use that in your own models to forecast revenue growth and future revenues more than worrying about community count growth. It's just too hard to be real specific on that.

Yes, I guess all that inventory has to turn into communities anyways, but --

If we have 10,000 -- controlled 10,000 more lots than we delivered homes on, growth is coming.

Yes, exactly. Thanks very much. Great quarter. Thank you.

Okay.

Susan Berliner, JPMorgan.

Thank you, and thanks for all the detail in the presentation. Very helpful. I wanted to start, I guess, with the weather in Texas and I was wondering if you guys could talk about any delays down there in closing as well as what's going on, on the labor cost front?

Sure. Well, we certainly, as I'm sure our peers have reported, suffered from the very wet season in Houston and in Dallas, but particularly Houston. It impacted our deliveries, but we bake that into the guidance that we've given you.

And I'd say on the labor front side, especially Dallas, I think our cycle times continue to elongate as there are some labor shortages in that market. So first delays were created because of weather and the land developers couldn't get the lots finished in time, so that's caused some delays and now, actually when we get the lots delivered, labor shortages are causing elongated cycle times. It's happening to a lesser degree in Houston in terms of elongated cycle times, but we are seeing longer cycle times in Houston as well. It's just worse in Dallas.

Got you. My only the question was with regards to, I guess, some of the other markets and I appreciate the color on Houston. I was wondering if you could talk a little about the mid-Atlantic and the Northeast and the Midwest, because clearly the Northeast and Mid-Atlantic did pretty well on an order perspective?

Yes. Overall, though, the mid-Atlantic is still suffering from a little hangover of sequestering. Hasn't seen the job growth and hasn't quite come in to the full recovery that it enjoyed in other up cycles. The Northeast is somewhat similar, although we've been fortunate in purchasing some new land positions that are based on those slower markets and we've done quite well on them. The key is to be able to purchase the assets at the correct value in today's slower environment. But overall, we have been helped a bit by some of the community count growth.

Great. Thank you so much.

Alex Barron, Housing Research.

Yes, thanks, guys. I was hoping you could discuss what kind of mortgage rate assumptions are you making in your longer-term forecast? Are you also assuming they stay around current levels?

Yes, I would say that we didn't really make specific assumptions regarding mortgage rates there, but I mean, if you look at prior recoveries, in every one of the prior recoveries in recent decades, the interest rates were dramatically higher than they are today and those recoveries you had significantly higher starts than we're seen today. So we do not expect that even if we had a movement upward in interest rates that it would materially impact those projections in terms of housing activity in the US would even still improve, because it would be a reflection that the economy is better and that jobs are being created. So give me higher rates, because the economy is doing dramatically better than I think our results would even be better.

I certainly think it's reasonable to assume mortgage rates are going to creep up. That certainly would be consensus and I don't think you'd find us disagreeing with that prognosis. On the other hand, we offer, in all of our communities, a variety of home sizes and we also offer options and the ability for customers to add higher levels of finishes at a higher price. I think it's certainly plausible that if interest rates go up, that customers would select a slightly smaller house or slightly fewer options. But generally speaking, we price to a very similar gross margin on each of the home offerings in every community and our smaller homes have a similar gross margin to our larger homes, so we're somewhat indifferent, and I think it's logical to assume that that might transpire along the way.

As Larry reminded us, to give you the specifics, you go back to 1982, which was a recovery market, mortgage rates actually were in the mid-teens and there were more homes sold and built in that year then there are right now. So in the long run, demographics are destiny. Customers may have to shift their expectations as to the type of house or the size of house or the finishes based on mortgage rates, but in the end, if demographics drive the need for housing and they should in growing numbers coming up, than the housing starts and sales should follow.

Right. I think the issue I see that's different when the rates were higher versus now is that home prices were also maybe at least nominally lower and that could have been just that outright prices were lower or builders were offering smaller type homes. So I think that's the only issue.

Although you've got to look and keep in mind on the affordability index, and I think there's still a good amount of room for both price and mortgage rates before the affordability index gets to normal historical levels. I mean, we are at an extreme, even with the recent increase in prices, we're at very high levels in terms of the affordability index. Certainly above historical norms. We could -- I think the market could absorb some rate increases.

I have the number and based on today's affordability index, we could absorb 140 basis points increase in margin before we returned, because index today is almost 160, before we returned to 135, which is the past peak. I think from an affordability perspective, Ara's absolutely correct. Higher rates are not helpful, so don't misunderstand us, Alex, but I think the market would absorb it. Again, I go back to my earlier comment that if rates go up there's something good happening in the economy and I think that would bode well for people's desires to make home purchases.

Right. As part of your I guess five-year outlook and so, are you guys assuming basically the same type mix shift or is there any explicit strategy to try to move down the price curve to offer more affordable type communities?

Very simplistic, we just assume that our average price stays flat for all five years.

Got it. Okay.

We only -- we have a relatively short owned land position. One of the shorter ones in the industry. So as the market shifts, as I think it's reasonable to assume and it does all the time, we have ample time to make adjustments in the type of lots that we purchase. We always have the opportunity to shift the types of homes that we offer. In general, our Company offers homes with a wide variety of sizes and prices. We've got experience from the lowest level of entry-level homes to the highest level of high-priced homes. So we're comfortable shifting our home design and offerings as the market tells us and we could do it relatively quickly if we needed to.

Right. Well, I appreciate all the detail and the outlook and wish you guys best of luck.

Thanks.

Megan McGrath, MKM Partners.

Thanks for taking my question. Just a couple of quick follow-ups. On the pricing, it looks like your guidance is implying a pretty significant increase in 4Q ASPs. I assume that's mix, based on what you've said, but if you could give a little more detail on what you're expecting for next quarter, that would be great.

Well maybe you're taking total revenue and dividing it by some deliver number or something. I don't think there's any material change in average price built into our guidance.

Well, it looks like for the full year, your guidance is for $397,000 in ASPs for FY15 and since you've been running in the mid-$370,000 range, that's sort of where the math I was doing there. To get to a $397,000 number, that would need to bump up a lot next quarter.

What was in the third quarter, Jeff?

Consolidated was $374,000 but our --

Sales price.

Sales price. That's on delivery. (Multiple speakers) Sales price was $404,000.

So I think it's just a reflection of what's in backlog.

Does that average sales price --

I was just going to say, suffice it to say, and perhaps you're looking at average sales price that's on page 33 that shows our guidance in the base case. That growth goes from $397,000 for 2015 for the full year to $415,000. It is not because of assumptions that we can raise our price. It is, as you started, primarily a shift in mix.

Okay, great. I will follow up on the other issue. And then, to follow up on your conversation about inventory turns, I know you've talked about it a couple of times, but it certainly is important to your guidance for 2016. At the midpoint it looks like you're looking for 30%-plus growth in deliveries off of a year, which would be -- we haven't got the next couple months the let's say 10% to 15% orders. It sounds like you're already expecting those inventory turns to kick up nicely next year. If you could just talk a little bit more about where that's coming from and how you're going to increase that conversion or those turns as early as next year?

Two things, as you're taking unit count we're talking about revenue growth, which means you got to take improvement that we've recently seen in average -- in the dollar amount of contracts, which is 20%-something versus the 15% in unit count, Megan. That's the first thing I would say. The second thing I would say to that is because we're flattening out inventory, we're not going to continue to grow it as we've been growing it and therefore implicit inventory turns become a little bit higher.

If you look at the appendix slide 33 and you focus on the top series of total inventory, just to elaborate on the point Larry is making, from 2013 to 2015, in just the last two years, our inventory based on the guidance for our last quarter, I mean, most of it is behind us, but housing inventory grew almost a little more than 50% from $977 million (sic -- "$977,000" see slide 33) to $1.5 million, and the biggest growth occurred in this last 12 months. So the inventory growth primarily comes when you buy land and you start developing it, that's a lot of the growth, but when you buy and develop that you can deliver it in the same quarter.

If you then look at that same line, you see that the guidance we're giving 2016 and 2017 it is dramatically less. We grow just $100 million in 2016 as opposed to about $500 million in the prior two years and then another $140 million in 2017. Inventory growth is moderating and we're returning or transforming the inventory that we just bought in 2014 and 2015 into deliveries and that's why we're projecting the inventory turnover can return to more normal levels. On that same slide, if you look at inventory turnover, as you can see that as recently of 2013 we were up almost 2.2 times turns. We're only projecting to get to 1.95 in the guidance for 2016. So I think they're fairly reasonable assumptions regarding turnover.

And implicit for 2016, Megan, is similar to what I said earlier. When you have 10,000 more lots acquired than home deliveries, it implies some growth and part of that growth is a growth in community count and although we're not giving you specifics for 2016 community count growth, there is community count growth assumed and going to occur in our guidance. It's implicit within our guidance. We're just not comfortable giving you the precise number.

Okay, thanks very much.

Adam Goodwin, Goldman Sachs.

Hi. This is Derek Ching on for Adam. Just going back to slide 18, where you lay out asset coverage for the 2% and the 5% notes. Our understanding is that your debt incurrence capacity goes up on a dollar-for-dollar basis with the underlying collateral and the equity in the joint ventures. Based on what you've provided on the slide there, you would be able to incur close to $60 million in debt in that box for refinancing purposes. Can you just confirm this for us?

I think if it was only within the box, you are right, but I think there is a guarantor -- maybe you can do specific because I am going to mess this up. We need to have capacity to do secured -- additional secured debt and the other side of the secured bonds an unsecured bonds as well. I think we're limited to something less than $60 million at this time, even though we could do it if it was only with respect to the 2%s and 5%s. That wasn't elegant, but I think I got the point across.

Okay, got it. And then, in terms of your third-party liquidity sources, I mean is there anyway you can quantify the size of the different buckets, whether it's the land banking or the model sale to lease back and are there any limits or constraints around how much you can do there?

In theory, okay, there's no limitation upon us if we wanted to take our entire $1.6 billion of inventory in land bank. We wouldn't do that, but in theory we have the capacity from a covenant perspective to do that. We don't have limitations. We're not intending to do that, but what we're trying to convey to you is we have liquidity levers that will more than take care of our near-term maturities.

Great. Thanks, guys.

Joel Locker, FBN Securities.

Hi, guys. Just had a quick question on amortized interest going forward. It had been in the mid-200 basis point range and just went up to a little over 300 basis points. What do you expect going forward there?

I think the best case, the best thing is to assume it would stay relatively consistent to what we're running at now. What ends up happening is depends on what happens with land development and projects and how long it takes to get through those projects, capitalized interest can go up or down per home, depending on the individual projects. So it can vary, but I think it's safe to say -- to assume something similar to what we're at now is reasonable.

Right. That was just the smaller inventory turn that caused (multiple speakers).

Correct. That's what happened.

Alright. Thanks a lot, guys.

James Finnerty, Citi.

Hi. Just following up on the question regarding the collateral ratio covenants. Just for both sets of secured bonds, is there a minimum collateral ratio that you have to maintain? It is a question I get a lot of times?

No.

Okay, it's just more of, if you -- for a certain ratio for, I guess, [1.75%] for the bigger issue, you are able to do certain things?

Correct.

That is what my understanding was. Thank you very much. Appreciate that.

Peter Levinson, Waveny.

Hi, guys. Thanks for taking my call and thanks for all the color. With all due respect to the self-add analyst community, I think you guys might agree what we're seeing here is history repeating, where the world had you guys dead going into the last crisis. You showed that you had many levers to pull. Your laying out the blueprint here again. I think last time, at least according to the press, your land bank partner made a lot of money by selling the front end of your CVS and I'm wondering why the Company can't capitalize on some of these discounts that we're seeing.

As you know, the preferred stock is obviously the hugest discount, but is it frustrating to you to hear the same questions T-plus seven, eight years and the same doubts or is it an opportunity? Thanks. And also a follow-up. Ara, you timed your last stock sale very well. I trust we're not going to see more of those and I would like to see some insider buying, thanks.

Actually, my stock sale had to do with the fact that I'm renovating my personal residence and just purchased a townhouse right before that I renovated, so really had nothing, zero to do with timing and frankly, I'd rather have had the stock but just had to do what I had to do to finish my personal residence.

Regarding the first part of your question, of course it's frustrating and I can understand some of the doubts that are out in the marketplace, but we just have to put our head down and keep plowing forward. As I mentioned in my comments, back in 2004 and 2005 and the solid marketplace, we were not only at the top of the industry in terms of performance in most metrics, return on equity, growth in sales, stock price depreciation, total return to shareholders, we were actually at the top of the -- number two in the Fortune 500 for 2004 and 2005.

We certainly got caught up in the euphoria of that performance and really increased our investment significantly at what turned out to be the peak of the marketplace. And then obviously, the rest is history. We saw an unprecedented recession and we are paying the price for that. But we've made it through the most difficult and challenging times. We really feel like we're in a good position and we hope to prove what we can do in the coming quarters.

Great. I appreciate that. Any comment on whether the Company can capture any of this discount rather than just --

I think our first priority, Peter, is to focus on executing our business plan and execute our business plan. In executing our business plan, we are going to raise capital if necessary in order to pay down debt as it matures and invest in land. So I would say it's not a priority at this point to be capturing discount on the preferreds or on the debt. You never say never, but it's just not our priority at this time.

Understood. Thanks very much.

Thank you. I'm showing no further questions. I would like to hand the call back to Ara Hovnanian for closing remarks.

Great. Well, thank you very much. We're obviously pleased with the sales results that we've reported for the quarter. We feel good about the sales that continue right into August, in the first month of our fourth quarter. We're looking forward to having better quarters ahead, starting with a great fourth quarter, the one that we're currently in and continuing on to 2016. I think that ends our comments and Q&A for today and we'll look forward to reporting better results in the quarters to come. Thank you.

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