Taylor Morrison Home Corp (TMHC) 2022 Q2 法說會逐字稿

Good morning everyone, and welcome to the Taylor Morrison's Second Quarter 2022 Earnings Conference Call. (Operator Instructions)

I would now like to hand over to Mackenzie Aron, Vice President of Investor Relations.

Thank you and good morning, everyone. We appreciate you joining us today. Before we begin, let me remind you that this call, including the question-and-answer session will include forward-looking statements that are subject to the Safe harbor statement for forward-looking information that you can review in our earnings release on the Investor Relations portion of our website at www.taylormorrison.com. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. These risks and uncertainties include, but are not limited to, those factors identified in the release and in our filings with the SEC, and we do not undertake any obligation to update our forward-looking statements. In addition, we will refer to certain non-GAAP financial measures on the call, which are reconciled to GAAP figures in the release.

Now, I will turn the call over to our Chairman and Chief Executive Officer, Sheryl Palmer.

Thank you Mackenzie, and good morning. I am pleased to also be joined today by Lou Steffens, our Chief Financial Officer; and Erik Heuser, our Chief Corporate Operations Officer. I will share our second quarter highlights and then provide an update on the market environment and how we are positioned to navigate the headwinds facing our industry today. After my remarks, Erik will discuss our strong land position and why we feel confident in the long-term earnings power of our portfolio, after which Lou will provide a detailed review of our results and updated financial guidance.

In the second quarter, we generated record levels of profitability and earnings. Most notably, our home closings gross margin of 26.6% was up 750 basis points from 19.1% a year ago and more than 1,100 basis points from 15.4% 2 years ago. This improvement reflects strong pricing power, as well as the benefit of operational enhancements and acquisition synergies that have transformed our business effectiveness.

At the same time, our SG&A percentage improved 140 basis points to 8.8% of home closings revenue, the lowest second quarter levels in our history as we have leveraged our scale and unique virtual capabilities to operate with greater flexibility and resiliency. These results drove our earnings per diluted share to a new company high of $2.45. In addition, we deployed our strong cash flow to reduce debt and repurchase 172 million of our shares outstanding.

Combined with the effective execution of our asset-lighter approach to land investments, our return on equity improved more than 1,000 basis points year-over-year to just over 23%. This record performance demonstrates the strength of our scale, team, strategy, brand portfolio and well qualified consumer set and is a combination of our year-long acquisition journey. As we go forward, I am confident these strengths will continue to serve us well as we adapt to today's market reality.

During the quarter, higher interest rates collided with home price appreciation, stock market volatility and geopolitical tensions. The rapid deterioration in affordability and consumer confidence cooled home buying demand quickly as shoppers faced significant uncertainty related as much to the shock of higher costs as to the sheer speed of change. We were still managing sales releases in most of our communities in April, less so in May, and almost not at all in June as these headwinds became more pronounced in the latter weeks of the quarter.

In total, our monthly sales absorption pace moderated to 2.6 net orders per community, which was down from the record levels experienced during last year's frenzy, but consistent with our second quarter norms prior to 2021. The impact has been felt across our wide range of price points, geographies and consumer groups, albeit to varying degrees. Our move-up and active lifestyle segments have displayed greater resiliency from traffic, sales, pricing and cancellation perspective, compared to our entry-level segments.

Our homebuilding and mortgage teams have acted quickly to reestablish sales momentum, maintain the quality of our backlog and manage production and inventory levels. Given the diversity of our price points and product portfolio, our approach to managing pace and price is calibrated at the community level, which is even more critical in today's highly fluid market that has required a nimble and strategic response that we are fine-tuning by the day. We have deployed a number of mortgage financing programs to our wholly-owned mortgage company to customize solutions depending on customer needs and maximize the benefit of our targeted incentive dollars.

By using finance as a sales tool, we are helping our customers address their greatest concerns, whether that be mostly payment, cash to close or some combination of both. Our strategic allocation of incentive dollars is often far more beneficial to the homebuyer than the typical industry playbook of price adjustments as those dollars go further to reduce buyers' payments and secure mortgage qualification, while also better protecting our profitability as well as the long-term value of our communities.

This approach extends to our backlog of over 8,900 homes, where the vast majority of our buyers continue to be strongly committed to their home purchases. These customers have average deposits of nearly 10% embedded equity, solid financial positions backed by the confidence of a pre-qualification with our mortgage company. And lastly, the attachment our to-be-built customers have to the home they have designed to meet their individualized lifestyle.

For these reasons, while our second quarter cancellation rate increased sequentially to 10.8% of gross orders and just over 3% of our opening backlog from historic lows and remains well below our long-term run rate. As I always share, our buyers tend to be highly qualified and financially secured. In the second quarter, borrowers' average credit scores were among all-time highs at 755. Average household income increased 13% from a year ago, and average down payments increased 300 basis points to 23% despite larger loan amounts.

As a result, our buyers continue to have the flexibility to absorb higher mortgage rates from a qualification perspective for our second quarter mortgage closings, a buffer between actual contract interest rate and the estimated maximum rate allowed for qualification for our typical buyer with approximately 530 basis points for conventional bores, which account for more than 80% of our volume and 270 basis points for the smaller mid-teens share of our customers than utilize government-backed FHA or VA financing. However, while most of our buyers can qualify at higher rates, we do recognize the emotional element of the equation will likely take some time to reset.

As the market continues to search for its new equilibrium, we have seen continued pressure on sales activity thus far in July, as well as an expected increase in cancellations. However, in many of our markets, we're beginning to see signs that our new sales programs and adjustments have begun to provide necessary confidence to shoppers to cautiously reengage.

Our web traffic is trending higher once again, mortgage pre-qualification volume has also inflected positively since mid-June and weekly sales conversion rates have been improving over the last few weeks, including a conversion rate of nearly 30% thus far in July for our online sales tools, which are a small, but growing piece of our overall volume.

Additionally, since the rollout of our National Summer Marketing event, early survey feedback has revealed a growing share of our shoppers are looking to purchase as soon as possible, indicating healthy demand elasticity. Our recent consumer research also shows that our shoppers are more optimistic about their household income and personal financial situation over the next 12 months, compared to a national survey benchmark, which we believe once again reflects the overall strength of our buyers.

Let me end by saying that we remain constructive on the long-term underlying drivers of demand in our markets and consumer groups and are confident in our team's ability to navigate any uncertainty ahead. We will be diligent in protecting our strong balance sheet and maintaining disciplined guardrails on land investment.

With a well-vintaged land pipeline of 82,000 homesites, we are well positioned to drive future growth, be patient with investment spend and weather any changing market conditions. And most importantly, we will continue to take a consumer-centric dynamic approach to managing our business for the long-term as housing finds a new fitting in the months ahead.

Now I will turn the call over to Erik to discuss our land strategy.

Thanks Sheryl, and good morning everyone. Starting with our current land position, and as Sheryl mentioned, we owned and controlled a robust land pipeline of approximately 82,000 homebuilding lots at quarter end, which represented a strong foundation of 6.1 years of total supply. Of these lots, we controlled 41% via options and other off-balance sheet structures that enhance the capital efficiency and reduce risk. This controlled share is up from 35% a year ago and 28% 2 years ago. In addition to our ongoing use of seller financing and joint ventures, this meaningful shift has been facilitated in part via the land banking agreements we established with Varde Partners last year. Since inception, this off-balance sheet vehicle has closed on 6,800 lots across 11 markets.

We evaluate each land deal through our portfolio investment committee to determine the optimal financing vehicle by weighing cost of capital, duration and underwriting assumptions to maximize our long-term risk-adjusted expected returns. Going forward, further expansion in our controlled share will be dependent on market dynamics as we are pleased with the current balanced mix of our portfolio.

It is also worth highlighting that still more than 60% of our owned lots were contracted in 2020 or earlier. These lots are booked on our balance sheet at an attractive historic basis, considering today's land pricing, which is a meaningful source of embedded value. During the quarter, our homebuilding land investment totaled $451 million, of which 52% was spent on development versus 45% a year ago, as we are working to monetize our well-vintaged land and drive community count growth.

On the acquisition front, we are closely reviewing our deal pipeline to stress test every transaction before closing to ensure each deal still meets our underwriting thresholds, successfully renegotiating terms when appropriate and positioning ourselves to be opportunistic as the market evolves. With nearly all lots already owned or controlled for targeted home closings through 2024, we are looking out to 2025 and beyond as we evaluate new land opportunities, providing us with valuable flexibility to be patient in today's fluid market. As a result, we now expect to invest a total of about $2 billion in homebuilding, land acquisition and development this year, down from our prior expectation as we are taking a more opportunistic stance through the remainder of the year.

Now let me share a brief update on our build-to-rent operations. Since finalizing our new $850 million build-to-rent joint venture with Varde Partners last quarter, we have already closed on 11 assets in Texas, Florida, North Carolina and Arizona, totaling nearly 2,400 lots in this vehicle with a majority of these deals negotiated more than one year ago.

We are pleased with the quick progress we have made to efficiently scale the partnership to fuel our growth in the attractive horizontal rental arena, which we believe has become even more compelling in today's higher interest rate environment. These amenitized communities are intentionally and transparently zoned as multi-family communities that contribute to the affordable housing options available in our markets.

In addition to allowing us to meet the needs of rental households, we also expect some portion of these leasing customers to ultimately evolve to buyers of our for-sale homes over time. And lastly, we continue to expect to monetize our first asset later this year as it approaches stabilized leasing levels.

With that, I will turn the call to Lou to discuss the company's financial review and outlook.

Thanks Erik, and good morning everyone. To begin, we generated second quarter net income of $291 million or $2.45 per diluted share. During the quarter, we recorded non-recurring gains on the extinguishment of debt and land transfers to unconsolidated joint ventures. Excluding these items, our adjusted net income was $271 million, and our adjusted earnings per share was $2.27. This adjusted EPS is up 139% from the second quarter of 2021 due to strong top line growth, significant improvement in our home closings gross margin, strong SG&A leverage and a lower share count.

Turning to the details of the quarter. We delivered 3,032 homes at an average selling price of $621,000, which generated home closings revenue of $1.9 billion, this was up 15% year-over-year. Supply chain challenges remain persistent across various points of the development and construction process, driving a modest extension in our cycle times. Most notably, we experienced increased delays amongst the municipalities for inspections and permitting, which offset stabilization at the front-end of the construction time line where material and labor availability is beginning to show some signs of improvement.

As we head into the second half of the year, we expect a significant volume of home closings across the industry to further pressure supply chain dynamics. Combined with the overall level of uncertainty in the market, we now expect our full year home closings to be around 13,500 deliveries. This includes approximately 3,200 to 3,400 homes in the third quarter. From a pricing perspective, we still expect the average price of our closed homes this year to be at least $625,000.

Our home closings gross margin for the quarter was 26.6%, which was up 750 basis points from a year ago and more than 1,100 basis points from 2 years ago. This improvement reflects strong pricing power, operational enhancements and acquisition synergies. Based on the composition of our sold homes and backlog, we expect our third quarter gross margin to be consistent with the second quarter.

And for the full year, we are once again raising our outlook and now expect to generate a full year home closing gross margin of 25% to 26% versus at least 24.5% previously. During the quarter, SG&A as a percentage of home closings revenue was 8.8%, which represented 140 basis points of year-over-year leverage. We continue to expect our SG&A ratio to be in the mid-to-high 8% range this year versus 9.3% in 2021.

Now to community count. We ended the quarter with 323 communities, which was similar to the prior quarter. This was above our prior guidance range given fewer-than-expected community closeouts related to the moderation in sales. Looking ahead, we expect to end the third quarter with approximately 315 to 325 communities and continue to anticipate ending the year with around 350 communities, followed by further growth in 2023.

Now turning to our balance sheet. Our capital position is strong with almost $1.1 billion of total liquidity at quarter end, including $378 million of unrestricted cash and $684 million of undrawn capacity on our revolving credit facilities. During the quarter, we retired $265 million of our debt outstanding through a successful tender of our 6.625% 2027 senior notes. This will enhance future gross margins by reducing capitalized interest and broader gross debt closer to targeted levels at a gross debt to capitalization ratio just below 40%. Our net debt to capitalization ratio equaled 36.4%, and we continue to expect to reduce our net leverage to the mid 20% range by year-end.

From an inventory perspective, we ended the quarter with approximately 3,000 spec homes across the country, which only about 60 were completed. To manage inventory levels, we moderated our monthly start pace to 3.4 homes per community during the quarter as intended following the strategic acceleration in the first quarter. Going forward, our start pace will closely align with sales, while our to-be-built mix will normalize to more traditional levels.

And lastly, we repurchased 6.8 million shares outstanding for $172 million at an average share price of $25.43. This represented approximately 5.5% of our prior quarter's diluted share count and marked our highest level of repurchase activity since 2018, which we believe was an attractive use of our capital, given our undervalued stock price.

At quarter end, we had $425 million remaining on our repurchase authorization, which our Board of Directors increased to $500 million in May. Because of these actions and the strong expected growth in our earnings, we continue to expect to drive a mid-to-high 20% return on our equity this year.

Now, let me turn the call back over to Sheryl.

Thank you, Lou. To wrap, I would like to share some more detailed market color to give you a pulse of what we are experiencing across the country. While no market has been spared from the slowdown and shoppers broadly are in a waiting pattern until interest rate and economic uncertainty phase, the degree of moderation has varied across geographies and even more so among buyer groups and location quality.

Beginning in Florida, typical seasonality during the slow summer months is evident across the state, although our large active lifestyle portfolio in Naples, Sarasota and Orlando are still seeing traffic. However, these savvy (inaudible) consumers are generally hitting wait-and-see mode. These buyers are less concerned about price and more focused on selling their current homes. Our entry-level offerings in this state have slowed with Jacksonville being a positive outlier, given healthy non-local demand for its affordable product among relocation buyers.

In the Southeast, Charlotte, Raleigh and Atlanta were more consistent quarter-over-quarter than most other parts of the country. Raleigh delivered the company's strongest year-over-year improvement in second quarter sales pace, where it's largely first and second move-up portfolio showed strong resiliency, as well as the strongest year-over-year gain in Home closings gross margin.

Moving to Texas, we have begun to see a pickup in traffic, sales center appointments and mortgage pre-qualifications in Austin and Houston. Despite Austin experiencing some of the most robust pricing increases, its sales and traffic per outlet were strongest in the state and its cancellation rate was below average as buyers are well qualified and determined to move ahead. Both Houston and Austin continued to see interest in their active lifestyle communities, which tend to be more dependent on in-state buyers compared to our Florida active lifestyle business.

In our largest division by volume, Phoenix has experienced a steep decline in both traffic and orders, although its conversion rate and cancellation rate were both healthier than the company average. Move-in ready inventory homes remain in strong demand. In both Las Vegas and Denver, we have seen a pickup in pre-qualification activity from the June lows, and Las Vegas is still benefiting from strong relocation buyers, particularly from California.

And lastly, moving to the West Coast, Southern California and the Bay held up relatively better than Sacramento and Seattle. Similar to other geographies, our entry-level communities soften and cancellation rates increased, although this consumer group, particularly in the Inland Empire is the most eager to work with mortgage incentives to reduce their monthly payment and cover closing costs.

In Sacramento, activity in its first active lifestyle community slowed a bit, that is still left year-over-year as the recent brand opening of its amenity center has spurred some more interest in sales. Across the country, our dedicated and talented team members are working tirelessly -- their effort delivered a record second quarter for our company despite the obstacles and will allow us to continue to perform as we adapt going forward. To each of you, I offer my most sincere appreciation for always showing up with resiliency, empathy and creativity to serve our customers and each other.

With that, let's open the call to your questions. Operator, please provide our participants with instruction.

(Operator Instructions) Our next question comes from Matthew Bouley from Barclays.

You have Elizabeth Langan on for Matt today. I was just wondering, could you give us an idea of how your current incentives -- how that level compares historically? And do you expect to be able to continue to use the targeted financing incentives, given the stress on affordability? Or do you think that you'll eventually have to make some pricing adjustments?

Elizabeth, thank you for the question. With respect to the incentives, when we look year-over-year, actually, Q2 was lower than Q1 and certainly all of last year. Obviously, there's a little bit more out in the market from a sales standpoint today. When we think about continuing to use finance as an incentive, certainly, I hope so. Because when you look at the impacts of using finance compared to reducing the overall price, base price, even lots, options for the consumer, it makes a market difference. I mean those dollars work for you 4 to 1. I mean, $10,000 of incentive would be like reducing the price by $40,000.

So to the extent, and I can make more of a difference for that consumer with respect to their overall qualifying power. They're absolutely either monthly mortgage payments and our buyer group is going to be hundreds and hundreds of dollars less when I look at the overall interest that they're paying over the life of the loan. A lot of it's going to depend, Elizabeth, on really the market reaction as we're protecting kind of values for our customers in their communities by using finance, that would be the preferred approach. If we see tremendous reductions in price from our competitors, we would have to reevaluate.

Okay. That's really helpful. And it would also be helpful if you could talk a little bit on the different trends that you're seeing between the different buyer groups. I know that you said that you move up and active adult was more resilient versus the first-time buyer. Can you talk a little bit more about that?

Yes, certainly. So I think there has been a lot of discussion around the different consumer groups and how they're each performing. So let me walk through them. When I look at kind of the year-over-year or even the 2-year trend, we are seeing the greatest reduction in sales and pace from the entry-level buyer. That's where we saw in Q2 quarter-over-quarter, year-over-year, the most significant reductions, they're still, by the way, our strongest pace, but the greatest reductions from period to period.

Not really surprising if you think about how interest -- the combination of interest rates and price appreciation has affected them from a true affordability standpoint. And I'm talking true demand. I'm not sure, some of the numbers could be masked by selling to that consumer to institutional investors. But when I'm looking at true consumer demand, which is what our quarter is showing, they're clearly the most -- the most affected. We tend to serve a more financially secure kind of first time, maybe even first-time, first-time move-up buyers, so they're doing a little bit better. But when I look at the cans and I look at the greatest reduction and their ability to qualify, it's certainly that consumer. It makes sense. They don't really have the equity to bring to the table. We know cash to close is the greatest -- the second greatest challenge for the consumer right behind monthly mortgage payments.

And then when I look at their overall qualification criteria at both the conventional and the FHA first-time buyer, as I said in my prepared remarks, they're just a little bit tighter right now, when I look at our backlog, that consumer, the first-time buyer, they still have some room in their back-end ratios. But honestly, if they were paying higher interest rates that would change for them, they don't have as much cash to bring to the table or equity from a prior purchase. So once again, probably the greatest impact.

When I then look at our -- I'll go to the active adult, let me go to the other side, that's probably the most sophisticated buyer group. So they're behaving in a couple of different ways. And honestly, it really depends on where you are in the country. I think back to the COVID days, and they were -- they pulled back this furthest at the beginning of COVID, and then they were the most aggressive about changing their lifestyle wants.

What I have found interesting is, the greatest out-of-state penetrations we have for that consumer like Sarasota and Naples, which is primarily an active adult business. That's where, as we've moved into the late spring and early summer, we've seen that pull back. Where we see a more local active adult buyer and that would be in our California, that would be in our Southeast, our Texas, that buyer has actually provided the greatest strength.

As you know, they spend the most on lot premiums, options. So they have a lot more room to kind of maneuver and not affected by interest rates because we see such a high penetration of our cash buyers there. So just not as affected by rates, but at the same time, a more savvy buyer that in today's environment is going to make sure they understand what's really happening from a macro standpoint.

And then I would take the middle slice quickly and say, we've seen great strength in that first to move up. Once again, there is some blurring of the lines between that entry-level and that first-time move-up buyer. And when I look at the paces overall, that first move-up has held up actually pretty darn well, maybe even best of all. The luxury has held up very well, but that second move-up is where we've probably seen a little bit more pain for that consumer.

Our next question comes from Carl Reichardt from BTIG.

Can you talk, Sheryl, about the percentage of your orders this quarter that were on build-to-order versus specs, regardless of the consumer segment and if that's changed over the last couple or 3 quarters?

Yes. Lou, what is that?

Yes. Good question, Carl, it definitely -- we've actually seen some strength in the to-be-built this month to date. It's actually picked up through what we've seen earlier in the year. And as we talked in the prepared remarks, we're starting to see some of that normalization as these buyers are choosing what they want in their homes. It's a small uptick, but it's 500 basis points to 600 basis points higher than we've seen in the last couple of quarters.

And if you were to kind of dissect it, do you agree, Lou, that where we're seeing the real strength of that to-be-built is the active adult. It's the move-up, luxury, and where we're really focused on (inaudible), no surprise would be in that entry-level buyer.

Sure. And is the -- so roughly what's the split between the 2, if you have that, Lou?

Sure. Month-to-date 45% to-be-built. And last quarter was at 37%.

Okay, great.

So moving back closer to our historical averages.

Correct.

And then sort of the same question on cancellations. If you look at -- again, they're not enormous in terms of the unit increase. But is there a differentiation between cancellations on to-be-builds versus pre-started?

Good question. I think the most interesting step, Carl is, really that when I look at our cans for Q2, 75% of those cans were written this year. So what does that really say? It says the folks that probably pay towards the peak or at the peak are the ones that said, we're going to take that kind of wait and see.

I would say, generally, it's a little bit more heavily weighted toward those spec sales because when you just look at the percentage of specs we were selling, that would -- it would align there. But there absolutely is some to-be-builds, once again for the consumer that bought early this year.

And generally, on the spec sales, we don't take as larger deposits if they're quick closes. So we see a little bit more movement on cancellations there.

Yes. Lowest…

Okay. I appreciate it. I'll get back, thanks.

Thank you, Carl.

Our next question comes from Jay McCanless from Wedbush.

So excited to see the land bankings moving forward, I guess, with the potential for more interest rate hikes on the way and kind of an uncertain consumer, what are you hearing from those land bankers around terms? And just any kind of color you can give us there, because I like the strategy, but just wondering if it's going to get more expensive and potentially weigh on gross margins out in the future?

Jay, this is Erik. I'll take a crack at that. Yes, I think as the market evolves, I think it's natural for that conversation to kind of have a tenure that evolves with a little bit north with regard to interest rate expectations. That said, I would tell you as far as our facility is concerned, we feel real good about it. So it really depends on, I think, the partner that's selected, as well as the terms associated with the land bank deal. So there's really -- as far as ours is concerned, there's really no unusual terms in there.

And from a cost standpoint, our facility was really negotiated at a really attractive point in time. So I think we feel real good about our facility. We still have some about 25% room in there to grow it. And we'll just kind of address that as the market evolves. It's a lever that we have to pull. It's not the only one. So we think it's one that we can continue to holding the lever for us.

And we must expect that land sellers to evolve as the market is evolving, too. So our priority would always be to go back to kind of land seller financing, JV. So, like you said, it's just one of many of our levers.

And typically, the land seller is the cheapest way of -- having controlled a lots. So that's -- I agree completely. You started to see that in the softening [already].

The second question I had, Lou, and I apologize I didn't catch all this, but I think you were saying in your prepared comments that you guys are still seeing a lot of municipal issues. I'm assuming on the back-end, in the last 60 days of the build, but the front-end of the build is getting better. Did I hear that correctly?

Yes, definitely. That remains tight on the back-end. Probably for the quarter, we saw our cycle times increase 1 week to 2 weeks, seeing a lot of municipality delays, a lot longer from the time you get your final inspections to them, issuing CEOs, meter delays from the utility companies, but are seeing some signs of light on the front-end and a lot more inbound calls from people looking for work as starts have started to soften across the sector.

Yes, a little fearful, if you agree, Lou, that it's not going to have a great impact on the deliveries for this year. We've got that bottleneck. But it's really nice to see the kind of forward visibility. And I think the one that's really progress the most is the municipalities kind of evolution because we haven't seen any relief there at all. And from a staffing standpoint and back to work. So we'll see how that one continues to move.

Yes. And when you really look at the overall lengthening of cycle time from the beginning of COVID is, where we saw the biggest increase is frame start to installation and that's -- the area that we'll start to see in the middle that we get some relief on the cycle time and start returning back to more normal long-term cycle time averages.

And then just one other quick follow-up. The cans that you are getting, how much luck are you having reselling those and/or maybe getting a little bit higher price on them?

Yes. A lot of it's going to depend how old the can is, like I said, most of those cans were written early this year. So I'd say pricing is relatively neutral. Maybe you have some additional finance incentives, if they were written in the first quarter versus the second quarter. But we still have a very, very low finished inventory. So we're able to move through them.

Our next question comes from Alan Ratner from Zelman & Associates.

I guess, first off, I'd love to expand upon maybe Sheryl, some of your July commentary, which on the surface sounds pretty encouraging given what we've seen kind of in June and early July. Is there any way you can help quantify some of the trends you highlighted for us? I think you mentioned the sales programs were responsible maybe for some of the renewed activity? Or what exactly does that mean? How have those incentives on orders maybe compared to where you were running at in the second quarter? And any quantification of where your actual absorption rate is in July versus June?

Yes. I can give it a shot, Alan. I think we have to keep these last many weeks in perspective is where I'd start, because I think some of this, we really -- you have to almost go back to the end of the first quarter when the Fed really made their move. But there was so much momentum still that it didn't really show up in communities, I would say, until sometime in early June because there was, like I said, just so much momentum and the consumer just had to catch up with everything they were feeling and seeing in the economy. So we started feeling it, I would say, in early June.

If I kind of dissect Q2, April was good, May was better. That was actually our peak sales month and then we saw it move the other direction in June. And I would say, as you got to the 4th of July, that probably was the trough. Now it's hard to call peak to trough all in 30 days. But if I'm going to just use the last 60 days, 90 days, that's absolutely the case. Since the 4th of July week, what we've seen week-over-week, I think are encouraging signs, but that's 3 weeks, Alan, we need some more time under our belt. But we've seen pre-quals move back up on a week-to-week basis. We've seen web traffic significantly move up. I would say foot traffic fairly similar. And I think you have to look at both sales and retaining the backlog.

At the same time, we've also -- our financial services team has spent quite a bit of time making sure that we're in touch with our backlog, closings month-by-month. We're in a tremendous position right now when I look at how much of our backlog we've got locked for the balance of the year, it's 150% up from what you would typically see. So I feel good on the programs that our sales team have in front of them using finance as a sales tool, and I also feel good on the work that's being done in the backlog. We'll see what the next many weeks hold.

But the consumer, it's almost like you had to refill the pipeline, Alan, because the folks that were there in the first and second quarter, there was a lot of fatigue in going from hobos and lotteries to not being able to get lots, to then moving into a new environment of finance incentives. So it's great to see the pipelines getting back full, and we'll see how the coming weeks could perform.

Second question, I guess, just on the land spend guidance reduction for the full year. I think, obviously, it makes sense given the uncertainty and given your strong land position. Can you talk a little bit about specifically what's driving that reduction? Is that you assuming that you're going to maybe walk away from some option deals as they come up for takedown because you don't need that many lots? Or is it mothballing development on raw land that's currently sitting on your balance sheet. What specifically is driving that reduction in land spend expectations for the back half of the year?

Alan, it's Erik again. So I wouldn't say mothballing is part of the equation, that is not. I would say it's really more of an opportunistic stance maybe to take one step backward and just kind of repaint the backdrop. We actually did add among the least of land to our portfolio since second quarter of '20. And that's for a good reason because 60% of our owned land was negotiated in 2020 and prior. So we feel real good about the land we have and the associated balance associated with it. As we start support today, we are really focused on co-locations. As you know, that's been kind of a key mantra of ours over time, and that will consistently be the case. And so, I think kind of that forcing ourselves to be focused on co-locations is somewhat related to that moderation and spend.

And then again, I think just feeling good about where we are with 6.1 years. I think we also said that '23 and '24 is very secure. So, we've kind of earned the right to be very selective. We do like our balance of 41% control. And we do have all those levers to pull. 52% of our spend is being dedicated to the development. So we've got a lot of flexibility there in terms of pulling that lever. And so that kind of puts us again in that kind of selective position. As Lou has stated, we've got a really strong cash position. And so that really sets us up to be opportunistic as we think about the spend going forward. So we're seeing a little bit of capitulation in the market, not a lot. There hasn't been any systemic resets in the market, but we're seeing a little bit of cracks and we're prepared to take advantage of that.

And would you agree, Erik, I mean, if we're very transparent, 2020 we've pulled back because of little bit of COVID, and we just closed on a very large acquisition, we filled the portfolio quite nice. '21, Alan, if you saw prices move fairly meaningfully on land. I think the number was about 30%. When things start to get that frenzy, that's the time that you really should pull back.

And if we kind of pull on our old playback from prior -- playbook from prior results, really the time we become very selective last year, which may be added such a little amount to the portfolio, and you really keep your dry powder for another day. And I think that's what we're doing, we don't have to go buy land today. So we'll be prepared to be very opportunistic to Erik's point as we see any capitulation in the markets.

Yes. Really hard to be a day trader in the land game, but I think we did our first normalization study in the third quarter of last year. So we really have been kind of looking forward to this kind of transpiring at some point, not knowing exactly when and what duration and magnitude, but really an eye on it. And that's why we're spending so much time today from an underwriting standpoint, really stress testing the deals and making sure they're filling the right pieces of the business plan and not being afraid to modify deals. I would say a high percentage of the deals coming through, we are modifying in some way.

If we move forward, yes.

Our next question comes from Truman Patterson from Wolfe Research.

Yes. Actually, this is Paul Przybylski. I appreciate the color you gave on the out-of-state active adult buyer trends. I was wondering if you could provide some color on the mix -- relative mix of inter and intra demand trends across the greater portfolio or is that migratory buyer slowing at the same pace or slowing faster than the intra-market buyer?

It's really interesting, if I'm understanding your question correctly, Paul. But as we look at kind of the migration patterns, we are continuing market-by-market to see some pretty significant kind of out of -- in-state migration. If I look at Florida, for example, I mean, more than half of our business is coming from out of state. If I look at Nevada, more than half of our business is coming from out of state.

So as we look really over the last, I'm going to say, 3, 4 years, we continue, and I could -- I won't bore you by going market-by-market, but we continue to see some very significant movement. And it's not really different between our shoppers and our buyers, as you would expect. I think I've pointed the most meaningful and it's really across consumer groups. Because when I think about a market like Las Vegas, like I said, more than half of our buyers are coming from out of state, and that is not necessarily an active adult market for us. It's really a first-time market.

When I look at Florida, I'm seeing it both in Sarasota and Naples where you would expect to see it with that active adult consumer, but I'm also seeing those same penetrations in Orlando and Tampa, which has a very high first-time buyer segment. So truly continuing to see the same trends we've been talking about.

Fair enough. And then I'm just curious, how is your virtual community? How is the performance of that holding up in this new sales environment?

It's been really strong. We started, as you probably remember, Paul, our virtual kind of very slowly back in the spring of 2020. I think weeks after the COVID shutdown in April, late April 2020, we started reservations. When I look at what's happened between '20 and '21, and I compare it to the first 6 months of '22, our sales from a virtual standpoint, have doubled on a monthly basis, actually a little bit more than that. The actual penetration of our total sales has doubled as well.

So our inventory homes virtual sales have been in play for a while. Our to-be-built is just now really starting to take hold across the portfolio. Our to-be-build virtual sales have our highest conversion, followed closely by our spec virtual sales. So I'm actually pretty excited given that the consumer -- this is not COVID-related, right? When I look at this doubling of sales from a penetration standpoint, albeit a small piece of the business still in total. And now we really put it through the whole portfolio. This is the consumer saying, meet me where I want to be met and they're showing up. So it's pretty exciting, I think, as we continue to roll this forward.

Okay, okay. You had some really nice SG&A control in the quarter, flat basically year-over-year. Were there any one-times or timing benefits, et cetera, that we need to be aware of?

No. It was just our revenue leverage, I'd say, and the growth we've experienced over the years.

Our next question comes from Mike Rehaut from JPMorgan.

Doug Wardlaw on for Mike. I was just wondering if you could give a little bit more color? I know you talked about -- you gave great color on market-by-market. I was wondering if you can talk more about incentives in some of the hotter markets before the little bit of the slowdown. So have you seen less incentives being used in Texas, for example, Austin and markets in Florida and then kind of the other markets you operate in? And if so, moving forward, do you anticipate that remaining the same?

Yes. Interesting. Good question. I know nobody loves this answer, but it's the honest one. And I would be very careful to paint a incentive brush over a market, because within our markets, I would tell you there are some very few communities that we might still be doing a controlled sales floor where there's absolutely no incentives. And that would generally be on the luxury side, where we're still seeing that kind of activity. But then I can move to a different consumer group in that same market, and we could be offering strong finance incentives. So, I wouldn't look at it by market. I would look at it by community, and I think we're seeing a range of those finance incentives in each of our markets, from very little to 5%.

Interesting. And then in terms of -- I know you guys have kind of seen a pickup from the June lows, and you kind of gave a little bit of color on that earlier. Are there any particular markets that have had improved performance from June that you can see now? Obviously, you have a few more weeks to go. But has there been anywhere that surprised you in terms of their performance from last month?

Yes. I don't know that there's anything that's really surprised. I think as we have found kind of the right programs by consumer group, we've gotten footing. I think SoCal is probably a good one. If you think about the Inland Empire, a lot of competition, really being able to get in front of that consumer, letting know how these finance tools can work for them to really tailor, squeeze the pun, but kind of tailor a program to their very need be that helping them on a buy down, maybe it's a 2.1 or 7.1 arm, one that's been very successful for our consumers to really help monthly payments is paying down their mortgage insurance. So being able to customize the program for them and helping them understand as we've gotten that message out across the market, I think that's what's giving us the strength. But I don't know that I would point out one market over another.

Our next question comes from Dan Oppenheim from Credit Suisse.

I guess, given the comments you talked about, some of the inflection or some improvement since the 4th of July, with the environment where buyers have a bit more choice out there, are you seeing some of the better conversion based on what you've done in terms of looking for community -- having communities in the more established areas. And you're seeing that helping in terms of both traffic and conversion?

Yes, locations always matter. So I'd say your very well-located communities, good transportation, good school. Absolutely, that's where you're going to continue to have the greatest strength. And there's a direct correlation, Dan, to the further you go out, that tends to be the more affordable buyer, and that's where we're seeing the greatest pain. So I'd say, yes, our larger master plans, I'd say, would be the other thing I would point to that continued to perform very well.

Great. And then, I guess, secondly, just wondering in terms of the spec homes, which is still obviously very modest relative to the community count. Of those 3,000, where would you say they are sort of generally in terms of construction cycle given sort of buyers shifting closer to a near-term close and such?

That's a great question. Most of our specs are still more in the earlier stages before drywall. And that's, I think, one of our opportunities as the year progresses. As you saw, we only have 60 finished specs. And so what we're hearing from our sales teams are as those get closer to completion, we're having a lot more interest in them. So as we did that pivot late last year, early this year to start more spec, as those are progressing through the process we hope we'll also get some more sales activity on those, so just get a little closer to drywall and beyond.

Our next question comes from Mike Dahl from RBC Capital Markets.

This is Ryan Frank on for Mike. So, I wanted to get back to the monthly cadence a little bit, if we could. Because to us, it seems like June might have been down 40% or 50%. So is that the right magnitude? And then appreciate the color with the week-over-week improvements in July. But I mean does that mean we're exiting July around down 40%? Or is that more like 25% like you were in the quarter?

Yes. I would tell you from the monthly cadence, but although we don't generally give the individual details, absolutely May was our peak. And yes, June certainly was 2x April. And July, I think it's a little too early to say, we've still got another week to go here, but so it's hard to tell you where July is going to finish that. But once again, I think what we're seeing is all the green shoots. So far in July, and those early indicators around pre-quals, around web traffic, kind of even sales in the pending pipeline would put us kind of at a 2-year and probably down mid-20s, 30s and we'll have to see how the one year finishes out.

Okay. Got it. That's helpful there at the end. And then the follow-up to that is, if your pace is currently closer to 2 a months than 3 a month, it might be pretty expensive to kind of incentivize back to that 3 a month range. So, how are you guys thinking about what the right pace is to target today? And then how are incentives kind of impacting that?

Yes. Good question. Once again, we do this kind of supply-demand analysis on a community-by-community basis. And there are some where the competition might say that you support a strategy. We've got a couple of positions that neighbors that are selling out and being very aggressive. So you'll probably deal with a lower pace for a short time, and there's others where now you got to find market and make sure you're selling. So, our pace is across the board, probably to your point, range from anywhere in that 2, maybe even under to mid-3s depending on the position.

So we're not going to manage to a specific pace across the portfolio. We're going to manage the paces by community. And really what the intent for our teams are is to get to their underwriting numbers. You also community-by-community, really understand what kind of elasticity you find with those incentives and where you can get that pace through, once again, looking at your overall offering on financial incentives, recognizing that so much of the pricing over the last year has come through lot premiums, looking at those. You have a number of different tools in your toolbox to pull out.

Our next question comes from Alex Rygiel from B. Riley.

Yes. What percentage of homes are all cash? And how has that changed over the last couple of quarters, and how might it change in the new environment?

I think it was about 16% in Q2, but let me just verify that for you real quick. Again, it picked up a bit, I think to that 16%, I think we were probably more historically in that low teen, 13% to 14%, if I'm not mistaken. And yes, we were 16% in the quarter, last year that was 12%. Hard to say what happens looking forward. But when I look at the overall kind of mortgage and I look at on a higher price, like I said in my prepared comments and overall LTVs continuing to go down. I mean, we're seeing, what, 77%, a year ago it was 80%. So we're seeing more all cash, and we're seeing higher cash down payments.

And once again, we're seeing higher incomes as well, so very supportive of that, which is, I think, why in total, even the comments I made about our buyer and the research we're doing, both our shoppers and buyers believing today that their financial picture is better than it was a year ago. And when they look forward to the next year, they expect it to even be stronger compared to national averages. I think that's why you continue to see the strength in our cans and things like that.

Our next question comes from Deepa Raghavan and from Wells Fargo Securities.

Sheryl, when you provided the initial soft guide for 2022 gross margins of 20% plus, this was roughly a year ago, did you have in mind a 25% to 26% number that you've currently guided to? Or was it less healthy than this? The ultimate question I'm trying to ask is, what is the post-integration gross margin versus the margin benefit that was driven by the pandemic lift? And how sustainable is just the post-integration gross margin in a moderating environment?

So, Lou and I will tag team this one for you, Deepa. When we guided to something, I think, to '22 a year ago, you always give yourself a little room, but you also -- we also clearly recognized the pressures that we were seeing from the supply chain and you have to account for that. So you've had a number of things kind of assist you. One has been, I think, we've done a much better job than we would have initially planned on getting some of those synergies to actually hold into the business. We've certainly had nice pricing power and the efficiencies the teams have recognized and our national purchasing and starting off of kind of increases have all served us well.

And then I'm sure, Lou, there's some number specific anything if you can talk to as well.

Yes, Deepa, I'd say the simplification, which we've talked about after acquisition of our options and floor plans, I think, has added a lift. Our vintaged lots, well-vintaged lots, I think, also is a strength we've had and will continue to be. And the fact that we've focused more in core markets has really helped us through this -- the pandemic in terms of strong market strength in terms of pricing. So all those combined, I think, helped us do a little bit better than we expected.

And the last thing I'd throw on is, as you parse apart the portfolio, Deepa, once again, the entry-level buyer, which was certainly primarily lifted in our portfolio from the last 2 big acquisitions, those have an embedded lower margin. When we look at our margin from kind of the more vintaged Taylor Morrison land, that's the active adult, the move up, the luxury, we're seeing margins that are obviously much higher. So there's a little bit of a mix penetration issue as well there.

That's helpful. A broader industry question from me. Just given the moderating housing outlooks, are you seeing any aggressive pricing from builders in your markets? And also, any markets you'd expect to see the most fragile pricing, should we head into a down cycle?

Deepa, I think that as we've heard and you have on these calls, the builders are generally trying to look at the use of kind of financial incentives because of the greater impact that that has on the consumer and protecting valuations. When you're -- and everyone is also managing through kind of backlogs and making sure that we do everything we can to protect the pricing in those communities.

When you're bringing new communities to market and you don't have the backlogs in tow, I would tell you the builders are doing exactly what they should do, and that's pricing to market. So you can play this game 2 ways, right? You can say how high are your incentives and what is -- are you right priced at market. So I think it's a healthy combination. And once again, I would not point to holistic market, Deepa, I would point to certain positions.

Once again, as you get more fringe, kind of on the outskirts, I would expect that's where you'll see more pricing pressure. And that's where they're just going to -- if there's big positions out there, that's where you'd likely see your greatest adjustments.

I think, Sheryl, that, that environment is partially informed by the resale market too, right, because that's part of our competition. So I think we're keeping a key eye on kind of listings and any trends there. So that's something to be mindful.

So, true.

Our next question comes from Alan (sic) [Alex] Barron from Housing Research Center.

I'm not sure if I missed it, but if you already gave it or if not, can you provide what the starts was in the quarter? And what -- how are you thinking about starts over the third quarter?

Sure, Alex. This is Lou. We had 3,283 starts in the quarter. And as we talked about in our prepared remarks, they'll probably more closely align with our go-forward sales base. As we got -- as we ramped up our spec starts to more desired levels and as well the last few quarters, we've really made a lot of progress reducing our sold not started.

And then I think you mentioned that you're getting more inbound calls from the front-end trades. I guess, given the lower volumes, are you guys also getting better pricing?

Yes, I would say it depends by market a little bit. For sure, we've been able to push up increases, and we're starting to hear by market opportunities in terms of the initial slab or framing crews actually even making adjustments downward. Expect more of that to come.

Thank you, everyone. That concludes the Q&A session for today. I will now refer you back to Mackenzie Aron for further remarks.

Thank you for joining us on today's call, and we look forward to speaking to you next quarter.

That concludes the Taylor Morrison Home Corporation Second Quarter 2022 Earnings Call. Thank you for your participation. You may now disconnect your lines.