M/I Homes Inc (MHO) 2016 Q4 法說會逐字稿

Good afternoon, my name is Hillary, and I will be your conference operator today. At this time, I would like to welcome everyone to the M/I Homes year-end conference call.

(Operator Instructions)

Thank you, I would now like to turn the conference over to Phil Creek. Please go ahead.

Thank you. Joining me on the call is Bob Schottenstein, our CEO and President; Tom Mason, EVP; Derek Klutch, President of our Mortgage Company; Ann Marie Hunker, VP, Corporate Controller; and Kevin Hake, Senior VP.

First to address regulation and fair disclosure, we encourage you to ask any questions regarding issues that you consider material during this call, because we are prohibited from discussing significant non-public items with you directly. And as to forward-looking statements, I want to remind everyone that the cautionary language about the forward looking statements contained in today's press release, also applies to any comments made during this call. Also be advised that the Company undertakes no obligation to update any forward-looking statements made during this call.

Also during this call, we disclose certain non-GAAP financial measures. A presentation of the most directly comparable financial measure calculated in accordance with GAAP, and a reconciliation of the differences between non-GAAP and the GAAP measure was included in our earnings release issued earlier today, that is available on our website. With that, I'll turn the call over to Bob.

Thanks, Phil. Good afternoon, everyone, and thank you for joining our call to review our 2016 fourth quarter and full-year results. We are pleased with our strong performance in 2016, highlighted by solid growth in revenue and earnings, and record level of home closings, and new contracts for the year.

Homes delivered in 2016 increased 15% to a record high of 4,482 closings, and new contracts also reached an all-time record of 4,755 homes in 2016. This was a 16% increase over 2015.

In addition to the full-year records, we also achieved record sales for our fourth quarter, with new contracts up 11% from 2015's fourth quarter. Closings were 13% higher in the fourth quarter than in 2015. Our new contracts have increased at an annual compound rate of 12% since 2008, and our revenues have grown at a 14% compound rate over the same period. These are solid growth rates over the past eight years, and in our view represent one of the highest growth rates in the industry.

As a result of our strong sales, the value of homes in backlog at December 31, 2016 increased 20% over last year to a value of $685 million, with backlog units increasing 18% to 1,804 homes. For the full-year, total revenues increased 19% to a record $1.7 billion. Pre-tax income for the full year of 2016 increased 17% to more than $111 million, excluding charges for stucco-related repairs in 2016, as well as debt extinguishment charges that were incurred in 2015. Net income increased 21% to $69 million or $2.24 per diluted share for 2016, and this also excluded stucco and debt extinguishment charges.

Our SG&A expense ratio declined to 13% for the year, compared to 13.3% a year ago. Our SG&A expense ratio has now declined by 100 basis points over the last two years. We continued to gain leverage with these costs, and expect to make further progress in reducing this ratio going forward, as this remains a major area of focus. Phil will discuss this in more detail momentarily.

Our financial services business also recorded another strong performance in 2016, setting a number of records, with pre-tax income increasing to [9%] to $21.2 million for the year. Our mortgage operation originated and closed nearly 3,300 mortgages, with a total value of mortgages originated approaching a record $1 billion.

We continue to benefit from a profitable and well-managed mortgage and title business led by Paul Rosen and Derek Klutch. You will hear from Derek in a few minutes. We have significantly expanded the Company since coming out of the downturn over the last number of years, adding people and communities in our established divisions, and launching new operations in six new markets. We've achieved this growth by building teams with capable dedicated individuals and leaders that share a commitment and passion to building and selling high-quality homes, and taking care of our customers.

2016 was a milestone year for our Company. It was our 40th year in business, having been founded in 1976. In addition to the many operational records I've mentioned earlier, we also sold our 100,000th home during 2016.

Looking ahead, we feel very good about our business. In terms of the economy, housing conditions are generally good, and we believe they're likely to remain so. We continue to make meaningful progress in our newer divisions.

We have an excellent land position, and an active pipeline of new opportunities throughout our Company. And I'm excited to share with you, that we recently launched a new series of more affordable homes that we believe will positively contribute to future results.

We are well-positioned as we start the year, with more than 23,000 lots under control, an increase of 3% over a year ago. We ended the year with a solid balance sheet, $654 million of shareholders equity, and a healthy 43% ratio of homebuilding debt to capital.

Phil will talk more specifically about our expectations for community (inaudible) growth in 2017. Let me just say, that at year end, we had 178 active communities open for sale, and our average communities throughout the year were up about 10%, in line with the guidance we gave last year at this time. With our strong year-end backlog, the strength of our land position, and the quality of our communities, we are well-positioned to grow and achieve further improvement in our profitability in 2017.

Now I'll provide a little more detail about our three region housing markets. First, the southern region, which is comprised of our three Florida and four Texas markets. In the southern region, we had 550 deliveries during the fourth quarter, which represented 39% of total volume. New contracts in the southern region increased 12% year over year for the quarter.

We are achieving solid results in all three of our Florida markets. Tampa and Orlando sales were strong throughout the year, and we expect both of these markets to continue to perform at a very high level in 2017. Our newest Florida market, Sarasota, is off to a very solid start in its first six months of operation, and we are excited about the prospects for this new division.

In our Texas operations, Austin, San Antonio and Dallas contributed significantly to deliveries, compared to performance a year ago. Houston deliveries declined from the prior year, however, with our new Houston Leadership Team now firmly in place, we expect meaningful improvement in Houston in 2017.

The dollar value of our sales backlog in the southern region at year end was up 20% from the start of the year, and our controlled lot position in the southern region increased slightly from one year ago. We had 79 communities in southern region at the end of the year -- excuse me -- this represented an increase of 20% from a year ago. As to our four Texas divisions, we had 49 communities at year end versus 38 a year ago. We continue to be excited about the opportunities we have to grow in all seven of our southern region markets.

Next is the Midwest region, which consists of five markets. We delivered 527 homes in the Midwest during the fourth quarter, and 1,690 for the year. This was a 19% increase from last year, and represented 38% of total Company deliveries.

New contracts in this region were up 20% for the year, with improved sales, and very solid performance in all five of our Midwest markets. Our sales backlog in the Midwest was up 16% from the start of the year in dollar value, and our controlled lot position in the Midwest increased 14% from a year ago. We ended the year with 61 active communities in the Midwest, which was actually a decrease of 16% from December of a year ago.

The demand throughout our Midwest markets is solid, and I'm happy to say that each market is performing at a high level. Minneapolis-St. Paul, our newest Midwest market had an excellent solid start in its first full year of operation for us.

Lastly, the mid-Atlantic region which is made up of three markets, Charlotte and Raleigh, North Carolina as well as DC. In the mid-Atlantic region, new contracts were up 9% for the quarter, compared with 2015. Our sales backlog value was up 32% at year end from the start of the year, and we ended the year with 6% more communities than a year ago, with 38 active communities in the mid-Atlantic region.

We delivered 339 homes out of our mid-Atlantic region during the fourth quarter. This was up 8% from a year ago, and we delivered 1,084 homes in this region during 2016. This represented 24% of total Company deliveries.

Both of our Carolina markets, Charlotte and Raleigh had very good years, with improvement in sales and deliveries, and are among our top-performing markets Company-wide. On the other hand, demand in our DC market continues to be sluggish. With that, I'll turn the call over to Phil for more financial result details.

Thanks, Bob. New contracts for the fourth quarter increased 11% to a fourth-quarter record of a 999. Our traffic for the quarter was flat, while our community count was up 2% at year end. Our new contracts were up 7% in October, up 7% in November, and up 22% in December.

As to our buyer profile, about 45% of our fourth-quarter sales were to first-time buyers. This compares to 42% in the third quarter. And 47% of our fourth-quarter sales were inventory homes, compared to 48% in the third quarter.

Our active communities were 178 at the end of the year. The breakdown by region is 61 in the Midwest, 79 in the South, and 38 in the mid-Atlantic. During the quarter, we opened 18 new communities, while closing 14. For the year, we opened 52 new communities and closed 49, and for the year, our average community count was up 10%.

For 2017, our current estimate is that our average community count for the year will be up 5% to 10% over 2016 levels. We delivered 1,416 homes in the fourth quarter, delivering 64% of our backlog compared to 70% a year ago.

Revenue increased 12% in the fourth quarter compared to last year, primarily as a result of an increase in the number of homes delivered. For the full year, revenue increased 19% compared to 2015.

In 2016's fourth quarter our average closing price was $356,000, which was lower than our third-quarter average closing price of $365,000. This decrease was primarily due to our closing mix. In the fourth quarter of this year, compared to the third quarter, we closed a higher percentage of our homes from the southern region, and a lower percentage from the mid-Atlantic area.

Our fourth-quarter gross margin was 20.0% versus 20.2% a year ago. For the full year, our gross margin exclusive of stucco-related charges was 20.6%, down 60 basis points from prior year. The decline from prior year is due primarily to higher land costs.

We recorded $4 million of impairment charges in the fourth quarter. The majority of this charge was for higher priced lots in two communities in Texas. Our fourth-quarter SG&A expenses were 12.7% of revenue, slightly higher than last year due primarily to a higher headcount. For the year, our SG&A expense ratio improved 30 basis points to 13% from last year, and 100 basis points from 2014's level.

Improving our operating efficiency has been a major area of focus for us for the last few years, and will continue to be so. We believe we will continue to see improved operating leverage, as our newer divisions increase their volume, and gain better scale.

Interest expense decreased $1.2 million for the quarter, compared to last year, and increased slightly for the year. Interest incurred for the quarter was $7.9 million, compared to $9.7 million a year ago. We have $16 million in capitalized interest on our balance sheet. This is about 1% of our total assets.

And our effective tax rate was 39% in the fourth quarter, primarily due to the impact of changes in certain state tax rates. Our annual rate was 38%. And our earnings per diluted share for the quarter were $0.67 per share. This per share amount reflects $1.2 million of dividends paid to our preferred shareholders.

Now Derek Klutch will address our Mortgage Company results.

Thanks, Phil. Our mortgage and title operations pre-tax income decreased slightly, from $5.1 million in 2015's fourth quarter to just over $5 million in same period of 2016. The income comparison was primarily affected by the reversal of loan loss reserves in 2015, and some modest delays in investor fundings.

The loan to value on our first mortgages for the fourth quarter was 83% in 2016, the same as 2015's fourth quarter. 77% of the loans closed were conventional, and 23% were FHA or VA. This compares to 74% and 26%, respectively, for 2015's same period.

Our average mortgage amount decreased 2% to $293,000 in 2016's fourth quarter, compared to $299,000 in the prior year, while loans originated increased 18% from 906 to 1,073. For the quarter, the average borrower credit score on mortgages originated by M/I Financial was 739, up from 738 a year earlier. Our mortgage operation captured about 85% of our business in the fourth quarter, compared to 2015 [of] 82%.

Due to the high volume of fourth-quarter closings, we added seasonal increases to our warehouse facilities, with temporary availability of $185 million through January of 2017. And December 31, we had $120 million outstanding under the M/I credit agreement, which is a $125 million commitment that expires in June of 2017, and also $33 million outstanding under a separate repo facility which expires in October of 2017. Both facilities are typical 364-day mortgage warehouse lines, that we extend annually. Now I'll turn the call back over to Phil.

Thanks, Derek. As far as the balance sheet, we continued to manage our balance sheet carefully, focusing on investing in new communities, while also managing our capital structure. Total homebuilding inventory at 12/31/16 was $1.2 billion, an increase of $104 million above 12/31/15 levels. This increase was primarily due to a higher investment in our backlog, higher community count, and more finished lots. Our land investment at 12/31/16 is $589 million, compared to $597 million a year ago.

At December 31, we had $207 million of raw land, and land under development, and $382 million of finished unsold lots. We owned 4,735 unsold finished lots, with an average cost of $81,000 per lot, and this average lot cost is 21% of our $380,000 backlog average sale price. Our goal is to maintain about a one-year supply of owned finished lots.

The market breakdown of our $589 million of unsold land is $197 million in the Midwest, $232 million in the South, and $160 million in the mid-Atlantic. Lots owned and controlled at 12/31/16 totaled 23,064 lots, 45% of which were owned, and 55% under contract. We own 10,355 lots of which 36% are in the Midwest, 43% are in the South, and 21% in the mid-Atlantic.

During 2016's fourth quarter, we spent $81 million on land purchases, and $58 million on land development for a total of $139 million. And for 2016, we spent $408 million on land purchases and land development, and about 35% of the purchase amount was raw land. Our estimate today for 2017 land purchases and development spending is $500 million to $550 million.

At the end of the quarter, we had 376 completed inventory homes, or 2 per community, and 996 total inventory homes. And of the total inventory, 300 are in the Midwest, 519 are in the southern region, and 177 are in the mid-Atlantic. At 12/31/15, we had 483 completed inventory homes, and 872 total inventory homes.

Our financial condition continues to be strong, with $654 million of equity, and homebuilding debt-to-cap ratio of 43%. At 12/31/16, there was $40 million outstanding under our $400 million unsecured revolving credit facility, and we have $58 million of convertible debt due in 2017.

This completes our presentation, and we'll now open the call for any questions or comments.

(Operator Instructions)

Your first question comes from the line of Alan Ratner with Zelman & Associates.

Hey, guys. Good afternoon. Thanks for taking my question. Bob, my first question is just on the new affordable line you mentioned in your prepared remarks. I'm just curious, if you could expand on that a little bit?

How does that product compare to your current first-time buyer product, which is about 45% of your business, and which markets are you targeting it in? And just generally, how big should we expect that to become, as part of your business over the next couple of years?

A really good question. It's different than anything we built thus far. We have one community that is open and operating, that's off to a very good start, and we have several others that will likely be opening during the first part of this year. And then, a number of others that are being planned that we'll open, at some point subsequent to that.

In terms of what percentage of our total business it might become, that's hard to say, because we're going to react. And but, if -- my sense is, that could become as much as 10% or 15% of our business over the next 12 to 18 months incrementally, [if at] that kind of unit growth. So in other words, we don't have the product right now. So that would be the expectation.

And is this an [expensive] product --? (multiple speakers)

Exactly where we are doing it, I'm not going to say where we are planning it, and where we're doing it, because as I feel like, until we open, that's sort of proprietary.

Got it. Is a product itself though, I mean, how do you think about it vis-a-vis the current portfolio? Is it smaller, is it -- I mean, what type of price point are you aiming at here? Just trying to get a feel for, is this kind of in the express mold?

Yes, it's very difficult for us in the markets that we're in now, given -- just given all of the issues associated with land prices and zoning limitations, to create product that is meaningfully under $200,000. The community that we have opened up, we have a couple of models that do price out just under $200,000.

But it would be our hope, that once this is up and rolling, with two, three, four, five, eight communities maybe a year from now, that it will be -- maybe it will peak at the high [1s], but the likely in the low [2s], the $200,000 to $250,000 price point.

And the with the benefit of FHA financing, and in some cases even [USDA] zero-down financing depending on the location, we think that this is something that -- look, we're obviously not the first, or even the second or third builder to do it, but there is clearly a demand for it. We're very -- we're not -- there's nothing dumbed down about it. It is smaller, and obviously it's less expensive, but it still carries with it our standard warranty, and energy efficiency construction, and so forth.

Great. Thank you for all that detail. And if I can get in one more, Bob, or maybe for Phil. You guys have obviously put up great growth over the last several years. You highlighted that in your script. And generally, the SG&A leverage has been very solid as well.

This quarter, it moved in the opposite direction. And I know you mentioned, you continue to focus on that part of the business. Curious, if you can give us any more color, why that flipped the opposite way this quarter? If there were any one-time items in there?

And then, going forward, how we should think about that leverage trending? If we should ignore this quarter, and look at more of the recent track record, or if we should temper those expectations? Thank you, and good luck.

Well, I just want to take a crack at a just a summary comment, or an overview comment, then turn it over to Phil. I think quarter to quarter sometime, a lot of things can move, and not necessarily be indicative of an annual trend.

But our SG&A dropped 70 basis points from 2014 to 2015, 30 during this past year, and we're looking for it to continue to drop. And it is an area of focus. With that, I will turn it over to you, Phil.

Well, one of the challenges, of course, have been -- we have been expanding a lot, as Bob talked, just in the last four or five years, four Texas markets, a small acquisition in Minneapolis which we're growing, also starting up in Sarasota. So obviously, we have embedded in our results a lot of growth. And also with our backlog being up 18% in units, I mean, our growth plans are continuing.

And it's one of those situations, where you do need a certain amount of people. We are opening a lot of communities. Our community count increased, hopefully it will continue also in 2017. So again, there are a lot of things going on, mostly good. We're always focusing on those efficiencies, but sometimes quarter to quarter results get a little bit lumpy.

Got it. Thanks a lot guys. Good luck.

Thanks, Alan.

Your next question comes from the line of Jay McCanless with Wedbush.

Hi, good afternoon, everyone. First, a housekeeping. Phil, could you please repeat what the inventory homes sales numbers were for Q4, this year and last?

What the inventory detail was?

Yes. (multiple speakers)

For the spec homes?

Yes, the spec homes.

Yes, Jay, as far as spec homes, at the end of the quarter, we had 376 completed inventory homes, 2 per community and 996 total inventory homes. And of the total inventory homes, 300 in the Midwest, 519 in the southern region, and 177 in the mid-Atlantic. And at 12/31/15, we had 483 completed inventory homes, and 872 total inventory homes.

Got it. Okay.

Were you also asking about how many of our sales was --?

Yes, that's what I -- yes, I wanted to know that also. What were the 4Q sales this year and last year?

47% of fourth-quarter sales this year were spec homes, and 48% in last year's.

Okay, great. Thank you.

On the 48% were third quarter, [48%], so that's sequential.

Okay. (inaudible) What tax rate are you guys modeling for this year?

For the full year, of this past year, the tax rate was 38%. It was a little higher in the fourth quarter, but 38% for the year, Jay.

Okay. (multiple speakers -- inaudible) And you think it will be similar for 2017?

About 37% --

Yes, I would think it would be pretty much the same thing. Of course, there is discussion of different things. But 37%, 38% something like that, kind of what we're thinking.

Got it. Okay. The next question I had, in terms of the 5% to 10% community growth for 2017, are there -- are you guys going to have more of a geographic focus on one market versus another, just with the plans [Judd] laid out now?

I think that, this is Bob Schottenstein. I think that the right now, approximately 38% or so of our business is in the Midwest, with similar percentages in the South. Of course, there is five divisions of the Midwest, there's seven in the South. I expect the southern region -- and the balance is mid-Atlantic.

I'd expect the southern region to grow more, because there's seven divisions. They've got more teams, more players on the field, so they should. So I think a greater number of communities are likely to be coming on in the South.

Now I think the mid-Atlantic, which is three divisions, two of which are performing at a very high level as I had mentioned, Charlotte and Raleigh. DC, we continue to see inconsistent, and frankly sluggish demand. So we're less willing to -- we're less bullish about community expansion there. So you may see a slight decline in the mid-Atlantic, most of it would probably be as a consequence of the DC market.

And Jay, to give you some specifics, when you look at the breakdown of the communities at 12/31/16, the Midwest was 34%, the South was 44%, and mid-Atlantic was 22%. We opened 52 communities in 2016. We achieved 10% average community count growth. We're thinking for 2017, 5% to 10%. I think Bob gave directionally, we're going to continue growing. We've got more divisions in the South, but we have put a lot of money in Texas, in the last year or two. But overall, with mid-Atlantic being in that 15% to 20% range, you're probably there, and the South and the Midwest being the bigger hitters, of course.

Got it. Okay. All right. Well, that's all the questions I had. Thank you very much.

Thanks, Jay.

Your next question comes from the line of Alex Barron with Housing Research Center.

Hey, Alex.

Hey, guys. How are you? Good job. I wanted to ask, if you can share any comments on what you guys are seeing in Houston in the last few months, in terms of order demand? I think you mentioned closings might have been down a little bit, but what's happening on the order side of things?

Our business, the last couple of quarters has been improving in Houston. Bob talked about a fair amount of senior management changes made, the middle of the last year. We have worked hard on getting our price points more affordable.

You did hear the comment on impairments, with those impairments being in two communities in Texas, where we had some higher priced type lots. The short answer is our business is getting better in Houston. So --(multiple speakers)

And I --

So I think we're in better shape.

Yes, and Alex, what I would add to that is -- I think that some of the struggles that we had in Houston were unforced errors. We have a new leadership team now in place there, it has been for the last several quarters. And we've got a lot of confidence in our future results in Houston.

Okay. Sounds good. Can you also comment on what if any impact you've seen from -- since rates have gone up since the election? And if rates were to stay here, what's kind of your feel for what will happen this year, or how you guys plan to address it?

Look, rates have gone up as you know, roughly 80 basis points, and I'm looking at Derek, and he's nodding approvingly. So he's the one that really follows that more closely than I have.

We think we've got good sales since then, and our traffic it's -- what we've seen, it gives us a fair amount of confidence about the spring selling season. I mean, we're -- look, I said in my remarks that we're optimistic about our business, excited about where it is, believe housing conditions are likely to remain good. And look, I think rates are going to go up again. I don't think they're going to go down.

I do think they are going to go up again. But it's, I think that there's still a lot of fundamentals that suggest good demand, and I think we can manage our way through it. I don't think this is something that's going to -- look, it from a historical standpoint -- I mean, I don't need to say this to you, rates are still incredibly low. But they have moved up quite a bit in a short period of time, but it hasn't chilled things too much. I mean, we haven't lost our optimism by any stretch.

And that's good to hear. And then lastly, any comments you can make on order or traffic activity in January?

We don't make any comment on that, but we talked about how our orders were strong in December.

Okay. Thanks guys.

Thanks.

(Operator Instructions)

There are no further audio questions at this time.

Thank you very much for joining us. Look forward to talking to you next quarter.

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