MDC Holdings Inc (MDC) 2007 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to M.D.C. Holdings' 2007 first quarter earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note that this conference call is being recorded. I will now turn the call over to Mr. Joseph Fretz, who will read the statement concerning forward-looking statements. You may begin.

Before I introduce Larry Mizel and Gary Reece, it should be noted that certain statements made during this conference call, including those related to M.D.C.'s anticipated home closings, home gross margins, backlog value, revenues and profits and responses to questions may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements involve known and unknown risks, uncertainties and other factors that may cause the Company's actual results, performance or achievements to be materially different from the results, performance or achievements expressed or implied by the forward-looking statements. These and other factors that could impact the company's actual performance are set forth in the Company's 2006 Form 10-K.

It should also be noted that SEC Regulation G requires that certain information accompany the use of non-GAAP financial measures. Please review the investor relations section of our website, richmondamerican.com, for any information required by Regulation G.

I will now introduce Larry Mizel, Chairman of the Board and Chief Executive Officer of M.D.C. Holdings.

Good morning, and welcome to MDC's 2007 first quarter conference call and Webcast. As acknowledged recently by many of our peers, the weakened demand for new homes that we saw in 2006 persisted throughout the first quarter of 2007. The home supply/demand imbalance has become further pronounced since the beginning of the year, with inventories of unsold new homes in the U.S. reaching their highest level in more than a decade. Mortgage foreclosure and delinquency rates have continued to rise and the well-documented fallout in the subprime lending market, combined with the tightening Alt-A underwriting standards have made it even more difficult for many buyers to qualify for a mortgage. As a consequence, the expected spring selling season has failed to materialize.

As our industry adjusts to current market conditions, we continue to take actions that we believe will help us take advantage of future opportunities. These actions generally have been focused on strengthening our balance sheet and financial position, generating cash flow, adjusting our lot supply, right sizing our operational infrastructure, reducing costs, improving our business processes and enhancing our interaction with customers. We have made significant progress in each of these areas in the 2007 first quarter.

Here are some of our accomplishments. We reduced our supply of owned and optioned lots by 11% to 24,600, which contributed to a 40% reduction over the last 12 months. Our lots under option were reduced to approximately 7,100, with only $30 million in deposits at risk. We generated almost $150 million in cash flow from operations, representing our third consecutive quarter of positive cash flow. During the past nine months, our total cash flow from operations exceeded $630 million. We ended the quarter with cash of more than $630 million, with no borrowings outstanding under our home building line of credit. Our cash and available borrowing capacity rose year-over-year by 47% to almost $1.9 billion. And our debt to capital ratio continued to decline, ranking among the industry's lowest.

In addition to these accomplishments, we have seized on opportunities to improve our business that are not yet fully apparent on the balance sheet or the bottom line. We continue to renegotiate terms and prices with land sellers, canceling options that don't adhere to our tighter underwriting standards. We're working with our subcontractors and suppliers and vendors to achieve pricing concessions that more appropriately reflect the current competitive market environment.

At the same time, we are enhancing our home product offerings, in response to current home buyer preferences in many of our markets. Also, as the demand for new homes continue to change, we are evaluating and adjusting our operating structure. Finally, we're in the process of rolling out nationally, our new customer experience initiative, which we believe will make our organization even more customer centric, enabling us to create a more positive home buying experience for our customers. We believe that if we're successful in each of these areas, given the strength of our financial position, we will have a better company with which -- can excel when industry conditions improve.

I'd now like to turn this call over to Gary Reece, our Chief Financial Officer, who will describe more specific financial highlights of our 2007 first quarter.

Thank you, Larry. To run through the income statement here in the first quarter of 2007, we recognized a net loss after tax of $94.4 million or $2.07 a share on $745 million in revenues. This compares with $95 million of profits a year ago on $2.08 a share on $1.1 billion in revenues. On a pretax basis, we realized a pretax loss of $143.7 million. This is largely attributable to an impairment that we recognized during the period, impairment and project cost write-offs of $145.4 million as well as otherwise lower home building and mortgage lending profits.

On the home building side, we recognized a loss of just short of $140 million, primarily due to the impairments and write-offs we discussed earlier, significantly lower gross profit margins, lower closing levels and these were offset in part by a lower level of general and administrative expenses and the impact of higher average selling prices. For the quarter, we recognized home sales revenues of $711.8 million.

On the impairment side, we gave a lot of information in the press release about the impairment. The impairment this quarter was $141.4 million, resulting primarily from our changes in expectations for a number of our projects, primarily in the west, California and Nevada in particular. In view of, as Larry mentioned, the fact that the spring selling season did not materialize as anticipated and in response to actions by a number of our competitors in some of these markets, we had to reduce prices or add incentives in order to sell houses. Of the $141 million, 86% of it or $122 million was in the west, California and Nevada, with 60% of the total actually being in California, primarily in outlying areas like the Central Valley, the High Desert, Antelope Valley, southern Riverside County and competitive areas of San Diego. 12% was in other markets which was primarily Florida.

We impaired approximately 3300 lots and 52 different subdivisions and the after-impairment value of the assets that we impaired was just over $380 million. The project abandonment costs we recognized which are included in general and administrative expenses was just over $4 million, which was very similar to an amount we recognized in the first quarter of 2006. Our closing levels were 2001 units this period, which is down 37% from where we were a year ago, primarily due to a lower backlog, which was down 44% from 1,231 of 2005. We had lower backlog coming into the year, slower sales than a year ago. However, we did do a pretty good job of converting our backlog. We had one of the highest conversion rates in several years at 55%. So we did a pretty good job of converting the backlog that we had.

Our closings were down in every market, except for Delaware Valley and Utah. Our selling prices increased slightly from a year ago to just over $355,000. Prices declined in most of our markets. We were up significantly in Utah, because of the strength of that market over the last several quarters. Colorado actually showed a nice improvement as did Delaware Valley, and our California markets were essentially flat from a year ago. We have an interesting slide here that shows where we've displayed the trends in pricing of our orders versus our backlog and our closing, closings. And you can see that in terms of our -- the average price of our orders, we're actually up significantly, not only from last year but -- actually we're pretty flat with last year, but we're up from the last few quarters. Our backlog values have stabilized and our closings are consistent. But you can see, they all pretty much converged this period at around the $350,000 level.

Our gross profit margins were 15.8%. This is down significantly from 27.1% of a year ago, primarily due to higher incentives. Higher land costs as a percentage of revenues and our interest costs as a percentage of revenues are up about 100 basis points. This is offset in part. We did see some positive impacts of a reversal of impairments in this period of previously recognized impairments which had a benefit to margins of approximately 130 basis points.

From a G&A standpoint, we have a slide here that shows our corporate and home building G&A, SG&A combined, which is down about 20% at $131 million from where it was in the first quarter a year ago. Our corporate G&A is actually down over 40% from where we were. Our home building G&A down not quite so much, down about 15%. Our commissions are down, pretty much in line with closings. However, the reason we're not down more from an SG&A standpoint is really related to our marketing costs, which were essentially flat with where they were a year ago as we continue to incur significant dollars to promote the sale of our homes in this very competitive environment and we are supporting a higher level of active communities this quarter than we did a year ago as well.

Our financial services and other segment reflected earnings of $7.5 million this quarter. This is down approximately 35% from earnings of a year ago, really related to our mortgage lending business, which is down 45%. We earned $3.9 million from our mortgage lending business this quarter as we originated fewer mortgages, down almost 40%, due to the lower closing volume. The primary reason for the lower profits in the mortgage lending segment is really a result of the -- of lower gains on sales of mortgage loans due to the lower volume.

We've included, in a slide here, a couple of interesting graphs which should give you some information on what the trends are in terms of our mortgage origination volume. Obviously, as Larry mentioned, we had a bit of a liquidity crunch starting in late February, early March, which impacted our ability to originate certain types of mortgage loans. This did -- we do know it impacted at least a portion of our backlog, maybe somewhere in the 10% to 15% range. We've been very successful in moving those borrowers into new programs but -- and it really hasn't had, as we can see, a significant impact on our ability to get houses closed or our ability to finance our buyers. We haven't seen a significant percentage of these buyers that were in Alt-A type product that had to be modified. I haven't seen a significant amount of those cancel. In fact, it's actually not as high as the cancellation rate for the company as a whole.

So -- but we have seen that this crisis, or crisis is maybe not the word, but the liquidity crunch has really caused a shift in the quality of the loans that we're originating. We are seeing more conventional, more fixed rate. There's actually less risk in our backlog as a result of it. And if you look at this first slide, you'll see that in terms of the categories of originations, prime versus Alt-A versus subprime, it's really pretty flat, close to 60% of the loans that we originate are prime loans, around 35% of them are Alt-A and subprime is really next to nothing, somewhere between 1% and 2%.

The FICO scores this period are fairly consistent, in the low 700s, as they have been over the last recent period of time. As our loan to values have stayed fairly consistent as well, in the mid 80s, fairly consistent with where they were a year ago.

This next graph shows the shift that we've seen over the last year, really, in terms of fixed rate versus ARMs. A year ago, over 50% of our mortgages were actually ARM loans with a significant portion of those being interest only, almost 50% of all the loans we originated were interest-only loans. Today, at least in the first quarter, we saw almost a flip-flop of that, even more so. We saw our fixed rate percentage rise to almost 70%, with only 30% being ARM loans and 26% of the total being interest only. And actually March, the trend is up. March fixed rate loans were almost 80% of the total. So again, these are loans that are less risk and are more profitable for the mortgage company to originate.

From an order standpoint, we received orders, net of cancellations in the period for 2,558 homes, this is down 33% from last year. The value at $901 million is down 33% as well. Our average price of the orders was down to $352,000 per home, versus $358,000 a year ago. Orders were actually down in most of our markets, but we did see increases in a couple of our newer markets as we start to get some traction in Delaware and Chicago. Our cancellation rate for this quarter, not significantly different from a year ago, up slightly, though, at right around 35% versus 31% for last year.

Our backlog because of the lower sales stands at 4,195 units, down 41% from a year ago. We're lower in every market. The backlog value is $1.5 billion versus $2.7 billion for a year ago.

Turning to an area that Larry focused on in his comments but something that we're -- that is really a primary focus for us as we prepare for what we hope will be changes from a positive standpoint in the market conditions in the future, the best thing we can do today is to strengthen our balance sheet, generate cash flow, watch our lot supply and really position ourselves to jump on opportunities in the future and it really starts with the lot supply, which from our standpoint stands as one of the lowest in the entire industry, continues to improve.

Here in the first quarter, we saw our lots owned drop to 7,500 units, roughly. This is down 30% from where we were a year ago. It consists of less than a year-and-a-half supply of lots, based on the last 12 months' closings. Our lots under option dropped to 7,100 units, which is down almost 60% from where we were a year ago and we only have about $30 million at risk on those 7,100 lots. The total -- that brings our total lots under control down to just under 25,000 lots, down 40% from last year and we've already dropped it 10% from where we were at the end of the year. So we continue to make progress in that area.

Not only on the lot side, we're watching our work in process, looking to take steps to improve our cycle times and watch our spec inventory levels. We've included, for the first time, in the press release, detailed some significant information or details rather on our spec inventory, which we think are very, very positive and really set our company apart from many others in terms of the way that we manage our spec inventories. We only had 1,200 total specs at the end of the first quarter, which is down from year end by almost 20%. Of that 1,200 units, 300 or so are foundations and many of our peers don't even include foundations in their spec count.

And the other item that we also mentioned in our press release, is we only had just a little over 400 finished spec homes in the entire company. And that's -- so if you look at our spec count, we had 315 active communities at the end of the period. And if you look at our final and specs under construction excluding the foundations, we actually have less than three specs per community out there, per active community, which is fairly consistent with where we were a year ago and is down from where we've been for the last three quarters.

Also, if we look at -- I mean, this control over our inventory levels has had a very positive impact on our cash flow and we have a schedule here that shows what our cash flow has been this quarter versus a year ago and you'll see that from an operating standpoint, we generated almost $150 million in positive cash flow from operations here in the first quarter, compared to a use of cash of almost $110 million a year ago, the big difference being significant reductions in our home building and our mortgage inventories.

As Larry mentioned, we have generated operating cash flow over the last nine months of $630 million. This enabled us to accumulate, as of the end of the quarter, $633 million in cash. This is up 265% from the $173 million we had on-hand a year ago and, as Larry mentioned, we had nothing outstanding on our line of credit. We have included a graph here of our -- back up just a minute. This higher level of cash and the borrowing capacity we have under our home-building line enabled us to raise our cash and unused borrowing capacity to $1.868 billion, which is up 47% from where it was last year.

We look at where our debt to capital ratio stands; it is one of the lowest in the entire industry at 35% and this is calculated under GAAP, including all debt and all capital, still continues to trend down and is down from a year ago. If we look at it the way many of us do, net of cash and excluding the mortgage debt, we actually are standing at about 0.15 here at the end of the quarter, which is roughly half of what it was a year ago and compares to a peer average of somewhere in the 40% range. As you can see, the focus on the balance sheet, financial strength, cash flow has had a -- continues to pay dividends for us and is reflected in the strength of our balance sheet and financial position.

I think at this time we'd like to open up the call for questions.

Thank you. We will now begin the question-and-answer session. (OPERATOR INSTRUCTIONS) Our first question is from Ivy Zelman from Credit Suisse First Boston.

Hey, guys, good morning.

Good morning.

Hey, Larry. It's a little different back in the days in I guess it was '86, '87 when your debt to cap was 80% and your interest coverage was one times, and you were bigger than Centex, KB and Lennar and it's a lot different. I'm sure you're feeling pretty good in your position today. I congratulate you on it and your discipline.

Zoe, after you become a grandfather, you adjust to all these things.

I'm Ivy. You called me Zoe.

Zoe. You know I was thinking --

You're thinking of your granddaughter. Anyway, I do think you guys have done a great job on that. With your position today, you certainly would argue that could you be opportunistic and looking at growing and taking on more opportunities than others will be able to and other builders might be in the shrink mode like you guys were back in the late '80s, when you were closing divisions and scaling back operations. Do you believe, in looking at the market today, that we'll see a similar pattern for the builders that are really long land, will there be shrinking and will you capitalize on that and be able to buy assets, hopefully, at distressed prices? Are we there yet or is there not enough blood in the water, I guess is my first question?

I think it's good business to right-size all the companies because the market is contracting and it's our job as professional managers to adjust to the market changes. The time line really is unclear, whether this is something that's going to last six months or a year or more and we're hoping for a continued strong economy in our country, which should make the length of time that this weakness is being experienced shorter, but it's -- at this point it's unknown.

So in that regard, do you wish to buy land now or are you going to be more, I guess, patient with the absorptions as weak as they are on a per community basis in April and March disappointing, do you feel like there's no rush and you could sit back and wait for more blood in the water? Or do you start buying land now, and you've been reducing lot count obviously at only 7,500 of owned and 7,100 of optioned, the question is do you start buying and if so, what's your plans for '07 on incrementally locking down more option contracts at maybe better terms or do you hold pat?

I would say the following, that first of all, just to get a clarification on a number, we have 17,500 just to -- of lots that are owned.

Sorry.

We had just given you a misstatement in the verbal but it's in the written one correctly. Do we have -- is that correct, Gary?

It's 17,500 is what we own.

I'm just saying, 17,500. I just wanted to make sure I got it straight. I would say, Ivy, that we have a lot of patience and as you know we were patient over the last 10 years, five years, three years, two years, to do the right thing and you should expect the same and our patience will continue until something compelling changes our discipline and at this point nothing has happened to change that very conservative discipline.

Okay. I'll get back in the queue. Thanks, Larry.

Thank you.

Our next question comes from Michael Rehaut from JPMorgan.

Hi, good morning. Thanks.

Good morning, Mike.

Just on the order ASPs, you know, improved sequentially as you mentioned and I was wondering if you could talk about whether or not that was mix or geography or product mix or geographic mix or was there actually some attempts to hold up pricing towards the end of the quarter and if that is so, you know, did that contribute to some of the slowdown in March?

Actually, Mike, it's probably mix more than anything, because, in fact, we probably added more incentives in March, in response to the issues. Buyer confidence was impacted by the change in liquidity in the market. All the press over the mortgages, subprime, even though we don't originate it, it still created some negativity in the marketplace and we -- I think it dampened the spring selling season to a certain degree and so we actually had to add incentives and that's what led primarily to the impairments that we experienced were the added incentives that we had in March. The sequential increase is probably more related to mix than anything else.

Okay. And just a follow-up on that, as you talk about adding incentives in March, if you could discuss your order patterns throughout the quarter and into April and have you seen by your adding incentives in the last 45 days or 60 days, has that had any impact on getting some orders back into the system or what are you seeing in the last 30 to 60 days in terms of the increase of incentives? And the results of that?

We have -- obviously we have said that the first quarter in the selling season has not met our expectations, so that certainly applies to all months in that period. We haven't really talked about and we don't really want to talk about April right now. It's a little early to see what impact these incentives might have, as we continue through the selling season. We certainly, in projecting out our expected performance of these subdivisions and evaluating what impairment may be required, we certainly have our expectations to achieve what the market will bear, and that differs, market by market. We're not trying to outperform the market. We're trying to achieve a market level and that may be two a month, it may be four a month, it may be -- whatever the market it. But it's a little early to tell if those incentives will -- what it will do for us here over the balance of this quarter.

Just one last one, if I could. You know, you mentioned with regard to the changes in liquidity, that it's had some dampening of demand, but you also mentioned, I believe, earlier that because of the liquidity crunch, you also haven't necessarily seen an increase in can rates and I was wondering if you could just elaborate on, if the can rates remained stable during the quarter and also, with subprime, if you've seen any impact from early payment defaults?

In terms of what we mentioned by this, is that once we had the buyers in the fold, we have been successful in moving them into other products. In other words, it's not -- at least our experience doesn't indicate that we had a bunch of buyers who did this, who had this Alt-A product because it was their only alternative and they didn't put money down because they didn't have it, because we have been fairly successful in our ability to move them into other products. So when we have them, it has not really impacted our ability to get them to the finish line.

In some cases, there have been delays because they may have to now provide documentation. It might take a little longer to get them requalified. But in terms -- I think the effect is more on the front end and the effect on home buyer confidence and getting them to make the decision to buy a home. Traffic levels, while they're down were not down as much as orders were. So it's just been more difficult to get them across the finish line. On the subprime side, or not subprime which really doesn't apply to us, but the early payment defaults, yes, there has been an increase but from our standpoint, the losses or expected losses are not material. They've gone from nothing, before we started originating more of the Alt-A product, to insignificant.

So like a million or two million or something in that level?

It's insignificant, Mike.

Okay. Thank you.

Our next question is from Stephen King from Citigroup.

Almost. It's Steve Kim. I wanted to first of all say I thought you guys did a pretty good job managing your cash and your inventory balance this quarter. In light of that I'm curious as to whether we could expect similar things going forward. Putting that into a specific question, it looks like your inventory decline, let's call it round numbers about $250 million, and typically in the first quarter there's a seasonal build. So as I look forward into the second quarter, I'm wondering could we see, second and third quarters, could we see something on the order of $200, $250 million in inventory reductions again in second and third quarter or would there be some reason why that would be difficult to achieve?

Well, we are -- Steve, we are -- we're going into a period where we will be building more of our backlog. We do -- I think that our work in process will probably build during the quarter. One of the reasons why the inventories went down is because of impairment and, of course we've impaired everything we think needs to be impaired, based on what we know now. And we're hopeful that future impairments should not require it. But that is one of the reasons why the inventories dropped the way they did. But we did have reduction in land, irrespective of that, and as Larry mentioned, we're not actively buying land right now in this marketplace.

So if that continues, we will continue to start houses and that will cause our land position to come down. At the same time, we are developing lots so that we'll be putting dollars into the land account and so it's -- they're kind of going both ways, but I think we did show kind of where our head is and where our discipline is in this marketplace by what we accomplished in the first quarter. What happens in future quarters will depend on what we see on a market by market basis in terms of opportunities.

So you're really not directly answering the question, though, but I'm gathering from what you're saying that you think in the second quarter because of seasonality, achieving something on the order of $200 million in reduced -- overall inventory would probably be difficult to achieve. But as you get later into the year, let's say third quarter, fourth quarter, seasonally you would expect to be getting your WIP down so is it reasonable to anticipate something in the magnitude of let's say $250 million at least by the end of the third quarter or fourth quarter?

You know, Steve, you're absolutely right. Probably most of the -- in terms of the trend, we could see -- and we usually do see a seasonal build in work-in-process inventory in the third quarter as well and a large drop-off in the fourth quarter. So depending on what is done, again, in response to changes in market conditions on our need or desire to start buying land later in the year, absent that, you could see a drop which would occur primarily in the fourth quarter.

Okay. And then if I could just ask a second question. With respect to the opportunities, once again, you've talked about that and obviously you're very well positioned amongst your competitors to be able to take advantage of any attractive land buys. I'm curious as to whether or not you anticipate those land purchases would be taking more the form of increased penetration within existing markets or perhaps also an opportunity to move, expand the footprint of the company into adjacent markets or other markets altogether and whether you felt that, let's say you were to look to go to adjacent markets, how you were -- how you would be looking to do that. Do you feel like you have the ability, the connections, the presence at least on the ground, if not building presence, at least contacts and so forth to be able to achieve something like that, where you would be able to take advantage of any opportunities at an early stage? Thanks.

I think what we would do is just enhance our position in our existing markets over the near term.

Okay. Great. Thanks a lot.

That's the best way to leverage our management and our administrative base.

Our next question comes from Daniel Oppenheim of Banc of America Securities.

Thanks very much. Over time you have been more nimble than a lot of other companies in moving in and out of markets. As you're reducing your lot supply now, are there any areas where you're not looking to bring your lot supply down to two years but looking just to reduce it and thinking about exiting a market at this point?

We're pretty happy where we are right now. We have done some things to reduce our organizational structure, so we've combined divisions in certain areas, but we're primarily in markets we've been in for a very long time, with the exception of Chicago, Delaware Valley, Florida and we have a leadership position in at least one of the two markets we're in in Florida, which we're very happy to be in. And as I mentioned, we're starting to get some traction in Chicago and Delaware Valley. So it is -- I think we're pretty comfortable in the markets that we're in right now, Dan.

Thanks. And then wondering also if you can just talk about what you're doing --- I know you're talking about reducing inventory. We saw your numbers for orders and closings. How do those compare in terms of the change in starts during the quarter, year-over-year basis?

Changes in starts?

Just wondering if you're -- how much you're reducing your starts by in order to bring your spec homes down to work on that?

I don't have specific data for you, Dan, but we are watching our starts in every market and we haven't really intentionally started specs to any large degree for a long time. We are selling a lot of spec homes right now because we end up with --- it's primarily a function of the large cancellations. In California and Las Vegas we need to start specs as part of phases, as we start phases that have been partially sold out. But our philosophy right now really is to not start specs unless -- there's odd occasions that we're near the end of a subdivision and people in this market, they believe that when they buy a dirt start they're paying too much in some cases and they're looking to buy a spec home and they want to move in more quickly. So we start these houses right at the end of subdivisions so we can get out quickly and so those -- but it's still, you can see our approach to specs has been pretty effective.

Wondering about Nevada, given the order trends there, is there anything that you did let's say at the end of the quarter or during the quarter just to adjust to the weak environment there, have you done anything in the second quarter here to adjust pricing to capture more volume?

Our adjustments were really right at the end of the first quarter and starting actually in early March, as sales did not pick up as we had hoped that they would and so we have adjusted pricing. We're not trying to force an order pace in a submarket there that doesn't exist. If the market is pretty shallow and we can only get two or three per subdivision per month, we've adjusted pricing to achieve that pace. And so we hope that our efforts in March will pay off in at least in allowing us to achieve those objectives here in the second quarter.

Thanks very much.

Our next question is from Joel [Locker], FBN Securities.

I was wondering -- get your point of view on any of the private builders. Have you seen any of them become more distressed where you can pick up some of the assets at a discount to intrinsic value?

There have been some opportunities, yes and as time passes, those opportunities increase. We have made it very clear to local, private builders, as well as public builders and other land sellers within all of our markets that we are a buyer of lots. Doesn't mean we're a buyer at today's prices, but we want them to know that we are -- have the capacity to purchase lots at the right price that fit our box. And so we are -- we're seeing some of those now.

Got you. And then did you have any -- I know you had a carry-forward benefit or NOS two quarters or actually I think you had one in the third quarter and a decline just from mortgages that weren't settled yet. I was wondering if you had that in the first quarter also? I think last quarter was a deficit of $4.5 million.

We did and we actually -- are you talking about FAS 66?

Yes.

There was a slight impact where we lowered the amount of deferral.

Yes, the number --

That amount was not material to the quarter and so we haven't discussed it. It is something we'll disclose in detail in the 10-Q which we hope to file next week.

What about reversal of previous impairments like the $91 million that was recorded in the fourth quarter? Were any of those -- did you reverse any of those in the first quarter?

Yes, we did. Just over $9 million.

Just over $9 million? Final question on just the savings, what would you say your year-over-year savings on labor and materials are, just overall?

That's a hard one. I mean, we have some material costs that are rising, energy-related, steel, things of that nature, we have some that are declining. We have our ongoing efforts to reduce costs. It's on really a sub by sub basis, market by market. That's a tough question to answer, Joel.

Do you have any ballpark figure of whether it's flat or down a little bit or within a couple hundred basis points or something?

You know, I -- within a couple of hundred basis points?

If it's flat to down 200 basis points, just those expenses.

It is -- it's -- I think we've had a positive effect. Just how deep that is is unclear. I think in terms of materials overall, there have been -- with lumber, there's still been a bit of a trend down in that and so some of just the pure materials costs I think we have a positive effect but in terms of basis points, I couldn't quantify it.

Some of the other builders said it was 5% to 10% lower, which is a little bit hard to believe. But just wanted to get your point of view. So thanks a lot.

Our next question comes from Alex Barron from JMP Securities.

Hi, Gary. Hey, Larry.

Good morning.

How you doing?

Great.

I wanted to see if you guys can walk us through your impairment analysis, some of the assumptions you have used and kind of how you view the whole process, if you can discuss that a little bit.

Okay. I'll try to be brief, because otherwise you'll have to pack a lunch. What we've done, Alex, we have tried to -- first of all, we evaluate every asset, every asset that we own. We don't have any that we are setting aside saying we're not going to evaluate it because we're not building on it right now. We include assets that we're building on, assets we're closing out, assets that we are developing and have not yet sold any houses on and assets we've acquired that we haven't even started development on. So it's all aspects and we have projected cash flows on every project and we look from this point forward to determine what the expected cash flows are and whether or not based upon -- usually current pricing and incentives. We don't assume any improvement in the market. We don't assume that it gets worse either, although we do -- we are realistic in terms of assuming that going forward into the summer months and our slower selling period that we will be selling a certain amount of specs at higher incentives.

So we have to make some assumptions about what that mix of specs versus dirt starts will be and what the incentives will be to move those houses. And we in some cases, if we have -- where the art of this process comes in is if you have a subdivision where you haven't found a market yet and you haven't achieved the sales pace that would you like to see and you don't have competition that's achieved it, so therefore you have to make some assumptions about what it will take in the level of incentives to achieve that sales pace.

So we have made those assumptions and they're built into the model and if we have a dollar of positive cash flow, it's not imperative. If it's negative a dollar it is impaired and then we take those cash flows and discount them at discount rates that are predicated upon what the perceived risk of the project is and it runs anywhere from 10% to 18% and then you evaluate those discounted cash flows versus the carrying value of your asset and what falls out is the amount of the impairment. We do have a few assets that are -- that we have determined we will -- based on today's assumptions, we will not build out but hold for sale and we mark them to what we think an appropriate market value is that a willing seller would -- willing buyer would pay for those assets. And so that's a different category but that's also an area that we have seen some impairments.

Okay. Can you talk a little bit about maybe some of the sales pace assumptions you that make in that analysis, maybe some of the normalized margins that you kind of use as -- well, you already talked about the discount rate. I'm just trying to understand sort of what is an acceptable or unacceptable level that maybe triggers an impairment in terms of the margin and the sales pace and what you assume or would like that to turn to in your analysis.

Well, it's really a cash flow analysis and the margin that is really only an indicator of whether or not you might end up with negative cash flows or not. We really look at anything -- we look pretty closely at anything under 10% and very closely to those that are under 5% gross margin. And as far as the sales pace, the sales pace has an impact but it's not really the major impact. It's more a function of what can you sell a house for and what does it take to incentivize the buyer to buy it. And clearly, if you're trying to determine if it's impaired or not, it doesn't matter what the sales pace is because you run that on an undiscounted basis.

After you determine it's impaired, you will -- the absorption pace does matter because it affects obviously the discounted cash flows. So it affects the amount of the impairment but not whether it's impaired or not. And what we have tried to do, Alex, is be realistic in absorptions. We're not going to assume that in a market that everybody else is averaging three a month that we're going to press it up and try to get five. We're going to incentivize and price it to get three.

Okay. Now, as it relates to profitability and I guess your commitment to profitability, I was kind of looking at the different segments you guys gave out and it seems that even if I back out the impairments you took, you guys are kind of right now at negative profitability in your west division, in your east and in your other, so I'm just kind of wondering if you think that is kind of where you guys are at at this point and going forward it will be if nothing else changes, at roughly the same or is that a function of a little bit of maybe the first quarter has higher SG&A ratios that get you there and maybe it turns a little bit positive in the back half and I guess -- the other half of the question is, if you are kind of permanently no longer profitable, is your commitment to just build out and exit that market or how do you think about that?

Well, first of all, Alex, nobody -- you shouldn't conclude we're permanently forever not profitable based on what happens in the first quarter, because -- you hit on the point, this is the first quarter. There's always a disproportionately high level of SG&A to revenues and profitability in the first quarter and it comes down seasonally over the balance of the year. On top of that, we have a number of things that we're doing that will become more apparent in the second and third quarters in restructuring the company and continuing to downsize, continuing to combine divisions and reduce levels of management and -- or combine levels of management at least and so those are things that not only will you have a seasonal benefit, but also benefit of some of these further right-sizing efforts coming through. So I would not conclude that we're operating at a loss from this point forward.

But I'm saying like if in a given city or market you guys even two years out you still didn't see a turn-around in the market and were you running out of lots, what can we expect from you guys in that situation?

I think if we are -- we'll deal with it market by market. If we -- if the market is not turning and we're out of lots, then we will take appropriate steps with respect to the operation that we have here, but Alex, I will tell you that I did go through this almost 20 years ago with the Company and I saw us do what you're alluding to in a market like Tucson, Arizona, for example and Colorado Springs. We basically dwindled down to very little, if anything, in the market. Maybe we had a project or two but we basically brought the operation to a halt for a brief period of time and then as soon as the market picked up, we started to sell houses again and in very short period of time became -- jumped right back to our market leadership position in that market. If we have to bring the operations down, as the market dictates and the market will tell us. We're not going to buy lots just to stay in the market and so we'll let the market lead us, but that doesn't mean we're exiting it for good if we believe in it long-term.

Our next question is from Rashid Dahod of Argus Research.

Hi, guys. Question for you. Cancellation rate of 35% for the quarter, how did that trend through the quarter?

It's something that we haven't disclosed but that is usually what it runs and, as you can see, the liquidity crunch at the end of the quarter didn't help a great deal but it didn't vary materially, we'll say that.

And do you know, of your cancellations, how many of them were due to a buyer finding a better deal down the road or unable to sell their home?

Those categories are areas that are a significant part of why the cancellations occur. I think what we saw this quarter is probably a larger incidence of financing related cancellations, not significantly larger but that was one of the areas that we saw cans increase relative to last year.

Okay. Thank you.

Our next question comes from Carl Reichardt from Wachovia Securities.

Hey, guys, how are you?

Hey, Carl.

I just have one, which is do you have a community count goal for '07?

Carl, we really don't. It's one of those areas that as our lot supply declines, if it continues to decline, our active communities will decline. We have -- we have tried to and we talked in the past at maybe where we would like to see community count go. We have done pretty well, maintaining the community count that we have and actually being up versus last year, considering our lot count's come down. What we're doing is we're getting the communities that aren't open, open. And model homes up and running and we have a significant number of model complexes expected to open this year. I think we've talked in terms of close to 100 getting them open and we are -- we're going to move through these assets as quickly as we can, continue to monetize them but in terms of a target for community count, we don't have one.

Thanks very much.

Our next question is from Susan Berliner from Bear, Stearns.

Good morning. I was wondering if you could provide any updates on some of the markets, what markets have kind of deteriorated I guess during the quarter and what markets -- I know you mentioned Utah and Delaware Valley has been relatively strong.

Yes. Susan, this is Gary. We really haven't seen much improvement in any markets. We have seen Utah, which is a very strong market, has been for the last couple of years, is starting to show some signs that -- you can see it in the reduced order pace, the little bit higher cans, the same type of signs that show that a market is hitting -- has hit its stride and it is not perhaps subject to the same types of issues as Phoenix and California and Vegas or as quickly of an adjustment because of the fact that their prices do not run up as quickly or as high as it did in those other markets. But it has certainly stabilized and is not continuing up like it has over the last few quarters. But Delaware Valley is a good market and we've got some good projects that are starting to enable us to move into the black in that market here very soon and so the other markets we keep looking for, for the signs of change. We don't want to be misled by a good sales week here or there. But we're -- I wouldn't say that there are any dramatic shifts to the positive or negative right now in the other markets.

Great. Thanks very much, Gary.

We have a follow-up from Ms. Ivy Zelman, Credit Suisse.

With respect to some changes that have happened within the last three months on management, any senior departures and, if so, there was rumors that you lost someone in the west, one of the either regional presidents and kind of talk about what changes just generally have occurred and what as a result are you doing about it and then just your overall headcount so far that you have reduced it by and what if any future plans on headcounts specifically that you're going to have to undertake.

Ivy, this is Gary.

Hi, Gary.

Hi, there. I'll try to take that question. You know, how fast news travels and so we probably don't even have to tell you, except for the fact that you asked and yes, we had one of our regional Presidents leave in one of our western markets and we are actively seeking to replace that person. Have had a lot of good leads. So that is -- that's a position that is only temporarily out. We do have -- we have lost our national President of Home Building Operations and that is a position that in this environment we are not going to replace.

Those are the only two so far?

The only two primary ones. There are obviously as we continue to downsize and you can see it from -- during 2006, we dropped our headcount by approximately 25%. That's dropped further here in the first quarter and with the downsizing and reducing the number of divisions it -- there are senior people who are no longer with the company that were heading up those divisions that have been -- that have left the company. And those are some of the things that I was alluding to that are not yet apparent in our SG&A, at least through the first quarter here that should help us in the future.

Do you have an aggregate headcount reduction that you could share with us since the down turn began?

We peaked at about 4300 people and so we're down to -- I think we had disclosed in our 10-K, we were down to about 3200 by the end of the year and it's down slightly from there.

Plans for future or is it too tough to say?

It's hard to say at this point. We have done a lot of the heavy lifting at this point and we continue to fine tune it every day, every week.

Okay. Thank you. Appreciate it.

We have a follow-up from Steven King of Citigroup.

Hi, guys. Once again, Steve Kim. Question for you related to your inventory turns. Historically, you all have had some pretty good inventory turns relative to your peers, a result of your differentiated strategy on managing land and what not. Obviously also recently those turns have diminished markedly, and I guess what I'm trying to figure out is where we should be anticipating or how rapidly we should be anticipating that inventory turns could recover. I would think that you all would probably have the opportunity to get those turns back up probably quicker than some of your peers. And it wasn't really an aberration for you all to be having an inventory turn of about two times throughout the 1990s. It looks like you were running at that or above even, well before the bubble came. So my question is, do you think it's possible that by 2009 you could be approaching a two times inventory turn level or would there be some reason why that would be unlikely?

One of the things we're doing, Steve, is we're working on our process and procedures. We're re-addressing our purchasing techniques. I believe that as assets become -- land becomes available, at least at the beginning of the cycle, the next cycle up, that the terms will be a lot more flexible than they have been at the end of the prior cycle. Consequently, in theory, we should have the opportunity to be able to improve our inventory turns, predicated on improvement of construction systems and procedures and improvement on the structure of land acquisition, because I don't believe at the very front end of the next turn, people are going to be selling land for all cash quick close and try to figure out how to get it developed. But we're going to have opportunities to buy land that is closer into being ready to develop and on more advantageous terms.

If you guys can approach it two times inventory turn in the next couple of years you're going to generate a heck of a lot of cash. My second question is related to your write-offs. Can you give us a sense for -- and I don't know if somebody else asked that. i had to hop off briefly. But do you have a sense of the write-offs that you've taken so far over the last three quarters, really, if -- how much of that you think may be subsequently delivered? The land or the work in process would be subsequently delivered and recognized in revenue in the back half of this year or let's just say all of 2007? Do have you a sense for that?

I do have a sense for that, Steve. But we've not really -- we've not disclosed it and I'll tell you that -- because of our short supply, the majority of this is going to turn this year or next year.

So just playing around with some numbers, looks like you've taken write-offs of about $290 million or so. If we were to say about let's say maybe a third of that, let's call it like $90 million were to be recognized in the back half of this year, on my revenue number, that's like 550 basis points of benefit to your gross margin. Is that kind of what -- is that the kind of number that we could be thinking about, you might see as not -- I don't want to call it benefit but let's call it an offset to what otherwise had been?

Well, just the math, Steve, if you take half in one year and half in the other, most of it is going to be in these two periods.

Pretty significant amount.

Yes. I see where you're headed.

All right. That was my question. Thank you.

And we have a follow-up again from Michael Rehaut from J.P. Morgan.

Thanks. Most of my questions have been answered. But just a quick one on the cost initiatives. You had alluded to taking some headcount down beyond the 3200 that when answering a previous question about SG&A leverage and some cost initiatives for the remainder of the year that you should be able to get some more leverage.

On the SG&A, what could we expect in terms of incremental sequential declines on an absolute dollar basis? I mean, all things else being equal, certainly you have some variable expenses it's going to go up, but what are you doing in terms of from a dollar amount perhaps taking some incremental costs out of the basis, what's the level of magnitude we should be thinking about?

Some people have disclosed that. It's not something we want to talk about specifically but you can be assured that we are going to do as much as we can to bring in this operation down to a level that is both efficient and cost effective and to do it as quickly as we possibly can.

Do you have a target SG&A level once things stabilize?

Well, it -- I mean, we -- it's quite a bit lower than where we were in the first quarter but we know we get -- we know we get some leverage as we move throughout the year so right now it's hard to hit a target because with the short land supply, depends a lot on the level of revenues as well that are generated throughout the year as we look at it. But we are going to push it as low as we can. We don't believe we can achieve with things going -- if they continue in a downward direction, for the balance of this year, if market conditions don't improve, we won't reach an optimum level but we do expect it to trend down.

All right. Fair enough. Thank you.

And we have a follow-up from Joel Locker from FBN Securities.

Hi, guys. Actually, most of them have been answered. Just keep up the good work, thanks.

Thanks, Joel.

There are no further questions. Mr. Mizel. Would you like to make a closing statement?

Thank you. We would like to thank you again for joining our call today. We look forward to having the opportunity to speak with you in July, following the announcement of our 2007 second quarter results. Everybody have a great day.

That does conclude our conference for today. Thank you for your participation, and for using AT&T executive teleconference service.