托爾兄弟 (TOL) 2016 Q3 法說會逐字稿

Good morning and welcome to the Toll Brothers, Inc.

third-quarter earnings conference call.

(Operator Instructions)

Please note this event is being recorded.

I would now like to turn the conference over to Douglas Yearley, CEO.

Please go ahead.

Thank you, Gary.

Welcome, and thank you for joining us.

I'm Doug Yearley, CEO.

With me today are Bob Toll, Executive Chairman; Rick Hartman, President and COO; Marty Connor, Chief Financial Officer; Fred Cooper, Senior VP of Finance and Investor Relations; Joe Sicree, Chief Accounting Officer; Kira Sterling, Chief Marketing Officer; Mike Snyder, Chief Planning Officer; Don Salmon, President of TBI Mortgage Company; and Gregg Ziegler, Senior VP and Treasurer.

Before I begin, I ask you to read the statement on forward-looking information in today's release and on our web site.

I caution you that many statements on this call are forward-looking statements based on assumptions about the economy, world events, housing and financial markets, and many other factors beyond our control that could significantly affect future results.

Those listening on the web can e-mail questions to Rtoll@tollbrothersinc.com.

We completed fiscal year 2016's third quarter on July 31.

Third-quarter net income was $105.5 million or $0.61 per share diluted, up 58% from fiscal year 2015's third-quarter net income.

Fiscal year 2016's third-quarter pretax income was $163.7 million, up 52% from fiscal year 2015's third quarter.

Revenues of $1.27 billion and homebuilding deliveries of 1,507 units rose 24% in dollars and 6% in units compared to fiscal year 2015's third-quarter totals.

The average price of homes delivered was $843,000 compared to $724,000 in 2015's third quarter.

We now project full fiscal year 2016 revenues of between $4.96 billion and $5.27 billion, which would be up 19% to 26% over fiscal year 2015.

We are particularly pleased with this quarter's 18% growth in contracts in both dollars and units, and the 23% increase in non-binding reservation deposits for the first three weeks of August, the start of our fourth quarter, compared to one year ago.

The average price of net signed contracts in the third quarter was $831,000 compared to $834,000 in 2015's third quarter.

Fiscal year 2016's third quarter was our eighth consecutive quarter of year-over-year growth in contract units and dollars.

Our strategy to be the premier brand in luxury homebuilding, and to provide a wide variety of product lines, price points, and geographic locations, continues to pay off.

In our third quarter every region showed growth in contracts of anywhere from 9% to 29% in dollars and 7% and 36% in units.

Each region contributed significantly.

Of the $1.5 billion in contracts signed this quarter, the North contributed 17%, the Mid-Atlantic 17%, the South 17%, the West 19%, California 25%, and City Living 5%.

Our third-quarter end backlog of $4.37 billion and 5,181 units rose 19% in dollars and 17% in units compared to fiscal year 2015's third-quarter end backlog.

The average price of homes in backlog was $844,000 compared to $829,000 at third-quarter end 2015.

We ended the third quarter with 297 selling communities compared to 267 one year ago, and expect to have between 305 and 315 selling communities at 2016's fiscal year end.

And with an eye to the future, we spent nearly $460 million on land in the third quarter.

Now let me turn it over to Marty.

Thanks, Doug.

Before I begin my remarks I wanted to note that a reconciliation of the non-GAAP measures referenced during today's discussion to their most directly comparable GAAP measures can be found in today's press release.

We are pleased with our income statement results this quarter.

Virtually every income statement metric improved compared to a year ago.

Third-quarter homebuilding adjusted gross margin, which is before interest and writedowns, improved 10 basis points to 25.3% of revenues compared to 25.2% in 2015's third quarter.

Third-quarter interest expense included in cost of sales was 3.1% of revenues compared to 3.6% from 2015's third quarter.

We recorded $3.7 million in impairments, $2.5 million of which was associated with future communities.

A year ago, impairments were $18 million.

Thus our true GAAP gross margin improved to 21.9% compared to 19.8% a year ago.

Third-quarter SG&A was approximately $135 million compared to $116.2 million in the third quarter of 2015 due primarily to our growth in revenue, contracts, community count, and backlog.

Positively, SG&A dropped to 10.6% of revenues from 11.3% a year ago.

We continue to execute our strategy to generate meaningful recurring income outside of our core homebuilding operations.

Our Q3 joint venture income was $5 million and our Q3 other income was $15.1 million.

This combined $20.1 million compares to $20 million from our third quarter a year ago and $23.8 million from our second quarter.

Our effective tax rate this quarter was 35.5% but we still estimate our full-year tax rate at around 37.5%.

During the third quarter, we expanded our 20 bank revolving credit facility to $1.295 billion and extended its maturity to May 2021.

We also extended our $500 million bank term loan to August 2021.

Combined, this gives us approximately $1.8 billion in capacity for variable rate borrowings, which at the current interest rate and spread is about 2%.

In the third quarter, we deployed $97.3 million in cash to buy back 3.7 million shares at an average price of $26.33 per share, effectively lowering share count in the third quarter by slightly more than 2%.

This brings our spending on share buybacks in the first nine months of fiscal year 2016 to $327.6 million or 11.4 million shares, approximately 7% of shares outstanding, at an average price of $28.72.

Our buyback authorization has 18.1 million shares remaining and we plan to continue to opportunistically buy back stock.

Our expected fourth-quarter average diluted share count is approximately 173.5 million shares.

Included in this 173.5 million share count are 5.8 million unissued shares that are treated as outstanding, associated with our convertible bonds.

Such bonds are convertible at a share price of $49.08 and are callable by us in September 2017.

It is likely these bonds will be paid off in cash, at which time the shares associated will be removed from our share count.

In deploying the previously noted cash for buybacks, we did not limit our opportunities to invest in future growth.

During the third quarter, we purchased 3,494 lots for an aggregate purchase price of $459.2 million, and also placed 4,695 lots under option.

We ended this quarter with approximately 48,700 lots owned and optioned compared to 45,400 last quarter.

Subject to the caveats in our statement on forward-looking information included in the release, we offer the following limited guidance.

In fiscal year 2016's fourth quarter, we expect to deliver between 2,025 and 2,325 homes at an average price of between $815,000 and $835,000.

This narrows our previous guidance on deliveries for full-year fiscal 2016 to between 5,900 and 6,200 homes at an average price of between $840,000 and $850,000 per home.

We believe our product and geographic diversification strategy is working.

While each quarter some segments may go up or down in volume or profitability, we continue to maintain solid margins.

For example, the adjusted gross margin on our traditional homebuilding business, which represented 96% of this quarter's consolidated revenues, rose to 24.7%, up 70 basis points compared to one year ago.

Our City Living business at 4% of revenue saw its margin go from 43.2% one year ago to 39.8% this quarter, but still remains our most profitable segment and delivers in excess of our underwriting assumptions.

Due to a shift in mix, we now expect full fiscal year 2016's adjusted gross margin to be between 25.6% and 25.8% of revenue, 30 basis points lower than the mid-point of our previous guidance.

There were obviously a lot of pluses and minuses in this change but the simplest summary is that a few high margin units in City Living projected for delivery in fiscal year 2016 are now projected to be delivered in fiscal year 2017.

Our full fiscal year 2016 other income and income from unconsolidated entities is now expected to be between $88.5 million and $93.5 million compared to our previous guidance of $105 million to $130 million, as some of the closings for sold units in joint ventures originally projected in this fourth quarter will instead be delivered in early fiscal year 2017.

SG&A grew in dollars but decreased as a percentage of revenues and was in line with expectations set for the full fiscal year and reiterated on our second-quarter earnings call.

The growth in our backlog, contracts, community count and joint ventures adds cost prior to recognition of revenue.

We expect fiscal year 2016's fourth-quarter SG&A as a percentage of revenue to be approximately 8.3%, which translates into full fiscal year 2016 SG&A as a percentage of revenue of approximately 10.4%.

Now let me turn it back over to Doug.

Thank you, Marty.

While there has been a lot of discussion about weakness in the luxury new home market, we just aren't seeing it based on this quarter's contract growth across all of our regions and our strong deposit start in fiscal year 2016's fourth quarter.

Our contract growth this quarter was among the best in the industry.

It appears that buyers in the luxury market continue to be drawn to our great brand name and nationwide reputation.

This February we were number six among global brands in the quality of our products, services offered, according to Fortune Magazine's survey of the world's most admired companies.

The only companies in the world that ranked above us were Apple, Walt Disney, Amazon, Alphabet and Nordstrom.

We have not seen a change in the appetite of foreign buyers.

This has remained about the same at about 3% to 4% of our total contracts nationwide, with the greatest concentration being about 15% to 20% in California, 10% to 15% in New York City, and 5% to 10% in Seattle.

These percentages have not changed materially over the past few years.

Contracts in our New York City Living division, driven by Hoboken in Northern New Jersey, were up 40% in dollars.

We had an especially strong quarter at 1400 Hudson Street in Hoboken where we have pricing power.

In New York City, specifically Brooklyn and Manhattan, the market has been relatively flat.

Given all the gloomy sentiment, this was acceptable.

With deliveries slated to begin in a couple of weeks at both Pierhouse at Brooklyn Bridge and the Sutton in Manhattan, which we are building in joint ventures, we will see City Living contribute significantly to JV income in the fourth quarter and in fiscal year 2017.

While much attention has been directed at the ultra high end in Manhattan, where prices range from $3,000 to $8,000 per square foot, we are focused on projects in the more moderate $2,000 to $2,500 per square foot range.

We believe the buyer base is deeper at this price point, and we are focused on projects with fewer than 150 units that can be built and delivered in shorter time frames than the super towers.

Having said that, we have signed contracts on seven units of between $10 million and $20 million each in the last year, one of which delivered in the third quarter for over $17 million.

While the summer months are not a bellwether by which to judge New York City condo sales, we expect that once our projects reach the stage at which buyers can enter our buildings and have better confidence in their delivery dates, our sales paces ramp up.

California remains a bright spot for us.

We believe we have unique locations and unique products across a variety of price points.

We have opened several new communities in our Orange County master plan Baker Ranch which have been met with great interest.

Porter Ranch, a large master plan in Los Angeles County, impacted in the winter by a neighboring gas leak, is slowly beginning to sell again.

The schools there have reopened and we expect to see a gradual increase of new buyers to this desirable community.

Traffic this quarter was up materially over third quarter fiscal year 2015, which was before the community's recent challenges, but we are being cautious about our expectations on sales.

The recovery will not happen overnight but, remember, Porter Ranch is a 30-year-old community.

There are tens of thousands of residents.

It's a wonderful place to live with great schools, retail and lifestyle.

In Northern California, the market remains strong as we prepare to increase our community count with new openings in calendar year 2017.

The next master plan community open, scheduled for the first quarter of 2017, is Tassajara Hills in the East Dublin Hills, where we will be offering 370 homes in three collections, ranging from 3,000 to 4,500 square feet, starting at base house prices of about $1.3 million.

Later in 2017, we will be opening Warm Springs in Fremont, California near the Tesla plant and adjacent to the new Warm Springs/South Fremont BART station.

We plan to build 608 for-sale homes, 132 affordable for-sale units, and 261 rental apartments.

Other major markets doing well are New Jersey, Pennsylvania, Northern Virginia and out West, Colorado, Las Vegas and Reno, where we are expanding our active adult product for the first time from the Northeast and Mid-Atlantic.

Seattle also has been very strong but there is a lull in available inventory.

Toll Brothers Apartment Living continues to perform well.

Two projects in Westborough, Massachusetts and Phoenixville, Pennsylvania, totaling about 600 units, are welcoming their first residents.

Students are also moving in as we speak to Terrapin Row, our already 93% leased 1,493-bed student housing community at the doorstep of the University of Maryland in College Park.

We are looking for additional student housing opportunities based on the success of Terrapin Row.

We have reached stabilization on rental projects in Washington, DC, Jersey City, New Jersey, and Plymouth Meeting outside Philadelphia, totaling about 1,100 units at rents higher than initially projected.

In these deals we are replacing construction loans with larger permanent loans and recapturing much of our equity to invest in future deals.

We are scheduled to break ground on several new projects in the coming months and recently have put land under agreement for new rental projects beyond the Northeast and Mid-Atlantic in Northern California, Atlanta and Dallas.

In total, we have over 8,000 units currently completed or in development under our Toll Apartment Living brand.

In summary, with our 18% year-over-year growth in third-quarter contracts, and 23% growth in deposits to start our fourth quarter, we are pleased to be America's luxury home builder.

Our business is very good.

Given our strong land position, geographic diversity, product offerings and brand, we believe we will continue to benefit from our dominant position within the luxury new home market.

Now let me turn it over to Bob.

Thanks, Doug.

Our growth in contracts this quarter and the solid demand across most of our markets, we think reflects our brand recognition, our product quality, and our strong community locations, many times in land-constrained markets.

Today the Census Bureau and the US Department of Commerce announced the highest new home sales in almost nine years.

The release points out that this is 12% ahead of June last month but, more importantly, 31.3% ahead of July 2015, last year.

Even so, the seasonally adjusted annualized total of 654,000 homes remains well below the 900,000 to 1 million of the period from 2001 to 2003.

If we are going to get anywhere near back to that level of demand of yesteryear, just imagine what the housing market would look like for us if we began to approach those numbers again.

Back to you, Doug.

Thank you, Bob.

Gary, let's open it up for questions.

(Operator Instructions)

The first question comes from Megan McGrath with MKM Partners.

Good morning, thanks.

I wanted to follow through on your commentary on what's happening in New York with the gross margin guide and also the JV guide.

It sounds like you're seeing some delays, both in your wholly-owned properties and in Brooklyn.

Is that a coincidence or is there something fundamental going on in the New York City market that's pushing out deliveries?

Megan, that's a coincidence.

On the gross margin side, we had projected two sales in Manhattan at our very high end 1110 Park Avenue property.

And while we're working with some clients, those sales are not finalized and we do not believe will be closing this quarter, although we do have nine weeks to go.

On the other income side, that is related to Pierhouse where we will begin closing very shortly.

But we now believe we will have less of our backlog, which was already purchased, closing in the fourth quarter versus early in 2017.

Okay, thanks.

That's helpful.

And then a quick follow-up, you commented on the new home sales data that just came out an hour or so ago, which was very strong.

Did you see a similar sequential increase in demand in July or was your pace relatively even throughout the quarter?

We saw sequential improvement in sales throughout the entire quarter.

July was better than June and June was better than May.

Great, good to hear.

Thank you.

The next question comes from Ivy Zelman with Zelman & Associates.

Hey, good afternoon, guys.

Congratulations.

Great quarter.

Doug, it's great to hear how you're bucking the trend with respect to your overall higher-end price point and really demonstrating not only the strength of your brand but everything that you guys bring to the table and your platform.

Maybe just talk a little bit about looking at the resale market.

Is it just that those products are on the market that are sitting there, especially on the higher end, that aren't moving, they're just tired and old and people just want new?

Does it at some point catch up with you, though?

Is the high end seeing more listings, which we certainly see in the data, at what point if they can't sell their house.

I think people would love to understand it.

But kudos to you guys because you're killing it.

Thanks, Ivy.

We appreciate that very much.

We're very happy with our business.

I can't comment on what's going on in the high end of the resale market.

What I can comment on is there has been great demand for our homes.

There are many people out there that want only new.

We've always known that.

Our brand is clearly paying off -- our architecture, the way we go about it.

In many of our markets we're not seeing an overhang in the resale market, particularly at our price point.

Remember, our average price is $800,000 to $900,000.

I'm very happy with how we're doing it and the great demand we have.

And I really can't reconcile what you've discussed on the resale market.

Got it.

And if you had to point out, Doug -- and I appreciate that -- the best in the off the charts with respect to demand and where you wish you had more land and you don't have enough to where you'd say it's more challenging, if you just had to give us the book ends.

Thank you and good luck with the rest of the year.

We continue to be opportunistic with land buys.

We're looking all over the country.

This past quarter most of the land we bought was in California where we had some very good opportunities to buy at various price points and in various locations.

So, we continue to be very bullish about the West.

We've talked about Vegas and Reno and Seattle and all of California.

Dallas is performing very well and we're looking for new opportunities there.

Denver is performing extremely well and we have some great land deal flow there.

And then back East we've talked about the strength now of New Jersey, Pennsylvania, Northern Virginia, and we're actively focused there.

And then Florida, Orlando and Jacksonville are now our two strongest markets in Florida.

There's more land available in those markets but that doesn't mean we're not looking hard in both Gold Coasts because that land is harder to find, but we are hoping to grow.

So, the long answer is we are opportunistic and we are really looking everywhere.

But most of it I'd say is both coasts.

I apologize.

I love the answer because it was helpful but I was actually talking about demand.

Where do you see the strongest demand right now on your book ends, and relative to the more challenging areas, and if you're incentivizing?

Just give us the book ends of demand.

But that was also a good answer.

Thank you for that.

I thought you said land and you said demand, my apologies.

The most demand our top markets that we've talked about are Southern California, Northern California, Las Vegas, Northern Virginia, Denver, New Jersey.

Pennsylvania, our home turf, has had a great quarter.

Seattle, we have less inventory at the moment with more coming, that has had terrific demand.

Dallas, we had a great quarter in Dallas and we see a lot of demand there.

And Raleigh picked up significantly this quarter.

So, as we've talked about, every segment for us was up this quarter nationwide.

We didn't have some up and some down.

We had every single one up.

So, we're feeling very good about the national demand.

Great.

Good luck, guys.

Thank you.

The next question comes from Susan Maklari with UBS.

Good morning.

Can you talk a little bit about -- I know you noted some of the trends that you're seeing in California -- but can you give us some sense of the pricing out there, and especially maybe how it breaks down between the northern and southern parts of the state?

It's very high in both Southern Cal and Northern Cal.

We do have a variety.

But, as you know, there's a higher price point out there.

So, in Southern California, Baker Ranch, which we just opened phase two, and we've had terrific demand, we've had price increases of up to $100,000, I would say that would lead what's going on in Southern California.

Northern California, as we've talked about, we've had a little bit less inventory but there's more coming in 2017.

The demand there is very strong.

The average price in Southern California is just shy of $1.5 million, and the average price in Northern California is about $1.55 million.

So, they're within $50,000 of each other at right around that $1.5 million average price.

Okay.

And then, certainly, as we think a little further out and the potential for rates to come up as we move perhaps into 2017, can you talk about perhaps how you're thinking how the mortgage markets are working, and maybe how that could potentially impact the market overall?

Happy to.

Don Salmon who runs our Mortgage Company is with us, so Don why don't you answer this one.

In terms of rates going up it's not something we can control.

What we do offer is a year rate lock on jumbo loans.

So, if people want to lock into very close to today's rate they can do that with a market-rate float down.

If rates go up we'll deal with it.

I don't see any terrific increase in rates coming.

But right now I'd say the market is strong.

We're seeing demand from banks.

We're not seeing an active secondary market for jumbo.

Most of the product is flowing into the major banks.

Okay, thank you.

The next question comes from Mike Dahl with Credit Suisse.

Hi, thanks for taking my questions.

Doug, I appreciate that August isn't always the bellwether month to benchmark sales to, but since you provided the non-binding deposits, you often provide orders for the first few weeks, could you give a sense of contract activity for the first few weeks of August, please?

Yes.

We really think that deposits is the most relevant information about current activity since August 1. Those are the new potential buyers who have walked in the door and decided to give us a deposit, reserve a lot.

So, we're comfortable and we think it's most relevant and appropriate to just give the deposit information.

Okay.

I think the second question then, and maybe this is for Marty, but just a little clarification on the mix and the impacts to the gross margin.

I just want to be clear about this one.

You mentioned some of the other puts and takes.

Are there any other meaningful puts and takes outside of those couple of City Living deliveries that were pushed out that you can identify?

Mike, there's nothing to really call out.

But as you look through the portfolio, California did a little better than we thought, the Mid-Atlantic margins were a little less than we thought, but nothing appreciable.

That's why, when looking through everything, we boiled it down to these few units in New York City that we had projected to sell and close in the fourth quarter and now no longer expect that to occur.

And just to be clear on those couple of units, these are units that you mentioned you're in discussions with some customers but you expect it to both sell and close.

So, this is not current backlog that is just working through some -- it's final design?

Correct.

As compared to our joint venture guidance where it is current backlog that is slipping into the first quarter.

Right, okay.

Thank you.

The next question comes from Michael Rehaut with JPMorgan.

Thanks, good morning, and, again, congrats on the results.

Remind us of Mark Twain with reports of your death being over-exaggerated.

My first question, I think, given the surprise on the orders -- and, again, I believe that was in contrast to some of the broader concerns out there -- what I wanted to focus on was pricing and incentive trends because that would be the first counter concern, is did anything change in those metrics to perhaps get a little bit better result on the order trends.

Obviously you've talked a lot about holding price and the stronger positions that you've been able to acquire in different parts of your markets.

So, I was hoping, by market perhaps or at least by some of your larger markets, to give a sense of how pricing and incentives have trended, and if that had any impact on the results.

That's a great question, Mike.

We are sticking with our business model, which is to drive price, drive margin.

This 18% order growth and 23% growth in deposits for the last three weeks is in no way the result of a strategy where we are increasing incentives and focus on top line.

In fact, our incentives are still consistent at $20,000 per house Company-wide, and that has been the same number for the last three-and-three-quarters years.

It's about 2.5% of our sales price.

Pricing power, it's market by market, it's community by community.

I talked about an example in Southern California where we opened phase two of Baker Ranch and drove the price $100,000.

We have another community, Hidden Canyon -- I know many people have visited -- in Irvine Ranch, where we continue to drive price significantly every month when we opened our new allotment.

We've had pricing power in Denver.

We've had pricing power in Las Vegas, back East in Northern Virginia, in New Jersey.

Again, it's market by market.

Reno -- thanks, Bob.

Seattle.

Our strategy of driving price, particularly when backlogs get long because of prior sales, remains intact and is what occurred in the third quarter with our 18% order growth.

That's great.

Great to hear.

Thanks, Doug.

And, secondly, it was helpful to break out, Marty, the gross margin in City Living.

Obviously only 4% but still can have that impact and had that impact obviously on the revision to the full-year gross margin guidance this year.

Just trying to get a sense on that line.

No good deed goes unpunished.

If we could get a little more sense on the trend of that.

In other words where that number is today in the 39% or near 40%-type range, how is that over the last couple of quarters and versus last year?

And would you expect at this point, as your comments, I think, Doug, around the New York City Brooklyn markets being flattish, would that trend further downwards in 2017?

Or any thoughts around that.

Mike, I think the margin out of City Living in 2015 was around 43%.

For this year it will be a little bit north of 40%.

And looking forward is something that we'll do when we give guidance in the fourth quarter for 2017.

And I appreciate that.

I guess maybe just within this year, has it been more stable at 40% or has it been coming down throughout the year?

It bounces around a little bit based on the timing of deliveries from various buildings.

All right, great.

Thanks again.

Appreciate it.

The next question comes from Jade Rahmani with KBW.

Good morning this is actually Ryan Tomasello on for Jade.

Thanks for taking my questions.

Can you talk about target leverage long term, particularly how you think about balancing the risks of increasing leverage as we inevitably move into later stages of the cycle?

Sure.

As you saw, we took some balance sheet initiatives this quarter in terms of extending the capacity of borrowings we have from banks.

And we also spent a considerable sum on land and on buying back stock.

So, our leverage has ticked up to around 48% on a gross basis, 45% on a net basis.

I think as we see this influx of 2,000-plus deliveries in our fourth quarter, the cash generation will allow us to pay down some of the line, if not all of the line.

We'll be back down in the low 40%s on a net basis.

Looking forward, we're very comfortable in the mid 40%s to upper 40%s leverage ratio.

We find it to be a much more -- particularly in these interest rate environments -- capital efficient way to operate.

And then regarding City Living, do you see any additional opportunities to JV out any additional interest in some of your projects, which could potentially generate capital to reduce leverage?

Yes, we have a couple projects on our corporate profile that you will see we are intending to go to joint venture.

We are very close to a joint venture partner in one; we're in the beginning stages in another.

We evaluate those projects just based on their size and the elements of risk we want to assume as to whether we want to bring in a joint venture partner or not.

We find that going to joint venture partners, certainly most partners expect a piece of the profit, unfortunately, so it reduces the profitability a bit, but it does improve your return on equity.

Great.

Thanks for taking my questions.

The next question comes from John Lovallo with Bank of America Merrill Lynch.

Hi guys.

It's Pete Galbo on for John.

Doug, you mentioned in your commentary a lot of the local market color, but the two greatest increases in your orders year over year were in the Northeast and the South, which had been somewhat of laggards over the past couple of quarters.

Can you just talk about what was different in those markets this past quarter that drove such a strong increase?

Was it just lapping easier comps or was there anything material that changed?

The North was driven by New Jersey, which had a terrific quarter.

Michigan had a terrific quarter, and then the New York exurbs.

But in terms of units and revenue it was primarily New Jersey.

And then in the South, that was driven by Raleigh, Jacksonville, Orlando and Dallas.

Got it.

Appreciate that.

And then, Marty, maybe just one for you.

You mentioned the margins on City Living versus the traditional homebuilding business.

Is it fair to assume that the gross margins for the two JV projects would be similar to the numbers you laid out for the wholly-owned City Living projects?

I think it's tough to draw a direct correlation.

But I think one project may be in excess and one may be slightly below the City Living margin we reported for the year.

Got it.

Thanks very much, guys.

The next question comes from Stephen East with Wells Fargo.

Thank you.

Congratulations, guys.

Doug, a couple things.

One, you were more aggressive on land than what we were expecting.

And, two, you talked about active adult commentary and then three, wanting to expand that more.

And, three, it looks like you're getting more aggressive with your apartments.

Can you talk a little bit about, first of all, whether this is a conscious effort on land or are you just being opportunistic here?

And, two, the active adult, what are you seeing out there and where do you think that goes?

And then how important is the apartment complex as you move forward over the next two or three years?

Sure.

On land, no, we're not more aggressive.

We're opportunistic.

And, remember, Stephen, the land that closed this quarter was not contracted for this quarter.

It, of course, takes time to gain entitlements, and we generally don't close until we have those entitlements.

So, our land spend is not the new deals put under contract but the closing.

But we have good deal flow and we're in the market and we're excited by opportunities we see.

Certain markets, obviously, we target more aggressively than others based on the underlying economic condition of the markets and our positioning, et cetera.

But we are very active in the land market.

But nothing has changed in our philosophy.

Active adult -- we built a great brand in the Mid-Atlantic, Northeast.

We knew we would take that brand West and now we're taking it West in a big way.

We have two locations, major master plans in Denver, we have opened in one location in Reno with a second to come in a year or so, and we have a new opening in Las Vegas, that are all performing extraordinarily well.

Pricing power, spectacular amenities.

This is luxury active adults.

It's something very different than the market is used to seeing.

We are looking to expand active adult into Seattle, into California.

We have land contracted for in Phoenix.

We are looking in Dallas.

And you will continue to see more and more of a national footprint of our active adult business as we expand the brand out West.

Phoenix is several thousand units.

We haven't finalized the site plan but it's a very large deal we're very excited about.

We think about 2,000 units that will be coming in Phoenix.

Marty, why don't you hit the apartments?

Sure.

On the apartments, Stephen, right now we have approximately $150 million invested in the 8,100 apartments that are in either operations, construction, lease up or development.

We're trying to take that business nationally.

And, as we mentioned, we have some opportunities in Northern California, Atlanta, and Dallas right now.

As we look forward in that business, we're very comfortable doubling that capital investment.

But I'd like to remind folks that as we refinance these buildings we get a significant piece of our original equity back through a permanent loan.

Looking out to 2020, we project that our unrealized gains on the buildings we have in our portfolio would be in excess of $200 million.

That would be our piece assuming everything goes according to plan.

Okay, thanks.

And, Doug, you know I'm a huge fan of your active adult product.

Where do you think, if you look out, given what you just walked through, if you look out a couple of years what do you think is a reasonable expectation as a percent of your business?

And then the last question I have is, in the South your price has gone down.

I assume that's mix.

And it also went down in the Mid-Atlantic and I assume that's mix also.

Are you just seeing better demand at lower price points even within the luxury category?

Or what do you think is going on there?

Today, Stephen, our active adult is about 12% of our revenue.

And with the land we control, that will ramp up a couple points over the next few years.

But the real story is we're actively looking for new opportunities.

So, could it go from 12% to 20%?

Absolutely.

The Boomers are hitting that magic age of moving down, chasing the sun.

And we're really excited about the continued growth of that business.

It will grow.

It's very hard to predict because we don't have the land fully controlled.

But as the example I gave, we have 2,000 lots we have tied up in Phoenix, and aggressively looking for more opportunities.

So, that 12% or 13%, I think, can get to 20%.

In terms of price changes in the South, the slight tick down there, I think, would best be described as the impact of Raleigh and Jacksonville being a bigger piece of the total of the South than they had been.

While our price points there are luxury for those markets, they're not as high as they might be in other markets.

We've done very well in Orlando and Jacksonville of selling to primary homeowners who live and work in those markets in the $400,000 to $700,000 price range.

We're excited to grow that business in those markets because of what right now is terrific demand.

All right.

Great quarter, again, and thanks a lot.

The next question comes from Jack Micenko with SIG.

Hi, good morning.

I wonder if you could touch on the pricing labor tradeoff.

It sounds like you're getting some good pricing power.

Your backlog has built up nicely.

Are you still able to offset broadly house cost, construction cost with the pricing you're seeing?

And how does that look going into 2017 with the backlog where you're at?

Cost increased $2,600 per home on average in the third quarter.

That was about 50% labor and 50% materials.

So, the cross creep is being managed and has certainly come down.

And we have more than offset that cost increase with price increases.

Yes, but bear in mind there are also improvement cost increases and land input cost increases.

Right.

And part of that is the California land numbers being higher this quarter, it sounds like.

And, Doug, another question asked a different way.

The conversion rate on the non-binding deposits to binding orders, I guess what you're saying is we should think of that close to 1 to 1?

Historically, it has run 65% of deposits convert to a binding agreement.

All right.

That's perfect, thank you.

The next question comes from Ken Zener with KeyBanc.

Good morning, gentlemen.

Very constructive comments around demand.

It seems to have picked up.

Supply issues, California, Dallas at prior quarter seemed to have been directionally resolved.

Related to the West, California being a big piece of that, it was 20% EBIT in FY15.

I think in the first half -- and we obviously need your Q to get the nine months -- but it's risen to 40% of the EBIT, as we track your measurements.

Is that a big mix shift between FY15 and FY16 in the first half?

Should we think about that your perspective mix, given all these new communities that you've talked about, obviously they should pull assets as well as the higher profitability of that region going forward into 2017?

I'm not sure I followed the entirety of your question, Ken.

Do you want to rephrase it?

Yes.

40% of your EBIT is coming from the West in the first half of 2016 versus 20% in FY15.

Should we think about that being the regional EBIT mix prospectively given the new land openings?

Yes, I think it's going to be pretty consistent with that number for the future -- this year's number for the future.

Obviously you're not commenting on FY17 but that would seem to imply that you would have a larger mix, and with newer communities perhaps a margin mix that could be upward.

I think you've made a logical step there but you're getting ahead of where we want to go.

Understood, thank you.

The next question comes from Will Randow with Citi.

Hi, guys, and congrats on the buyback and extending the revolver.

I just had a follow-up to a couple of the prior questions on the high end.

It sounds like there's elements of the jumbo market tightening a bit.

You guys have talked in the past about maybe some softness there, as well as used external brokers -- for example, one of your properties in Brooklyn.

Is your commentary today, should we walk away thinking that the high end is improving sequentially and then stabilized since the recent stock market volatility starting in the fourth quarter last year, or you are just managing through it better?

Your first part of that, which was jumbo, we're not seeing a softening or weakening in jumbo availability at all, Don.

There's plenty of availability.

In fact, jumbo rates and conforming rates are basically the same today.

3.5% on a 30-year fixed, 0 points for 60 days out.

There's plenty of liquidity in the banks.

As I said earlier, there's not a lot of liquidity in the secondary market but that will develop if and when rates ever go up.

I think you'll see demand there.

We have good, as Doug says, deal flow on the land side.

We have good deal flow on the mortgage side.

We talk to people all the time who have demand for our products.

I don't see any weakness, frankly.

Documentation is still a problem but to the effect people can document their loan they're getting a mortgage.

And then just if you could follow-up on, from a, I'll call it, high-end perspective, $1 million-plus price point, it sounds like you guys are seeing sequential improvement.

Is that what we should walk away from this call from?

Or are you just managing through the process better in terms of specifically the selling/buying process?

The reference to $1 million-plus was our conversation about New York City, which, of course, is $1 million-plus -- and California where the average price in the North and the South was right around $1.5 million.

In terms of what that means, our orders were up 18%, our deposits are up 23%.

We love our business.

There's clearly a gravitation to our locations and our brand.

And we'll keep doing what we're doing.

Got it.

And then just one follow-up on land basis, when you're looking over the next year -- I know you guys don't want to provide guidance -- but have you seen land sellers' expectations diminish at all over the past 12 months?

And has that helped land that currently sits on your balance sheet?

Thanks again.

Every market is different.

In some markets land is going up and in some markets land prices are coming down.

So, the answer to that question is it just depends on where we're located.

We are very careful in our land buying.

We are very conservative and we will continue to be careful and conservative.

But with that said we are seeing good deal flow.

Got it.

Thanks, guys.

Congrats.

The next question comes from Mark Weintraub with Buckingham Research.

Thank you.

Two quick follow-ups.

First, just on the JV income, should we think of this as compressing the earnings more into 2017 or is it more it just gets staggered so it's just pushed back a little bit?

I think it will stagger later into the first half of fiscal year 2017 than we had previously thought.

There's only so many move ins you can do in so many days.

Okay.

And then on the orders, obviously 18%, terrific.

And you have been growing prior to last quarter 10% to 18% of the four quarters prior.

Would you say that this quarter the 18% benefited a little bit from fallover from last quarter, and maybe even that's a bit of a stronger number than would be the underlying direction of where the land position is?

But obviously it would seem to suggest that what we saw last quarter was a blip and this would confirm that.

Is that a fair way to read it?

No.

As I said, July was better than June, and June was better than May, and we're up 23% in deposits in August.

So, that would be a negative.

Okay, that's good to hear.

Thank you.

The next question comes from Susan Berliner with JPMorgan.

Hi.

Most of my questions were answered.

But, Marty, I just wanted to get a long-term target for you guys for leverage, and also discuss your desire for an IG rating down the line from S&P and Moody's since you already have it from Fitch.

I think, as I mentioned, we're very comfortable in the mid to upper 40%s from a leverage perspective.

It all depends on the environment we're operating in.

If the world is getting a little scarier we will lower that.

If it's getting a little brighter we might increase it.

In terms of investment grade, I think we were encouraged to see the boys down in Texas get elevated to investment grade.

We're going to pay pretty close attention to that as we evaluate our next meeting with the rating agencies.

Okay, great.

Thank you.

The next question comes from Robert Wetenhall with RBC Capital Markets.

Hi, this is actually Michael Eisen on for Bob this morning.

Just a quick question on community count.

You guys are set to open a number of communities in the fourth quarter.

Are those communities heavily weighted to any one particular region other than the other, or are they evenly split?

And then thinking into next year, should we expect to see the community count continue to grow at the mid single-digit to high single-digit pace as it had this year?

Thanks and good luck.

We'll give guidance on 2017 community count growth on our next call.

With respect to fourth-quarter openings, while they will occur in many markets, the most will come out of California, Pennsylvania, Arizona, and Michigan.

Gary, anyone else in the queue?

The final question comes from Buck Horne with Raymond James & Associates.

Thanks, guys.

Most of my questions are answered.

Just to be clear on the JV and other income, though, the reduction in the fiscal 2016 guidance, should we think of that as a dollar-for-dollar shift into some part of fiscal 2017, or is there an actual loss of expected profitability in those reductions?

No, this is a dollar-for-dollar shift.

All these units are in backlog.

Okay, great.

And have you seen any changes in cancellation rates, either overall or in particular in the City Living division?

We have not.

Our cancellation rate continues to run at about 4%, which obviously is very low for the industry.

And there's nothing different market by market or product segment by product segment.

That's perfect.

Thank you, guys.

Congratulations.

This concludes our question-and-answer session.

I would like to turn the conference back over to Douglas Yearley for any closing remarks.

Thanks, Gary.

Thanks everyone for joining us today.

Enjoy the last few weeks of summer and we look forward to seeing you next quarter.

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