KB Home (KBH) 2004 Q1 法說會逐字稿

Good day everyone and welcome to the KB Home first quarter earnings conference call.

As a reminder, today's call is being recorded.

KB Home's discussions today will include certain projections and forward-looking statements in order to help investors better understand KB Home's business prospects. These are based on an assessment of current business and operating conditions. Please be aware that actual results may differ from those that may be expressed or implied by the projections and forward-looking statements, and the differences may be material.

These discussions and the company's annual report on Form 10-K, quarterly reports on Form 10-Q and current reports on Form 8-K filed with the SEC identify various factors that could cause actual results to differ from those that KB Home will be projecting in the forward-looking statements that will be made to you day, and we urge to you read those. I would like to remind everyone that this conference call is being webcast on KB Home's web site at www.kbhome.com.

For opening remarks I would now like to turn the conference over to KB Home's Chairman and Chief Executive Officer, Mr. Bruce Karatz. Please go ahead, sir.

Thank you.

Good morning everyone and thank you for joining us to discuss the financial results of our first quarter 2004.

With me this morning are Jeff Mezger, our EVP and Chief Operating Officer, Dom Cecere, our SVP and Chief Financial Officer, Bill Hollinger, our SVP and Controller, and Kelly Masuda, our VP of Investor Relations and our Treasurer.

We are pleased to report strong first quarter results that wrapped up another excellent year for our shareholders. The disciplines of our KBnxt operating model continue to guide our business and generate strong financial results as we enter new markets and diversify both geographically and in terms of our product offerings.

We continue to build on our previous successes and believe we have the competitive advantages to deliver consistent sustainable results year after year.

At our year end conference call last December, I said we were entering 2004 with a position of strength, with a healthy balance sheet, robust backlog, and an excellent platform for continued profitable growth. From our 23% increase in orders to our 40% growth in EPS, our first quarter financial results provide a scorecard against the actions we took in the years 2002 and 2003 to expand our operations, while at the same time maintaining solid profitability and a balance sheet worthy of an investment-grade rating.

Let me lis at few of the highlights for the quarter.

Net orders increased by 23% company-wide and 25% in the U.S., as against first quarter '03. This marked our fourth consecutive quarter of strong unit growth.

We ended the first quarter with a backlog of 16,660 units, valued at $3.7 billion in revenues, up 40% from the same period a year ago. Our net orders for the quarter were higher for each of our geographic regions on a year-over-year basis.

We were especially pleased with the turnaround in our Central region and the strong net orders generated by our rapidly growing Southeast region. As a result of our net order growth, improvement in our backlog also occurred within all our geographic regions.

We posted solid top line revenue growth with company-wide unit deliveries up 18% on a year-over-year basis, and revenues for the quarter up 24% to $1.35 billion. The combination of revenue growth and operating margin improvement resulted in our diluted earnings per share for the first quarter increasing to $1.75, up 40% from the $1.25 we reported a year ago. And for the last 12 months we delivered a return on invested capital of 16.5% and a return on equity of over 26%.

Shareholders who held their stock in the first quarter of '03 saw the value of their invest men in KB Home grow by 84% as of the beginning of this week, and their annual dividend increased from 30 cents a share to an industry leading $1 per share in the first quarter.

We have a seasoned management team, and a proven business model that is driving our performance.

The flexibility of our operating model has accommodated the expansion of our business and allowed to us work through difficult markets, while continuing to deliver real financial benefits to our stakeholders. This marks our 35th consecutive quarter of meeting or beating analysts expectations.

We continue to expand our geographic footprint and diversify our product offerings to serve the first-time home buyer segment as well as first time move up, second time move up, and active adult.

With our accelerated growth in the Southeast and continued organic growth in markets favored by retirees in California, Arizona, and Nevada, our price points are continuing to rise and our buyer profile continues to broaden.

Today our buyer mix is approximately 40% first-time buyers, 40% move-up buyers, and 20% active adults. While some have expressed concern with our customer mix, we believe it is healthy, with 60% of our home buyers in the most rapidly growing demographic book ends, where household growth is projected to rise for the decades to come. More importantly, our future growth will be based in part on our geographic expansion, which extended our footprint from 20 major markets in the U.S. when we entered 2003 to 34 markets as we entered 2004.

In January of this year we acquired Palmetto Traditional Homes, further strengthening our positioning in the Southeast. Palmetto currently builds homes in Charleston, Columbia, and Greenville, the three largest metropolitan areas in South Carolina. In 2003 Palmetto delivered 570 homes and generated revenues of approximately $90 million.

We were able to immediately enhance our new South Carolina operations by providing a complete array of Southeast housing plans that were recently developed by our in-house builder services group for our operations in Atlanta, Charlotte, and Raleigh. These new product offerings are more cost efficient to build and have better architectural elevation than anything Palmetto had been building and selling in South Carolina as a private builder.

In Florida our operations are broadened significantly in just over a year. Toward the end of 2002, we acquired American Heritage Homes, which expanded our presence to Tampa and Orlando. Last quarter we announced our de novo expansion into Fort Myers and the Treasure Coast.

In the fourth quarter of this year, our net orders in Florida were up 79% and deliveries were up 66% from the year earlier quarter.

This substantial growth reflects the momentum we were able to achieve when we take a small private builder or a de novo entry and provide our brand, products, our marketing, and our common systems and processes to full bear on the market opportunity. We expect to deliver over 3,000 homes in Florida this year, compared to approximately 700 just two years earlier.

In February, we met with all of our division presidents to share our best practices and kick off our new fiscal year. I can say without question, our management team believes our next five years will be some of the best in the company's history and the esprit de corps of the management team at KB Home is the strongest I've seen in my 35 years with the company. If positive attitude counts for anything, we are on our way to a terrific new period of profitable growth and returns for our shareholders.

And now I'll ask Dom to take you through some of the financial highlights.

Thanks, Bruce.

The company's housing revenues for the quarter reached $1.33 billion, up 26% from the same quarter of 2003. We delivered 6,196 homes during the quarter, up 18% from 5,263 in the first quarter of 2003.

Our construction, pre-tax income for the first quarter of 2004 rose 45% to $109 million, from $75 million in 2003. This increase was driven by 24% higher construction revenues combined with an 80 basis point improvement in housing gross profit margin.

The company's housing gross profit margin hit an all-time first quarter high of 22.3% of revenues in 2004.

During the first quarter we also realized improvement in our selling, general, and administrative expense ratio, which further benefited our construction pre-tax profit results.

Revenues from commercial and land sales in the first quarter totaled approximately $10 million and generated approximately $1.6 million in profits, compared to revenues of $20 million and profits of $4.6 million in 2003. Commercial and land sale activities had only a minimal impact on our results, with our financial performance being driven by our core home building business. We expect commercial and land sales over the next three-quarters to remain at approximately the first quarter levels.

I would like to make one additional point regarding commercial activity and our second quarter's earnings outlook.

As you may recall in the second quarter of 2003, we reported $73 million in commercial revenues and $16 million in corresponding profits, primarily due to the sale of a commercial building in France. Since there are no large commercial sales forecasted for 2004, we expect our second quarter comparison to the prior year to reflect continued solid housing results, partly offset by negative comps for lower 2004 commercial profits in our French operations.

Our selling, general, and administrative expenses as a percentage of housing revenues in the first quarter improved by 30 basis points to 15.5%, compared to 15.8% in the first quarter of 2003.

As we stated on our earnings call last quarter, we anticipate that our SG&A expense ratio would become more favorable in 2004. With the improvement realized in the first quarter, we are on track to show a positive comparison for the full year.

Minority interest expense increased to $8.7 million in the first quarter of 2004, compared to $2.1 million in the first quarter of 2003.

The primary reason for this is our very successful Seaside community outside Monterey, California. In 2004, we expect to deliver over 180 homes in Seaside at an average price point above $700,000. Consequently you should expect to see minority interest increase on a year-over-year basis by around $26 million. Seaside is a project we are completing with a joint venture partner.

Our mortgage banking operation posted first quarter pre-tax profits of $2 million, compared to $3.7 million in the year earlier quarter. Our first quarter profits were hampered by lower retention rates and the increasing use of variable rate mortgages at all price points.

We still expect full year 2004 profits from our mortgage banking segment to improve year-over-year, as the impact of lower retention rates is offset by higher unit deliveries and lower overhead cost associated with processing loans. However, we anticipate the improvement to occur primarily in the second half of the year.

Our first quarter retention rate was 62% and loan to value, 85%. The percentage of fixed rate mornings was 77% and the percentage of FHA/VA loans was 90% of our dollar portfolio of loans.

Company wide, our total pre-tax income for first quarter of 2004 increased 40% to $111 million, from $79 million in the same quarter of 2003.

The company's first quarter EPS of $1.75 also increased 40% from the earlier quarter EPS of $1 a quarter and was 16 cents ahead of the $1.59 consensus estimate for the quarter. We had 42.4 million in fully diluted shares outstanding, which was approximately the same number of shares we had outstanding in Q1 of 2003.

We closed the quarter with $161 million in cash related to our construction operations and we maintained a healthy leverage ratio, with net debt to total cap of 45.5% at February 29th, 2004. We believe that our leverage ratio, along with our financial -- other financial metrics, demonstrate that we are operating within guidelines that support an investment grade rating.

In fact, in January we completed the bond offering for 215 million of senior notes. The offering had an investment grade covenant package and almost half of our buyers were from the investment grade community. The coupon on the 10-year notes was 5.75%, and the transaction closed at the tightest spread to Treasuries for a high-yield deal in the last five years.

Our inventories at February 29th, 2004 totaled $3.2 billion, including both land and homes under construction, up from $2.3 billion in the first quarter 2003.

We expanded our investment in land and land development from 20 to 34 markets in the U.S., and our community counts are up about 25% to approximately 330 U.S. communities for the quarter.

Company wide, we had 143,000 lots owned and controlled at February 29th, 2003, compared to 114,000 lots a year ago. Approximately 52% of these lots were under option contract.

We are pleased with the strategic land persistence we have across the U.S. and in France and believe we have a strong pipeline to support our growth goals.

Included in inventory are unsold homes and homes under construction.

With our continued focus on build to order, we had less than 500 completed unsold homes at February 29th, 2004, which approximated 1.5 unsold homes per active selling community, or 5% of total units under construction.

We also continued to maximize our return on invested capital by turning more than 70% of our inventory dollars in five to six quarters, and focusing on our build cycle times. The company's inventory turn of 1.7 times is one of the highest in the industry while maintaining a four-year pipeline of land either owned or controlled.

Our net orders for first quarter were up 23% company wide and 25% in the U.S., which was in line with our expansion and community counts. Our cancellation rate for the first quarter improved from 35% in 2003 to 29% in the first quarter of 2004, as we raised our FICO score requirements to record the initial sale and set aside more credit challenged borrowers until we had the necessary documents for loan approval.

In fact, our FICO scores company wide averaged 690 in the first quarter of this year.

Finally, we ended year with a robust backlog -- we ended the quarter with a robust backlog of 16,660 units, up 25% on a year-over-year basis. The dollar value of the backlog at February 29th, 2004 was approximately $3.67 billion, up 1.04 billion or 40% from the $2.63 billion in 2003. Our backlog value was up at all geographic regions, setting us up for continued solid performance in 2004.

In summary the financial matrix in our business continue to improve. We have a strong and high quality backlog, an investment grade balance sheet, good liquidity, a lower buying cost, improving margins, and a national footprint.

Now I will turn it back to Bruce for the wrap-up of our first quarter conference call.

Thanks, Dom.

Our outlook for the next several years reflects our continued strategy to maximize the favorable competitive advantages afforded to large public builders in a fragmented home building market still in the early stages of consolidation.

We are operating in an environment that continues to remain favorable for the home building industry. This environment is characterized by constrained housing supply, strong demand, as well as positive demographic trends and low interest rates.

With the U.S. economy expected to strengthen, we believe the home building industry will continue to perform well.

We are confident that the disciplines we have in place will continue to guide our business in the right direction, and continue our proven track record of financial success.

Right now, KB Home is in its best geographic position in our 45-year history. We entered 2004 strategically positioned in 34 major U.S. markets, where 450,000 housing permits are issued annually, with only a modest 6% share of the overall market.

In our West Coast Region which is California, net orders were Up 21% and our dollar backlog of $1.2 billion increased more than 40% quarter-over-quarter. Demand in California continues to outpace supply, driving up prices for limited available inventory.

In our Southwest region, net orders were up 4% over a very strong first quarter of last year, which was up 28% over the year before, 2002. And our dollar backlog was over $800 million, up 45% quarter-over-quarter.

We saw demand in our Central region pick up nicely in 2004 first quarter, with net orders up 12% and quarter end backlog totaling $629 million, up 5% quarter over quarter. We realigned our overhead costs in the region and we are now able to operate with a more cost efficient structure going forward.

In the Southeast region, we are now operating in 14 markets where over 175,000 homes are being built annually. Net orders for the quarter were up almost 200% and our dollar backlog entering the second quarter was over $400 million. With a strong backlog, improving margins, and new community openings with our full array of KB offerings, our housing revenues in the Southeast are expected to approach $1 billion dollars this year from just over $100 million in 2002.

We're excited about the strong foundation for growth and momentum at KB Home.

We've become more diverse, both geographically and in terms of our products, than ever before. We also have a well defined business and financial strategy, fully supported by one of the best and most experienced independent Board of Directors in our industry.

Our financial position is solid and we continue our balanced approach to growth while maintaining an investment grade balance sheet, paying an industry leading dividend, and having a long track record of using cash to repurchase our stock while maintaining our overall credit ratios at investment grade levels.

In closing, let me update you on our 2004 outlook.

With approximately 6200 deliveries in the first quarter, up 18%, and 16,660 units in backlog, up 25%, we are clearly on track to deliver our guidance of 31,000 homes this year.

We're off to a good start with a strong first quarter, but still need a solid second quarter new orders to remain on course for the year. We'll provide, of course, a new update on deliveries as our second quarter conference call.

Nevertheless, we are raising our revenue guidance for the year to approximately 6.8 billion, up from the 6.6 guidance provided last December.

Our 2004 revenues are expected to be up about 16% from the $5.9 billion achieved last year, primarily due to both higher volume and average selling prices. Prices are expected to increase due to both the favorable pricing environment and a migration of our product mix to more move-up and active adult buyers.

We are also raising our earnings per share guidance for the year from the $10 per share provided during our year-end conference call to $10.25 per share This represents an increase of over 16% from the $8.80 we achieved in 2003.

This concludes our formal remarks, and before taking your questions, I'd like to remind everyone that we are having our investor conference in New York next week, March 25th. At the conference we will cover a wide array of topics including our geographic expansion, product, margin expansion opportunities, and the long range growth potential for our business.

We request reservations. If you would like to get further information, please contact Kelly Masuda and you can either call our office here or get him on kmasuda@kbhome.com.

Now we'll be happy to open up the lines to your questions.

Thank you.

Today's question-and-answer session will be conducted electronically. If you would like to ask a question at this time, it is star 1 at this time. Again, star 1 for any questions.

Please make sure your mute function is turned off to allow your signal to reach our equipment. We'll pause for just a moment to give everyone a chance to signal. Once again, it was star 1 for any questions .

We'll go first to Larry Horan with Parker/Hunter.

I think you're doing a great job. I really don't have any questions about the quarter.

I'm more interested in the group that you formed with other -- 12 other builders that was recently written up in the trade magazines. As to, you know, more specifics on that and the role you expect to play?

Larry, I can't give you a great amount of detail. I personally did not attend the kickoff meeting. Someone from our office did.

The purpose is, you know, over, I'd say, the last five years, the large builders have talked to one another in ways that I think are very positive for the future of each of our companies.

While we're fierce competitors on the field, we all have a common interest in moving our industry forward in a positive way. This was one of those efforts in which we all collectively feel that the industry in many places is still viewed the same way as it was 20 years ago or 30 years ago, and each one of us perhaps would express it in his or her own personal way, but that we feel the industry has matured tremendously since those early days.

The whole mortgage finance system has evolved hugely from the S&L delivery days, the '70s and '80s, and we can't quite figure out how to get out of the box, so this is a -- an effort. Exactly how it will unfold, how it will communicate to whom, is still unfolding.

Okay.

The message, I think, is fairly consistent amongst the 13 of you, but I understand from the article that you're still trying to get the strategic message that you all will agree on so then you can go forward and market it consistently. Is that true?

Well, yeah, the message -- I mean, there could be parallel messages. I don't want to speak for the, you know, there's been a firm retained, and -- but we think that it would be helpful. Exactly how it gets communicated is -- still remains to be seen.

I think you remember back, I don't know, was it a couple years ago that we placed some ads in the Journal, and there were about six or seven of us, and talking about valuation and comparing our industry to several other industries that benefited from significantly higher valuations, and yet financial results certainly didn't merit the differences and, you know, some people thought they were terrific, and other people said, you know, that we were -- really had very little impact. So we're going to try and do a better job this time.

Okay, so it's mainly a marketing issue at this point.

Yeah, yeah. Well, communication.

I mean it's -- I, if, speaking for myself, I think that many investors that I meet who remember the days of Eli Broad, still was, for the younger folks on the call, you, was one of the pioneers in the home building industry, still think that they understand the home building business and interest rates go up, you know, you short it, if interest rates go down, you go long, and it's very simple. And, you know, we in the industry don't share that view. And so the question is how do you, in an effective way, educate people as to the differences, and if you have any thoughts, you know, love to hear it.

Well, just the one thing, I said, on CNBC yesterday, I think the last five years have given everybody the evidence they should need, because you've operated through recessions, you've operated through a period where the Fed was fighting irrational exuberance in trying to slow the economy down and was so effective that they did. And now you're in an expansion period, yet your multiples have consistently been lower than they were between 92 and 98, when we were in long-term economic expansion and a relatively stable but higher interest rate environment.

So it just seems like nobody's -- well, not nobody. There is an increasing number of buy-side firms that I think are buying into it, but they tend to be small firms.

Yes.

Yeah, I do think that, you know, as the -- as the market caps grow, we're going to have a new group of investors which may look at the industry differently.

Okay. I don't want to take any more of your time.

All right, okay, thanks, though.

We'll go next to Stephen Kim with Smith Barney.

Hi, it's Jed Barron for Steve Kim. Congratulation on a solid quarter.

Just two questions, if I could.

In respect -- with respect to your new guidance here, just wanted to discuss with you the opportunities that you see for an expanding gross margin this year. Looks like your margin held up pretty well in the first quarter, and just wanted to talk about how you see that trending over the course of the year.

Well, I mean, I think we would say, always in our guidance we don't see any additional price increase through the rest of the year, so we think that the margin improvement will stay better year-over-year, probably not at the same levels that we saw in Q1 because we will pick up some material cost increases from lumber, which will be offset by some price increase So it will still be favorable year-over-year but probably not by the tune that we were, 80 basis points in Q1.

Okay, fair enough.

Secondly, really just a housekeeping question, if I could. I think you had mentioned it, but the ending sub count for the U.S. and total, if you could just repeat that for me.

Yes, I can.

In the first quarter we had approximately 400 active selling communities, which was up 24% from 322 a year ago. In the U.S. we had 330 active selling communities, up 25% from 263 a year ago, and as you recall, orders in the U.S. were up about 25%, which is consistent with our community count expansion.

Okay. Great. Any updated guidance terms of community counts for the year or -- ?

Yeah, for the year 2004, we're still forecasting around 460 communities, up 18% from 390 in 2003, and the U.S., we are averaging -- we will average around 370 communities, up 19% from 310 in 2003.

Perfect.

That's all I needed. Thanks very much.

Yes, actually, I have a couple of questions as well, it's Steve Kim.

By the way, also, you know, congratulation on a great quarter.

Thanks, Steve.

I know you guys have, you know, tried to educate investors and analysts over the last six months or a year with respect to the perception that you are a sort of entry-level builder, and you said on your call her about 40% yes, but 60% no At the same time, of course, your average selling price is, you know, pretty low, and it's the lowest, really, amongst the public builders, and you have a very high concentration -- you have a pretty large presence in California, and so really, it does seem that all things considered you really do, you know, emphasize that market if not -- even if you're not exclusively tied to it.

My question is, do you foresee -- maybe moving ahead three, four years, as the builders get increasingly large, and I know -- and as KB sort of expands its presence and probably doubles its share maybe over the next four or five years, do you anticipate continuing to focus on sort of, you know, a 40% of your mix or greater at sort of the affordable end of the market, or do you anticipate that the company has the ability and the desire, maybe, even, to diversify into different price points over next few years?

The first point I'd like to make is, when you talk about the ASP, I don't know if it's the lowest, but if it is, and I don't think it is, but if it is, we're within 10% of virtually all of the other large builders with the exception of, you know, Toll, of course, is in another category. So the difference where our average price is --

215.

215, and if you were sitting at 240, 250, you'd be in with, right there at the, I think at the high end the pack with everybody else, so there's not a marked, marked market difference.

We are definitely expanding our product line, and I don't know what the percentages will be.

We like first time buyers, we like move-up buyers, we like active adults, and as the company continues to grow, I do not think we can necessarily favor any one over another. We're going to look for opportunities and appropriate places to build and if the land and market merits more expensive homes, we're going to do it, and we certainly won't abandon first-time buyers because that's the single largest segment of the market.

It happens to be something that we do well, and a lot of other people don't like to play and compete with us there. So we wouldn't want to give that up, either.

Steve, can I make a comment?

Yeah, sure [indiscernible].

Remember, we're primarily in the Sun Belt states, and where the land cost is lower, so our average price point may be lower. Some of the other builders are in the Upper Midwest and the Northeast, so they have a, I think, a geographical mix which may make their price point slightly higher than ours.

Okay. Couple of follow-ups, if I could.

One is, as you -- as you move or increasingly build different types of product, do you anticipate that, you know, that you would probably want to bring some expertise in some of those other product categories via acquisitions of, you know, perhaps entities, whether they be large or medium or small, like you did with Rayco when you were looking to sort of develop the different technique, or like as you've seen Pulte with their Dale Webb acquisition. You , a number of other -- you've seen examples of that.

Typically we've often seen it in the acquisition bend. Is that the way you sort of see things?

I think that's certainly an avenue, and to the extent that we found opportunities, that would make sense.

The expertise between selling a home for $350,000 versus$ 250,000 really is nonexistent. I mean, the difference in the price essentially is the land. It's not so much in the home, and if you go and look at homes that sell for $100,000 more, they are built exactly the same and look exactly the same as one another, it's just a little different piece of ground.

When you get into attached housing, condominium development, and certainly active adult communities, there is a different expertise, and to the extent that we could find those opportunities, I think we would be interested.

Okay.

Last question.

I know that KB has always done really just a top-shelf job of marketing your product. I mean, I think that's really been one of the core competencies of the company through time.

Recently a lot of the builders have been talking about branding. And branding is something which I know you guys were really one of the earlier ones. I think, in really sort of pushing there, by changing your name.

I guess my question relates to, how -- receptive what are your expectation with respect to a brand? Do you believe KB Home can ultimately achieve a measure of brand power sufficient that the market would need to pay a multiple, in part, for the power of your brand, or do you believe that housing is just one of those peculiar things where people don't necessarily want a brand, they would prefer to, you know, you won't by a car built by somebody who lives across town from you, but you'll by a house from somebody like that.

You know, is there something different about housing or do you think that we just haven't seen the power of brand yet?

In some ways it can be both. I don't think there's a simple answer.

I think that we know from our studies that consumers are not particularly motivated to buy because a builder is number one. The ideal builder for -- and again, we're talking percentages here, a majority of buyers is, they'd love to have their own personal small little builder who they believe gets up early every morning worrying about their home, and not an assembly line operation.

On the other hand, the trick to rapid sales is through great traffic, and the greater traffic you have at your communities, the more sales you will have and also the greater pricing elasticity.

And the question is, how do you drive greater traffic through a KB Home community than a ABC community. And there's a lot of different theories about it, but I believe a lot of that can be attributable to a brand. And part of establishing a brand is through advertising, and marketing.

And as our companies become $20 billion companies, it seems to me quite likely that we're going to start seeing national advertising campaigns. And national advertising campaigns will be intended to establish and reconfirm and build brands to get people when they're driving around to turn into your community rather than your competitor's.

Now, does it have the same brand appeal as Louis Vuitton versus another handbag? Probably not.

I'm not sure you can charge 30%, 20% greater simply because of the brand, because if you look at it who is our biggest competitor? It's not any of the companies you follow, it's the existing resale market, and there's no brand there.

And -- but it's all part of it, you know, there's -- the builders we all spend lots of money driving people to our communities. We believe firmly that we get an edge by having a single brand that I think we present effectively, and as our company grows and our marketing reach grows nationally, we think it will pay dividends.

Great. Thanks very much.

Yep.

We'll go next to Margaret Whelan with UBS.

Hi, Bruce.

Yeah, hi, Margaret.

Really excellent job.

I think probably in your prepared comments, the most important thing you said was how much the esprit de corps has improved within the organization, and you said it's better than it's been in your 35 years. What has actually changed?

Well, one, as our business has grown nationally, we have a lot more people. So at this meeting, we were looking at 50 senior executives, and since I've been here for a long time, I am probably in as good a position to assess the quality of this management team, and as they say in military terms, you know, I'll go to war with them.

You'll be leading them into the battle?

Well, you know, someone has to do it, and that's my job. I feel that they're more experienced, more committed to achieving our objectives, and doing it in the way that we want to do it.

You know, as you know well, while the business is operated locally, while the local presidents make all the important calls, they still have a business model that is applied the same in Jacksonville as it is in San Diego.

And we're sitting here with a group now that has average tenure of the senior management group -- we figured that out the other day. What was the tenure? 17? Yeah, I mean, 17 years. So we're -- I mean, I'm the old guy, but you're still with a group that have a long period of time within the operation and the company, and people feel comfortable, very supportive.

One of the things that we had to live through was, each one wanted to succeed and really didn't want to take the time to help a fellow colleague in another city.

Today, we have a team where people who have demonstrated particular expertise, let's say in model presentation, in marketing, getting on an airplane and flying and helping a colleague in another city with a challenged community. Or someone who has a friend that's got a interesting property transaction that will actually take a day off and facilitate an introduction for one of his colleagues, even though, you know, the benefit, obviously, we have stock options, so I always remind people that we all benefit if our colleagues benefit, but it isn't always so evident in reality, and I think we have reached a very good point in our management maturity, and I feel very good about it.

Can I go back to Dom for a second?

Sure.

Dom, you said, in terms of the financing, that you've increased the FICO score and you are changing that a little bit, has your cancellation rate [indiscernible] as you've been doing that?

Yeah, we did comment in the call that our cancellation rates have dropped from, I believe it was 36% in 2003, we're now down to 29% this quarter. So we've seen an improvement.

And is that going to help the margin if you're not building ahead of time?

Yeah, well it really helps, it helps you converting the backlog into deliveries at a faster pace, and I think that's one of the reasons you saw a strong first quarter delivery.

So the conversion ratio should be a little higher?

I think if we could be between 25 and 29, we'd be thrilled for this year. That would be a huge improvement year-over-year, especially with our backlog up 40%.

Bruce, when you look at the Euro being so strong, do you think about divesting the operations at all in France?

Well, you know, the stock's trading just a smidgen, I think, under 32 Euro, which is about 40 U.S., and the stock's trading at a higher multiple than the parent. Gets me upset. But, you know, we don't. We don't think any more than what I've expressed to you and others over the years. There may be a time but right now, no.

Okay. And just finally, I just wanted to make one observation.

In terms of having the group revalued, when -- I think you had done the best job of this when you acquired Rayco, where you kind of ignored the whole one to two times book and you paid up for it, and it turned out to be an excellent acquisition. Maybe if, as a group, you don't hide for us what you're paying for acquisitions like Colony, and you share it, whatever it is, and it works for you the way we're seeing in your numbers already, then the group will be revalued because it will prove that you're worth more than two or three times, which I don't agree with anyway, but if that's what the Street is thinking.

Yeah. All right.

That's something we should take into consideration.

Okay.

Yeah.

Thank you.

All right. Thanks, Margaret.

Bye, guys.

Yeah, bye.

We'll go next to Ivy Zelman with Credit Suisse First Boston.

Good afternoon guys, good quarter.

Hi, Ivy.

Hi.

I just want to go through some questions relating to financing. You mentioned that the dollar value why are FHA/VA were at 19%. What would that be in units?

I think it was about five points higher, Ivy, about 24%.

So that's quite a drop, because you were at 37%, and is that because of the FICO scores going up?

You know, what the mortgage OpEx has told us is that the -- yeah, the more qualified FHA/VA buyers are now going to the more commercial loans and getting better rates.

Okay.

And with respect to the ARMs, 77%, you said, are fixed, the rest being non-fixed. What was that a year ago, roughly?

The fixed, a year ago it was 95% in 2003.

95% fixed?

In Q1.

89% in 2002.

Okay.

With the increase in ARMs, obviously lower margin, did that have something to do with the decline in financial services operating income?

Oh, it certainly did, because you get a lower spread in your interest rates for the 30 days that you hold the loan,and then the sale of the servicing is also at a much lower rate. So you lose --

And what would you say is the most popular ARM product that you see?

What we've seen is the three year, five year, seven year arms, and the interest-only loans have become very popular with borrowers that have cash and are just thinking of buying a home and freeing up free cash flow.

On the interest-only's, realizing that Fannie and Freddie just set new guidelines for that, when did you really start doing interest-only's, and what percent of the hybrid product do you think interest-only's account for now?

We just started interest-only in the fourth quarter last year, because it was so popular.

Okay.

And what do you think it -- is it jump? Is it really explosive?

You know, I don't know. I mean, I guess we'll have to track it and follow.

I've got one. I mean, I think it's terrific.

And your LTV ratios, do you know if that only includes the first mortgage? Because some people take combined mortgages.

It does only include the first mortgage.

So if you were to include the second mortgage when people do combined mortgages, do you know what the LTV would be?

I don't think we have any second mortgages in the LTV. I don't think any second mortgages is having any impact on it. Maybe I answered the wrong way, but if it's a piggyback loan, the LTV includes both.

It does include both.

Yes, it does.

And what was your loan to value last year?

Loan to value last year was 86%, this year is 85%.

Okay.

And lastly, with respect to your down payment assistance program, you know, you had given us statistics on that, and we just were wondering if you had an update as of the first quarter? What percentage are -- ?

We just quit tracking them, because, I mean, they're qualified buyers, so we didn't see any reason to even worry about it anymore.

You quit, I'm sorry, what?

We don't even track it anymore. As long as the buyers qualify for loan, that's all we're concerned with. In some markets --

Right, but the cost is, you're actually -- because you're gifting the down payment, it's a cost of running business, it's like a selling incentive, so obviously it is a different loan when you're gifting the down payment and, therefore, it eats into margin.

Ivy, this is Jeff. While we don't track and post the numbers, our general sense is it's flat year-over-year. We haven't seen a big uptick in equity.

Okay.

And switching gears for a second, with your active selling communities expected to be up in the U.S. about 19% to 370, can you give us sort of a breakdown by the regional growth, where do you see the -- obviously Southeast, I'm presuming, has the most growth, but can you walk us through the regions?

We've said that it would be up across all regions. Certainly will be up later in the year in California, strong in Las Vegas, very strong in the Southeast, and up less in Central.

Okay.

Up less in the Central?

Up less in the Central.

And one quick question on the, I guess, success that you've had, I mean, Bruce, you look back, I guess now ten years ago, remember when you first entered Las Vegas and Arizona and obviously it's been a phenomenal home run, you're at a very high level, we show you being the largest builder in Las Vegas, I'm not sure if you guys are doing 3,000 homes or what the statistics show, somewhere plus 3,000. Do you think you get to a level where it's going to be tough to grow it from that 3,000, if I'm right on my numbers, or is it your goal to sort of sustain that level because it's such a profitable machine, but where do you see you tapping out in Vegas, just as an example?

I don't know that there's a number, but I think that there is a point where we would not push growth, and in particular, in that market that you're talking about, we're not interested in aggressively growing.

We'd like to grow earnings without growing the top line.

Right. Is there a reason, Bruce? Does there get a point where you just cannibalize yourself?

Well, I think that, one, you know, market demands can change, and you have to decide, what is it going to take to -- when you do have that size of a business, are we ending up trading margin for volume, and that, we're not interested in doing. And I think it's prudent, you know, we have a marvelous business, I think we execute the best of anyone in that particular market, and, you know, let's look at ways in which we can even execute better and enhance our profitability without increasing our risk profile.

Sounds like it makes sense. I guess the one thing I'm vague is, you know, with the Bureau of Land Management controlling the lot supply and, you know, we are hearing the latest auction with, you know, acre costs $500,000 compared to, you know, not less than five years ago, something like $100,000. What are you doing to mitigate that higher inflation and the cost of the dirt, in terms of keeping the machine operating at such a high profitable level?

Well --

Are you just increasing the density?

Well, there's definitely increasing the density, and you have to make decisions about which of those parcels you think work best. They're not all fungible.

And to date, even though the land has increased tremendously, I would also say that prices have moved right along with the increasing land values, and it's still is one heck of a lot cheaper than Southern California, which is the closest metropolitan area to Vegas.

Right.

Okay, thanks, guys.

Bye, Ivy.

We'll go next to Carl Reichardt with Wachovia Securities.

Morning, guys.

Bruce, I'm thinking about the historical implications of KBnxt and the fact that you guys have been historically very tight on building spec inventories.

Now you're sitting on backlog that's huge, with average selling prices that have gone up fairly dramatically.

Are there instances in which you might consider doing more spec, especially at the entry level, just to try to get your cycle times down? And I'm thinking the risk of having an entry-level buyer in backlog for 9 months at a fairly high price, who has an interest rate locked. I mean, how do you view that? Does the model still make sense for you, with backlogs as thick as they are?

Carl, this is Jeff. I can answer that.

In our business model, we really focus on the cycle time and how to shave days off between contract and start, and then start to close. And we're delivering, in the first time product in particular, at less than six months probably. Around the country.

And we find when we go to inventory, we sacrifice margin, which we don't like to do, and we're able to support our growth targets in all of our markets right now without having to revert to speculative starts.

So we've can breed our whole team to avoid specs because we haven't found that to be a winning game.

And what's, Jeff, do you know what your attached/detached mix is and has that changed relative to 12 months ago?

Not significantly, Carl. It's a regional thing.

We're doing a little more attached today in places like California or Colorado, but not much outside of that.

Do you have an idea what the mix is?

It's -- it's single digit percentages, I would imagine.

Oh, really?

Yeah.

And then last question, as you look at the extent to which you've been able to raise prices, especially recently, and I recognize some of this is mix, when you're opening phases and raising prices so significantly as you go, do you fear, or how do you mitigate the fear of, getting in a position where a market softens a little bit and you've got prices high and now you've got to reduce prices down? I know, as we know, know demand/supply in housing is sometimes not elastic.

How do you mitigate that concern?

It's an interesting mix for us, Carl.

We're very strategic in our land acquisition and price points in the product, when we bring it to market. If the demand is there in any given community, we will be opportunistic and push prices on the next phase.

Most of our opportunities like that aren't major landholdings that would run for years, and when that community sells out, we will fall right back to our price point strategy and hold prices down from a Land Act point of view.

We're not riding the inflation wave to raise margin. We're staying very strategic.

And that's the benefits of diversification. Market to market really helped in that regard, yeah.

Okay, good. Thanks a lot, Jeff, appreciate it. Thanks a lot, guys.

Bye.

We'll take our next question from Steve Fockens at Lehman Brothers.

Hi, guys, just one quick follow up.

Dom, on the FICO score of 690 for the quarter, how might that compare to, say, a year ago and general trends over the last few years, and is that a type of number that you would expect to be somewhat similar going forward?

It is up year-over-year, and it's up, actually, three years in a row, and, you know, whether it will continue to go up is hard for me to say, but it's -- I think the discipline we've put in actually drove it up.

So if it's up the past three years, what might it have been, roughly, around three years ago?

I have to tell you, I don't even know, Steve.

Okay.

That was it, thanks very much.

We'll take our next question from Jim Wilson at JMP Securities.

Thanks, good morning.

Was sort of wondering, as you continue to evolve the mix of product, is there any -- is there specific target, is I guess what I'm getting at, are there certain markets you think, based on the land conditions, maybe California is a good example, that there's a greater relative increase in move-up or active adult compared to entry-level, anywhere that you've specifically targeted for any particular reason, that has an influence on the mix or might have an influence on average sales price as we move forward?

No, I mean, our emphasis is not in any one market or another, it's really from a overall company discipline, to have management teams have a little broader focus on market opportunities.

Whereas, you know, five years ago we might have discouraged more move-up communities, today we actually are looking for more opportunities in those markets throughout our footprint.

Okay.

And as you think about, I know, a lot of your active adult is more mix of a type of buyer, but are you -- are you planning on more, even, golf course oriented or just pure age-restricted actual communities and in your new plan, and if, so how much?

Well, I can't give you quantitatively, but clearly, intentionally, we are looking at those kind of opportunities, yeah.

Okay. All right. Good.

Thanks.

Good quarter.

We'll go next to William [Nadler] with [indiscernible].

Congratulation on a very good quarter.

My question was, you mentioned the sale of the building in France. It looks to me like that might have equaled something like 10% of the second quarter fully diluted earnings. Would that be right, something like 20 cents a share?

Yeah, 16 in pre-tax profits, after-tax would be 25 cents.

Hello.

Also, in terms of the 10.25 estimate, does that include any buybacks in shares and did you buy any shares in the first quarter?

No, we did not. But we have a current authorization of 2 million shares, and the assumption is that there would not be buyback.

In the 10.25.

Yeah.

And also you mentioned, at one point, 6% share. I assume you were referring to 6% share of the markets you served.

Yes.

And what percent of the country do you not serve?

Um --

You know, what are the total markets and how many of the ones -- ?

There's, I think, a million homes started every year and we're in, I think, a market where I think there's 450,000, so we're in about half the market. And we're in 34 of the top 35 top MSA's. Top 35, I would say, maybe, we're in 60% of the market, as far as annual starts.

Less.

Maybe less.

Yeah.

So 50% of the markets. So on national basis, one could say you have, perhaps, a 3% share.

That would be right.

Right.

[Indiscernible] on a million homes, yes.

And on your retention of the 31,000 units forecast, you know, it looks to me before cancellations, your backlog, looking at the first quarter sales, your backlog represents something like two-thirds of that 31,000 unit forecast. So it would strike me that given no significant change in the economic environment, that's a pretty realistic or conservative forecast, in terms of units.

We agree.

And last question.

On the mortgage banking pre-tax income, you sort of suggested the second quarter will continue to be unfavorable trends. What gives you the confidence that the second half will be better?

Well, one, we think that our retention rates in our newer geographies will improve, so that will help.

And secondly, we really had an issue with execution, and we've made some changes, and we believe that will improve.

And third, we've lowered our overhead, which will kick in in the second half, and that will help.

Okay. Thanks very much.

Uh-huh.

We'll now take our final question from Barbara Allen at Natexis Bleichroeder.

Thank you.

Dom, I've been listening to Yankees for 24 years, but you're the fastest talking one I know, so I've got to ask you to clarify for me. When you're just talking about commercial and land revenues, you said the next nine months would be the same, revenues and profits, the same as the first quarter?

Yes, I did.

Is that for the total nine months or for each quarter?

For each quarter. And I'll slow down. I didn't know I was such a fast Yankee.

Maybe I'm just a slow writer. I don't know.

Secondly, you mentioned on the minority interest, due to the Seaside California JV, you said it would add $26 million for the year or would -- you expected a total of $26 million

Add, add $26 million for the year.

To last year -- ?

Compared to prior year, so it would be over $50 million. Just over $50 million.

Over $50 million.

In interest, minority interest for the year.

Over $50 million. Okay.

And the last one was the number of lots owned and controlled this year. I'm not sure I got the right number.

143,000 lots owned and controlled, 52% are optioned.

I'm sorry, the total, 143,000?

143,000 lots owned and controlled.

Right. And what was the -- can you just give me the total?

I said 52 -- 143,000 lots and 52% of those under option contracts.

So it's 143 verse 114?

Yes, over 114 last year, that's correct.

Okay, that's it.

The other question is for Bruce. Could you comment for us on Guy's discussion about expansion in France and any implications for the parent company?

There are opportunities -- continue to be opportunities, it's not new. We've taken advantage of them for several years now, to acquire smaller builders throughout France.

We believe that there is a movement of people and thereby housing demand to the nicer weather areas of Southern and Southwestern France, and we have a sizable business there, but we think we have opportunities to increase the size. And so he's doing it, it has no financial implications to us, since all of the financing in France is done there, although it does get consolidated on our balance sheet, even though we, we don't guarantee any of the loans.

It should -- you know, if he is able to execute successfully, it should create up side for them this year.

Okay. Thank very much.

Yeah, thank you, Barbara.

Gentlemen, at this time I'd like to turn the conference back to you for any additional or closing remarks.

Well, I want to thank you all for listening in, and hope that we will see you next week at the St. Regis on Thursday, the 25th. And I simply want to reiterate the solid state of current business conditions and the optimism that we have for our business going forward, and look forward to talking to you at the end of Q2.

Have a nice day.

Ladies and gentlemen, this will conclude today's teleconference.

We do thank you for your participation, and you may disconnect at this time.