LGI Homes, Inc.

Welcome to LGI Homes second quarter 2021 conference call. Today's call is being recorded and a replay will be available on the company's website later today at www.lgihomes.com. We have allocated an hour for repaired remarks and Q&A. If anyone should require operator assistance during the conference call, please press star zero. At this time, I will turn the call over to Josh Vatter, Vice President of Best Relations at LGI Homes.

Thank you. Good afternoon, and welcome to LGI Homes' conference call to discuss our results for the second quarter of 2021, and the sixth month ended June 30th, 2021. Today's call contains forward-looking statements regarding our business strategy, outlook, plans, objectives, and updated guidance for 2021. These statements, which speak only as of today's call and are based on management's expectations, are not guarantees of future performance and are subject to risks and uncertainties. You should review our filings with the SEC, including our risk factors and cautionary statement about forward-looking statements sections for discussion of the risks, uncertainties, and other factors that could cause our actual results to differ materially from those anticipated in these forward-looking statements. LGI Homes assumes no obligation to publicly update or revise any forward-looking statements. Reconciliations of any non-GAAP financial measures discussed on today's call to the most comparable measures prepared in accordance with GAAP are included in the press release issued this morning and in our quarterly report on Form 10-Q for the quarter ended June 30th, 2021 that we expect to file with the SEC later today. This filing will be accessible on the SEC's website and in the investor relations section of our company website. Our hosts today are Eric Lieber, Chairman and Chief Executive Officer, and Charles Meridian, Chief Financial Officer and Treasurer. I'll now turn the call over to Eric.

Thanks, Josh. Good afternoon and welcome to everyone participating on today's call. I'll start by sharing some highlights of our quarter before handing it to Charles to provide more details on our financial results. We'll conclude with a view on our performance in the third quarter and provide updated full-year guidance. We delivered the strongest second quarter performance in our history, exceeding our expectations and setting new company records for revenue, closings, absorptions, and virtually all profitability metrics. The housing market remains incredibly strong, driven by dynamics that LGI Homes is uniquely well-positioned to capitalize on. Here are a few highlights of our recent performance. Closings in the second quarter were up 42% over last year to a record 2,856 homes, and our average sales price increased over 15% to more than $277,000. This resulted in revenue increasing 64% to $792 million, a new second quarter record and the second best quarter overall in our history. Our continued success at offsetting cost inflation enabled us to achieve gross margins of 27 percent and adjusted gross margins of 28.5 percent both second quarter records. We achieved our lowest ever SG&A expense ratio that in turn helped drive a 460 basis point improvement in our pre-tax net income percentage to an all-time high of 18.8 percent. Finally, our net income was over $118 million representing an increase of over 112%. This was a second quarter record and the second highest net income in our company's history. During the second quarter, we averaged 9.1 closings per community per month company-wide. This was the second highest absorption rate in our company's history, exceeded only by our fourth quarter 2020 absorption rate of 10 closings per community per month. This quarter, Austin was our top market with a new company record of 20 closings per community per month. Second was Houston with 13.1, followed by San Antonio with 12.7. Dallas-Fort Worth was fourth with 12.5 closings per community per month, and Jacksonville closed out the top five with 11.9. Our teams continue to manage through supply chain constraints input cost uncertainty, and availability of lots to build on. We have not seen a pullback in demand for homes related to declining interest in homeownership or affordability constraints. However, we remain focused on offering affordable homes that meet the needs of our target market. For the quarter, our net orders were down 10% year-over-year solely as a result of matching our sales pace, with our capacity to deliver homes to our customers. We're releasing new homes for sale later in the construction cycle when there's more visibility into our costs, construction times, and expected margins. In many of our communities, our sales professionals are maintaining long wait lists of potential buyers who are sidelined until either a new home is released or a current buyer cancels their contract. Given the robust demand environment and the measures we've taken to support our margins, we expect to see continued negative near-term order growth, particularly in the third quarter as we compare our results to last year's strong comp. I'll share a few more highlights of the quarter before handing the call over to Charles. Since our last earnings call, we made two opportunistic acquisitions to support our long-term growth objectives. On May 7th, we announced the acquisition of our home in Minneapolis, and on July 15th, we acquired Buffington Homes in Central Texas. Both acquisitions complement our existing footprint and increase our land positions in attractive markets. We're pleased to welcome the employees of our home in Buffington to our LGI team and know they will play an important role in our continued success. Finally, during National Homeownership Month in June, we closed our 50,000th home. This significant milestone in our history is a result of our ongoing commitment to help renters become homeowners and a testament to the success of our unique business model, which has proven so effective at making the dream of homeownership a reality for thousands of families across the nation. With that, I'll turn the call over to Charles for more details on our financial results.

Thanks, Eric. As highlighted in our press release, revenue in the second quarter increased 64.3 percent year-over-year to $792 million. This was our second-best quarter in company history, surpassed only by our performance in the fourth quarter of 2020. As Eric noted, we closed 2,856 homes, a 42.4 percent increase year-over-year, and an 11.5 percent increase sequentially. These closings included 430 homes sold through our wholesale business this quarter, representing 15.1 percent of our total closings, compared to 199 homes, or 9.9 percent of our total closings in the same quarter last year. We continue to monitor costs and were successful at raising prices to maintain our strong margins. Our average sales price during the second quarter was a record $277,140, a 15.4% increase over the same period last year. Price increases were driven by a favorable demand environment that allowed us to pass through cost pressures as well as increased closings in certain markets and changes in product mix. Gross margin as a percentage of revenue was a second quarter record at 27%. compared to 24.5 percent during the same period last year. This 250 basis point improvement year-over-year exceeded expectations and was driven by our success passing through cost increases, lower capitalized interest expense, and continued operating leverage partially offset by higher lot costs. Gross margin excluding wholesale was up over 300 basis points year-over-year and 55 basis points sequentially. Given our outperformance year to date and continued success managing cost inflation, we are increasing our gross margin guidance to a range of 26 percent to 28 percent, representing a 130 basis point increase on both ends of our prior range. Our adjusted gross margin as a percentage of revenue was a second quarter record at 28.5 percent. compared to 26.6 percent for the same quarter last year, a 190 basis point increase. Adjusted gross margin excludes approximately $10.4 million of capitalized interest charged to cost of sales during the quarter and $1.4 million related to purchase accounting, together representing approximately 150 basis points. Similar to gross margin, we are increasing our annual adjusted gross margin to a range of 27.5 percent to 29.5 percent, representing a 100 basis point increase on both ends of our prior range. Combined selling, general, and administrative expenses for the second quarter were 8.6 percent of revenue compared to 10.4 percent during the same period last year, representing an improvement of 180 basis points year over year and 100 basis points sequentially. This was the lowest SG&A expense ratio in our history, further highlighting the continued strength of demand across our markets. Selling expenses for the quarter were $44.8 million or 5.7% of revenue compared to $30 million or 6.2% of revenue for the second quarter of 2020. The 50 basis point improvement was primarily related to operating leverage realized partially offset by higher commissions paid to realtors as a percentage of revenue. General and administrative expenses totaled $23.3 million, or 2.9% of revenue, compared to 4.2% for the second quarter of 2020. The 130 basis point improvement, driven primarily by operating leverage resulting from higher revenue, increased absorptions, and a larger percentage of wholesale closings. Given our performance year to date, we are lowering our full-year SG&A expense guidance by 50 basis points and now expect a range between 9 percent and 9.5 percent. EBITDA for the quarter was $159.8 million, and EBITDA margin as a percentage of revenue was 20.2 percent, a 410 basis point increase over the same period last year and a 120 basis point increase sequentially. Our EBITDA margin in the second quarter was a new company record, surpassing our previous high of 20.1% in the fourth quarter of 2020. Pre-tax net income for the quarter was $149.1 million, or 18.8% of revenue, an increase of 460 basis points over the second quarter of 2020, and a 130 basis point improvement sequentially. This was a new company record, surpassing our previous high of 18.6% in the fourth quarter of 2020. For the second quarter, our effective tax rate was 20.8%. And given our performance year to date, we now expect our effective tax rate for the full year will range between 20.5% and 21.5%. Our second quarter reported net income increased 112.4% year-over-year to $118.1 million, or 14.9 percent of revenue, and our second-quarter earnings were $4.75 per basic share and $4.71 per diluted share. Second-quarter gross orders were 2,677, a decrease of 11.3 percent, and net orders were 2,025, a decrease of 10.1 percent year-over-year. However, underlying demand remains robust, and recent declines in our orders are a function of lot availability, pacing of sales, and a desire to limit our buyers' time and backlog. Our cancellation rate for the second quarter was 24.4 percent. We finished the second quarter with a backlog of 4,801 homes. representing an increase of 125.7 percent year-over-year. The value of our backlog on June 30th was $1.4 billion, an increase of 157.1 percent year-over-year. During the quarter, we made significant progress acquiring land to support our long-term growth objectives. As of June 30th, our land portfolio consisted of 75,910 owned and controlled lots. a 71.3 percent year-over-year increase and a 12.8 percent increase sequentially. We added over 6,800 new lots to our owned inventory and finished the quarter with 42,492 owned lots, an increase of 33.7 percent year-over-year and 10.4 percent sequentially. 7,859 of our owned lots were finished vacant lots and 29,885 were either raw land or under development. During the quarter, we started over 3,200 homes, and as of June 30th, had 4,748 completed homes, information centers, or homes in process. Only 360 of these homes were complete compared to 671 completed homes we had at the end of first quarter. This sequential decline further illustrates the strength and demand we are seeing across all our markets. Finally, the total number of lots under our control was 33,418, an increase of 166.9 percent year-over-year and 16.1 percent sequentially. Turning to the balance sheet, we ended the quarter with approximately $111.7 million in cash compared to $48.2 million in the first quarter. The increase was attributable to excess proceeds from our new senior notes After giving effect to the temporary pay down of our credit facility, we expect our cash balance to return to a normalized level in the third quarter. During the quarter, we continued to strengthen our balance sheet and lower our cost of debt. On June 28th, we successfully completed an offering of $300 million of 4% senior notes due in 2029 and used the proceeds to temporarily repay borrowings on our revolving credit facility. At the end of June, we had approximately $584 million in combined total debt outstanding under the 2026 and 2029 senior notes. And our available borrowing capacity under a revolving credit facility was approximately $715 million. Including cash on hand, we ended the quarter with total liquidity of $826 million. At June 30th, our net debt to capitalization ratio was 26.8%. compared to 37 percent at the same time last year. And in conjunction with our notes offering, Moody's upgraded our credit rating to BA.2. This is another positive recognition of our outstanding growth, consistent profitability, and the improvements we've made to our balance sheet over the last several years. On July 15th, we used amounts available on our credit facility to redeem all of our outstanding 2026 senior notes. In the third quarter of this year, we expect to recognize a $10.3 million expense for the early redemption of our 2026 Senior Notes and to expense $3 million of deferred financing costs and discounts that were previously being amortized in association with the 2026 Senior Notes. This refinancing successfully pushes out our debt maturity three years, results in interest savings of over $8.6 million per year and in combination with the recent amendment of our revolver, will meaningfully lower the interest amortization reflected in our gross profit margins going forward. In the last year, our shareholders' equity has increased by approximately $370 million to nearly $1.3 billion today. Additionally, as a result of our strong operating results and profitability, we delivered an industry-leading return on equity of 40.2 percent for the trailing 12-month period ending June 30th. During the second quarter, we repurchased 335,000 shares of our common stock for $55.8 million. We ended the quarter with 24.6 million shares outstanding and $218.8 million remaining on our existing stock repurchase program. We expect to continue to return capital to our shareholders as a component of our broader capital allocation priorities. At this point, I'll turn the call back over to Eric.

Thanks, Charles. I'll close with what we're seeing so far in the third quarter and provide an update on our current outlook for the remainder of the year. Q3 is off to a strong start. Subject to our normal review and verification of fundings, we expect to report 930 closings for the month of July, representing a year-over-year increase of more than 50%. Based on the results we shared today and our current outlook for the rest of the year, we're updating our full-year guidance. We now anticipate closing between 10,000 and 10,500 homes in 2021, at an average sales price between $285,000 and $295,000. We maintain our prior expectation of closing the year with 112 to 120 active communities. Reiterating the outlook Charles provided in his comments, we expect gross margin in the range of 26 to 28 percent, adjusted gross margin in the range of 27.5 to 29.5 percent, and SG&A between 9% and 9.5%. We're extremely pleased with our record-setting accomplishments during the second quarter and expect the momentum we've created will carry into the second half of the year. We remain focused on building, selling, and closing homes and are well-positioned to deliver on all of our expectations for this year. That concludes our comments on the quarter and we'll now open the call for questions.

And thank you. Now, as a reminder, we ask that you ask one question and one follow-up. To ask a question, you'll need to press star 1 on your telephone. To withdraw your question, press the pound key. Please stand by while we compile the Q&A roster. And again, that is star 1 if you'd like to ask a question. And our first question would come from Deepa Raghavan from Wells Fargo Security. Your line is now open.

Hi, good morning, Eric, Charles, Josh. Thanks for taking my question. Pretty strong ROEs. In fact, the highest among the peers, definitely in my coverage. Can you talk through some of the drivers within that, especially the ones that are sustainable and could help carry forward these strong ROE margins? And also, could you talk through those that could be transitory?

Yeah, sure, Deepa. This is Charles. I can start. I think, first of all, you know, operating margins are certainly contributing to that. So, gross margin strength plus operating margins are certainly driving profitability in terms of what we're achieving in terms of net income. I think the other factor on what we're seeing is just the ability for our inventory turns to have increased as much as they have since the beginning of 2020. We're now running at roughly about 1.3 times in terms of our inventory turns, and that compares to about one times historically, so about a 30% increase in inventory turns. So in other words, as soon as we're putting the houses on the ground, we're closing them, and that is certainly helping to drive our return on equity.

Got it. I'm not sure if you have any comments on SG&A. I mean, you touched on operating margins, is that as GNA being lower, is that sustainable?

Yeah, so our guidance implies that, you know, year-to-date is at 9.1. Certainly the second quarter at 8.6 was, you know, we're very proud of that accomplishment, and that was driven by the top line, also driven by absorptions coming in at 9.1 this quarter. You know, we're implying that the back half of the year is going to be in the nine to nine and a half range for the third and fourth quarter so that the full year stays within the range. So, you know, we continue to see savings in our advertising and marketing spend given the demand environment. You know, it's unknown whether how long that continues or when that starts to shift. in terms of when innate demand comes into play. And then certainly from the G&A side, certainly driven by flat community count as well or in terms of negative community count this year so far, it certainly contributed to a lower G&A as we're not expanding our employee base as much as we otherwise would if community count was increasing.

That's helpful. My follow-up is on your order commentary. Based on the visibility that you have now, Charles and Eric, driven by your community count, availability, et cetera, would you say Q3 is your worst order quarter for the years, or should Q4 be impacted significantly as well? Thanks.

Thanks, Nathan. This is Eric. Yeah, great question. And, you know, orders is, you know, one of the challenges we have, if we want to say it's a challenge, we think it's very positive because our backlog is so strong. We had such a strong, you know, first quarter in sales selling out ahead of ourselves, and now we're just catching up in construction. Because of the cost inflation we were seeing, we decided to make a decision to not sell price our houses and sell them until we were comfortable with the cost and also comfortable with the construction finalization date or the completion date so we could provide exceptional customer service to our customers, know where they're going to move in. Fortunately for us, the third quarter closings were basically sold out. The houses that are available to close in the third quarter Almost all of them have contracts already in place, so we are not creating hardly any new orders on a week-to-week basis. We think that's a good thing, but when you start comparing orders in Q3 compared to last year's Q3, it's going to be substantially down. Now, in Q4, we don't have as much of a backlog already sold, so we think orders will be better. if you will, but having a very strong backlog creates this dynamic, but again, we look at that as a positive.

Great. Thanks very much. Good luck on the quarter.

Thank you. And thank you. And our next question comes from Truman Patterson from Wolf Research. Your line is now open.

Hey, good afternoon everyone and thanks for taking my question. Just wanted to follow up on the prior question. I think right now demand is strong enough that really orders going forward will really just be dependent on whatever the builder is willing to release for sale. Some builders are discussing what their quarterly starts capabilities are or just active lot count that can be sold. I'm just hoping that you can give us an update of how you're positioned in the back part of the year and also trying to understand maybe the timing mismatch as you're starting to rebuild your spec count.

Yeah, Truman, this is Eric. I can start and Charles can add. I think we're very well positioned. Again, having a very strong backlog is very positive for us. The construction teams nationwide are doing a fantastic job of delivering houses You were in an environment where we had a very strong closing quarter and we're raising our guidance to give everybody an indication of how strong we feel about the second half of the year. We're raising our closing guidance and we're confident our construction team can deliver the necessary houses to hit those closing guidance. And I think the overall message on orders, again, it comes back to timing. We had such a strong quarter in the first quarter sales. And with our sales focus here at LGI, in the first quarter, we were selling houses not only that were finished, but once those were sold, we sold them in frame stage and then sold them in slab stage, and then we sold the next set of starts for the next few months and got way out ahead. And we were building increases on our prices to cover the costs of inflation or what we've historically seen, But that wasn't enough in a lot of cases. So we said, no, there's not a lot of reward to keep pricing houses that aren't going to deliver literally for a few quarters down the road. So let's retract that. And we had this big pipeline. And when we said, we're not going to make a house available to sell until that house is really in slab stage or the frame has dropped, it's a little bit specific to the market, where we're comfortable knowing exactly what the costs are going to be at for that house, we can price it accordingly based on our margin, and we're very comfortable providing that exceptional customer service to our buyer that says, we are going to be delivering the house and you're going to be moving in on this date. The other factor that was important to us is, and I don't think this has been consistent in the industry, but we make all our decisions based on the core values of the company. And when we put all these houses under contract in the first quarter, We did not build in enough inflation in a lot of cases, but we signed a contract with a customer. We told them we were going to close at this price, and we have not canceled any customer contracts because we are not happy with the margins that we're making. We're not losing money on houses. In some cases, we're not making as much money as we would have made previously, but we believe it's the right thing to do, and that's the message we've been sending to our customers and employees across the country is because not all builders are doing that. We hear media reports and different builders in different markets canceling contracts, redoing, and selling them to other customers at higher prices, and we're honoring all the customers that we've sold, and we feel very good about that. The other thing that I think is important, Truman, that I'll add is we haven't changed our business model at all. We're not a build order builder. We don't have a design center. There's no options. We're still a spec builder. where we have four to five floor plans per community. We pre-select the fit and finishes, and we sell. In the first quarter, we were selling, you know, that floor plan. The customer would look at the house and know exactly what they're getting, but it wouldn't deliver for a couple quarters. So no change to our business model, and real positive thoughts on how we're treating customers and real positive demand we're seeing in the market.

Yeah, no, absolutely agreed. Building in kind of pricing contingencies, I think – to an extent damages reputation long-term. Understood on that. You touched on this in your answer, but I'd like to dig in a little bit more on, you know, you bumped up your gross margin guide. If we look at it, the midpoint implies kind of flattish gross margins sequentially the rest of the year. And you left the full year guide, you know, the spread pretty wide of about 200 basis points. I would imagine, given the size of your backlog, you have a pretty decent idea of the margin profile in the back half of the year. Could you just help us understand what some of these items are that might push you toward the lower end or the higher end of the guide?

Yeah, Truman, great question. I can start. We do have a very strong backlog. We've got the prices to the customer locked in. But one of the things that's still open on the gross margin, very positive to us the fact that we raised gross margin, but a lot of the houses that are going to deliver this year aren't started yet. They'll be started in August, September, in some cases even October. So those costs are a little bit unknown. They seem to be trending in the right direction over the last 30 to 60 days, so that's a positive. If that trend continues over the next 60 to 90 days, that would probably indicate we may be at the higher side of our gross margin. But I don't think anyone's real comfortable saying there may be more cost pressures over the next couple months or supply chain shortages. That would be one aspect of it. And then also the mixed component of different parts of the country have different gross margins compared to comparables, you know, very similar gross margin nationwide, but it will matter where those closings come from in the back half of the year.

Okay. Thanks for taking my questions, and good luck on the upcoming quarter. You're welcome. Thank you.

And thank you. And our next question comes from Michael Riott from J.P. Morgan. Your line is now open.

Hi. This is Maggie on for Mike. First question on kind of how to think about closing pace through the balance of the year. I think last quarter you had made a comment that it would be kind of reasonable to expect something similar to 1Q. Obviously 2Q came in higher and your closings range for the rest of the year combined with the community count outlook kind of implies a step back down. Wondering if you could give some color about how we should be thinking about the closings pace.

Yeah, this is Eric, and Charles can add to it. I think the closing pace, we're very comfortable with our guidance. No question, 9.1 closings per community per month in the second quarter is a very strong absorption pace, highest second quarter in history, especially with the average sales prices of where we're at. So we're forecasting absorptions going down in the second half of the year. That's just the math of it. But we don't look at that as slowing or a negative. That's just getting back to more historical absorptions or really still elevated, but just not as strong as the 9.1 closings per month that we experienced in the second quarter, just because we just don't like to forecast and guide to the best quarter in company history. That's a high bar. We want to be shocked if we don't produce great numbers in the third and fourth quarter, but that's not how we give guidance.

The other thing I'd add, Maggie, this is Charles, would be that we have a number of high-performing communities that are closing out, and those are coming up. In terms of forecasting as we transition the replacement or potentially have a gap between those communities, we certainly think that's a factor in the back half of the year as we transition from one community to the next.

Got it. Thanks. And second question, looking to 2022, and I recognize that it's still too early to give official guidance, but directionally speaking, how are you thinking about your ability to grow closings next year, particularly given that you're forecasting the order declines in the near term? And I believe in the past you've kind of spoken to a flattish community count outlook for the year. Thanks.

It's a great question, Maggie. You're correct. We're not giving guidance on closings for 22. We have said in the past we expect community count to be similar, but that would still be our expectation today. You know, community count's interesting because even our guidance this year, 112 to 120, the stronger closings are in the back half of the year, the lower the community count's going to be. So no one's really hoping for weaker community count or weaker closings, just have higher community count. So if you operate from the standpoint of communities are going to be similar end of year next year compared to end of year this year, then it's really what's the absorption that everyone's going to expect. This year is likely to end up on an annual basis with our guidance we're giving. It's going to be the strongest absorption in our history. That's just a mathematical fact. So when investors and all of you are thinking about what's closings going to be next year, it's really a question of what everyone believes absorption is going to do. We'll get back to everyone on our guidance for next year. But obviously, if absorptions are as strong as they are now, it would be a similar number. If absorptions go back to historical averages, and for us that's six to seven a month, then closings will be down last year, and that's just next year. That's just a math equation. So we'll get back to everyone on absorptions, but we feel like it's going to be a strong absorption pace either way. But 9.1 as a comp. And where we're going to end up this year is going to be an unbelievable year from an absorption standpoint.

Got it. Thank you.

You're welcome.

And thank you. And our next question comes from Jay McCandless from Redbush. Your line is now open.

Hey, good afternoon. Thanks for taking my questions. The first one I had, Just looking at the order absorption pace that you had in the second quarter, it looks like roughly 6.4 per month. If we took that forward to the third quarter, where do you think that's going to end up for an order percentage being down like 40% to 50%? Is that where things are tracking right now?

Yeah, I think at least that much, Jay, just because we have nothing to sell. Orders would be a lot stronger if we released more inventory. but it's probably going to be even a greater percentage than 40 to 50%. Now, it depends on what happens for the rest of August and September, but it's going to be substantially down just because we have nothing to sell, and we're doing that on purpose. So I just want to make sure reiterating, we're talking a lot about orders, but the demand we're seeing, as soon as we release homes for sale that we're comfortable with the cost and delivery date, they sell immediately. As soon as a customer... cancels, you know, primarily related to financing, there's another customer coming off our waiting list and putting that house under contract. But when we have a cancellation and replace it with a customer that's likely to be at a much higher average sales price, that does not create a net order. It's just a wash in order standpoint. So real strong demand environment. Don't get us wrong. It's just the math of the orders is going to be substantially down in the third quarter.

Got it. Thank you for that update. The second question, your cancellation rate looks like for the actual second quarter can rate was down about 90 basis points year on year. Is all that just related to the cans that you're getting now or just strictly people who the mortgage letter falls through? It's not anything about people not wanting the house anymore? What Just flesh that out a little bit more for me if you could.

Yeah, I think it's all mortgage-related as it is most times. I mean, our customers under contract, the customers that bought or placed an order, if you will, in the first quarter, they've got a lot of built-in equity in their houses. Prices have went up in every community nationwide. So everyone would like to close. Sometimes life gets in the way and things affect the mortgage business that they're not able to, but it's almost exclusively mortgage-related.

okay all right that's good to hear and then the the last one i had um it just seems like with you know you backlog you've got enough homes in the backlog right now to meet your guidance closing guidance for the year seems like you've still got the pricing just wondering and and you did a 27 gross margin essentially in the front half just wondering why you didn't take the low end of the gross margin guidance up higher

I think it goes back to the uncertainty on costs, Jay, and a little bit of mix. Like we previous said, we still want to make sure we got enough cushion in there for potential cost increases for our August, September, and October starts. The wholesale business has an impact on gross margins. It was 15% of our closings in Q2. we are still on track for that to be 10% to 15% of our business in Q3 and Q4, but that will have an impact on that percentage on whether we're at the high to middle end of the range. Certainly accretive to return on equity, operating margins, very strong demand. We're seeing the wholesale business, but that will have an impact, and we take that into consideration when we publish guidance.

Okay, great. Thanks for taking my questions.

You're welcome. And thank you. And, ladies and gentlemen, if you have a question, that is star 1. Again, if you would like to ask a question, that is star 1. And our next question comes from Alex Barron from Housing Research Center. Your line is now open.

Yeah, thanks, gentlemen. Good job in the quarter. I wanted to ask, I know your bill time historically has been, you know, in the neighborhood of 60 or 62 days or something like that. What does that look like these days given all the supply chain constraints?

Yeah, great question, Alex. This is Charles. I mean, it is definitely extending out. I mean, we are seeing, you know, delays in terms of the supply chain, in terms of ordering. Lead times are increasing. We're managing around that. Our construction teams are doing a great job of working through those challenges, if you will. It's market-specific. So depending on the market, you know, for example, one market it may be brick, another market may be something like windows or garage doors or some of the things that we've been working through. But lead times are definitely impacting construction delivery dates by several weeks. You know, we're building it into the schedule and then just managing the schedule around it.

Okay. I mean, I know also historically you guys have always kind of built and I guess closed a lot of houses before you even find buyers. And I guess now the market kind of flipped, you know, where demand was so strong that you guys are now even selling, like you said, at foundation stage. So my guess is that you're trying to rebuild a pipeline of spec inventory. So can you talk about what you're, starts look like, what your plan is for starts in the back half of the year, how you guys are thinking about it going forward, what your ability is to start specs to replenish that inventory?

Sure. Yeah, we had roughly about 3,200 starts in the second quarter. Our finished, completed inventory was down to about 360 units at the end of the second quarter. So, we've never seen, you know, a number that low in our history, to your point about really selling in advance. It also goes back to the inventory turn comment we made in terms of how we've been able to deliver a strong return on equity. But we've got, you know, 4,300 houses that are in some stage of construction. And I think, you know, we're releasing What we feel like is a comfortable number on a community-by-community basis. So in some markets, like Texas, for example, we can release more units at one time than we would maybe say in another market. So I think it comes down to lot availability. We had just under 8,000 finished lots. And given our closing pace, that would be less than we normally would like. We'd like to have one year's worth of supply of vacant finished lots. So, we're a little under on that. We've got 11,000 units that are currently under development of our nearly 30,000 that we have in raw and under development. 11,000 of those are actively being developed. So, I think the idea is that depending on the, you know, it's community by community specific, if we've got lots available to start and the demand is there based on what we're seeing, terms of contracts, then we're starting as many as we can in that community and just continue to manage it that way.

Got it. And then just to focus in on the delivery side a little bit. So you guys just kind of gave us an estimate for July. So am I to imply based on the order trends and on this that it's more likely than third quarter deliveries will end up being higher than fourth quarter. In other words, there will be a similar to the dip you're seeing in orders now that will follow through in fourth quarter. Is that reasonable?

Yeah, I mean, it could be, Alex. I mean, I think we're not getting that much specifics on Community Cal, but certainly the third quarter is off to a great start with closings with 930 in July. Got it.

In effect, that's just one last one. The margin on these new homes that you're now starting and selling, is it your sense that it's, or the homes in backlog, is it your sense that it's better than what you've delivered so far?

Overall, it should be better. I think that's reflective in our gross margin. There's a lot of case-by-case because of markets, but our backlog does have a lot of houses that were sold in the first quarter. Recent sales do have better gross margin than the backlog. That is generally a true statement.

Okay, very helpful. Thanks.

You're welcome.

And thank you. And our next question is a follow-up from Truman Patterson from Wolf Research. Your line is now open.

Hey, guys, just a couple follow-ups here. First one, you know, on affordability, you all historically focus on affordability and kind of driving the lowest prices. monthly mortgage payment, and oftentimes we think of it as a spread versus a rental payment. In the areas and renters that you're targeting, how does that spread look like today versus maybe a year or two ago? I'm trying to understand how much rental payments in your areas are kind of keeping up with home price appreciation.

Yeah, I think, Truman, how we look at it is it's always been more expensive to buy a home from LGI than the rent, but you're usually not comparing apples to apples. Traditionally, our numbers always show that to rent an apartment that's usually one or two bedrooms where most of our buyers come from and to go into one of our LGI homes, including taxes and insurance and homeowner association dues, it's $500 to $600 more a month. You know, one of the things that we're looking at is our average sales price is up, I believe, about 15% year over year. And, you know, that's a few hundred dollars or $100 a month probably in payment. So, you know, that's what we're closely monitoring. Affordability is important. Obviously, all of us have seen the benefits of rates staying real low. So even though the average sales price is higher, it hasn't had that big of an impact on monthly payment And I do think we're hearing from the field and seeing our buyers are more qualified than ever. For the first time in our history last quarter, our partner, Loan Depot, and the mortgage business reported our average credit score was 708. And that was the first time that our average credit score was north of 700. And our debt-to-income ratios are lower than they were a year ago. So those are both positive signs as far as the buyers and buyers. their ability to take on the additional pricing, if you will, and still feel good about it.

Okay. And then just to follow up on 2022 kind of community account and potential there, you know, look, I appreciate you're not forecasting demand or anything like that, and it depends on what absorptions are. But if we just play kind of a hypothetical and say that, absorptions remain, you know, elevated and could even possibly expand based on demand. I'm just trying to understand what sort of internal capabilities you all have, you know, from a starts metric, you know, per community or, you know, just overall, I believe you've started about 3,000 starts in each of the past couple quarters. Is that a comfortable pace for you all? You know, trying to balance this with you all have 11,000 lots that are actively being developed, just trying to understand what, you know, potential upside there might be.

Yeah, I mean, there's upside to how many we can start, you know, per community. And I think even Austin, Texas and Houston, San Antonio, when you get absorptions of 12, 13, 20 a month in the case of Austin, I mean, that's just a testament to our construction team and our leadership team doing an unbelievable job. Because most builders don't have the ability to start, build, and close at those type of paces. Going back to your question, the total number available to homes doesn't change in a lot of cases. So if we have a community that has 100 lots to build on, if we're building at a day-to-month pace, or a 12-month pace, you're still going to end up with the same amount of closings. It's just your community count's going to be, you're going to go through it quicker, if you will. We'll be sold out of that community at 12 a month and eight months, or at eight a month, it'll be sold out in a year. So the overall absorption doesn't change. So we have to look at that on a community-by-community basis. We have the ability to ramp up starts, no question. But you also have to have the ability to lot ahead of you in getting ready. And there's a lot of timing challenges for us and for the industry right now because our absorptions are literally 30% to 50% higher than they've been over the last couple of years. And our development forecast and our planning of putting lots on the ground was not based on this absorption. So we are behind schedule, if you will, on putting new sections on the ground or buying replacement projects. And of course, everybody knows the new deals we're buying, primarily buying land, to develop ourselves. And when we buy a raw piece of land, like we've been doing a lot of here over the last 12 months, as evidenced by our numbers, it takes 24 to 36 months for us to take a piece of raw land and convert it into home closings.

Okay. Okay. All right. Thank you all for your time. I appreciate it. You're welcome. Thank you, Truman.

And thank you. And our next question. comes from a follow-up from Alex Baron from House Research Center. Your line is now open.

Yeah, thanks. You know, I know historically you guys have sent a lot of mailers and stuff like that to people. So I'm guessing a lot of your historical buyers have been renters, but we've been hearing that there's also a lot of influx of out-of-state people coming into places like Texas and Florida, you know, from California and New York. So I'm curious if you guys are also seeing that pickup in those types of buyers, or are you still generally seeing the same profile of buyers you've seen historically?

Yeah, it's a great question, Alex. And I don't think we have really good data on that, but we are hearing and seeing evidence that we are seeing out-of-state buyers for sure. A lot of those individuals are still renters. that are coming into this market and just moving from those high-cost markets or more shutdown markets, if you will, moving to Texas and finding employment here with all the job growth that we have. And also moving to a lot of the markets that we do business in. The Carolinas is real strong for us. Florida is a great, great market for us. Phoenix, Las Vegas. We're in a lot of really good job growth markets. So we are seeing some of that. We also see more investor activity, not only from our wholesale business, but also the non-pond investor buying one or two or three houses at a time. That is certainly elevated right now. And just the overall demand in the market right now is as good as we've ever seen it. And I think all these factors contribute to that. And when we're talking about What does the market look like in 22 or 23 or 24? We're going to assume that it goes back to a more normalized market, more of a 2017, 2018, 2019 market, and we're back to going directly to the customers that are paying rent through social media, through direct mail. Right now, with our backlog all sold and not having very many homes to sell, we're spending very little money That's helping the SG&A numbers like Charles talked about.

Okay, thanks. And then on this issue about what stage to sell the homes, generally speaking, what's your thought process at this point given supply chain, given the time it takes to build the homes? Where are you guys optimally pricing the houses at this point? I'm guessing it's no longer at foundation, but just curious if you can comment on that.

Yeah, we're putting houses on the price list for our sales team to sell when we're comfortable that we understand all the costs and we're comfortable with the schedule when that house is going to be complete. And that's a little bit different than every market, but essentially a lot of times it is when the slab gets done or when the frame drops and you're into construction at some point. where you're comfortable that you're going to have the appliances, you're going to have the windows, you're going to have the brick, and we can provide a date to a customer that both of us can feel good about that we can deliver.

Okay. Thanks, and best of luck.

Thank you.

And thank you. And our next, we have a follow-up question from Deepa Raghavan from Wells Fargo Security. Your line is now open.

Hi, Eric. A little, you know, somewhat of mixed messages. I mean, underlying, you're hitting numbers pretty strongly, but you are definitely tempering some of our expectations going forward. Just curious, are you planning for more like a normalized six to seven absorption pace going forward? You know, or... you think 7.8 is still not off the table, just given whatever your internal outlooks are.

Yeah, it depends on what category we're talking about, Deepa. I think our optimism is as high as it can be right now, coming off 9.1 closings per month, 28.5% gross margins, 18.8% pre-tax, 40% return on equity. That is as good as it gets. That is the best quarter in LGI history, and everybody is very excited about that. We are not giving guidance for 22, but I would think most people in the home building industry that have been doing this for 25 years, like we have, if you say, what is 22, 23, 24 going to look like? And for our history from 2014 through 2020, 2020, we've been in the six to seven closings a month, and then this year it goes to, you know, eight to nine. And same with average sales price and average gross margins. We're going to forecast, as far as our buying our land deals and how we're underwriting deals and how we're thinking about capital, we're going to forecast historical absorption rates, historical margins, not best quarter in the history of LGI carrying on for the next three years.

Okay. The 11K lots being developed, you also mentioned that's less than a year's worth of supply. Did I hear that right? I mean, you're only closing like 10.5 this year.

Yeah, it was deeper this, Charles. It was just under 8,000 finished vacant lots. That was under the year's supply, with 11,000 under active development.

And how much of this 11,000 active development can be released next year?

That's a great question. Yeah, they're in various stages. Some of them are nearing completion. Some of them are just getting started. So to Eric's point, it takes a couple years, you know, over on a project-by-project basis to deliver lots. So they'll stage in throughout the next 24 months.

Got it. Thanks so much.

You bet. You're welcome.

Ed, thank you for your question. I am showing no further questions. I would now like to turn the call back over to Eric Lieber for closing remarks.

Thank you for participating on today's call and your continued interest in LGI homes. Everyone have a great day. Thank you.

This concludes today's conference call. Thank you for participating. You may now disconnect.