MDC Holdings Inc (MDC) 2014 Q3 法說會逐字稿

Good afternoon. We are ready to begin the MDC Holdings Inc. third quarter earnings conference call.

I will now turn the call over to Mr. Bob Martin, Vice President of Finance and Corporate Controller. Sir, you may begin your call.

Thank you. Good morning, ladies and gentlemen, and welcome to MDC Holdings' 2014 third-quarter earnings conference call. On the call with me today I have Larry Mizel, Chairman and Chief Executive Officer; and John Stephens, Chief Financial Officer. At this time, all participants are in a listen-only mode. After finishing our prepared remarks we will conduct a question-and-answer session at which time we request that participants limit themselves to one question and one follow-up question. Please note that this conference is being recorded and will be available for replay. For information on how to access the replay, please visit our website, at MDCholdings.com.

Before turning the call over the to Larry, it should be noted that certain statements made during this conference call including those related to MDC's business, financial condition, results of operation, cash flows, strategies, and prospects and responses to question 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 2014 third-quarter Form 10-Q, which is scheduled to be filed with the SEC today. It should also be noted that SEC Regulation G requires that certain information accompany the use of non-GAAP financial measures. Any information required by Regulation G is posted on our website with our webcast slides.

And now I will turn the call over to Mr. Mizel for his opening remarks. Larry?

Good morning. This morning we announced third quarter income of $515 million (sic - per press release "$15.5 million") or $0.32 per share, continuing our record profitability since homebuilding market recovery began in 2012. Following a period of significant home price increases, we have seen escalating land and construction costs during the past few quarters. In addition, we have offered moderately higher incentives to spur sales activity in many areas. As a result, in the third quarter our gross margins declined both sequentially and year-over-year.

While the downward pressure on our margin is disappointing in the short term, the longer term trend has been positive with more than 300 basis points of improvement since the low of 2011. We believe that the long-term trend will continue to be positive as the volatility we have seen in our industry gives way to a more sustained level of healthy demand. We have already seen some evidence of a rebound with the margins in our backlog showing a slight improvement during the quarter. We continue to believe that the housing market is poised for long-term growth. However, obstacles remain on the path to recovery.

Among the most prominent is the process for originating mortgage loans. Lower Federal Housing Authority loan limits have already taken a toll on housing demand, especially for the first time segment. This has reduced mortgage availability to an important pool of potential buyers. Additionally, underwriting standards for qualified mortgages have caused issues for the industry, not only reducing mortgage availability for some credit-worthy buyers, but also increasing the overall time required to obtain loan approval. We are encouraged that the government appears to be focused on the mortgage issue as evidenced by the FHFA's recent announcement of changes to help expand credit availability.

Given the importance of the housing market to the overall health of the economy, we're hopeful that further focus in this area will relieve some of the impediments which currently challenge credit-worthy customers. Any changes coming from the government may take time to materialize, which increases the importance of ongoing efforts to expand our presence in our existing markets. We have set the stage for growth as evidenced by the 27% year-over-year increase in our quarter-end active community count. The expansion of our active community count has already produced positive results, driving a 17% year-over-year increase in our net new home orders. It has also led to our first year-over-year increase in quarter-end backlog since the second quarter of 2013.

These improvements provide us with the opportunity for top and bottom line expansion in future periods in spite of the obstacles that may remain for the housing market. As always, our balance sheet has been a key focus for us. For much of the past years, we have focused on enhancing our liquidity with over $600 million of debt offering, and the establishment of $450 million line of credit. I should comment that $350 million of our debt offerings is 30-year fixed rate financing, I think it's the only transaction of its kind in our industry and I believe in the future it will turn out to be most significant.

More recently, just a few days ago, we redeemed our final near term senior note maturity of $250 million, about nine months early. The early redemption decrease our overall interest burden, benefiting not only our credit profile, but also our future gross profit margins. With the redemption behind us, we have no further senior note maturities into 2020, and we still have significant liquidity at our disposal to pursue new homebuilding assets that can help us grow. While we're cautious in the underwriting of new assets, we believe that moderation in demand over the past few quarters may create an opportunity for new land at increasingly attractive terms and prices.

Thank you for your interest and attention. I will now turn the call over to John Stephens for more specific financial highlights of 2014 third quarter. John?

Thank you, Larry. Before I get started on slide number 4, I just want to make one clarification. Our net income for the third quarter was $15.5 million.

So moving to slide 4. We delivered 1,093 new homes during the quarter, a 13% year-over-year decline. The decrease in deliveries was primarily the result of having a 10% lower beginning backlog to start the quarter. Our spec home deliveries continue to be a high percentage of our overall deliveries, with 59% of our third-quarter deliveries representing spec homes versus 47% last year. However, on a sequential basis, we delivered a lower percentage of spec homes during the 2014 third quarter as compared to the 2014 second quarter. Including fewer spec homes that were both sold and closed during the quarter, which accounted for the sequential decline in deliveries as compared to Q2 of 2014.

Our third quarter backlog conversion rate which is typically lower than our second quarter conversion rate came in at 58%, and was slightly below the prior year's third quarter conversion rate, but was still higher than our historical average. Based on our current backlog, spec inventory levels and normal seasonality, we expect to see our backlog conversion rate tick back up in the fourth quarter closer to the mid 60% range.

Our average selling price was up 7% year-over-year to $371,000. This increases was primarily the result of a mix shift to higher price sub markets, and to a lesser extent, price increases taken during 2013. Year-over-year, all of our regions experienced increases in average home price with the west experiencing the most significant increase at 11%, and our mountain segment up 10%. Our California division generated the largest home price increase at 23%, which was you due in large part to a higher percentage of deliveries from Orange and Los Angeles Counties as compared to the prior year period.

Our gross margin from home sales was 16.5% for the third quarter, down 160 basis points year-over-year, and 60 basis points sequentially. The year-over-year and sequential declines in our gross margin percentage was primarily the result of additional incentives used to stimulate demand for new homes in certain markets, combined with higher direct construction and land costs. While we have seen some pressure in our gross margins over the last couple quarters, our margins and backlog are comparable with what we recorded during the third quarter. In addition, with the early extinguishment of debt that we completed earlier this week, we expect to see a lower absolute amount of interest being capitalized to our inventory going forward which should provide a minor improvement to our gross margins in future quarters.

Our homebuilding SG&A rate was down 80 basis points from the prior year, despite a 7% decline in home sale revenues. The year-over-year improvement in our SG&A rate and total G&A expense was largely attributable to lower compensation related expenses, including incentive-based compensation and lower legal expenses. The decrease in G&A expenses was partially offset by higher marketing spend related to supporting a 27% increase in the number of active selling communities as compared to the prior year period. Our sales commissions, which includes both internal and external commissions, held fairly steady as compared to the prior year at 3.4% of home sale revenues.

Our net new orders were up 17% year-over-year to 1,081 homes, while the dollar value of our orders was up 33% to $432 million, due to increased orders and the impact of a 13% higher average selling price. The increase in our net new orders represented our second consecutive quarter of year-over-year increases and was positively impacted by the 20% increase in our average active communities. Within the quarter, our net new orders were up in each month as compared to the prior year, with September marking our seventh consecutive month of year-over-year increases, while our monthly sales absorption rate was essentially flat with the prior year, at 2.2 sales per community.

As a result of our higher community count and orders over the last two quarters, our homes and backlog were up for the first time since the second quarter of 2013. In addition, the dollar value of our backlog was up 17% to $792 million, and our average home price in backlog was up 10% to $423,000. We believe the increase in our community count and the corresponding order and backlog growth positions the Company well as we finish out the year and head into 2015.

Our ending active community count was up 27% over the prior year at 170 communities and represented our fourth consecutive quarter of community count growth. Community count increased most in the west, with California and Arizona experiencing the highest growth. We also experienced solid community count growth in Florida, Nevada and Colorado. In addition, our soon to be active communities continue to exceed our soon to be inactive communities, which on a net basis was up by 11, and should be a positive bias for our community count through the balance of the year.

During the quarter we acquired nearly 1,300 lots and spent approximately $169 million on land acquisition and development. Year-to-date, we have spent approximately $460 million on land and development and acquired approximately 3,700 lots. As of the end of the quarter, we owned or controlled over of 16,300 lots, which represented approximately a 3.7 year supply of lots on a trailing 12 month delivery basis.

We ended the quarter with nearly $1 billion in liquidity, which was before the redemption of $250 million of our senior notes due July 2015, and liquidity consisted of $538 million in cash and marketable securities, and approximately $425 million in availability under our revolving credit facility. In addition, our net homebuilding debt to capital ratio was 31.7%, one of the lowest in the industry. And in connection with the early redemption of our senior notes due July 2015, the Company funded the retirement of such debt with the sale of marketable securities that resulted in a $4.3 million impairment that was recorded in the third quarter, and is reflected as a separate line item in our income statement.

At this time, we'd like to open up the call for questions.

(Operator Instructions)

Our first question comes from the line of Michael Rehaut from JPMorgan. Your line is open.

Yes, hi. Thanks. Good morning, everyone.

First question I just was hoping to get a little clarification on gross margins. I think in Larry's remarks, Larry mentioned gross margins in backlog would be showing a slight improvement versus 3Q, and I think, John, you said more similar or comparable. I don't if we're just splitting hairs here but -- just wanted to get a sense if it was more -- if the margins in backlog are flattish indeed or up a little bit, let's say 50 BPs? And also perhaps what you expect the interest expense -- lower interest expense amortization, what type of benefit that might yield in 2015?

Sure. Thanks, Mike.

On the backlog margins, they are up from where we were a quarter ago. But I think the point is I just wanted to make was that we would expect what we have in our backlog to be comparable to what we're going to deliver for the fourth quarter. And then with respect to the interest reduction, it's about a 20 basis point pickup that we'll get as a result of retiring that debt.

Okay. Thank you.

And then on the spec strategy, maybe Larry or -- can talk to the broader spec strategy here. I guess you are a little bit heavier on spec than some of your peers, and over the last couple of years, I think have leaned more heavily toward spec, and just thoughts around whether or not at this point, given the margins where they are, if you feel that's still the correct approach with maybe demand not as strong as you'd have liked to have seen it? If you feel that that might make you a little bit more vulnerable to incentives and discounts and having to get your product through the door? Any thoughts to that and if it makes sense maybe to ease off a little bit on specs in general in a maybe less robust demand environment than you've been hoping.

I think your last comment is accurate, and that is the direction that we are moving in and you'll see that over the next period of time, a turn to a reduction of specs as the momentum has changed a little bit and the incentive environment has changed. There is a decent tone in general and we feel comfortable that maybe some of the volatility, maybe that's too much to hope for, in the marketplace in general would stabilize and with the prepayment of $250 million of debt and the expansion of our new subdivisions and the growth of our backlog, we believe that we're setting a tone for the future.

And as you know, in this business, the future is a little bit slower versus quicker, but as I commented, the $350 million of 30 year debt feels -- is going to feel really good a couple years from now. And so we're doing what we always do. We're positioning our balance sheet. We are focused a little bit more longer term versus shorter term and we will execute in that manner. And I feel comfortable of where we're going.

Our next question comes from the line of Ivy Zelman from Zelman & Associates. Your line is open.

Hiello. This is actually Alan on for Ivy. Thanks for taking my question. I was hoping to get a little more color on the incentive trends. We heard from some of your competitors that mentioned incentives were fairly stable in the quarter, and you obviously highlighted it as a driver of the margin decline.

So I was hoping you could, A, quantify exactly what your incentives are running at and how that compares to last quarter, and B, just talk a little about whether your decision to increase the incentives if that was reactionary based on what you're seeing from our builders, or whether it was a function of you being more proactive to try and drive additional sales, maybe given your spec supply.

I think that incentives are part of a competitive market. As you look towards everyone adjusting their inventories and coming to the end of the year, you will act and react according to what the market dictates. And the one thing that one can see is, assuming there's a follow-through in the tone in the market, then you will see a reduction in the incentives. The exact amount, I don't think we communicate that as clearly or maybe John wants to add a little clarity to that point.

Yes, I can just follow up on the first part of your question, Alan. The incentives on a year-over-year basis were up about 110 basis points, and then from the previous quarter they're up about 20 basis points. So that's where they stood on a relative basis.

Great. That's really helpful. Thank you. If I could just sneak in one other one.

The average order price was trending up pretty solidly in the quarter I'm not sure if that's -- it seemed to be mix driven, but with community count growing significantly, how should we think about the mix of product, either product or geographic as you open up these new communities, should they be weighted a little bit towards higher price points than we've been seeing delivering over the last several quarters.

Yes. That's the primary driver, it's not as much the price appreciation. We have seen that, obviously, Alan, in certain communities and markets where we've seen a little more strength, but it's really more of a mix issue. And for example, like in California for example, I mentioned earlier we're doing more in Orange and LA counties, which carries a higher price point than the Inland Empire per se.

In Florida, for example, we do have a South Florida project now that's got higher prices which is driving that up as well. So it's more of a mix issue than an absolute price increase.

Our next question comes from the line of Ken Zener from KeyBanc. Your line is open.

Good morning, gentlemen.

Good morning.

I wonder if you could perhaps just give us some commentary on within the macro of home price appreciation slowing year-over-year versus the highs it had last year. And obviously, your gross margins being somewhat behind peers who seem to be flattening, and putting that into context of your stock and evaluation, which trading at near book seems to imply us being farther into the cycle than I think we actually are.

Can you address how you're thinking about capital allocation, if you're issuing debt or investing in the business, it's just with the valuation and your margins set, how should we think about the risk profile for your ability to actually generate higher gross margins as we see many of your peers moving either flat or perhaps in the opposite direction tied to things like incentives and higher costs? Just trying to connect the seeming disconnect between where we are in the cycle and your valuation.

I think that, first of all you asked about 20 questions.

Sorry about that, Larry. It's a tough one though. You're at one times book. It's just not where normally it would be.

Well, you have to see -- go back about five years and see the transition of where we were and how we slowly deployed capital and we've repositioned -- the price the stock sells at is really the market. But what we've done is we have a conservative, long-term strategy, and if you go back to 2005, which was a superior year, that as the cycles evolve we have the ability to have highly competitive performance in line of with where the markets are and move around.

Where we are now is in a rebuilding mode, and we've been in that mode for a couple years, and we are accelerating a rebuilding mode and that takes time and it also takes away from margin as we deploy capital. Several years ago, where we were longer liquidity and shorter land, we are now balancing that out, and you will see the Company over the next period of time realign itself really in market conditions and we are confident that the general housing tone is good and we will expand our growth into a more stable market.

And the financing we did was looking for the future and positioning ourselves to leverage into the future appropriately. So time and patience we have and the performance vis-a-vis our competitors, we've been at this for a while and don't judge us on just short-term performance, but we'll look back on this and it might be an opportune time, depending on market conditions. So have patience.

Thank you, Larry.

Our next question comes from the line of Adam Rudiger from Wells Fargo Securities. Your line is open.

Thanks for taking my question. I noticed on your website that you have extended your national sales event into October. So I was wondering if you could talk about some of the more specific incentives you were offering, what might be working, what wasn't working and what the elasticity towards that was?

Well, Adam, it is very specific to every market, obviously. Certain markets might need a little more nudging from time to time than others, and it comes in various different forms. It could be a waived origination fee on a mortgage loan. It varies by market. And I wouldn't say that we've gone overly deep on these items.

The point is, it did have an impact during the quarter, so I think it was worth pointing that out. The other thing we talked about on the gross margins is land costs are up a little bit year-over-year, as are our material costs. And the subcontractor base in certain markets -- you look at, we do about 28% of our deliveries come out of the Denver market, and there's obviously been a lot more pressure on the subcontractors here. So those are things that are impacting the margins. But on the incentive side, it really does vary from market to market and subdivision by subdivision.

Okay. Thanks. And then following up on that comment on land cost, could you talk a little more about that? From what I can tell, it looks like markets like Arizona, California, maybe even Florida a little bit, where you went the most aggressive in buying lots was mid-2013, maybe a little earlier right when the market was still frothy.

Can you talk about those lots that you acquired in that period and how they may or may not be impacting that pressure you're talking about? Is it specific to those markets where you went the deepest at that time?

Well, I think it's probably wherever we bought land, obviously, but the pricing in markets has, obviously, leveled off which a lot of people have been talking about. Our land costs do have an impact on that. And clearly we know Arizona's been a little bit softer. California's been a pretty strong market for us in terms of absorption pace and you how we're doing there.

I think moving to more coastal communities, we see a better pace there than we have in the inland markets. And then Colorado is a market where we continue to be the largest player here. So we've seen pretty good pace there. I think the land cost comment sometimes gets a little overblown. I think it is up a little bit, but it's -- if you add that plus material costs, plus a little bit incentive, all that hits the margin together. It's not one item in particular that's overly driving it.

Our next question comes from the line of Joel Locker from FBN Securities. Your line is open.

Hello. Just want to reiterate on the land pricing. Just a conceptual question on do you think you're further ahead in the cycle of seeing the higher priced land come through the balance sheet since you're more of a merchant builder and focused on finished lots, and it's just something the industry hasn't experienced and may next year?

That's a good point, Joel.

I think the fact that we do carry a little bit shorter supply relative to some of our peers, we really don't have a lot of legacy land that's been impaired. The land we've bought has really been the last year and-a-half or so, last couple years, and I think it's more of a just in time delivery of lots, and I think it does tie into more of a retail pricing type of model. We typically like to buy more finished lots as available, because it's more of a risk adjusted return we're looking at.

But as you know, over the last couple years there's not as many finished lots in locations that we would like, so we've purchased about 50% of our lots have required some sort of development. But the point is, everything we're delivering now is stuff we bought in the last couple years. So it is more of a real-time pull-through of lot costs.

Right. And just a follow-up on your communities that you plan to open. How many do you plan to open in the fourth quarter and then 2015? Maybe a ballpark range?

I think one of the things we -- I mentioned earlier was our -- one of the things we look at is our soon to be active communities, Joel, versus our soon to be inactive. We have a positive bias there. It might be up a few in the fourth quarter.

In terms of next year, we're not really going to give guidance on that yet. We're in the process of refreshing our business plans and I think when we do our year-end call we'll probably have a little more color on that for you. But the point is, we definitely have been adding land and it has resulted in active community count increases.

Our next question comes from the line of Nishu Sood from Deutsche Bank. Your line is open.

Thanks. Larry, so as a significant owner of the stock and with the stock trading at or slightly below book value, are you thinking about share repurchases here? It just seems to be a good use of cash and your balance sheet is still in very good shape.

First of all, many years ago we authorized 4 million share repurchase, and if we plan to do it, you'll read about it. I think our intent currently, and currently is as of today, of course, is our balance sheet and our structures to build a more robust business than where we are and we are going about doing that with the increased confidence that we have in the marketplace. So that would be how I would answer that question.

Got it. Okay.

And second question, in terms of the -- you continued to invest as you're describing into the business. The 16%-ish gross margin I would imagine is below what you're targeting on your new land purchases. John, I think you mentioned 50% of them requiring some development. So just wondering if you could give us an update on the new land that you're purchasing, how the pro forma gross margins compare to where you are now?

Well, it's, as you know, it's competitive. The one thing that I think I would comment on is that all the builders that are buying land, buy the land somewhat in line with one another. Their costs are somewhat in line with one another. And as you look forward, your gross profit margins usually line up with each other. And as you transition from a merchant builder in the sense of someone in our business model of being short land, there's always a period of time that being short land affects your gross profit margin.

When I say short land, I'm speaking of 3 to 3.5 years. I think there's another builder that has a more aggressive model on shorter land supply and we've always been kind of one step in the middle. As the velocity picks up, then you will see the alignment in the industry as we have in the past and we certainly as a goal is expect to make a reasonable return on our equity in line with others that speculate more in land. And since our business model is shorter land supply, it deals with a little bit later in the market cycle than where we are, and I think we're at a perfect place to expand.

If someone said, well, Larry, where are you, what inning are we in in this cycle? And I feel very comfortable we're in the beginning third of the game and so there's -- it looks as though that the economy in the country is stabilizing, and I certainly hope that the political situation stabilizes, and all of those things will come together and I feel comfortable that we will grow and accelerate from where we are at this time.

Our next question comes from the line of Eli Hackel from Goldman Sachs. Your line is open.

Thanks.

First, just Larry, you gave some good detail about mortgage underwriting and how difficult it is. Are you seeing things get incrementally more difficult or is it staying the same? Things like FHA loan limits have been in for a little bit now. Just your updated views there would be great?

Well, they've had some new guidelines on put-backs and defaults and everyone's always concerned about early payment defaults over three years ago, or five years ago. So the government -- the tone out there is better. We had a change in January where there was new regs came in, new overhead, new people, new process. And now we have banks -- I think there's more money coming into the residential housing market.

There's people that are beginning to do some securitization of less than conforming. So I think we can see over the next period of time a substantial expansion in the mortgage availability, which will take -- which will really bring a lot of sales to fruition that had been cancelled because of mortgage issues.

So I'm looking forward to -- with the political season at least being over for the short term coming up, that next year you're going to see a lot of activity that's going to be very positive in the mortgage market for both those of us that originate or sell, but really for everyone and it will create its own momentum. I also think it's a good message to the consumer that you can actually get a mortgage. We can finance you for 3.5% down, 5% down. You don't really need 20%.

There's such a large amount of mixed messages. But it's all coming through, as I said. The tone is getting better and the mortgage availability in the last short period of time you've seen publicly some of the super regional banks are now getting in the mortgage business. That might be easier for them than making commercial loans today. So these are all things heading in the right direction.

Have you -- just a follow-up. Have you seen banks willing to accept lower quality, lower FICO yet, or is that still something that you're waiting for?

I think it's a mixture. One of the things that was investigated was people that charged higher rates for lower quality credits. So, there's one particular institution I heard the following concept. And this is a concept.

They said, we spend a third of the time with the regulators just beating on us. We spend a third of our time, and I'm talking about our people, with new regulations being issued. And then we spend about a third of our time of people trying to get us to increase our availability of financing to those that aren't as fully qualified as one might expect. So it's kind of an interesting circle.

One-third wants them to make more loans and the other third is trying to figure out how to litigate against them for the loans they made in years past. So hopefully this kind of craziness for the banks and the lenders will subside, but this is not something that we really are involved with and I'm only giving you a concept of what's going on.

Our next question comes from the line of Stephen East from ISI Group. Your line is open.

Thank you. John, maybe first question for you. Could you just -- in your gross margin hit, could you just sort of rank order where -- you talked about incentives being 110. Could you give us an idea of what land inflation hit you and what construction costs hit you on that? And I assume on the construction costs we're talking primarily labor on that. And then also with that, just what your SG&A targets are as you look a little bit longer term?

Okay. In terms of the land and construction costs, the land is anywhere 100 to 150 basis points, and I think on the directs it's probably -- construction cost is in the 100 to 120 basis point range. Obviously, there's a lot of ins and outs there, Stephen, to go through when you deliver that many homes. That kind of gives you a sense of what's going on. As I mentioned earlier, we still do have some -- in some markets where we've had some strength, we have -- continue to push the prices where it makes sense to try to mitigate some of these increases on the material side. What was your second question -- on the SG&A run rate, I think it was?

Yes, just sort of your target as you look out.

Yes. The third quarter was a little bit lower because we had a reduction in some of our incentive compensation accruals, but moving forward probably in that $26 million range from just the G&A standpoint. As you know, the commissions are variable and then the marketing costs move with our community counts.

Sure.

So $26 million in the G&A run rate.

Okay. All right. Fair enough. And then, Larry, I know you've sort have been asked this question a couple times. Maybe I'll frame it a little bit differently.

But as you look at your business and you look versus your peers, I think you have got a very valid argument about just in time land versus legacy and written down, et cetera. But even by your standards, if we would throw out the incentives and just look at where your gross margin is running, even that is not really where I would assume where you all are trying to target also.

So as you look at your business and how you're running it differently versus your peers, how do you get that gross margin back from call it 17.5% without the incremental incentives, back up to that 20% range? Or is that not your target? Will you underwrite to a lower -- to an 18% type run rate and settle for more of an 8% type of op margin, that type of thing?

As you make a general comment, as I said earlier, the land market is competitive and what you underwrite to really gives an indication of what you're willing to pay for an asset, and since you've got five guys willing to do the same, these things ultimately realign themselves with execution. And I think that our ability to execute is very, very good and we run a highly focused, tight business and as you roll through some of the assets that we acquired more recently and the other builders are working on the same assets at the same time, I really think everything -- the prior history is a good place to look for numbers, and so it was commented from time to time we compete with builders that have previously impaired land, which means that they have a less than a market basis in it.

And so we just have to walk through a little bit of time as those assets are utilized in their business, which is appropriate. And like I said, history's a good place to look on where the industry can go during normal times, and over the next period of time, I think things will become more in line even though we will be adjusting for our just in time business model, it really is with an increase in velocity, one that we can exercise in a very competitive way, making ultimately the ROE, which is the measurement versus the GP. And that's what we will be looking for, will be a risk adjusted ROE and that number is yet to be defined at this point publicly.

Our next question comes from the line of Jay McCanless from Sterne Agee. Your line is open.

Hi. Good morning, everyone.

First question I want to ask, I believe earlier in the call you discussed how orders were up on a month over month basis I think for the seventh month in a row as of September. I wanted to see how that compares to your underlying markets, and maybe not a market by market rundown, but do you guys believe you're taking share and doing better in most cases than the underlying market? And if not, why?

I think we're trying to take our fair share of each of the markets that we're in. We want to be a larger participant. We don't need to be the largest, but we want to be a larger participant in the markets we're in in a meaningful way. I think Colorado's a good example that we have a large market share here and I think we take our share here. And I think we just want to make sure that we're competitive and we're offering a great product, which we think we do, and that we're offering it at a price that's competitive, that we can get a reasonable absorption pace, Jay. So we think we are competitive in each of our markets that we serve.

Okay. And then the second question, was there a special push by the Company this quarter to move through some aged specs or some older homes? And I apologize. I got on late. I apologize if I missed this, but I didn't know if the gross margin was abnormally affected by a desire to move through some aged inventory, or if this is just normal sales and what we should expect going forward.

Jay, on the spec margins, they've really stabilized over the last several quarters. There is a difference, obviously, for a dirt margin. Typically you would expect to see a higher gross profit margin, which we are on those. And on the specs it's about 160 basis point difference. And that's actually been consistent over the last couple quarters.

Okay.

So it wasn't an over -- it wasn't an abundant amount of impact from that, I would say.

Okay. And then just one more, if I could sneak it in. In all the discussions that have been -- that you guys have talked about with strategy, et cetera, could you discuss what your mix of entry level is versus move-up right now and does it make sense to continue to push with neighborhood growth and more entry level neighborhoods when clearly the government doesn't have any interest in financing the entry level buyer?

We're not focused on the entry level buyer by traditional description of who it is, because today's entry level buyer that can get financed and you can build a product for is at a higher price point than the previous demographics. I think there's a couple builders that are working on projects that are more affordable first time, and we like to say we're at first time, first time move-up, but that's just at a higher price point.

So the circumstances are changed as far as the average prices that new homes are being delivered in different parts of the country. There are places that it's more affordable than certainly the Mid-Atlantic and the West Coast and even South Florida. It gets to be very pricey. So as we had commented earlier, it really deals with the mix versus saying that there's a first time market of any size, because that's really defined in each market. What we do could be defined as either first time or first time move-up, as to what's available to be built.

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

Thanks. Actually, my follow-up question was asked and answered. So thank you guys.

Thanks, Michael.

Our next question comes from the line of Buck Horne from Raymond James and Associates. Your line is open.

Thanks. Good afternoon.

I was wondering if you could talk a little about Phoenix in particular, and how did the Phoenix flooding maybe impact sales during the quarter or did it affect your community openings or closing activity in Arizona? Just trying to understand if that -- the weather had any impact there.

It really didn't. I read your note this morning, Buck. Really what we were referring to there was, obviously, the start of the year was a little bit harsher winter weather conditions, like in our Mid-Atlantic markets. So, I think in terms of getting some of our communities up and rolling took a little bit longer, as well as, really, in Denver it's interesting, we've actually had a much higher rainfall this summer than we have historically. So that does impact our production here in Denver, because we're building basements and it does just take some extra time when you're getting rain off and on throughout the summer. So that was really the comment there. Phoenix, really not an impact.

Okay. That's helpful. Thank you. And my last comment is related to the dividend, do you still feel like maintaining the dividend at these levels, $1 a share, like a 4% yield, is that the appropriate best use of capital right now, given where the balance sheet is levered and the expected growth in the inventory and reinvestment in the business? Do you feel confident in maintaining the dividend or would you potentially reassess that policy?

We technically reassess it every quarter. We absolutely feel it's appropriate. And we're very confident each time we declare the dividend, which we have for many years.

(Operator Instructions)

Our next question comes from line of Joel Locker from FBN Securities. Your lines is open.

Just a follow-up on your gross margin differential between spec and dirt sales in the third quarter or closing?

Yes, I mentioned that earlier. It's about 160 basis point different, Joel. Again, that's -- it's been pretty consistent for the last several quarters now.

Right. Sorry I missed that. Just the last one on -- I've seen your commissions went up to 3.4% from 3.3%, or ticked up, and was wondering if you were just offering outside brokers a higher fee or if there was more transactions involved.

No. Nothing really material there, Joel. I think obviously there is a mix, depending on the number of brokers you're co-brokering with as you're selling these homes. But nothing -- we're not giving outside broker commissions, as I know some of our competitors have maybe gone that route. We really haven't.

All right. Thanks a lot.

No problem.

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

Thanks a lot. I actually did think of one last one that I think is kind of important. So thank you. In looking at the community count growth and the composition of it over the last four quarters, a huge area of growth has obviously been Arizona, and obviously that's also coincided with the weakness this past year in pricing.

So I was just curious if you have looked at -- in terms of the sequential decline in gross margins so far this year, if you've looked at it from a geographic perspective and perhaps -- essentially how much of that gross margin decline -- let's say was running in the low 18%s four quarters ago and now it's at 150 BPs or more, less than that. How much of that you might estimate is just solely attributable to your exposure to Phoenix and Arizona?

I would say Phoenix market was a little disappointing, would be a nice way of saying it. Michael, one thing about Phoenix -- and I think we've been there for, I don't know, 30 years at least, it's a great place. It's a beautiful city. And the tone there, moving into the season here and there was probably -- you go back several years, they had a glut of foreclosures and product that traded really cheap and then it's come back on the market.

And then the new home sales have been slow and resales. In all these years, it pretty well right-sizes itself. And I think you'll look at Phoenix, that this was just a little bit more follow-through from a prior weakness. But it's self-correcting, as homebuilding, as you know, does self-correct. And we look forward to a much better year next year in Phoenix. And you can feel it. It's a great place to live.

Great. Thank you.

Thanks, Michael.

There are no further questions in queue at this time. I turn the call back over to our presenters for any closing remarks.

We appreciate you being on the call today and we look forward to speaking with you again following our Q4 results announcement.

This concludes today's conference call. You may now disconnect.