Lennar Corp (LEN.B) 2015 Q2 法說會逐字稿

Welcome to Lennar's second-quarter earnings conference call.

(Operator Instructions)

Today's conference is being recorded.

If you have any objections, you may disconnect at this time.

I will now turn the call over to David Collins for the reading of the forward-looking statement.

Thank you, and good morning, everyone.

Today's conference call may include forward-looking statements, including statements regarding Lennar's business, financial condition, results of operations, cash flows, strategies and prospects.

Forward-looking statements represent only Lennar's estimates on the date of this conference call, and are not intended to give any assurance as to actual future results.

Because forward-looking statements relate to matters that have not yet occurred, these statements are inherently subject to risks and uncertainties.

Many factors could affect future results, and may cause Lennar's actual activities or results to differ materially from the activities and results anticipated in forward-looking statements.

These factors include those described in this morning's press release and our SEC filings, including those under the caption Risk Factors contained in Lennar's annual report on Form 10-K most recently filed with the SEC.

Please note that Lennar assumes no obligation to update any forward-looking statements.

Now, I would like to introduce your host, Mr. Stuart Miller, CEO.

Sir, you may begin.

Great.

Thank you, and good morning, everyone.

Thank you, David.

And thank all of you for joining us for our second-quarter conference call.

This morning, we are in New York City at our Rialto Capital office for our Board meeting yesterday and for today's conference call.

I'm joined by Bruce Gross, our Chief Financial Officer; David Collins, who you just heard from; and Diane Bessette, our Vice President and Treasurer.

Rick Beckwitt and Jon Jaffe are here, along with Jeff Krasnoff, and other members of our management team as well.

Some will join in for our Q&A period.

This morning, I'm going to be brief in my opening remarks, as I feel that our views about the market have been consistently expressed on prior calls.

Bruce is going to jump in and break down our financial detail, and then, as always, we'll open up for Q&A.

And, as always, we would like to request that, during Q&A, each person please limit yourself to one question and one follow-up.

So, let me go ahead and begin, and begin by saying that we're very pleased to report our second-quarter results, as we continue to perform consistently across our platform.

Our performance reflects our excellent management team, some of whom are here with us this morning, executing a well-crafted operating strategy in a solid macro environment.

As we've grown our Business in the wake of the economic downturn, Lennar has become not only the most profitable homebuilder in the business, but we continue to grow and mature our additional business segments that represent significant opportunity for the future.

Simply put, Lennar has become much more than just a homebuilder.

With that said, it's still the homebuilding macro environment that defines our core operating strategy across our Company.

As we noted in many of our prior conference calls, and some of our other public statements, we continue to believe that we're still in the early stages of a multi-year, slow but steady housing recovery.

This year's spring selling season confirms that the market is continuing to improve at a very consistent pace.

Over the past couple of years in our conference calls and public statements, we've noted a number of themes that define the uniqueness of this recovery, and they've informed our operating strategies.

Let me briefly review some of those themes.

First, the production deficit of both rental and for-sale homes relative to the need for housing in the United States continues to create pent-up demand against a very limited supply.

Without a dramatic increase in the number of homes built in this country, we will continue to be short dwelling units for a growing population.

Supply is limited, and demand is building.

Next, the regulatory environment for mortgages remains challenging, and limits the number of entrants for the for-sale market.

QM and QRM rules, together with ATR, the ability-to-repay rules, continue to restrict qualified purchasers from accessing the mortgage market.

While these rules have been evolving and easing at the margin, they have exacerbated an already impaired consumer psychology to create a perception that home ownership just might not be desirable.

Demand is slowly coming back to the market.

Third, the millennial generation is changing a lot of thinking.

Their attitudes are proving to be different, and the doubling up of the millennials during the downturn will ultimately unwind and give way to household formation.

We've already seen evidence that this is beginning to happen, and household formation is beginning to grow.

While new households might not be able to, or desire to, purchase a home, they will need a place to live, and rental might be their only option.

Fourth, first-time purchasers have begun coming back to the housing market, more slowly than expected, and more slowly than they have historically.

They've had the most difficulty accessing the mortgage market.

Credit limitations have been most constraining to the first-time buyers.

And although that is beginning to open up, as many have reported, they are not yet jumping into the marketplace, and they're also the most susceptible to price and interest rate increases.

Finally, a slow, steady recovery with limited land supply and limited access to capital constrains the number of smaller, less capitalized homebuilders that can compete for the smaller demand.

This has enabled the larger, better capitalized builders to pick up a larger portion of the smaller pie.

Overall, this is a very favorable environment to be a well-capitalized national homebuilder.

We have believed, and continue to believe, that the downside in the housing market is very limited, and the upside very significant.

We believe that the market is downside supported by the production deficit that has yielded a limited supply of both rental and for-sale housing in the country.

Any pullback in the housing market will be short-lived, as there's a need for shelter across the country, and there's very little inventory and almost no likelihood of mortgage foreclosures, given the stringent underwriting standards of the past years.

And while demand has remained constrained, buyers have continued a steady return to household formation and home ownership as the market opens up, driven by consistently low interest rates, and now higher wages and lower unemployment.

These are the themes that have continued to define our operating strategies across the Company.

In homebuilding, we've continued to focus our attention primarily on the higher-end, first-time buyer, and the move-up market, as our average sales price has reached an historical record high of $348,000 this quarter.

While approximately 25% of our homebuilding business continues to be geared to first-time home purchasers, our broader, new household strategy has been aimed at the rental market.

Our $6-billion apartment strategy is proving to be very well timed, as rental rates are soaring, and vacancies are at historical lows, driven by a supply-demand imbalance.

Our Financial Services group has continued to expand alongside our primary housing business, while we've expanded our retail platform to become the fifth largest retail non-bank lender in the nation, and we're able to capture an expanded share of the re-fi business as it exists.

With our large-scale, in-fill community strategy in FivePoint, we've positioned ourselves to benefit from some of the best located land in California, as that market continues to improve.

And finally, our Rialto Capital asset management platform enables us to invest across real estate and financial product types, as an opportunistic play on this long-duration recovery.

In conclusion, we are very pleased to present our second-quarter results this morning, and we're confident that we have the right people, the right programs, and the right timing to continue to perform this year and into the future.

Let me turn it over to Bruce.

Thanks, Stuart, and good morning.

Our net earnings for the second quarter were $183 million, which is a 33% increase over the prior year.

Revenues from home sales increased 30% in the second quarter, driven by a 20% increase in wholly owned deliveries, and an 8% year-over-year increase in average selling price to $348,000.

Our gross margin on home sales in the second quarter was 23.8%, and we are still on track with our goal of 24% for the full year.

The prior year's gross margin percent of 25.5% included a $9.6-million benefit relating to insurance recoveries and other non-recurring items, which benefited the gross margin percent by 60 basis points.

Sales incentives declined sequentially from 6.3% in the first quarter to 5.8% in the second quarter, and from 5.9% in the prior year.

The gross margin decline year over year was also due to increased land costs.

Year over year, labor and material costs were up approximately 7% to $52 per square foot.

This is consistent with the year-over-year change that we noted in the first quarter.

We have a continued focused effort on reducing costs due to commodity declines, primarily in lumber, copper and steel.

We are still seeing offsetting labor and manufacturing pressures across products and geographies.

Our previously stated guidance was to achieve a 15- to 25-basis-point improvement in the combined SG&A and corporate G&A lines for all of 2015.

In this quarter, we exceeded that guidance, as SG&A improved 80 basis points over the prior year.

This was primarily driven by operating leverage resulting from this quarter's organic growth, as our 30% increase in home sale revenue came out of our existing 31 homebuilding divisions.

Our corporate G&A line was 2.1% as a percentage of total revenues.

The operating leverage on this line was offset by increased investments in technology, as we are focused on improving productivity in all aspects of our Business.

Gross profits on land sales totaled $3.5 million versus $5.6 million in the prior year.

And equity and earnings from unconsolidated subs was $6.5 million in the second quarter, which was primarily driven by the sale of commercial land at our El Toro joint venture to Broadcom.

This was partially offset by operating expenses in other joint ventures.

Other interest expense declined year over year from $10.3 million in the prior year to $3.8 million in the current quarter.

This quarter, we opened 96 new communities to end the quarter with 667 active communities.

Our sales pace improved to 3.8 sales per community per month in the second quarter versus 3.7 in the prior year.

And in the second quarter, we purchased approximately 6,000 home sites totaling $445 million versus $379 million in the prior year's quarter.

We have been continuing to focus on targeting shorter-duration land purchases as part of our soft pivot strategy.

However, this quarter, it also included the strategic acquisition of a mixed-use parcel totaling $151 million adjacent to the Tesla Corp.

land in Fremont, California.

Our home site count for owned and controlled now totals 168,000 home sites, of which 133,000 are owned and 35,000 are controlled.

Our completed unsold inventory ended the quarter with approximately 1,000 homes, which is in our normal range of one to two per community.

Our Financial Services business segment had strong results, with operating earnings increasing to $39.1 million from $18.3 million in the prior year.

Mortgage pre-tax income increased to $33.5 million from $16.7 million in the prior year.

The increased mortgage earnings were due to higher volume, as mortgage originations increased 72% to $2.4 billion, from $1.4 billion in the prior year.

The increased volume resulted from a strong refinance market, as well as further expansion of our retail channel, more home closings by Lennar, and a higher capture rate of Lennar home buyers.

The capture rate of Lennar home buyers improved to 82% this quarter from 77% in the prior year.

The expansion of our retail channel has positioned us to capitalize on the strong refinance market this quarter.

Refinance volume increased by over 300% versus the prior year to $450 million in originations.

However, approximately 80% of our total originations this quarter were related to purchase volume.

With the recent increase in mortgage rates, we don't expect the refinance activity to continue at the pace of the first half of this year.

However, we are still well positioned to capture additional purchase business as the housing recovery continues.

Our title company's profit increased to $5.1 million in the quarter, from $2.2 million in the prior year, primarily due to higher volume, and benefits from strategic initiatives, including closing less productive branches over the past year.

Our title team continues to focus on maximizing the title opportunities within our ancillary businesses.

Turning to Rialto, our Rialto business segment generated operating earnings totaling $7.6 million compared to $13.4 million in the prior year.

Both amounts are net of non-controlling interest.

The investment management business contributed $30.4 million of earnings, which includes $7.3 million of equity and earnings from the real estate funds, and $23.1 million of management fees and other, which included $4.8 million of a carried interest distribution from Rialto Real Estate funds to cover the income tax obligation resulting from the allocations of taxable income to Rialto.

The carried interest for Rialto Real Estate Fund I under a hypothetical liquidation now stands at $108 million.

Rialto Mortgage Finance continues to generate consistent earnings.

This quarter, they contributed $721 million of commercial loans into three securitizations, resulting in earnings of $29 million for the quarter before their G&A expenses.

Our liquidating direct investments had a loss of $3.1 million.

And Rialto G&A and other expenses were $41.9 million for the quarter, and interest expense, including warehouse lines, was $7 million.

Rialto ended the quarter with a strong liquidity position, with over $176 million of cash.

Our Multifamily operations continued to grow.

We now have over 230 associates located in regional offices nationwide.

We ended the quarter with 2 completed and operating communities, 24 communities under construction, 6 of which are in lease-up, totaling over 6,600 apartments, with a total development cost of approximately $1.6 billion.

Including these communities, we have a diversified development pipeline that exceeds $6 billion and over 20,000 apartments.

As expected, there were no sales in the second quarter, and we had an operating loss of approximately $8.7 million.

Our tax rate for the fourth quarter was 34.2%.

And our balance sheet and liquidity remain strong, as our homebuilding cash balance ended the quarter at $639 million.

And during the quarter, we increased our credit facility to $1.6 billion, which includes a $263-million accordion, and also extended the term to 2019 and reduced the interest rate.

There was $450 million outstanding under this facility at quarter end.

And our leverage improved this quarter as well, by 50 basis points year over year, as our homebuilding net debt to total cap was reduced to 47.5%.

We grew stockholders' equity 17% year over year to $5.1 billion.

And at quarter end, our book value per share increased to $25.04 per share.

During the quarter, we issued $500 million of 4.75% senior notes due May of 2025.

This issuance extended our debt maturity ladder, continued to reduce our borrowing rate, and further strengthened the Company's financial condition.

Finally, I wanted to update our goals for 2015.

Starting with deliveries, we are increasing our delivery expectations for 2015 to between 24,000 and 24,500 homes.

With the recent rains in the central region, we experienced some minor construction delays at the front end of construction and, therefore, we are updating our backlog conversion ratio to approximately 75% for the third quarter, and a range of 90% to 95% for the fourth quarter.

Second, we still expect our gross margin in 2015 to average 24% for the full year.

Our third-quarter gross margin is expected to be close to what we just saw in the second quarter, while the fourth quarter is expected to be a little bit higher.

Third, we are increasing our expectations on corporate G&A and SG&A leverage, as we're now expecting potential improvement for these combined categories to 30 to 40 basis points as you look at the full FY15.

Fourth, Financial Services -- we are increasing our goal for Financial Services' earnings to earn $100 million to $110 million for the full year.

Included in this increased guidance is the expectation of some cooling in the strong refinance market in the second half of this year.

The remaining quarterly amounts are expected to be spread similar to last year.

Rialto is still expected to generate profits between $30 million and $40 million for the year, and that's weighted a little more heavily to the fourth quarter.

And our Multifamily operations, as we've seen strong rent growth in our lease-up communities, our partners have decided to maximize the sale price in two of our rental communities and, therefore, we are moving the sale of two communities into early 2016.

We are now expecting three communities to be sold in 2015, one in Q3 and two in Q4.

We expect a small loss in Q3.

However, Q4 should mark the start of consistent quarterly profitability for our Multifamily segment.

Next, our joint ventures and land sales, we continue to expect close to a break-even bottom line for our joint ventures in Q3 and Q4.

And we are on track with approximately $25 million of wholly owned land sale profit for the full 2015, with the bulk of the remainder forecasted for the fourth quarter.

Our tax rate is still expected to be between 34% and 34.5%.

And we are right on track to hit our goal of 675 net communities by the end of the year.

With these goals in mind, and a backlog dollar value up 23%, we are well positioned to deliver strong top-line and bottom-line growth throughout the remainder of the year.

Let me now turn it back to the operator for questions.

(Operator Instructions)

Our first question is from Mr. Stephen King with Barclays.

Sir, your line is now open.

Thanks very much, guys.

Strong results.

Good to see.

Thanks for all the detail, as well, on the guidance.

A couple of questions.

The first question I think that probably is on everybody's mind is, with the strong order pace that you've seen, if you could provide a little bit of color around particular market segments, I would say in particular the entry level.

What are you seeing there in a way that you could possibly break out for us?

And then also surrounding the order question, are you seeing an ability to raise prices within your communities?

If you could just comment about that because there's obviously a lot of mix shift that comes into play.

Sure, Steve.

It's Rick.

I would say that across the board in all product types we're getting pricing leverage.

It varies by market and by community, but pretty much across the board we've seen pricing power.

We don't know how much longer we'll be able to nudge prices up, and we're consistently, as we've done in the past, balancing pace and price.

But we are seeing pricing power.

And some markets are much stronger.

California and Northern California, we're seeing great strength.

We've seen good strength in the central part of the United States.

Sales prices were actually up in Houston, as well.

So, we're pretty confident that's going to continue.

Steve, this is Stuart.

A lot of people are asking about the first-time home buyer.

And as Rick noted, it's really across the board that we're seeing improvement across markets.

That includes the first-time home buyer.

We are starting to see the first-time home buyer come back to the marketplace.

But from a basically very flat level of virtually non-existent first-time home buyer to some beginnings of improvement, it feels a lot better.

It feels like the first-time buyer's coming back but they're not jumping into the market, still constrained by the mortgage market.

So we'll have to sit, watch and wait through the next quarters to see how that first-time buyer market continues to evolve.

As Rick noted, you're seeing some pricing power and the first time buyer is probably the most sensitive group to price increases and interest rate fluctuation.

So, I think it's going to be a push-and-pull program for some time to come as pricing power continues to be pretty strong.

Yes, absolutely.

Okay, that makes a lot of sense.

Thanks for that.

The second question I had, I'm going to jump over to the joint venture line.

I think you'd mentioned last quarter you were going to have the sale to Broadcom of that building.

We actually saw that when we were out there.

And you mentioned that gain was offset by some, I think you said, expenses in some of the other JVs.

Can you just describe -- was there something that's temporary in some of those other JVs that were leading to a loss this quarter that offset the gain from Broadcom?

Am I understanding that properly?

And then, also, is there anything new to talk about with respect to that parcel you guys were, I think, one of two finalists for north of San Fran?

I forget the name of the town but if you could comment on what you're thinking about the prospects for that.

Hi, Steve, this is Jon Jaffe.

That's Concord Naval Station and we're still one of two finalists.

That decision won't be made probably until September by the city council.

And then going back to the other expenses on the joint venture line, Steve, we did have some start-up expenses with the shipyard community as we're just at the very beginning of that.

And that was the bulk of the offset.

And that's something that you're just seeing at the beginning of that community.

As deliveries start to kick in later this year we don't expect that to continue.

Okay.

Great.

Thanks very much for that.

Thank you.

Our next question comes from Mr. Stephen East with ISI.

Sir, your line is now open.

Thank you.

Good morning, guys.

If we looked at, just following on with your ancillary businesses.

Stuart, if you wouldn't mind walking us through -- you talked about the back half of this year, but as you look at 2016 with your businesses -- what type of cadence do you get out of apartment sales, land sales coming from your JVs?

And what do you still need to do to ultimately monetize Rialto?

What type of work do you have left there to recognize some value out of it?

Steve, I highlighted at the beginning of this year, as we came into this year, that 2015 would be a significant statement year for the ancillary businesses.

In each one of them we're seeing significant moves towards maturity.

I think that FivePoint, you're starting to see Hunter's Point come online.

I think Bruce highlighted that we'll see deliveries as we get to the back half of this year.

We've seen a number of deals start to mature, as we've highlighted in prior quarters.

And FivePoint is, I think, a group that most people have gone out and visited and been impressed with that progress.

I think as it relates to our apartment communities, the fact that we're postponing two sales of apartments that we had expected to have this year is a distinct positive.

We have partners that are seeing the improvement in rental rates beyond our underwritten expectations, and they'd like to hold on just a bit longer.

So, we're going to benefit from rental income but not from the sales of those as we had anticipated.

But we're going to see a recurring program of selling apartment communities as we go into 2016, and sustained profitability there.

And then, of course, Rialto, I think the exciting part of Rialto is the successful investment of the first two funds along with a mezzanine fund at very attractive return levels that really marks a reputation in the asset management business that is going to lead right into Fund III.

We're going to begin our raise -- not going to begin, we've begun our raise for Fund III and we'll start to see that come to fruition the back part of this year.

Each of these programs is getting to a level of maturity to a point where we can start to see not only monetization on the books of the Company, but also strategic positioning for these companies for the future.

I can't speak specifically about that, but I think that, as I said at the beginning of the year, you'll start to see those plans mature towards the back half of this year and into 2016.

Okay.

Thank you.

And then if you looked at your land strategy and your land spend, you've talked a lot over the last year and a half about soft pivot.

Can you give us an idea of where you are in that process, how you're thinking about the market over the next few years, and what that implies for your land spend, not only this year but as you look into the next couple years?

Yes.

We've spent a lot of time, Steve, on this soft pivot.

A lot of it derives from lessons learned through the last downturn.

As a management team in the corporate office and all the way through to the field we've been very focused on shortening what we call snoot and tail, the beginning and ending parts of each property that we're purchasing.

And while we still see some tremendous opportunities to purchase strategic land parcels in the market, we were first to the market.

We have a strategic advantage in that regard.

The Fremont purchase that was highlighted by Bruce is a good example of that.

We've been very focused on bringing down the duration of land that we're bringing on our books, unless we find a really unique opportunity, as with the Fremont property.

As we go through 2015, we're continuing our soft pivot, as we've defined it.

We're continuing to agitate around that.

And we feel that in our primary homebuilding business, as we go into 2016, we fully expect to be cash flow positive even while we grow.

And that is in large part derived from the soft pivot.

We expect as we go forward we're going to see a very strong program evolve that is driven by shorter land positions and a strong drive to push efficiencies through the system.

Okay.

If I could ask you just quickly on that duration question, if you look at what you're buying today versus, say, you rewind two years ago, what would be the duration difference between those?

I think you've got to realize that we're looking at averages over a Company-wide footprint.

The Fremont property is an example of a much longer duration property, but I think a very, very exciting purchase.

And yet if you look across the platform, our average duration of land is probably coming down by about a year, year and a half on the purchase side as we sit right now today.

And as we look forward we think we'll drive that duration down even further.

All right.

Thank you.

Steve, some of the stuff that we're doing is contractually.

When we were buying at pennies on the dollar several years back, we were prepared to take it on balance sheet and close because we got such a significant discount to market.

Today, rather than closing right now, we're contracting to close a couple years down and moving the land through the process.

So, we're benefiting from wholesale pricing today but don't necessarily need to come out of pocket for cash until later.

Okay.

That's helpful.

Thank you.

Thank you.

The next question comes from Mr. Bob Wetenhall with RBC Capital Markets.

Sir, your line is you now open.

Hey, good morning, and congratulations on a really strong quarter.

I wanted to ask about the conversion rate in 1Q in the last quarter that just passed.

It came in higher than our expectations.

And, Bruce, maybe you could touch on -- you mentioned rain has been an issue in terms of stopping deliveries at the schedule.

How should we think about pace as we move into the back part of the year?

So, Bob, we talked about in our central region that this is at the front end of construction.

There was water in parts of Texas and Colorado that delayed some of the starts.

We will catch up, but initially we did lower the backlog conversion ratio a little bit going into Q3.

But, in total, if you look at deliveries for the year, we did increase them by 500 compared to the prior guidance.

Got it.

That's helpful.

And I wanted to ask Stuart and Rick a question.

Which inning of the cycle do you think we're in?

You've been referencing the soft pivot strategy, so I'm just trying to assess how far we are into the cycle at this point in your estimate.

And with that being said, it sounds like some very positive commentary around the multi-family business.

What's the outlook for that in terms of retaining it or possibly spinning it out?

And what kind of structures are you thinking about?

Thanks very much and good luck.

Let me take that first, Bob, and then Rick will follow up.

I think we've said pretty consistently we think we're in the early stages of this recovery.

This has been a slow, steady recovery that's been defined by pretty shallow levels of production.

And those shallow levels of production are creating short supply for a growing demand.

And we think that as we look ahead this recovery remains fairly shallow sloped but consistent for a number of years to come.

So, we feel that we're still in the early innings of this recovery and have been guiding our Company and strategy accordingly.

Rick?

I think that actually goes for the multi-family segment, as well.

The demand for rental properties today is off the charts.

We're seeing rent growth and lease-ups much faster than what we've underwritten, which is one of the reasons we deferred the sales for two of the properties in the next couple of quarters.

As we look forward into 2016 and beyond, we've got about 26 properties that have the ability to be sold and monetized during the next couple of years.

That doesn't even bring into the question the several billion dollars of pipeline that will be started over the next couple of years.

We couldn't be prouder of the team and what we've done there.

And we're going to have to really see what size this thing can get to and what the best options are for our shareholders.

And just one last comment on that, at the end of the day, as we've noted, the first-time home buyer is just starting to come back into the marketplace.

They're going to start to come back and that's going to have that upward ripple effect of affecting first time, first-time move-up, second-time move-up.

It really has an upward cascade in the marketplace as the first-time home buyer starts to come back to the market.

It's going to be a slow process because of the mortgage market.

Again, this market's got a lot of legs.

Great.

Thanks very much and good luck.

Thank you.

Next question comes from Mr. Michael Rehaut with JPMC.

Sir, your line is now open.

Thanks.

Good morning, everyone, and also congrats on the quarter.

The first question I had was just maybe, if possible, a little more granularity on the Texas market, aside from the floods.

You were able to put out similar results to last quarter.

Just wanted to get a sense, just given that it still is a topic of interest among investors, if you could give us a feel for -- last quarter Houston was down 7, this quarter down 9, so a similar rate -- if that was driven more by community count or sales pace.

And then across the price points or demographic segments, which areas or parts of the market are stronger or weaker.

Yes, it's Rick.

I'll tell you, generally Texas is a strong market.

Starting in Dallas, the market's on fire.

We've got excellent positions throughout the market and we're benefiting from the strong economy that's in Dallas.

And that's really at all price points.

We have a big entry-level position there and we're benefiting from that.

We've got move-up product and we're all over the price points.

Austin and San Antonio are good, solid markets and we're well positioned there.

Houston, which is in everyone's focus, it's about the same market as it was last quarter.

If you look at our gross margins, our gross margins actually increased sequentially quarter to quarter.

Sales were off about 9% this quarter.

We could have sold more homes.

We decided to focus on price as opposed to pace and we're going to continue to do that as the market evolves.

The entry-level market in Houston is strong and getting stronger.

When you get to the higher price points in Houston, it gets a little softer.

But that's not all the Houston market.

It depends where you are.

Closer to the oil corridor, it's a little softer.

We're seeing huge traffic in the market at those price points.

But people are cautious because they don't know whether they'll be laid off or not.

But with all that said, the weather in Houston was interesting this quarter.

It was a little rainy, some people heard, on the news.

The rains absolutely shut down the market for a number of days during the quarter.

There were days where our offices were actually shut down because there wasn't electricity and the floods were significant.

That impacted, as Bruce highlighted, some of our early-stage construction.

Later-stage construction, of course, was dry then and we were able to complete those homes.

So, as we look ahead, and as Bruce highlighted, that will affect some of our conversion ratio in the next couple quarters.

But really, pretty marginal impact in a fairly strong market.

That's great.

Appreciate that.

And obviously your other regions are doing pretty strong right across the board, so the diversity certainly kicks in, as well.

Second question, Bruce, you had mentioned some of the different line items of guidance, and I believe multi-family you described the strategic position to hold on.

I might have missed it but did you update what the outlook now is for the multi-family earnings for the full year?

If you could just share that.

For the full year, Mike, I didn't put a number out for the full year, but we'll be close to breakeven, possibly a slight loss now that we shifted two communities into early 2016.

But I think the key thing is that starting in Q4 we will now have a consistent program with this segment that will generate consistent profitability each quarter going forward.

I appreciate that and of course understand the strategy there.

But with that last statement, though, there's been talk around whether you would hold onto these apartments and more just try and work through a lease-up and cash flow type of dynamic or continue to sell them out.

You just mentioned that with Q4, with the sale of two buildings in Q4 now expected, that would be the start of a more consistent cash flow generator.

So, is there any shift there?

Because I think over the last quarter or two some of us had been hearing the possibility of maybe not selling as much as you would expect or had initially expected in terms of actually selling the buildings but more holding on from a cash flow standpoint.

Just want to know how you guys are thinking about that today.

We highlighted early on with our apartment program that our initial phase would be to define the business through a merchant build type program.

And that's what you're seeing us move through right now, is a focused merchant build program to establish the platform, to define it in the mind of investor groups, for people to understand what we were doing and how effective we can be.

We're still going through that initial phase right now but we've highlighted that there would be an evolution of this business as we go forward and as it achieved maturity.

You're really asking the question, how will this business mature as a business, what will its prospects be, how will we define a build-and-hold strategy.

And that's really a question to be answered over the next quarters.

I think that we're continuing to identify that merchant build program but we've highlighted that through the course of this year, as this business achieves maturity, we think we'll be able to bring clarity to how the future will evolve for the business for this platform.

And you can expect that over the next quarters we'll be able to bring that definition to you.

As it stands right now, I think that we're starting to identify some elements of certainty as to profitability in the early stage, and over the next quarters we'll give better definition.

With all of that said, I think that what you're seeing is a very credible program in a well-timed addressing of the market conditions as they exist.

And we are extremely well positioned to bring that definition to this platform.

So you'll see that over the next couple of quarters.

Great.

Thanks so much.

Thank you.

Next question comes from Mr. [sic -- Ms.] Ivy Zelman with Zelman & Associates.

Sir, your line is now open.

Hey, guys, it's actually Alan on for Ivy, so I guess the sir does apply here.

Congratulations on the good quarter.

Stuart, you obviously spent a lot of time detailing the ancillary businesses and we hear the excitement there.

If we look at the earnings today, I think roughly 80%-plus of your earnings still come from core homebuilding.

And it sounds like you're still very bullish and optimistic about the outlook there.

As we look forward two, three years, should we think about the share of earnings between homebuilding and ancillary, should that look materially different?

Or are you just expecting these multi-family Rialto to grow in line with homebuilding, and the split between earnings to still look pretty similar as we look out a couple years?

We've been very clear that our core business remains our homebuilding and financial services-associated businesses.

And those will continue to be at the core.

The ancillaries are opportunities for the future.

I think that as we think about our business, our homebuilding business is strong.

It has been strong.

It has assumed a leadership position in the homebuilding world.

And I think that Jon and Rick have done an incredible job of building a platform that's continuing to grow and to become more efficient as we go forward.

I think that the relationship in earnings, as we look ahead, I don't know that I can identify exactly what the proportions will be.

I think that one of the concerns about the ancillary businesses is that they can tend to be somewhat lumpy in the way that their earnings are presented.

And they're not easily modeled.

And because of that, I'm not easily able to model what the relationship in earnings will be as we go forward.

But as homebuilding continues to grow, we think that the ancillaries are going to grow also, and we can't really lay out exactly what those proportions will be.

Got it.

I appreciate that.

And a follow-up to your comments on the cash flow, it sounds like, I think you said 2016 was the year where you expect homebuilding cash flow to start inflecting positively, and for the Company to be a consistent generator of cash for the next several years.

As you think about the opportunities with that cash, how would you rank where that cash might go between deleveraging, M&A, share buybacks, any other potential uses of that cash?

We've talked about this in prior calls.

We do expect to be a cash generator as we mature the business, and those numbers should get bigger over time.

We think that the opportunity to deleverage, to return cash to shareholders and to invest further in the platform that we've been growing are all equal considerations.

And I think we'll leave those considerations open for when the time comes.

But I think that you can expect that we have a balanced mindset in thinking about each of those opportunities and that's how we'll run the business.

Thanks a lot.

Good luck.

Thank you.

Next question comes from Mr. Jade Rahmani with KBW.

Sir, your line is now open.

Hi, thanks for taking the question.

I want to ask about your views on consolidation in both the homebuilding sector as well as in Rialto's business lines.

On the homebuilding side, we did see the Ryland - StanPac combination.

Think positively of that.

With regard to us, though, and our views on consolidation and acquisition, it's a tough go for us because we are, I think, probably the best land acquisition machine out there, and when you're buying companies today you're buying land assets.

We have found that we're able to buy those assets through negotiations with sellers at a cheaper price than acquiring a Company and paying the goodwill associated with the Company.

We have continued to look at smaller acquisitions and we'll continue to do so.

But with regard to the larger public companies, those don't seem to pencil out for us today.

This is Jon.

I would just add that as you look at our geographic landscape, we're well positioned in the markets that we want to be in.

So, we don't have the need to make an acquisition to enter new markets or for immediacy relative to delivery.

So, we're very particular about looking at these opportunities and, as Rick said, really don't find that they're priced very well.

But, listen, at the same time, there's an attraction to being part of a larger home builder.

Some of the smaller home builders might find that access to capital affords unique opportunities.

I think that we're going to continue to see consolidation in the industry.

There are likely to be larger scale combinations and maybe some smaller ones.

I think that positions us particularly well.

You asked additionally about Rialto.

I think that one of the most exciting parts of Rialto is that it has become a formidable force in asset management and deploying capital.

And the management team infrastructure that Rialto has created is not immediately apparent.

But it presents itself as a very attractive combination M&A kind of platform for a lot of opportunities out there.

And we continue to hold Rialto up as an opportunity set that can be defined in a lot of ways, not the least of which is through M&A.

Thank you.

Last quarter I think you noted a single family rental community that you had opened.

I was wondering if you could give an update on that and if you're seeing any indications, positively or negatively, toward that sector.

I think that it's one of the more interesting programs that we have inside the Company.

And, in fact, this past quarter Jon, Rick and myself jointly went out to review the progress on that community.

It's an unusual engagement.

You would think that it's kind of easy and normal to just build a rental, single-family community.

It's actually a different and unique animal.

So we're going through some evaluation of how it's working out.

The immediate review that we've seen out there is that it's a pretty exciting opportunity for our Company.

It requires some additional thought, some massaging of the floor plans, the management program.

But in a world where single-family rental is becoming a more dominant theme, and the scattered single-family acquirers have shown some metrics that are interesting but nonetheless the management component is complicated, this single-family rental community is really very exciting to us.

We continue to look at it, continue to experiment with it, and we're probably going to launch another one or two as part of our evaluation as we go forward.

Thanks.

Very helpful comments.

Thank you.

Our next question comes from Mr. Buck Horne with Raymond James.

Sir, your line is now open.

Good morning.

Could you give us a little bit of color on the monthly progression of the order trends, just as we move through the quarter?

Any comments also you might be willing to share on June so far.

I'm just wondering if we saw any impact from higher rates, call it, through the month of May, any signs that higher rates may have pulled some fence-sitters into the market just to get in front of the rate move.

Hi, this is Jon.

We saw pretty steady activity at our communities throughout the progression of the quarter.

Month over month they were relatively balanced.

So we didn't see any big swings.

It was, as I commented earlier, just a very healthy spring selling season with strong activity in Florida, California, Nevada, Pacific Northwest, and then very good activity in the rest of our states.

Didn't really see any impact from the mortgage adjustment in rates as we went through the month of May.

And, as is typical, we don't comment on the current quarter activity.

Okay.

All right.

Fair enough.

And related to the mortgage market, we had a recent announcement from the CFPB that they were going to postpone implementation of the TILA-RESPA moves until early October.

But that's still on the horizon.

How do you guys gauge the potential for any market disruption related to those changes on documentation and closing procedures?

How well do you guys think buyers are prepared for that?

And what impact do you think might happen as a result of those changes?

As you know, Buck, we are capturing 82% right now of our home buying customers within our mortgage company.

So, as you look at that population, we feel very comfortable that our team is going to be putting through the changes, testing it, be ready.

And we're very comfortable that we'll be in good shape.

The question is, for the remaining percentage, where there are smaller mortgage companies or others that have to sell a home, that's just a question that we'll have to wait and see if there's any impact there.

Internally, of course, we're focused on making sure that we're not as back-end loaded in the last few days of a quarter or a month, and trying to be proactive to accelerate that so there's minimal disruption even if some of the other mortgage companies have some issues.

Let me add to that and say that -- you might or might not know and the investor world might or might not know -- that Bruce has been running the dual position of being Chief Financial Officer and running our Financial Services Group.

We've always had our Financial Services Group run up through our Chief Financial Officer.

But it's more significant today because this is a rough and tumble mortgage market that is defined by a regulatory environment that has a lot of laws of unintended consequences coming through.

And the new legislation, the new regulations that will come into effect in October, will have some ripple effects.

We are all over this and Bruce has been heavily focused on thinking through the nuanced changes that will come into the market in anticipation of some minor disruptions.

We've been fortifying our mortgage Company.

I think you've seen it in the results in the numbers.

But behind the scenes and the operations of our mortgage business we recognize that there's potential for disruption and we're trying to stay ahead of the curve.

So, we're going to have to wait and see exactly how the implementation comes forward, but we think that we're doing a lot of anticipatory work to really mute any negative impact that can come through in the back half of the year.

Thank you.

Very helpful, guys.

Congratulations.

Thank you.

Our last question comes from Ms. Susan Maklari with UBS.

Ma'am, you may proceed.

Thank you.

Just building on the RESPA-TILA point, do you think longer term this could change the overall competitive landscape and perhaps do that such that it favors the larger builders, just given your resources and ability to help buyers with the complexity?

As I noted, there are a lot of unintended consequences embedded in some of this legislation -- or regulation, I should say.

I think that in many of the instances the consequences are that larger players are benefited, and the larger player's ability to adjust, to adapt and to spend the dollars to be ahead of some of the regulatory changes works to the benefit.

We certainly think, and given the amount of focus that Bruce has put on our Financial Services Group in preparation for the regulatory changes, I think it does advantage us and does slant the playing field.

I think that the smaller home builders have had difficulty getting up, running and engaged in a capital-constrained market that has favored larger builders.

They've had more difficulty accessing land.

I think that given fact that we have a large mortgage subsidiary that's able to do a large portion of our business versus a smaller builder that might have to depend on outside lenders, I think it does additionally slant the table in the larger builder's favor.

Susan, this is Jon.

I would just add to Stuart's comments that the mortgage process today is very invasive and very frustrating for the home buyer.

And the close working relationship that you're hearing Stuart and Bruce describe between our homebuilding operations, our mortgage company, really facilitates a much better customer experience.

We track this and we see this in our surveys of our customers.

And I think it will result in better referral rates for us and achieving a higher level of capture in our markets as compared to our smaller competitors.

Okay.

Great.

That's very helpful.

And then in terms of the labor and materials side of things, you noted its was up about 7%, of in line with what you saw in the first quarter.

As we look at the back half of the year, I know you've within doing some work to try and get some benefits coming through, given the commodity declines.

How should we think about that relative to some of the offsets that you've been seeing?

This is Jon.

There's continued pressure.

We see it more on the labor side perhaps than on the materials side in today's world, especially as starts between single-family and multi-family pick up.

In areas from framing and drywall, masonry, you see a pressure there.

So, I think we'll continue as an industry to see pressure on that, so you'll see some level of price increase as we move forward.

And we do look to take advantage of every opportunity, whether it's in lumber, rebar, different materials, to find moments in time to lock in some pricing to offset that.

I think we'll see that percentage increase slowly moderate down, but I think you should expect to see some continued pressure as we move forward.

All right, let's call it there.

I hope that you're hearing in our answers and our tone that we're enthusiastic about our business.

Our core homebuilding businesses and Financial Services Group are well positioned to continue to post strong results as we go forward.

We're enthusiastic about the positioning, the maturity of our ancillary businesses, and look forward to continuing to update you in future quarters as to our progress and to our strategy going forward.

Thank you for joining.

Thank you, sir.

And that concludes today's conference.

Thank you all for joining.

You may now disconnect.