Meritage Homes Corp (MTH) 2004 Q2 法說會逐字稿

Good day, everyone, and welcome to the Meritage second-quarter 2004 earnings results conference call. This call is being recorded. At this time, for opening remarks, I would like to turn the call over to Mr. Alan Oshiki. Please go ahead, sir.

Good morning, everyone. Welcome to the Meritage Corporation conference call to discuss operating results for the second quarter 2004. Along with this conference call, you may also follow a slide show presentation which can be accessed through the Company's website at www.MeritageHomes.com. Participating on the call today from the Company's management team are Steve Hilton and John Landon, Co-Chairman and Co-Chief Executive Officers, and Larry Seay, Chief Financial Officer.

Before we start, I'd like to remind everyone that during the course of this conference call, certain projections and other forward-looking statements may be made regarding future events or the future financial performance of the Company. We refer you to the disclosures that the Company files with the Securities and Exchange Commission, specifically those contained in the Company's most recently filed 10-K and 10-Q, and its second-quarter earnings press release. These documents describe important factors that may cause actual results to differ materially from those contained in any projections or forward-looking statements made during this conference call. We also refer you to Meritage's second-quarter press release for the definition and discussion of the use of EBITDA which, of course, is a non-GAAP financial measure.

I'll now turn the call over to Steve Hilton. Steve?

Good morning, and thank you for joining us as we discuss Meritage's results for the second quarter and the first six months of 2004. In today's presentation, we will recap our performance, review our balance sheet, return measures and liquidity, and also discuss the outlook for the remainder of 2004. After that, we will be happy to answer your questions.

We'll begin our presentation on slide four. For the second quarter of 2004, we set all-time quarterly records for the dollar value of sales orders and the value of homes in backlog. We also set second-quarter records for home closing revenue, net earnings and diluted earnings per share. The value of sales orders for the quarter was up 51 percent over last year's second quarter to $700 million. The value of homes in the backlog exceeded $1 billion for the first time in the Company's history, reaching nearly 1.2 billion, up 45 percent over the June 30, 2003 levels.

We generated $431 million in home closing revenue during the quarter, up 32 percent from last year's second quarter, and an all-time second-quarter record. Net earnings and diluted earnings per share also reached second-quarter records of 16 percent and 14 percent, respectively. However, net earnings and diluted earnings per share rose 39 percent and 37 percent, respectively, for the first six months of this year, as compared to the first six months of 2003.

John and I remain very positive about the state of the home building industry, and we believe that Meritage is well-positioned for growth. We believe that the improving economy and job growth will more than offset a moderate increase in mortgage interest rates. The US homeownership rate, at 68.6 percent, is at an all-time high, and over the past 10 years has never decreased from one quarter to the next, despite periods of rising interest rates which occurred in 1994, 1998 and 2000. Today's more sophisticated mortgage market provides buyers with a variety of lending products, enabling them to adjust to rate changes. Job growth and favorable demographics -- particularly the growing segments of immigrants, baby boomers and echo boomers -- support healthy housing demand. Despite continued record performances, home builders still traded significant discounts to the market as a whole. As the large builders are getting larger and are consolidating the industry, the large builders continue to gain market share, and are able to experience lower per-unit costs and have a preferred access to land over smaller builders.

On slide six, home closing revenue increased 32 percent from last year's record second quarter, and the number of homes closed was up 29 percent. We also generated three-year compounded annual growth rates of 35 and 28 percent, respectively, for home closing revenue and closings for the second quarter of 2004.

Slide seven -- we generated $855 million in home closing revenues in the first half of the year, up 40 percent from the prior year's first half, and home closings increased 33 percent to 3,189 for the same period. The three-year compounded annual growth rate was 43 percent and 35 percent, respectively, for home closing revenue and home closings for the first six months of 2004.

Slide eight -- during the second quarter and first six months of 2004, home closings increased 29 percent and 33 percent, respectively, over the same period a year ago, and were up most significantly in California and Arizona. The housing markets in California and Arizona are very strong right now, and are driving the demand for homes in those states, in those markets.

In Texas, foreclosings rose 16 percent for the quarter and 18 percent for the first six months. Demands for our homes in Houston and San Antonio are strong. Austin continues to improve from a low base, and we are experiencing some softness in the Dallas/Fort Worth market.

Slide number nine -- the average price of homes in backlog at June 30, 2004 was 277,000, up 8 percent from June 30, 2003, reflecting a large increase in homes in backlog in California, which generally has higher pricing levels than our other regions.

Slide 10 -- pretax earnings rose 17 percent to 39.8 million during the second quarter, as compared to the second quarter of last year. Diluted earnings per share increased 14 percent to $1.77, despite a 102 basis point decline in pretax margin to 9.2 percent. I will discuss this margin compression in more detail on the next slide.

Slide 11 -- in California and Arizona, our second-quarter pretax margin was relatively stable, as compared to the same quarter of last year. However, gross margins were down in Dallas, where softness in that market is resulting in pricing pressure. In addition, in Nevada we experienced a short-term fluctuation of lower margin deliveries. However, we believe this margin compression was short-term, and anticipate margin improvements in the second half of the year, resulting in overall pretax margin for the full year being in line with last year's 10.3 percent, meeting our long-term goal of achieving a 10 percent or better pretax margin.

Diluted earnings per share advanced 37 percent from $2.70 during last year's first six months to $3.69 this year. In addition, we generated 9.7 percent pretax margin for the first six months of this year, stable as compared to the same period a year ago.

I will now turn the call over to Larry Seay to discuss our balance sheet in more detail. Larry?

Thanks, Steve. Good morning, everyone. At Meritage, we focus on maintaining a strong balance sheet to support organic growth and to provide reserve capacity to take advantage of acquisition opportunities that may arise.

On slide 13, as you can see, at June 30, 2004 we had approximately 748 million in real estate inventory, up 22 percent from the same time last year, and our trailing 12-month inventory rate was stable at 1.9 times, as compared to the same period last year. At the end of the second quarter, we controlled approximately 35,700 lots, representing about a 5.1-year supply, based on projected full-year 2004 closings, the same as our year-ago supply, and at the upper end of our target range of four to five years. We continue to utilize lot option contracts to purchase most of our lots, which we believe offers Meritage more flexibility and less risk. We currently control approximately 87 percent of our lots through option contracts.

Slide 14 -- our stockholder return measures for the trailing four quarters are all relatively in line with last year. For the four quarters ended June 30, 2004, we returned 11 percent on assets, 14 percent on capital and 27 percent on equity, as compared to 12, 14 and 26 percent, respectively, over the same time last year.

On slide 15, our net debt to capital ratio at June 30, 2004 was 49 percent, a slight improvement over 50 percent at June 30, 2003 and well within our target range of 45 to 55 percent. Debt to trailing four-quarter EBITDA, ended June 30, improved from 2.3 times last year to 2.0 times this year. Our trailing four-quarter EBITDA to interest covered ratio dropped slightly, from 7.3 times last year to 6.7 times this year. This change is directly the result of our increase in interest costs resulting from replacing short-term debt with longer-term debt.

In April, we issued 130 million of 7 percent senior notes due 2014, the proceeds of which were mostly used to repay our bank line, as well as to repurchase 300,000 shares of our common stock during the second quarter. Issuing additional long-term debt strengthens our balance sheet, and is important to support our future growth plans, while our second-quarter stock repurchases improved our earnings per share. We presently have 410 million of senior notes outstanding, double the 205 million from a year ago.

At June 30, 2004, we had 16 million outstanding on our 400 million bank credit facility, leaving 384 million unused, of which 139 million was available to borrow, after considering our borrowing base limitations and our most restrictive bank covenants.

I will now turn the call over to John Landon. John?

Thank you, Larry, and good morning, everyone. I'll start on slide 16. The number of homes ordered increased 36 percent for the second quarter 2004 and 37 percent for the first six months of 2003. Sales orders were exceptionally strong in our California division, where we generated 129 percent more orders than during the second quarter of 2003. This strong demand is the result of the very healthy California housing market, as well as an 89 percent increase in our active communities in that region.

The Arizona housing market is also very strong, as is the demand for our homes there, evidenced by increases of more than 70 percent in sales orders for the second quarter and first half of the year. The number of orders for community in Arizona doubled, from 31 during the first half of 2003 to 62 for the first half of 2004. Strong sales in Nevada during the latter part of 2003 resulted in the early selloff of several communities there. As a result, we had only one community open during the first quarter and most of the second. We did open two new communities for sale in Nevada during the latter half of the second quarter, and plan to introduce another five during the second half of 2004, bringing our community count to approximately 8 in Nevada by year end. We anticipate that this increase in communities will result in an increase in sales orders in Nevada for the full year 2004, as compared to 2003.

Moving to slide 17, for the first time in Meritage history, we ended a quarter with more than 4,000 homes in backlog, with a value exceeding 1 billion. At June 30, 2004, we had 4,215 homes in backlog, as compared to 3,135 homes a year earlier, an increase of 34 percent. At June 30, 2004, the dollar value of these homes was approximately 1.2 billion, an increase of 45 percent over the year-ago level.

Slide 18 -- the number of communities in which Meritage is actively selling was up 17 percent from the end of last year's second quarter versus the same time this year. Supporting the robust order demand in California is an 89 percent increase in communities over the past 12 months from 9 to 17. In Texas, we increased our community count 24 percent from 70 to 87. Orders per community in Arizona doubled over the first half of the year, as compared to the first half of last year. Sales orders increased 77 percent over that period, while the community count went from 34 to 30.

Moving to slide 19, at June 30, 2004, we controlled approximately 35,700 lots, representing approximately a 5.1-year supply, based on full-year 2004 closings. This represents an increase in lots of 20 percent over the year-end 2003 level and 25 percent above June 30, 2003. A significant portion of this increase was driven by our California region, which increased its lots under control by approximately 1,650, or 104 percent above the June 30, 2003 level. In anticipation of significant sales growth, particularly in our recently acquired Southern California division, we also recently closed on our first land acquisition in Colorado, and anticipate delivering homes there in the fourth quarter of 2005.

Slide 20 -- we are currently projecting home closing revenue to be in the 1.8 to 1.9 billion range for 2004, up 23 to 30 percent over 2003. Assuming future growth in the 20 to 25 percent range, including potential acquisitions, we anticipate reaching 3.4 billion in home closing revenue by 2007, representing approximately 12,500 home closings versus approximately 7,000 this year.

Moving to slide 21, as a result of our strong sales performance in the second quarter, we are raising our diluted earnings per share guidance by 30 cents to approximately $8.55 to $8.80 for the full year 2004, an increase of 25 to 29 percent over the full year 2003. This also represents a four-year projected compounded annual growth rate of 29 to 30 percent.

Slide 22 -- for the third quarter of 2004, we anticipate diluted earnings per share to be approximately $2.10 to $2.20 per share, an increase of 13 to 18 percent over the third quarter 2003, and representing a four-year projected compounded annual growth rate of 23 to 24 percent.

Steve and I remain very positive about the state of the home-building industry. We believe that recent job growth and the improving economy will more than offset the recent moderate interest rate increases. With our all-time record levels of sales orders and backlog, our expectation for second-half margin expansion and stable economic conditions, we believe that Meritage is poised for solid financial growth, and expect 2004 to be our 17th consecutive year of record revenues and earnings.

This ends our formal comments, and we'll now turn the floor over for questions. The conference call operator will provide you with instructions on how to register your questions. Operator?

At this time, I would like to inform everyone in order to ask a question, please press star, then the number 1 on your telephone keypad. We'll pause for just a moment to compile the Q and A roster. Please hold for your first question. Please hold. Your first question comes from Craig Kucera of Friedman, Billings & Ramsey.

Hi, good afternoon.

Howdy.

Appreciate the follow-up on the call. Had a few questions and I guess I'd like to kind of start with, you know, your expectations for increasing margins in the latter half of the year and, you know, maybe a little bit more color on what exactly happened in Dallas and kind of where Dallas margins were -- or Texas margins as a whole were relative to maybe where they were in first quarter.

Well, I think to start with we always have weighted our closings to be much more of our closings in the second half of the year than the first half of the year so when you just take and you amortize your SG&A over more closings, we are going to see a higher overall pretax margin in the second half of the year than the first half of the year which has pretty much always been the case historically.

We did have some decreased margins on a year-over-year basis in the second quarter and some of that was weather-related and some of that was really mix on where the closings came from, and that really speaks a little bit to Texas. Historically, our margins in Texas have been strongest in the Dallas market. And they still are.

So when we talk about softness in the Dallas market don't read into that that we're having, you know, horrible margins in Dallas and then better margins in the rest of the state. It's not like that at all. It's that we historically have had our best margins in Texas and Dallas. They still are our best margins in Texas, but we're seeing our margins, or we're expecting margins like in Houston from the past several years we've inched them up little by little and we expect that this year will be the same.

We're going to be expecting overall for the whole year improved margins in Houston from '04 compared to '03. And go around the rest of the market in Texas, we're dealing with -- Austin started being slow really about 2001, and we're still seeing some improvement in the Austin market although those margins are significantly less than the margins we receive both in Dallas and in -- on the average on the whole state of Texas.

So we're still, you know, Texas margins are still right there in that 9.5 to 10% range for the full year for the first half of the year, and where we see margins going we see them stabilizing in that range in Texas for the full year. Does that help give you some color?

When you say margins at 9.5 to 10%, that's not an EBIT margin, is it?

That's a pretax margin, which we -- our target has always been to achieve a 10% or greater pretax margin, not EBIT margin.

Company wide?

Company wide.

Right.

So let's don't overstate what's going on in Texas. Business is still very good in Texas overall. We've seen a shift more towards more of our closings coming from places other than Dallas and as to what part of the margin erosion is.

Let me just add that our business has always been weighted towards the back half of the year and the second quarter has always been the hardest quarter for us because houses that we closed in the second quarter or homes that we sold in the fourth quarter the previous year, and this year, with the rains that came in Texas in June and the drop off on communities we have in Las Vegas, we had a particularly hard time in this quarter leveraging our overhead. And we see real strong rebound in these margins coming in the third and the fourth quarter this year.

Can you comment on some of the commodities pricing you're seeing? Are you still able to push pricing enough to absorb that and if -- I guess maybe on a year-over-year basis maybe what kind of impact you're seeing on costs from rising commodities, say in the second quarter, all things being equal.

I would say that's a market by market driven thing. In some market we're more than offsetting our market increases with price increases. In others that's not as easily to do, and that would be like a Dallas where we have had some margin depression in that market and that's pretty much -- pretty much business as usual, and I think that's part of the improving economy, we're seeing some of our vendors are seeing an opportunity to raise some prices in some of our markets.

John, would you agree that the margin compression is probably mostly on the demand side not on the expense side?

We are seeing -- yes, I would. That's most of it. But we are still seeing some of our contractors like concrete obviously we all know that lumber is a commodity that fluctuates up and down and it's kind of at historical highs and we're seeing that almost come off a little bit so I think those are -- those are two fairly large components in the -- on the materials side, and we're seeing some pressure from those sides but it's more, you know, competition and price incentives -- or discounting that's going on but that's business as usual. That's always been the state of where it is in the Texas market.

And how would you compare kind of level of incentives say this quarter versus where it was in first quarter in a year ago? Has it ramped up significantly?

It's maybe 1% more. It's not like we're seeing huge discounting that we've not ever seen in the past. And with operating in this market for, you know, 20 years and it's pretty much, you know, I would say we're at very high levels.

We're seeing, you know, record amount of permits although there's a lot of competition, everyone's vying for market share but we know how to compete and we've always competed and we've always been on the historical high end of the range in pretax margin and we will continue to be there, we feel.

And I guess finally, if I could ask, you know, what kind of dollars are you seeing going towards the options and upgrades?

Are those still holding pretty steady or are you seeing any decline with that as we've seen sort of an uptick in interest rates?

Nothing's really changed in that area.

What are but guys running right now?

It just depends on the product and the market. You know, anywhere from as low as 5% of the base price to as high as maybe 15% in some product. The higher price product people are buying more options. On the entry-level product people are buying less options.

Thanks for your time.

Thank you.

Your next question comes from Mike Kinder of Citigroup.

Wondering if you can update us on what's going on with specs, where you stand with those right now, total number of specs as well as unsold.

This is Larry Seay talking. Our spec levels have stayed in very good levels. In fact, in comparison to prior quarter our spec levels have gone down a bit as a percent of units and backlog or units under construction so we're running in the high single digits spec levels as a percent of backlog -- or percent of units under construction, kind of in the 8 to 10 range, and historically that's very good, and we continue to manage our spec levels to keep those in check.

And do you have any sort of number for unsold finished specs?

That number, unsold finished specs is about 2% of backlog plus specs. So it's a number kind of in the 100, 110 unit range. So it's a very small number.

Okay. Then the other question was on, you know, land sales, you had a big chunk of them last year, the number is down significantly year-over-year this year what. Should we assume as kind of a normalized run rate on those as we look into the second half?

There really isn't a normalized run rate. There's an opportunity for to us make a good profit on selling a piece of land, we have an excess piece of land from time to time we'll sell it, but, you know, there's a possibility we won't sell any land. We're not in the land development business, per se, so we don't put any land sales into our business plan.

And then last question was, on the debt side, you know, can you give us a feel for, you know, what we should expect as we look towards year end, obviously debt should come down as you get out of the construction season, where should we expect to see that, you know, either leverage or debt to EBITDA or whatever ratio you want to use what are you targeting?

Well, last year we finished up the year at about 45% debt-to-capital ratio. I would think that that would be at least as well as that and probably a few percentage points lower.

For this quarter we were one percentage point lower than last year, and I think we'll continue to push on that and given that there isn't an acquisition, we would see that -- that number improve over the prior year number a bit.

Okay. Thank you.

Your next question comes from Alex Barron of JMP Securities.

Thanks. Good afternoon. First of all I think you guys did a great job in terms of orders. It's too bad the market didn't seem to focus -- or seemed to focus too much on margins.

But, anyway hoping that you could give us a little bit, since we're talking about margins, hoping you could give us a little bit of color there, in terms of how's the margin pressure coming?

Is it in terms of lower ASPs or you guys are having to offer a little bit more incentives, or is it just what you said about, you know, not being able to spread the overhead as much?

John?

It's really not an average sales price thing. The average sales price in most of the fluctuation there comes from, you know, where our weighted sales come from, whether they're a California sale or a Texas sale or an Arizona sale, so, you know, we continue to cater, you know, two-thirds of our business to that first and second move-up buyer, and the balance to either entry level, active adult, or luxury production. That will continue to be our strategy going forward.

So I think that the margin pressure is, yes, partly the weighting of when our closings come and our SG&A is relatively even throughout the year so obviously as you increase your revenue your percentage of SG&A goes down and margins up and that's going to be the same thing as this year. Things that are causing, you know, the discounting or -- that's a market by market basis. We're not having to do any discounting in Arizona, we're not doing any discounting in Vegas, California, and we're really not doing any discounting in some of our markets in Texas.

And when we talk about discounting, let's don't think we're discounting, you know, 5, 10%. It's really just like it's always been, it's just creating a little bit of a reason to buy our home versus somebody else's that's right next-door.

So it's a subdivision by subdivision basis but overall it's in that 1 to 2% which would really be a reason, you know, from a volume standpoint, our volume is up year-over-year in all our markets, so we are seeing a little margin pressure and that would be, you know, meeting the market in the markets that are a little softer in order to make the sales and maintain that 10% pretax margin wherever we can.

Right. Was there any effect from purchase accounting of citation this quarter or was that already taken up last quarter?

That was already taken up last quarter and Alec as far as the SG&A leverage, particularly in Las Vegas, because our closing volume was down about 25% you're seeing a little bit less SG&A leverage that affected their margins a bit. So for the second quarter, certainly having less SG&A leverage in Las Vegas had a small impact, too.

Okay. I guess focusing on Las Vegas can you give us a little bit more guidance of what we can expect in terms of order ramp-up there and perhaps deliveries going forward into next year what you guys are looking for? You mentioned you're going to open quite a number of communities so I'm expecting significant growth.

We have an enormous list of buyers waiting to buy our product in Las Vegas. As soon as we're able to secure the permits to open up these five communities that we intend to open up here real shortly.

So we think we're going to have really strong order demand in the back half of this year, but we probably won't start delivering these units until the first quarter of next year.

Okay. Can you also guide us a little bit what's going on inside citation and also your San Antonio operations like how much did they contribute this quarter?

Larry, you want to take that?

Well, you know, citation is obviously a new operation and is not delivering a huge number of units on a -- as a percent of the total company. So citation is not contributing a large percentage.

The same really goes for San Antonio, although San Antonio is coming on very strong, and their year-over-year comparisons are very strong because they were starting from a very low base last year.

I don't have the specifics numbers in front of me but you're generally talking about deliveries for the full year in each of those markets, generally in the 150 to 175 range, so as a percent of our total estimated deliveries in the 7,000 range this year it's not a very large number.

But I would add that the margins in both those operations are really outstanding and we're extremely pleased with what they've accomplished to date and what's on their plate for next year and the year after.

They're going to make real significant contributions in the years to come.

Let me add to that because I've got some numbers here. If you look at San Antonio since it's really just in its really first full year after being a partial year start-up last year we closed year to date only 42 homes in San Antonio, so you can look at that's not a lot of units in order to absorb your overall overhead but even doing that we're able to make margins in that -- in the 7 plus percent range.

Once we start adding the units and our sales have been very strong down there that number is going to go up significantly to our target range of north 10% and it's also going to be driven by significant amount of revenue increase and unit increase. As Steve said, we're very excited about both those opportunities and they're going to be coming on line full steam in 2005.

The year to date closings for southern California citation was 75 for the six months.

Okay. Excellent. And the average pricing I guess you've been seeing in orders this quarter is that something that we could expect for next quarter as well, in particular in Vegas? It seems that's where the price has been rising a little bit faster than the average.

The Vegas average sales price for the second quarter is a little bit distorted because we're really only selling at a one relatively high-priced subdivision. And as we see the newer subdivisions come on line they're going to be lower priced. So you'll see that average sales price in Las Vegas drop quite a bit, because of the mix changing.

Overall I think it's, you know, the other states, the average sales prices that you're seeing now are pretty good indicators of the future.

Okay. And couple more, if you don't mind. Any thoughts on stock repurchase, I guess especially now?

Well, we purchased 300,000 shares in the second quarter and certainly today would look like a good buying opportunity.

What was the average price you repurchased those at?

In the mid -- I'm doing this from memory but I think it was in the mid 60s.

Okay. And what was your percent of lots options?

87%, I believe.

Okay. Thank you very much.

Thank you, Alex.

Your next question comes from Margaret Whelan of UBS.

Hello.

Hi, Margaret.

And I don't want to belabor the point but if the [Tankos] margins were between 9 and 10% pretax which market was really weak in this quarter?

I'm sitting here looking at it. Do you have the number in front of you?

I'd say it' Nevada and, I mean, compared to the same quarter last year, it's Nevada and Texas.

Okay.

Arizona and California, Arizona's margin was almost identical to what it was last year, although, you know, as I said before the margins in the first half of the year in Arizona are always low, and they get bigger in the second half of the year. Their margin was about 8%, same as last year.

In California their pretax margin was 14% and it was 14.4% last year. So Arizona and California were about the same, and Texas and Nevada were less.

And Nevada is more of a --.

it's just --.

-- communities?

We don't leverage the SG&A, we've got all the SG&A but we don't have enough communities. It's turned around.

So just a short-term blip?

Exactly.

100 basis points decrease, you're right, looking at where we are everywhere where we see Arizona margins for the last half of the year will be up over the first half, Nevada margins up over the last half, California remains strong and we see Texas staying -- actually improving a little bit over the last half of the year because there will be more unit closings.

The first six months and not get so focused on the last quarter our margins are exactly the same as where they were a year ago.

I know. There's a lots of concern that the wheels are coming off in your stock and I don't think that's the case so I just want to try and make sure we understand it.

In terms of the profit surprise you raised the guidance by 30 cents. Where is the confidence in that coming from? Is it just that you'll have the communities ready to deliver?

Look at our backlog.

Backlog, okay, it's 1.2 billion, a record high, congratulations on that. How do you kind of, as a management, think about, the next billion dollars, the next couple of years in terms of managing and execution on that?

We've got a lot of markets that we're still an infant in and that we have really good lot positions now in California and particularly in southern California and in Las Vegas and in Phoenix, and in Texas and San Antonio where we've got a lot of room to grow our business.

So, you know, we don't need to make any acquisitions and we just need to execute our plan and continue to bring communities on-line in the right location at the right price with the right product, and we can hit the growth goals that we've been talking about.

And, you know, we feel really good about, you know, our market niche and we don't think we're really bumping up against a ceiling anywhere that we're building.

Is the competitive environment changing for you at all in your move-up market niche and rates are going up, the low end may slow a little bit. Are you seeing any of your competitors try and target your business more?

I think it's about same. John, do you?

I think it's the way it's always been. You've got people coming in and going and we just keep focusing on what we do best so we don't see any differences.

Thank you very much.

Thank you.

Your next question comes from Justin Martos of Graham.

Just wanted to understand the softness that you talked about in Dallas that was just on the margin side or is that also on the order side?

Order side year-over-year are flat. So at very high levels in terms of company wide what percentage of our business comes out of Dallas is one of our larger divisions, our -- I'm talking really Dallas/Fort Worth now because those market do kind of operate a little bit differently.

We're seeing relatively good orders but flat relative to 2003, with margins being -- gross margins being about 200 basis points less than what they were last year but net margins being about, oh, maybe a percent or so -- percent and a half less. Still, though, historically at the -- at the top end or the top of what we experience in the Texas market.

Within Texas itself on the order rate for the Dallas/Forth Worth region, how do you accelerate past that? Is it a matter of just acquiring more land or what's your thinking there or are you sort of --.

we still in Texas, in Dallas, you know Dallas is going to be about 40,000 permits, Dallas Fort Worth, we're going to do around 1300 units, so you can see we still have a very small market share, and we still see a lot of opportunity to grow in this Dallas/Fort Worth market. We are not even a top five builder, we're about the 8th or 9th largest builder in the Dallas/Fort Worth market with plenty of room to still grow.

We see as this industry consolidates in the big markets like the Dallas' and the Phoenixes, the large builders are going to continue to get bigger and add more market share and that's exactly what we expect to do.

It's important to point out our orders were very strong this quarter. Arizona's orders were up 75%, California's orders were up 129%, Texas' orders up 16%. Overall we were up 36%. That's why we are so optimistic particularly about fourth quarter this year.

People for get that the earnings numbers you're putting out now are the sales in the fourth quarter, not the sales this quarter.

And on that order number since they were so strong when you, I know it's hard to look past through six months, these are really great numbers. I mean, how do you continue to grow? It's going to be Nevada, Las Vegas market, you're going to -- that's going the show the growth in terms of orders for the back half of 2004, '05, also beginning of '05?

Southern California is going to put up bigger numbers next year Phoenix is going to put up bigger numbers.

We just entered Colorado, we're going to start opening stores in Colorado. You know, as John said earlier San Antonio. Going to make a big contribution next year. There's a lot of places that are going to make a difference in the year ahead.

How big can Arizona get like on a quarterly basis maybe by early '05?

Up, I'm not -- I don't think we're really prepared to kind of put that number out there. But --.

but larger than the numbers we're seeing today?

Yes. And we expect to continue to add communities. Let's not forget as we feel like, on all the markets we're in we've got plenty of room to grow without taking on any additional operating risk. In Texas we added 17 communities in the second quarter.

That's all going to start driving increased business activity in Texas starting in the third and fourth quarter and so we really are very optimistic about our prospects for continuing success.

One final question. In the Las Vegas region are you surprised by the continued strength or the strength there, how much do you think we're just really starting that market for you and your participation in the growth of that market?

I think we're all surprised at, you know, how strong not only Vegas is but all the western markets are.

But I would say that, you know, we may have reached the ceiling, I don't know how much higher things can get, you know, as far as land prices and sales prices of homes but we do see the strength in that market continuing. There's a huge in migration, there's tremendous job growth there, and we see it continuing for quite some time to come.

You feel maybe some of the western cities you're reaching a ceiling on lot prices -- land prices?

Maybe in Vegas. I don't know if I feel that way about some of the other markets, but Vegas has gotten quite pricey. And we've kind of set our table there. We've got our land position and we're probably not going to be expanding it too much from where it is today.

Thank you.

There is a follow-up question or comment from Alex Barron, JMP Securities.

Yeah, thank you. Couple of questions. The growth projections or goals that you guys put out there are those all organic or do they include some assumption of acquisitions?

Really the most of that can be through organic but we do expect to be opportunistic on the acquisition side and a small part of that would be an acquisition as we've done in the past as a platform to grow our business unless we see something that we really like in markets that we're not at and we're opportunistic to do them but that growth of 20 to 25% is really primarily organic with maybe some small acquisitions.

Okay. And are there any on the horizon that you guys are contemplating at this point or not really?

We're always looking at new markets and opportunities but there's really nothing imminent that we really, you know, would like to discuss right now.

Okay. And the last question is, you know, I think a couple of people are probably -- I guess what happened to you guys in terms of Vegas, you know, where you were sort of ran out of communities too soon, because, you know relatively speaking, it has a big effect on percentage-wise.

I'm wondering if there's anything out there in any of the other market that we should be looking at or that you would like to guide us at this point that, you know, you're maybe sort of having the same problem of basically having too many good sales and orders might come down a bit percentage-wise.

You know, Alex, we really believe you've got to manage your business for the long term, and we don't -- we're not going to make a stupid land buy or extend ourselves just to maintain a quarterly run rate, and you're going to have quarters that are a little off from other quarters and -- but over the long haul over a string of quarters I think we're going to continue to put up good numbers.

In Vegas we saw an opportunity to sell some homes to make a good margin and unfortunately we didn't find any land that we could buy and bring on line quick enough to keep that momentum going but as I said before we have a good supply of lots up there, we have a great supply of lots in all of our other mark. I don't think there's any other market that we're looking at where we're going to run into any shortages. John, do you want to add to that?

No. I think that on the flip side we're very fortunate to have picked the right markets where the sales are so strong. You look at that the margins we've been making in Nevada they've been superb and so we really don't want to make any excuses for taking business -- high-margin business when we can and knowing that that might make a gap in orders for that period of time but we got that covered elsewhere so, you know, we look at Phoenix.

Phoenix is very strong right now and we're making really strong sales there but we do monitor our flow of communities and make certain that we build our business for the long haul, as Steve said, we match our revenues with expenses and run our business the way it ought to be run.

Okay. Well, thank you. Again, I think you guys are doing a great job. It's just that sometimes investors focus on the percentages, changes. Thanks.

Thanks, Alex.

Thank you.

Your next question comes from Timothy Jones, Wasserman & Associates.

Good afternoon. Couple of questions. Most builders budget around 2 to 4% of their sales for promotions what do you usually budget?

Depends on how you define it but I think we're probably in that range.

One of your major competitors said 1 to 5 and said that Dallas was 5 to 5%. It looks to me like you were two percentage points over your budget on the promotions in Dallas is that about right? Maybe you're expecting 3 or 4, and it was 5 or 6.

John you take that, that's not correct.

No, I don't think -- also when you talk about promotions you're talking about Realtor sales and all marketing costs and --.

I'm talking about promotions that you budgeted into sales, all that stuff.

No, I don't think we were. I think we're pretty much right in line with what we had budgeted on our promotions. If we've seen opportunities or situations where we need to do some mild discounting in order to keep our overhead in line with what the margins were generating we look at that on a weekly and monthly basis but I don't think that we're overbudget, per se, on our --.

You were budgeting for the margins to be down 200 basis points in Dallas?

Yes. This is about where we thought they'd be. We thought they'd be, in that 10% for the first half of the year and that's right exactly

Is that exactly where they were? I missed the first six or seven minutes. They were at the 10% level?

Dallas/Fort Worth for the first half of the year was actually over 10%.

I can't remember, are you also in Houston? I can't remember.

We're right now in all the major markets in Texas. We're in Dallas/Fort Worth, Austin, San Antonio and Houston.

Houston is not as bad by any stretch, is it?

Let me reiterate that Houston is very strong but historically our margins in Houston have been less than Dallas.

That's what everybody said.

So we've been seeing year-over-year we expect margins to actually improve in Houston, but still even with the improvement they still won't be as strong as Dallas.

They still won't be as strong.

Still won't be as strong as Dallas so we're just coming from a much higher point in Dallas than we are in any one of our markets.

Tim, last year our pretax margin in Dallas was almost 13%.

Okay. That's --.

that's not a surprise to us we knew it was going to be that way.

I've seen builders actually making more in Houston than Dallas which I haven't seen in 37 years, to tell you the truth.

But lastly I checked -- I checked, I was just talking about nine months ago with another builder, and we were discussing Dallas because a couple seemed to be doing well and a lot were doing bad, there was no middle ground, and they happened to mention -- I asked about land positions and one of the companies that they said had a good land position was you. Which was a compliment, I might add, and so has that sort of -- are you in the hot markets in like McKinney or Plano or so forth?

I wouldn't trade our Colin County which makes up the Frisco McKinney markets with any other builder. We think we've got all A locations there and we look at it and say do we really want to try to run through the inventory just to run through our inventory, or do we want to really balance our sales with our margins and that's what we choose to do.

Our land position throughout the whole company we feel is as good as any company out there and we -- Steve and I we think it's one of the benefits of having co-CEOs is he and I are basically able to underwrite each piece of land that we purchase, and we spend a lot of time on that and because of that we think we've got A locations almost every location we've got is an A location in those markets so we really don't go out and try to -- everybody's got their own formula.

We choose to buy A locations and pay competitive prices but be in the right deals as opposed to buying C locations and think that good markets -- everything sells in good marks, even C locations. We don't play it that way. We really run our business for being in the best locations so in both good times and bad we make sales.

What percentage of your lots are in A locations?

Throughout the company, I would say 95%.

You're kidding me. That's great. One last comment is I'll just say the competitor who doesn't say good things about a lot of people. We went through 12 companies and only four were considered to have a good land position.

H'mm. Interesting.

Yeah.

What do you think, Steve? I can't think of any bad location we've got.

We're in a lot of real good locations.

Okay.

Thank you very much.

Your next question comes from Jim Wilson, JMP Securities.

Sorry, guys, Alex had a lot of JMP questions so I'll make it quick. But California, could you, separating northern and southern California, could you give a little color on how margins compare in northern versus southern and also as you look forward, communities count openings between the two which -- how's it split or which do you have more communities coming open over the next 6 to 12 months?

Certainly more in northern California, up, southern California, we're still in infancy stage there. Most of our growth is going to be in the second half of next year.

We have a couple of large projects in Townskil canyon and the Dairyland area that won't come on line until late next year so our growth, you know, over the next 12 months is going continue to be in northern California, Sacramento and the central valley. Next year will kick in in southern California in a bigger way.

Are the margins better, fair amount better in northern California versus southern?

About the same.

about same. Okay.

I mean actually the margins that we've experienced to date have been higher, but I don't read into that that that's going to continue to be that way. I think that's just a function of, you know, of the buys that we've made but I think over the long haul they're going to be the same.

Okay. Alright, good. Thanks.

Thanks.

Your next question comes from Justin Martos of Graham.

Follow-up question. Regarding the expenses like for lumber and other materials you guys said, you know, high. How do you see that playing out for the next 6 to 12 months? Do you sort of think that we've peaked here? Just want to get your thoughts on that.

I think lumber is starting to come down although very slowly and I think most of the price increases that all the subs and suppliers have tried to get have already been put out there.

So you know, materials were pretty flat for quite a long time and, you know, this spring I think a lot of material suppliers and contractors saw an opportunity to raise prices and tried to a great extent and some of those have been able to fight off and some of those we've had to absorb. So I don't see prices getting higher from here. If anything we'll hopefully be able to manage those over the course of the quarters to come.

Thank you.

Your next question comes from Tony Campbell, Mott Partners.

Good afternoon. Thank you for changing this conference call. It's very helpful.

In terms of traffic, and I may have missed this, you may have commented on it, earlier and I missed the first five minutes of your call, but have you experienced any change in the traffic numbers? Is it fewer people? More people? Less people?

And then I have a follow-up question. Maybe if could you just sort of do it sort of region by region.

John, do you want to start?

Sure. On a region by region basis I can tell you starting -- I'll talk about Phoenix. The traffic is really as good as we've seen it, it's really, really strong. If you break down and then go into one of our next major markets, you go to like a Houston, our traffic is really pretty steady over '03 to '04, maybe up just a little bit in '04 but not much.

San Antonio, you know, we're just getting going in there, so we're probably not a real good barometer of traffic on a year-over-year basis, because we really weren't in business there in '03 and --en any real big way, just one community. Austin's about the same.

Parts of Dallas, really north Dallas we're seeing the traffic probably off about, oh, maybe 15 or 20% but the rest -- and that's primarily we've been a very big builder in the north Dallas market but I'd say the rest of the Dallas/Fort Worth market we've seen traffic about the same.

Okay.

Steve, why don't you talk about the rest of our regions.

I agree with what John said, it's really a market by market situation. A lot of markets, we're on allotment system right now. We're only selling X number of houses a month because that's all we can build, even though there's demand for more than that. Just tremendous -- more demand than we can build in a lot of our western markets.

I guess you don't want to stretch out your backlog, either.

Right.

Well, then, I guess the second follow-up question, if I might, in talking to other home builders, I sense that some of the private guys are more willing to talk to some of you public guys. Is that something that you're seeing?

Not necessarily. I don't think we're -- we've got any more deal flow now than we've had before, and, you know, because we're on the quality side, there's always people out there, and there's certain markets that we think are strategic to us, and we're waiting for the right opportunity. If we don't find it we'll do an organic growth in some of those markets.

Well, the obvious thing with the stock here is just buy back your own stock.

Anyway, Thank you very much and good luck, gentlemen.

Thanks Tony.

Thanks Tony.

As a reminder in order to ask a question please press star 1 on your telephone keypad . Your next question comes from John Hubbard, West Cap Investors.

Hi. I just want to confirm, I have a couple of things correctly here, in terms of the homes you closed this quarter, your volumes were up 29% and your average selling price was up, I have around 3%. Do I have that correctly?

29% is correct, and let me just check the average selling price here. Sounds about right.

Up about -- I thought it was up about 8% but don't hold me to that.

Yeah, up 8%.

8%?

Year-over-year.

Year-over-year? And in terms of the orders you took this quarter for delivery, 6 months from now, your volumes were up around 36% and your average selling price was up, I had around 11%. Is that right?

Well, you're right on 36%. I would have to look at the order price increase. I don't have that right at the tip of my tongue here.

But it was up?

I believe so, yes.

Okay. So, I mean, and that translated to 30% revenue growth for you in the quarter year-over-year.

And so from a margin standpoint, the reason your margins contracted in the quarter was because in Nevada you ran out of homes to sell, and your SG&A couldn't be spread over the revenues as a result, as well as the Dallas, the margins, which your highest margin business in Texas, came down but it's still your highest margin business? Do I have that correctly?

In Texas it's still our highest margin business, yes.

In Dallas you had rain which stopped some of the closings of homes there?

It was the second wettest June since 1928.

Okay. Is there anything -- were there any other reasons why the margins contracted this quarter?

That's pretty much it.

So you had strong order growth, strong pricing growth and you had margins down this quarter.

That's right.

And could you maybe add to that maybe a little bit of material increase which we think we've taken most of that.

Okay. Understood. Thank you very much.

Thank you.

Your next question comes from Ron Mullencamp, Mullencamp & Company.

Gentlemen, actually it's a statement not a question, just run your company for the horizon of three to five years, or something beyond that. Don't worry about the quarter to quarter stuff, and don't worry about Wall Street. Sort of felt a need to tell you that.

Thank you. Sage advice.

Thank you and we'll continue to use that advice.

At this time there are no further questions. Are there any closing remarks?

Yes. Thank you for joining us today. I would like to reiterate that we have raised our guidance for the full year 30 cents to approximately 8.55 to 8.80 for full year 2004 which is an increase of 25 to 29% over the full-year 2003.

This represents a four-year projected compounded annual growth rate of 29 to 30%. We look forward to reviewing our third quarter 2004 results with you in October.

Thank you, and once again we appreciate your guy's patience with the technical difficulties we had this morning.

Thank you.

Thank you.

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